Capri Holdings Ltd (CPRI) 2015 Q2 法說會逐字稿

Good morning ladies and gentlemen. Thank you for standing by. Welcome to see Michael Kors Holdings Limited second-quarter 2015 conference call. (Operator Instructions). As a reminder, today's conference is being recorded.

And now I would like to turn the conference over to Krystyna Lack, Vice President and Treasurer. You may begin.

Thank you. Good morning and thank you for joining us for our second-quarter earnings call. Presenting on today's call are John Idol, Chairman and Chief Executive Officer, and Joe Parsons, Chief Financial and Chief Operating Officer.

Before we begin, let me remind you that certain statements made on this call may constitute forward-looking statements which are subject to risks and uncertainties that could cause actual results to differ from those than we expect. Those risks and uncertainties are described in today's press release and in the Company's SEC filings which are available on the Company's website. Investors should not assume that the statements made during the call will remain operative at a later time and the Company undertakes no obligation to update any information discussed on the call.

I will now turn the call over to Michael Kors Chairman and Chief Executive Officer, Mr. John Idol.

Thank you, Krystyna. Good morning and welcome to Michael Kors second-quarter fiscal year 2015 earnings call. With me today is Joe parsons, Chief Financial and Chief Operating Officer.

Before I begin, I wanted to take this opportunity to announce that Krystyna has taken on the direct responsibility for Investor Relations at the Company in addition to her responsibilities as Treasurer. She has a thorough knowledge of our business and will be a key resource to the investment community. Congratulations, Krystyna.

My commentary will begin with a brief overview of our second-quarter performance and a discussion of our long-term growth opportunities. I will then turn it over to Joe for a detailed review of our financial results and our outlook for the third quarter and full year.

Our strong second-quarter financial performance demonstrates the momentum behind the Michael Kors brand. We delivered both revenue and earnings per share growth in excess of 40%, strong results across our operating segments and geographies as we continue to expand our presence globally. We attribute this success to our fashion leadership, our jet-set luxury experience at retail and great execution by the entire Michael Kors employee team.

Second-quarter revenue exceeded $1 billion, an increase of 43% over the prior year. In addition, gross margin expanded 20 basis points while income from operations grew 38% and operating margin was 29%.

We attribute our solid results to the continued execution of our growth strategies which include first, expanding our global retail presence through new store openings and expansions in key locations.

Second, driving increased comparable store sales at our retail stores and wholesale shop in shops with great fashion product and a luxury shopping experience.

Third, continuing the conversion of department store doors globally into branded shop in shops that embody the jet-set Michael Kors experience.

Fourth, building an e-commerce platform that will be rolled out globally following our US e-commerce site launch in early September.

Fifth, growing our international business through regional partnerships and sixth, expanding market share across categories including women's ready to wear, women's footwear, jewelry and menswear.

Now turning to our segment performance for the quarter. Retail net sales increased 39% driven by 121 net new store openings since the second quarter of last year and global comparable store sales growth of 16.4%. We ended the quarter with 473 Company-owned retail stores and continue to see the potential for 700 Company-owned retail stores worldwide not including men's locations. In addition, we are strategically expanding or relocating select stores to enable us to more prominently present our women's footwear, ready to wear, watches and jewelry.

Lastly, we now have 176 additional locations operated through our licensing partners which further expands our presence globally and brings our total store count to 649 locations worldwide.

Our wholesale segment experienced strong performance during the second quarter with net sales increasing 46% driven primarily by strength in our accessories and footwear businesses as well as our women's ready to wear.

The growth was also driven by the expansion of our European business and the conversion of 299 wholesale doors globally into branded shop in shops in accessories, footwear, womenswear and menswear. We ended the second quarter with 1969 shop in shops worldwide. For fiscal year 2015, we continue to expect to convert approximately 750 department store doors into shop in shops across all categories globally.

Turning to our licensing segment, revenues grew 43% primarily driven by our watch business as well as our jewelry offering. We opened an additional 35 watch and jewelry shop in shops and department stores worldwide during the quarter and now have 190 watch and jewelry shops globally. We are focused on expanding this offering in both our retail stores and with our wholesale partners and believe that there is an opportunity for approximately 500 watch and jewelry shops globally over the long term.

We also continued to see strength in our fragrance business during the second quarter. In August, we anniversaried the launch of our Sporty Sexy Glam women's fragrance and I am pleased to say customers continued to respond positively to this collection as we saw an increase in sales during the quarter.

Turning to our operations by region, revenue in North America grew 30% to $802 million driven by the opening of 19 new stores and a comparable store sales increase of 10.8%. North American traffic was slower than we had anticipated and we believe this is similar to the general trend that other retailers are experiencing across North American shopping malls. We are now on track to open approximately 50 stores in the region this year. At the end of the quarter, we operated 320 stores in North America and we continue to believe that this market can support 400 retail locations excluding potential men's locations.

We remain excited about the opportunities in the e-commerce channel. The transition of our US e-commerce site in early September went smoothly and since the launch, we have seen strong growth with a net sales increase of approximately 70% over last year. Importantly, the new website allows us to engage existing and new customers with the Michael Kors lifestyle and create innovative ways to keep the brand at the forefront of consumers' minds. And it is clear that customers are becoming more engaged with the brand as evidenced by an increase in global Google searches of approximately 20% year-over-year as well as the growth of the Michael Kors fan base across social media platforms.

In fact, our Facebook fans have grown 80% to 16 million in the quarter. Our Instagram followers have grown more than 150% to over 3 million. Our Twitter fans have grown 55% to over 2 million and our emerging base of Weibo followers has grown over 150% in the quarter to almost 0.5 million. We look forward to launching our e-commerce site for Canada in calendar 2015 followed by Europe and Japan in 2016.

As we develop an omnichannel environment, we will provide customers with a consistent jet-set shopping experience that extends from our retail stores and our branded shop in shops to our website. In doing so, we anticipate creating an elevated shopping experience with enhanced service for our customers.

Our website will also offer our Company's largest assortment of products for the consumer to shop. As a result, we believe that some sales will migrate from our retail stores to our jet-set website which may impact the comp performance of our retail stores until our e-commerce sales are included in our comparable store sales.

In addition, consumers will be able to return product purchased on our e-commerce site to our stores which may also impact our comparable store sales in the first year. That said, we believe that e-commerce and retail store sales combined will result in greater total revenues for our retail segment.

Our North American wholesale business continued its strong momentum in the second quarter with revenue growth of 38% and comparable store sales growth that was similar to or greater than the increase in our retail stores. While accessories and footwear led the performance, ready to wear also contributed to the overall strength in this channel. We also continued to see solid performance in department store locations that were converted into branded shop in shops.

Our international markets also saw exceptional growth during the quarter. In Europe, revenue increased 109% to $238 million and comparable store sales grew 41.1%. We opened 10 stores in the region and ended the second quarter with 111 retail locations across Europe. We are now on track to open approximately 50 stores across Europe during fiscal 2015 and continue to believe that the region can support 200 Michael Kors retail locations.

In the wholesale business, we continued to see strong performance in both department and specialty stores with particular strength in accessories. In addition, European wholesale comparable store sales were similar to or greater than our retail comp.

We view Europe as a very exciting piece of our long-term growth strategy. We are focused on both our retail and wholesale presence and further building brand acceptance and consumer connection through our exceptional product offering and unique jet-set experience. We believe that we can generate revenue of approximately $1.5 billion in Europe over the long term.

Turning to Japan, we saw significant growth in the business during the second quarter with revenue increasing 106% to $16 million and comparable store sales increasing 52.9%. We opened one net new store giving us 42 locations in this market to date. I am pleased to announce that we will be opening our second flagship store in Kobe in Japan in the first half of calendar 2015. This store will span 5000 square feet and will offer our customers a premier luxury shopping experience.

We are making good progress in creating a framework to support long-term growth and capitalize on the market opportunity in Japan. We continue to expect that this market can support over 100 stores and believe Japan can now reach $300 million in revenue over the long term.

The rest of the Far East region saw strong growth as well during the second quarter. Comparable store sales increased at a double-digit rate in retail stores operated by our license partners who opened four net new stores during the quarter. We now have 116 Michael Kors retail locations in Greater China, Korea, Southeast Asia and Australia and believe we can ultimately have 200 locations in this region.

We see Asia as an important region for development as we grow our luxury brand worldwide and we are focused on building the business for the long term. To that end, we have decided to bring our South Korea business in-house by early calendar 2016. We believe that the business has reached a threshold at which it makes strategic sense to control the growth in this region directly. Our current distribution includes 37 total locations.

We are in the process of searching for the new President of Korea to lead our growth effort in this region. The newly created position will report to Stephane Lafay, the President of Asia, who joined our Company this past July.

We will build the infrastructure and develop our expansion strategy for this region and therefore do not expect this business to be immediately accretive to earnings. However, we are excited about this growth opportunity and believe that South Korea represents $100 million business opportunity over the long term.

Finally, we continued to see strong results from our travel retail business as our luxury products are sold at the finest travel destinations in the world. We ended the quarter with 73 locations and believe that there is a potential for approximately 100 travel retail shops globally.

In summary, we continued to advance on our growth strategies throughout the second quarter. Overall our business remains strong and we are very confident in the long-term prospects of our luxury brand.

I will now turn the call over to Joe Parsons for additional analysis of our financial results.

Thank you, John. Good morning. I will begin with a review of our fiscal year 2015 second-quarter financial results followed by our outlook for the third quarter and full year.

We delivered strong financial performance in the second quarter as we continued to execute on our strategic growth plan. Total revenue for the second quarter grew 42.7% to $1.1 billion as compared to $740.3 million for the second quarter of last year with strong growth in each of our retail, wholesale and licensing segments.

Retail net sales increased 39.4% to $495.6 million as compared to $355.6 million in the second quarter of last year resulting from the opening of 121 net new stores since the second quarter of last year and a comp store increase of 16.4%.

We also saw strong performance across categories with the largest increase in accessories primarily handbags and small leather goods.

Wholesale net sales grew 46.1% to $514.1 million in the second quarter compared to $351.9 million in the same period last year. The increase was led by the accessories and footwear categories as well as our continued conversion of wholesale doors to shop in shops and the expansion of our European operations.

In our licensing segment, revenue grew 42.8% to $46.9 million for the quarter as compared to $32.9 million last year primarily driven by watches as well as jewelry. As a reminder, we are in the process of transitioning eyewear to our new partner, Luxottica in January 2015. We expect this transition to impact our royalties for at least two quarters. As a result, we expect licensing revenue to grow in the low double-digit range in our third and fourth quarters.

Additionally, because advertising expense is charged to licensing, we anticipate lower operating margins for the year as the expense will be higher relative to the revenue increase in the licensing segment.

Gross profit increased 43.4% to $645.0 million as compared to $449.9 million in last year's second quarter. Gross margin expanded 20 basis points to 61.0% reflecting a year-over-year increase of 164 basis points in our wholesale segment primarily driven by a geographical mix shift and certain lower product costs offset in part by slightly higher allowances during the quarter. The overall increase in wholesale gross margin was partially offset by a decrease of 51 basis points in our retail segment primarily resulting from increased markdowns as expected.

Total operating expense grew 48.6% to $339.5 million in the second quarter of fiscal year 2015 as compared to $228.4 million last year. As a percent of total revenue, total operating expense increased to 32.1% from 30.9% in last year's second quarter primarily due to the 80 basis point year-over-year increase in depreciation and amortization expense.

Selling, general and administrative expenses increased 45.2% to $305.4 million as compared to $210.4 million for the second quarter of last year. The increase in selling, general and administrative expense is primarily due to higher retail occupancy and salary costs related to new store openings, increases in corporate employee related costs, higher distribution costs and an increase in advertising and marketing expense.

As a percent of total revenue, selling, general and administrative expenses was 28.9% compared to 28.4% for the second quarter of last year. The increase in the SG&A rate was primarily due to the increase in advertising costs as well as higher distribution costs.

Depreciation and amortization expense was $34.1 million for the second quarter as compared to $18.1 million for the second quarter of last year primarily due to the buildout of new retail locations and the expansion of existing locations, new shop in shops, the increase in lease rights purchased for our new European stores, investment in our infrastructure to support our growth and accelerated depreciation related to the expansion and relocation of retail stores and the renovation of our corporate offices.

Depreciation and amortization increased to 3.2% of total revenue during the second quarter as compared to 2.4% for the same quarter last year. As we continue to strategically invest in our business, you will see larger year-over-year increases in depreciation as a percentage of total revenue go forward.

As a result of these factors, income from operations was $305.6 million or 28.9% of total revenue as compared to $221.5 million or 29.9% of total revenue in the same period last year.

In the retail segment, operating margin declined 330 basis points. 280 basis points of the decline was due to an increase in retail operating costs primarily due to higher depreciation and amortization expense related to new stores and lease rights and accelerated depreciation related to retail store expansions and relocations as well as various overhead costs including preopening rent expense. The remainder was due to the 50 basis point decline in gross margin.

Wholesale operating margin expanded 250 basis points primarily as a result of the gross margin improvement discussed earlier as well as operating expense leverage.

Finally, the licensing segment operating margin was 45.9% compared to 60.2% in the second quarter of last year. The decline in operating margin is due to an increase in operating expense primarily due to higher advertising costs and to a lesser extent, higher administrative costs.

Income taxes were $97.1 million in the second quarter as compared to $75.5 million in the second quarter of last year. Our effective tax rate was 31.9% as compared to 34.1% in the same period last year. The decrease in our effective tax rate was primarily due to an increase in taxable income in certain non-US subsidiaries which are subject to lower statutory tax rates.

Net income increased 42.0% to $207.0 million for the second quarter and diluted earnings per share were $1 based upon 207.4 million weighted average diluted shares outstanding. Net income for the second quarter of last year was $145.8 million or $0.71 per diluted share based upon 205.2 million weighted average diluted shares outstanding.

Turning to the balance sheet at the end of the quarter, cash and cash equivalents were $1.0 billion as compared to $618.8 million at the end of the second quarter last year. There were no outstanding borrowings under our credit facilities in either year. As noted in our press release, our Board of Directors has authorized a $1 billion share repurchase program over a two-year period. We believe this action reflects the Board and management's confidence in our long-term growth outlook as well as our commitment to returning value to our shareholders.

For the quarter, inventory increased $215.1 million or 53.2% versus last year which compares to a 42.7% increase in our sales for the same time period. As we discussed last quarter, we expect our inventory increases will continue to outpace sales growth as we open and expand our retail stores, expand replenishment stock, convert shop in shops and roll out our e-commerce business.

Capital expenditures for the quarter totaled $84.2 million. These expenditures were related to global retail store expansion and renovation, construction and renovation of shop in shops, investment in our distribution facilities and enhancement of our information systems infrastructure. We opened 30 net new stores in the quarter, 19 in North America, 10 in Europe and one in Japan and ended the quarter with 473 retail stores including concessions. In addition, we converted 299 department store doors into shop in shops.

Before I discuss guidance, I wanted to share with you that our decision to relocate our principal offices from our current location in Hong Kong to London, England. We believe that Europe is the center of luxury brands and this move will better align us with our peers as we continue to expand our brand and presence globally. This change will have no impact in our incorporation status as we will remain a BBI Company. Going forward, we will be holding our future Board meetings and our annual shareholders' meeting in London.

Turning to our outlook, for the third quarter of fiscal 2015, we expect total revenue to be between $1.27 billion and $1.3 billion assuming a low double-digit comp store increase. We expect diluted earnings per share to be in the range of $1.31 to $1.34 assuming a tax rate of 32.5% and 208.3 million shares outstanding. We expect gross profit margin of approximately 60.5% and operating margin of approximately 31.5%.

Operating expenses during the third quarter are expected to be higher as compared to the same period last year due to increased retail operating costs associated with new and expanded stores, higher e-commerce costs, increased overhead costs related to enhancements of our distribution center, technology upgrades and higher depreciation and amortization expense including the impact of accelerated depreciation related to store and corporate office expansions.

For the fiscal year 2015, we now expect total revenue to be between $4.3 billion and $4.4 billion assuming a comp store increase in the midteens. We now expect diluted earnings per share to be in the range of $4.13 to $4.18. The expected diluted earnings per share range assumes a tax rate of approximately 32.2% and 208.0 million shares outstanding. For the full year, we expect gross margin of approximately 61% and operating margin of approximately 29%. The operating expense increase for the year will be associated with the investments I described earlier.

For fiscal year 2015, gross margins for the retail segment are expected to decline approximately 50 basis points and now we expect operating margins to be approximately 27.5% due to the continued investments I mentioned earlier.

Capital expenditures are expected to total approximately $400 million for fiscal year 2015. The majority of these expected expenditures are related to new retail store openings planned for the year with the remainder being used for investments in connection with developing our new shop in shops, build-out of our corporate offices and distribution centers, and enhancing our information system infrastructure.

We are on track to open 110 retail locations including approximately 50 in North America, 50 in Europe and 10 in Japan, expand and/or relocate approximately 40 retail stores globally in select locations in key cities and convert approximately 750 shop in shops.

In summary, we are very pleased with both our top- and bottom-line performance in the second quarter and feel confident that we will deliver on our full-year outlook. We will continue to invest strategically in our business to ensure that we maintain our leadership position within the global luxury market and drive shareholder value for the long term.

I will now turn the call back to John Idol.

Thank you, Joe. In closing as we look ahead, we see significant growth opportunities across our operating segments, our geographies and our categories. We remain focused on strategically investing in the business to support our long-term growth objectives. We will continue to offer our luxury product assortment under the design leadership of Michael Kors, the driving force behind our brand.

In addition, we will remain focused on providing a jet-set luxury in-store experience and creating a state of mind for customers that embodies glamour and style. It is these attributes that will enable us to remain a leader in the global luxury fashion market.

We will now open up the call for questions.

(Operator Instructions). Kimberly Greenberger, Morgan Stanley.

Great, thank you. Congratulations on a really terrific quarter. John, I am wondering if you can talk about the differential in North American comps here in the second quarter relative to the first quarter. What were the metrics that drove the comp this quarter and how did they change relative to last quarter?

Secondarily, e-commerce was operating I think for about 25 days this quarter. How did -- do you have any additional color beyond what you shared with us in the prepared remarks? As you think about the next one or two years in e-commerce, how sizable do you think that business could be either in North America or globally? Thanks.

First off, good morning, Kimberly. So let me start with the comps first. There is a few things that happened in Q2 that we think impacted the North America comps. First, there was definitively a reduction in mall traffic. We have kind of been seeing that for the last couple of quarters but it was more significant in this quarter than we had anticipated. We obviously speak to other people in the industry who are reporting similar trends and that obviously impacted our business. We did have increase in comps store traffic and we had increase in conversion both. It just wasn't up to as high as we had initially anticipated. Obviously outside the US, we saw excellent results on our comp store sales.

In terms of e-commerce, what we said to you in the call is that as we look at the third and fourth quarters, we do think there will be some channel shift between our lifestyle stores and e-commerce. We do see consumers aggressively coming on to our website. As we reported to you, our business was up 70% versus the same period last year when it was operated by Neiman Marcus. And by the way that is to date, that is sales through basically the end of last week.

And it was quite interesting because that increase came before we even really turned on all of our marketing to help support and drive the e-commerce site. We were a little afraid to turn it on too early just because we wanted to make sure that we could handle the traffic coming into the site. So that was really exciting and we think that is going to add tremendous topline to the Company.

As we have said to you before, our goal is approximately 10% is our first goal to reach as a percent to our retail revenues. We assume that is going to take us a couple of years to get there so that will give you kind of a range in size of the business in terms of goal for us.

Just the last thing so you should be aware, we had no returns to our stores from e-commerce previously because with our relationship with Neiman Marcus, all the returns went directly to Neiman Marcus. And again typically e-commerce sales, e-commerce returns can run up as high as 30% and those returns quite a few of them will be coming back into our stores given the omnichannel environment that Joe Parsons mentioned that we are creating. So that will have a negative impact on comp store sales.

All of that will even itself out by the time we hit next September where e-commerce will be reported as a comp store and those returns will kind of all show up across the omnichannel as well. So we were just giving everyone a heads up on how that might impact us.

One last thing that was noted, that should be noted, it is not in our prepared remarks but our domestic comp store sales were impacted 1% and that was from the transition where we are relocating/upsizing select stores. I will just mention to you that we in this quarter did our Yorkdale store, Tysons Corner, Dallas Gallaria, Roseville, North Star, a number of other stores that were enlarge as part of our enhancement program where we can really show our footwear, our women's ready to wear and our watches and jewelry in a more prominent environment.

And so when you do that, you have to remove those stores from the comp and so that impacted us in the quarter and you are going to see that impact going forward somewhere in the 1% to 2% range from comp stores from that standpoint. So you just might want to look at that when you take a look them.

Well, the Tysons store looks amazing. Thanks, John.

Take your friends and family there to shop during the holidays.

Matthew Boss, JPMorgan.

With the constrained traffic that you guys have talked about in North America, did you guys find a need to deviate from your promotional or your markdown plan at either retail or wholesale? John, I would be interested in your latest [ramp] view heading into the holiday here.

So we have not deviated from our promotional strategy. Again, I have read a number of reports that talk about counts of certain styles being increased and whatnot and that is actually not true. We run the exact same cadence in terms of our promotional activity in our stores that we have for whatever it is seven or eight years and we are running the same -- we are involved in the same promotions at department stores. Again, I can't speak to every single thing that they do but I would say it is generally similar on a like for like basis. So we really have not gone down that path and our strategy is to not go down that path.

Our lay of the land for the holiday season is somewhat more conservative I think than we have thought about it in years past for two reasons. Number one, we are concerned about mall traffic and again, this is just in North America, a conversation we don't have the same view of international marketplaces. But we do see the consumer being slightly more conservative and I don't think again that is only in our case, I think we are seeing that from many other companies.

Secondly, I think we are conservative because we are not taking a promotional posture and when you don't take a promotional posture obviously some of the business goes in different directions. And we think that is the right thing for us to do as a luxury brand and to maintain our integrity with our consumer and continue to build the great brand that we have.

Lastly, I might add that 16.5% comp store growth and almost 11% comp store growth which is close to 12% when you take the factors of the stores being closed out is still a very, very strong performance by our Company and I believe one of the best in the entire luxury industry. So we are quite proud of that and we think we continue to gain market share, gain mind share and build a great business that is going to have tremendous legs for the future adding multi-billions of dollars over the next few years.

Great. And then one quick follow-up. As we take a step back, EBIT margin in the high 20s here, it is a level not shared by many. Can you talk about the multiyear sustainability really the best way to think about EBIT margins longer term?

As we have told you before and I will speak more to operating margins if you don't mind, we have said from right when we went public that we have been getting accidental leverage on our operating margin and that was really because we could not catch up to some of the investment spending that we needed to do. We are building a phenomenal new facility in Venlo to support our European development in terms of a warehouse and distribution center and we are buying it, we are owning the land, we are building the facility 100% ourselves. That is a very significant investment. We are adding quite a few different robust systems to our Company. That is also going to be a significant investment for us in development in particular our around e-commerce, big data and data analytics.

Then we are embarking upon a significant renovation in our offices here in New York. We are almost doubling the size of our space here just because of the amount of people that we are hiring to run this global business and as part of that, we are putting in all new modern office facilities. We haven't really updated our offices in 11 or 12 years so that is a big capital project for us.

What is impacting us more than the gross margin as you can see is really D&A and some level of SG&A increase. We think most of the other metrics look pretty good and sustainable and we like the way that the business is being built and grown out.

Great. Best of luck.

Omar Saad, Evercore ISI.

Good morning, everyone. I wanted to ask another question about the North America retail business. I know you've got tons of growth internationally and new categories, you mentioned fragrance and there is so much going on in the business. I wanted to just get a sense for how you think about the kind of slower run rate, the comp store sales run rate in North America retail. Obviously the levels you have been running at for the last few years have been extremely high and frankly unsustainable. But how do you think about North America retail comps kind of on a sustainable basis going forward now that they are coming down to a more normalized level? How are you going to think about planning your business in the North America retail segment? Thanks.

First off, good morning, Omar. So we think about a North America first if I may have and I will address North America retail comps.

So North America still is -- obviously it is our largest marketplace and we see a lot of growth in this marketplace. So first led by our own retail division which again we think will grow probably long-term probably in the high single digits or to very low double digits is kind of the range that I think is a more sustainable model for us.

Secondly, we see tremendous growth opportunity in our wholesale business. You just saw us come off of a very, very strong quarter in wholesale and that is driven by our shop in shops with accessories. That is driven by a great new shoe business that is developing and I think many of you have seen all the shop in shops that are going in around that. That is kind of a new business for us and getting great traction. Then our women's ready to wear business has come on very, very strong for us also.

So there is plenty of growth opportunity in the North American marketplace for Michael Kors and additionally we are still finishing our store rollout program in terms of building out our stores.

So I know that there is concern on many of your parts about the North American comp stores but I think we are reaching levels that are as you said before, more sustainable. But North America as a marketplace has plenty of growth left for us and we are excited about it and quite frankly we are executing on it and you can see that both in our retail business, our wholesale business, and also look at what is happening in our license business.

A big opportunity with jewelry that is coming on quite strong in North America and in Europe by [my dad]. And then our fragrance business is -- we can't quote the exact positionings, but we are ranking very, very high and we are doing extremely well. We are taking market share in that business and we are becoming a leader in North America in the fragrance business.

So again, that is just going to be more royalty income for the Company in a great category that will add to brand awareness and engagement with our customers.

Thanks, John. That is really helpful. One follow-up if I could. Profitability, the gross margin profitability in North America, it has been so steady. I know it's down a little bit on the retail business, but can you talk about beyond -- the ability to maintain such steady gross margins in the North America business despite the size of the business and a little bit slower traffic trends, is it just maintaining discipline on promotions?

Or are there other factors that allow you to maintain such a steady profitability level? Because typically, we would start to see gross margins come under much more pressure than what you guys are experiencing.

Omar, I think that the real key to our success is led by a gentleman by the name of Michael Kors, and he and the design team are really at the forefront of fashion. And when we think of ourselves competing, we are competing globally against the best of the best, and that's Vitton, that's Prada, that's Gucci. That is the level of companies that we really believe that we are competing with.

So we get up every day and we are excited about building great product for our customers and as Michael always says, to make them smile, make them happy, make them excited about being an individual who wants to look great. And we think we are one of the best companies in the world at doing that, and that is why the Michael Kors business is so strong today is because of product.

And that is why our business is successful in our own freestanding stores, as well as the strength inside the department store business. We tend to spend a lot of our time talking in these calls about our retail business, and that is important. I don't want to take anything away from that. But our business in department stores is very, very strong, very healthy and growing, and we are taking big market share and servicing customers who are excited to be a part of the Michael Kors lifestyle.

Thanks, John.

Simeon Siegel, Nomura.

Good morning, guys. Can you help further contextualize the 280 basis points of SG&A deleverage at retail? How much was due to preopening expense, accelerated depreciation, maybe initial e-commerce spend or really any other expenses that might normalize out on an ongoing basis?

And then sorry if I didn't get it all. Joe, did you raise the prior gross margin guide for the full year? Thanks.

So first of all, understand there is a lot going on in our retail business. We recently launched the e-commerce site, we expanded our retail stores in Europe, made plans to expand or relocate select stores. We are improving our distribution centers which obviously impacts the retail segment. We started planning our new distribution center that John just mentioned in Venlo, Holland and we are investing in technology.

So really when you go through the categories, the largest impact was accelerated depreciation which was approximately 70 basis points and then the next impact was really just the increase in depreciation because of our CapEx, then increase in distribution costs, preopening costs which included certain stores that have been to opened including 520 Broadway and then amortization of key money. And really as I mentioned in the script, there were a number of different higher corporate and overhead costs. So that is a rundown of kind of the magnitude of those different costs.

Thanks. Then what was the full-year gross margin number? Sorry, I missed it.

So we didn't guide to the full year for retail specifically. Our guidance for full year for gross margin was 61%, approximately 61%.

Okay, perfect. Thanks a lot, guys.

Erinn Murphy, Piper Jaffray.

Great, thank you. Good morning and congrats on another successful quarter. John, I was hoping for you to could speak a little bit more about Europe. Could you talk throughout the quarter where you saw some of the regional outperformance? And then what did you see from a trend perspective between the local and then the non-European tourist shopper? Then as we think bigger picture as you build into that $1.5 billion sales goal within Europe, where are you seeing the incremental growth from a category perspective?

First off, good morning, Erinn. So Europe is an exciting and vibrant market for us as you well know. The consumer is really resonating with the Michael Kors brand and product. And as we have said to you before, the business is strong in the UK, it is strong in Germany, it is strong in France. We are equally as strong in Greece and in Spain. Italy is coming on very, very strong. Italy was an underdeveloped market for us and I believe we are opening 16-ish freestanding stores between the beginning of the year and kind of the end of this year in Italy. We really went after that marketplace and a significant way.

So we are not seeing a geographic play on the business in terms of one market being stronger than the other market. What is also interesting is we are gaining tremendous traction obviously in our own lifestyle stores as well as the department stores showing the same types of comp store increases. So we really like the tone of the business.

The marketplace has been led by the accessories business, the handbag business in particular and then the women's ready to wear business was really kind of the second strongest business. What has happened over the past six months is the shoe business is coming on very, very strong for us in the marketplace. So the same thing that we are seeing inside the United States and similar in Asia is that she is reacting to not only just what was originally a handbag and I would say a watch business but now she is really resonating in terms of the total brand for us. So we have seen great strength.

In terms of tourism again, we are still seeing significant tourist traffic not only in our own freestanding stores but of course you see in the airport businesses that we have. We have very, very strong European airport businesses that are generating significant revenues for the Company and again, we are resonating with that consumer. And consumers are traveling Pan-European into the various markets and then we are obviously seeing Chinese in places like Paris and in Italy and we see also quite a few Brazilians as well in the UK and in France and Portugal and in Madrid and Barcelona. So we are feeling very good about where we are on our traffic inside of our stores in Europe.

Great, that is helpful. Then just a second question, in North America the licensing revenue was down 7% in the quarter. Was part of that decline related to your eyewear licensee change into Luxottica? And then beyond that or outside of the eyewear piece, what are you seeing in North America right now for watches and jewelry?

So I will let Joe answer that question.

So in terms of, are you talking about the decrease in the gross margin?

The licensing revenue in North America. What portion of that was related to maybe the disruption of your eyewear licensee transition into Luxottica and then what are you seeing right now in terms of that watch and jewelry business in North America?

Remember, North America when you are looking at the licensing, it did decline but we need to look at that globally. What really happened was that we took our international IP and moved it to Europe last year so previously we were not reporting that as Europe so that is really when you look at the North America, when you look at the licensing revenue, you need to look at the total international. So for the quarter, we actually went from $32.8 million to $46.9 million. Again, last year we did not report anything for Europe and in the current quarter we had [16.4] and then for the six months we saw $47.5 million growing to $79.1 million. Again in Europe, we didn't report anything last year and it was $30 million this year. That is really a reporting issue.

The watch situation was not impacting Q2 but we do believe -- or not the watch, excuse me, the eyewear situation excuse me, the change to Luxottica, we do not believe impacted Q2 but will start to impact in the next two quarters.

Great, thank you.

Lindsay Drucker Mann, Goldman Sachs.

Thanks. Good morning, everyone. I had a few questions. The first, in the quarter your inventory outpaced sales growth. I know you had talked about why that might be lumpy or might be negative as of last quarter but I was hoping you could give us some details about the quality of your inventory and then also extrapolate to what inventories look like at your department store and other retail partners?

Second, I know that you had an issue with your distribution center last year in the second quarter that pushed sales into the third quarter and also led you to incur extra expenses to air freight and for consultants. I was hoping you could try to split apart what benefit that may have had to you in this quarter.

Lastly, I was happy to see your share repurchase announced. I was wondering if there was any change in the criteria you have had before about wanting 10% of your market cap to be cash before you buy back any stock? Thanks.

Okay. First off, good morning, Lindsay. The inventory, we have always outpaced -- inventory has always outpaced our sales and that has been historical and that has been as high as 100% and it has been as low as slightly under what our sales growth is. So when we look at the inventory increase that we have this year versus last year, it is kind of right on pace with what we would normally be doing. And so we believe that the quality of that inventory is excellent, that is all inventory that is planned for other new store openings, new shops for continued replenishment programs that we talked to you the last quarter about the fact that in Europe in particular we increased our inventory levels to put in greater replenishment programs into that region. So inventory is in excellent shape. Also at our retail partners in excellent shape, there is no inventory issues at those stores because our sellthroughs are still very, very strong. We are turning inventories very, very quickly and we feel great about what we are doing in terms of continuing to feed product, getting the right product to the right stores at the right time. So inventory is not an issue for us at all.

I will let Joe talk to the warehouse in a second.

But let me just talk to the share repurchase. We believe two things. Number one, we are generating sufficient cash flow, free cash flow, to have a sizable share repurchase program and continue to maintain a very sizable cash balance on our balance sheet. We will probably have less than a 10% of our market cap. But it is still something that we think is an important issue for us to maintain a very high cash balance for opportunities for our growth, for opportunities for us to possibly develop repurchases of the licenses or joint ventures of the licenses. And lastly in the long-term, the Company may or may not look at other opportunities that are presented to it.

But we think that the share repurchase is secondly an indication of how strongly we feel about our share price and the fact that the share price we believe for the Company is significantly undervalued at this point so therefore, we will take advantage of the marketplace and the disconnect between our value and where the share price is today. We think that is going to provide an excellent opportunity to create value for our shareholders long-term as we retire shares on an ongoing basis.

I will turn it over to Joe to speak about the warehouse.

So you were correct that we did have a disruption in the warehouse a year ago and we clearly put out a warning about the possible impacts of that but at the end of the day, there really wasn't much of a shift between quarters. We did ship a lot very late in the second quarter last year which caused some timing issues and some cash flow issues but in terms of looking at quarter to quarter, the shift in sales resulting from that was really minor so we did not call that out.

In terms of additional expenses, we did incur additional expenses related to that disruption. However, we have been incurring expenses since then in order to one, re-engineer our warehouse in Whittier, California; and two, as we mentioned previously, to start working on the plans for our distribution center in Europe. So again there are different types of costs being incurred but we have continued to incur costs related to our distribution centers and so we did not do a callout related to the difference in those costs.

Thanks.

Dana Telsey, Telsey Advisory Group.

Operator, we'll take one last call. One last question, sorry.

Paul Lejuez, Wells Fargo.

Just a couple of questions. One, just wondering what the North America comp assumption is that is built into your third-quarter comp guidance of low double-digits. And then second, you had mentioned weaker mall traffic. Just wondering if that applied equally to factory outlet malls versus regional malls, and I'm curious how that stacked up against street locations?

Last, you do have a competitor talking about a more promotional factory outlet channel. Just wondering if you feel you need to be more promotional in that channel to compete these days. Thanks.

Sure. North America, we have said for the year that we are looking for midteens, so we are assuming low teens in the third quarter and kind of a similar type of thing in the fourth quarter. So low double digits, sorry, low double digit -- I apologize, let me correct that, for the third quarter and fourth quarter, low double digit.

That is North America or overall?

That is for North America. And then in terms of we saw traffic declining both in factory and in the lifestyle stores as well. So we have been watching this sequentially. And it is less so in the factory channel and more so in the lifestyle channel.

And we have not felt a need to take a different position in our promotional activity, whether it be in our own lifestyle stores or in our factory channel. We are kind of doing the same thing that we do year in, year out, and trying to really give the most beautiful product to our customer in the best shopping environment with a jet-set service; and continue to win with mind share and market share through the beautiful product that Michael and his design team are putting out there for us.

Okay, thank you very much and look forward to speaking to you all on our next conference call.

That concludes today's conference call. We thank you for your participation.