Capri Holdings Ltd (CPRI) 2015 Q3 法說會逐字稿

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Michael Kors Holdings Limited third quarter 2015 conference call. At this time, all participants are in a listen-only mode.

(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, Treasurer. You may begin.

Good morning, and thank you for joining us for our third-quarter earnings call. Presenting on today's call are John Idol, Chairman and Chief Executive Officer, who is calling in from London, 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 that 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 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' third-quarter FY15 earnings call. On this call today is Joe Parsons, our Chief Financial and Chief Operating Officer.

I will begin with an overview of our third-quarter performance, and provide an update on our long-term growth strategies. Then I will turn it over to Joe for a discussion of our financial results, and our outlook for the fourth quarter and full year.

Our solid financial results in the third quarter speak to the strength of the Michael Kors brand. We delivered our 35th consecutive quarter of positive comparable store sales growth, and drove approximately 30% growth in both retail -- both revenue and net income, with a strong holiday season. During the quarter, we continued to see strong momentum across our operating segments and geographies, led by a double-digit comps sales increase in our accessories category, in both retail and wholesale.

In North America, sales increased more than 20%, and we believe -- and we delivered solid comp gains on top of significant increases last year. Notably, we saw exceptional performance from our US e-commerce site, which generated a sales increase of 73%, as compared to the sales of the previous outsourced site, exceeding our expectations. In addition, sales in both Europe and Japan increased 72% for the quarter.

We are also pleased to report that we repurchased approximately 5 million shares during the quarter, reflecting the confidence we have in our future growth potential, and our commitment to enhancing shareholder value. Importantly, we continued to execute on our long-term strategies during the quarter, which are focused on, first, growing our retail presence through our new store openings and store expansions in key locations throughout the world. Second, developing a global best in class e-commerce strategy, with omni-channel capabilities, beginning with the launch of our enhanced company-owned US e-commerce website in September 2014, followed by the upcoming launch in Canada this year, and Europe and Japan in 2016.

Third, driving increased comparable store sales in our retail locations and our wholesale shop-in-shops, by creating great fashion products and a unique in-store experience that embodies the Michael Kors luxury brand. Fourth, continuing to convert department store doors globally into branded shop-in-shops, creating a jet set experience within each door.

Fifth, expanding our business internationally, through company-owned subsidiaries and regional partnerships. And sixth, expanding our market share across a number of categories, including women's ready to wear, footwear, jewelry and menswear.

Turning to our segment performance for the quarter, we saw exceptional growth in our retail business, with net sales increasing 37%, driven by 114 new store openings since the third quarter of last year, e-commerce sales from our recently launched US e-commerce site, and an 8.6% increase in global comparable store sales, which was led by a double-digit comp growth in our accessories category. We believe that the shopping behavior of certain customers in North America is changing, and they are migrating their purchases to our e-commerce site at a greater rate than we had initially anticipated, which is impacting traffic and comps in our North American retail stores.

Given this shift in buying patterns, we believe that comparable store sales, including our e-commerce business, is a more accurate reflection of our performance, and the strength of our brand. Including e-commerce, comparable store sales for North America would have increased 380 basis points higher.

In addition, we expanded 30 highly productive stores this fiscal year, and excluded these locations from the comp store base, as well. These stores have historically comped at a rate higher than our Company average, and we believe that the exclusion of these stores impacted our comparable store sales results by approximately 70 basis points.

At the end of the quarter, we operated 509 Company-owned retail stores, and see potential for 700 stores worldwide, long-term, not including men's locations. In addition, our licensing partners operated 194 Michael Kors stores around the world, bringing our overall presence to 703 locations worldwide.

Momentum in our wholesale segment continued, with 24% revenue growth, driven by accessories and footwear. During the quarter, we converted an additional 60 wholesale doors into shop-in-shops, globally ending the quarter with approximately 2,030 accessories, footwear, womenswear and menswear shops worldwide.

We are pleased that the new shop-in-shops continue to generate a significant sales lift, contributing to the increased penetration in this channel. We expect to convert approximately 700 department store doors globally, across all categories, in FY15.

In our licensing segment, revenue grew 9%, driven by jewelry, as well as winter outerwear and watches. During the quarter, we opened 40 new watch and jewelry shop-in-shops, and ended the quarter with 230 shops.

We continue to see opportunity for 500 watch and jewelry shop worldwide, over the long term, as we expand our offering with our wholesale partners, as well as in our own retail stores. Additionally, our fragrance business also performed well in the quarter, as we see continued sales increases of our Sporty, Sexy, Glam fragrance collection.

Turning to our operations by region. In North America, revenue grew 23%, to $1 billion, driven by strong performance in our retail and wholesale segments, led by our accessories business. We increased our total square footage through store and shop-in-shop expansions, in addition to new store openings.

In our North America retail segment, we delivered strong net sales growth of 30%, driven by 17 new store openings, e-commerce sales and a comparable store sales increase of 6%, led by double-digit comp growth in our accessories category. We are very excited about the opening of our SoHo flagship location on January 29, which is our largest store to date, spanning three retail floors and approximately 21,000 square feet. This flagship store offers the largest assortment of women's ready-to-wear and shoes globally, and is the first Michael Kors store in North America to provide a complete offering of our men's collection.

We will apply the insights we gain from this new store for future expanded locations, and for our men's retail business. We operated 337 stores at the end of the quarter, and remain on track to open approximately 50 stores in the region during FY15. And continue to believe there is opportunity for 400 locations in North America, not including potential men's locations.

As I said earlier, our e-commerce launch was highly successful, and represents an exciting opportunity for us. E-commerce sales exceeded expectations, with growth of 73% in the third quarter, as compared to retail e-commerce sales at the previously outsourced site. And this channel now represents 7% of our retail sales in North America.

As I mentioned earlier, we believe the migration of customer purchases to online channels impacted our retail store traffic and comp performance in North America. We saw strong year-over-year increases in e-commerce traffic and conversion during the quarter. Importantly, the new site provides customers with an enhanced online shopping experience, a larger product selection, and enables us to more fully engage her on our site. Customer engagement continues to increase year over year, across all our social media channels.

During the quarter, our Facebook fans grew 55%, to over 16 million, our Instagram followers increased 109% to over 3 million, our Twitter followers increased 50% to over 2 million, and our emerging base of [whambo] followers has grown 142% to almost 0.5 million. We also continued to make progress on our omni-channel strategy, and are very excited about the enhanced experience that we are providing to our customers.

We are developing omni-channel capabilities that will enable our customers to seamlessly access our luxury product across all our retail channels. These capabilities will provide our customers with a truly best in class experience wherever she shops. We look forward to launching our e-commerce business in Canada within the next several months, followed by Europe and Japan in calendar 2016.

Our North American wholesale business remains strong, with net sales of approximate -- increase of approximately 20% in the quarter. In addition, comparable store sales grew at a greater rate than the increase in our retail stores.

The growth was driven by strength in our accessories and footwear categories, in addition to the continued success of our shop-in-shop conversions. We continued to see multiple growth opportunities in our North American region, across categories and channels.

As the overall accessories market continues to grow, we believe we are well-positioned to capitalize on this growth in our handbags and small leather goods business. In addition, women's apparel and footwear continued to perform well, and we see further growth potential, as we extend our offerings in these categories. We also remain excited about our men's opportunity, which is currently in the early stages of development, and we look forward to providing more insight as our strategy evolves.

We are committed to growing our e-commerce business, which we believe can ultimately reach 20% of our North American retail sales. We will also continue to expand our retail footprint with new store openings and store expansions, and we will drive sales in our wholesale channel through shop-in-shop conversions and [door] penetration. Taken together, we believe that we can continue to generate double-digit sales growth in the North American region.

Outside of North America, we further expanded our international presence, and saw exceptional growth across Europe and the Far East. In Europe, revenue increased 72%, to $241 million, and comparable store sales grew 21.2%.

We opened 14 stores during the quarter, and remain on track to open approximately 50 European locations this FY15. We ended the quarter with 125 stores across Europe, and continue to believe that this region can support 200 Michael Kors retail locations in total. As we stated previously, we plan to launch our e-commerce strategy in Europe in calendar 2016, and we are very excited about the growth potential as we develop this channel.

The strong momentum in our European wholesale business continued in both department and specialty stores, with revenue growth of 53%, led by our accessories and footwear categories. Comparable store sales in Europe were greater than our retail comp during the quarter. We continue to see great potential in Europe, and view the region as an exciting part of our long-term growth strategy, ultimately generating approximately $1.5 billion in revenue.

Turning to Japan, we saw outstanding performance during the quarter, and we continued making great progress, creating a framework to support our ongoing growth in this market. Revenue increased 72%, to $16 million, driven by comparable store sales growth of 35.4%. We opened 5 stores during the quarter, with 47 locations, and believe this market can ultimately have 100 stores.

We were pleased to announce, last month, the planned opening of our new flagship store in Tokyo this fall, and the renowned Ginza district. This 7,800 square foot store will be the first in the world to offer all our categories and collections.

We believe this store, in addition to the base in Japan, together with our 5,000 square foot flagship duplex in Kobe, scheduled to open midyear, and our recently opened flagship duplex in Fukuoka, serve to heighten our presence and enhance our brand image in this market. We also look forward to expanding our e-commerce business in Japan, and plan to launch the site in calendar 2016. Long-term, we continue to believe that we can achieve revenue of $300 million in this region.

The remainder of the Far East also experienced strong growth in the third quarter. Comparable store sales at retail stores operated by our licensed partners continued to increase at a double-digit rate, and we are pleased with the traction we are gaining in the Far East. We believe that the increase in tourism was an important contributing factor to our growth, as evidenced by the performance of our airport and duty-free shops in this region.

Looking ahead, we expect this trend to continue, and we are positioned to benefit from the increase in tourists -- shoppers in the Far East. Our licensed partners operated -- opened 12 new stores in the third quarter, and we now have 128 locations in greater China, Korea, Southeast Asia and Australia. We continue to see opportunity for 200 locations in the Far East.

Finally, our travel business continues to perform well, and we believe this is a highly effective way to raise the visibility of Michael Kors' luxury brand, given the increased number of tourists traveling the world. We ended the quarter with 79 locations at some of the finest travel destinations in the world, and believe there is potential for approximately 100 travel retail shops globally.

In summary, we exceeded our overall financial objectives in the third quarter, including the better-than-expected performance in our e-commerce business. We believe that our results demonstrate the strength of the Michael Kors brand, and the successful execution of our growth strategies. We remain confident in our long-term outlook, and committed to enhancing value for our shareholders.

I will now turn the call over to Joe for a detailed discussion of our financial results.

Thank you, John. Good morning. I will begin with a review of our FY15 third-quarter financial results, followed by our outlook for the fourth quarter and full year.

We saw strong financial performance in our third quarter, and delivered our 13th consecutive quarter of revenue growth, earnings growth and positive comp store sales since our IPO in 2011. Total revenue grew 29.9%, to $1.3 billion, as compared to $1 billion last year.

We saw a significant foreign currency impact during the quarter, on total revenues and comp store sales. On a constant currency basis, total revenues grew 32.6%.

In North America, revenue increased 22.6%, and on a constant currency basis, rose 23.1%. In Europe, revenue grew 72.1%, and on a constant currency basis, increased 86.3%. In Japan, revenue rose 72.1%, and on a constant currency basis, increased 96.3%.

Retail net sales increased 37%, to $689.4 million, as compared to $503.4 million in the third quarter of last year, resulting from the opening of 114 net new stores since the third quarter of last year, e-commerce sales from our recently launched US site, and a comp store increase of 8.6%. On a constant currency basis, retail net sales increased 40.5%, and comp stores sales increased [10.9%] (corrected by company after the call).

By region, comp store sales, on a constant currency basis, grew 6.8% in North America, 29.8% in Europe, and 54.4% in Japan. As John mentioned earlier, comp store sales do not include the e-commerce business, or the retail stores that were expanded.

Given the shift in consumer purchasing to online channels, we believe that the comp store sales, including our e-commerce business, is a more accurate reflection of our performance, and the strength of our brand. Including e-commerce, comp store sales from North America would have been 380 basis point higher.

As John mentioned, our 30 expanded stores typically comp higher than our company average. And therefore, excluding these stores, negatively impacted our comp store sales results for the quarter by approximately 70 basis points.

As we remain focused on building our e-commerce business, we expect sales to continue to migrate from our retail stores to the e-commerce channel, and impact our comp performance. Looking at our stores and e-commerce business combined, we expect sales to continue to grow at a healthy pace in our retail segment.

Wholesale net sales grew 24.4%, to $573.8 million, in the third quarter, compared to $461.4 million in the same period last year. On a constant currency basis, wholesale sales grew 26.4%. 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 8.6%, to $51.5 million for the quarter, as compared to $47.4 million last year, primarily driven by jewelry, as well as winter outerwear and watches. As expected, our revenues in the third quarter were impacted by the transition of our eyewear license, and we anticipated a similar impact on the fourth quarter.

Gross profit grew 29.2%, to $800.1 million, as compared to $619.5 million last year's third quarter. Gross margin was 60.9%, ahead of our expectations, versus 61.2% for the same period last year.

Total operating expense grew 38.2%, to $381.7 million in the third quarter of FY15, as compared to $276.3 million last year. As a percent of total revenue, total operating expenses increased to 29%, from 27.3%.

Selling, general and administrative expenses increased 35.2%, to $344.2 million, as compared to $254.6 million for the third quarter of last year. The increase in selling, general and administrative expenses is primarily due to the higher retail occupancy and salary costs related to new store openings.

Costs related to corporate management additions, as we continue to build the Michael Kors team to support global growth. Higher fees related to our new customer call center, and the relocation of our principal executive offices. And an increase in advertising and marketing expense, partially offset by lower distribution costs.

As a percent of total revenue, selling, general and administrative expenses were 26.2%, compared to 25.2% for the third quarter of last year. Depreciation and amortization expense was $37.5 million for the third quarter, as compared to $21.7 million last year. Primarily due to the build-out of new retail locations and the expansion of existing locations, new shop-in-shops, an increase in lease rights purchased for our new European stores, investments in our infrastructure to support our growth, and accelerated depreciation related to expansion and relocation of retail stores and the renovation of our corporate offices.

Depreciation and amortization increased to 2.9% of total revenue during the third quarter, compared to 2.1% for the same quarter last year. As we continue to strategically invest in our business, you should expect to see year-over-year increases in depreciation as a percentage of total revenue, going forward. As a result of these factors, income from operations came in better than we anticipated, at $418.5 million, or 31.8% of total revenue, as compared to $343.2 million, or 33.9% of total revenue, in the same period last year.

In the retail segment, operating margin declined 280 basis points. 240 basis points of the decline was due to an increase in general corporate operating costs and higher depreciation and amortization expense related to new stores, lease rights, and including accelerated depreciation related to the expansion of retail stores. The remainder was due to a 40 basis point decline in gross margin.

Wholesale operating margin declined 80 basis points, primarily as a result of a 74 basis point decrease in gross profit margin, primarily due to higher discounts and allowances. Finally, the licensing segment operating margin declined 170 basis points, due to an increase in operating expense, primarily higher advertising costs and professional fees. We anticipate lower operating margins for the year, as the expense will be higher, relative to the revenue increases in the licensing segment, due to the eyewear license transition.

Income taxes were $113.3 million in the third quarter, as compared to $113.5 million last year. Our effective tax rate was 27.2%, as compared to 33.1% in the same period last year. The decrease in our effective tax rate was primarily due to the settlement of certain instruments, in connection with the Company's international income tax structuring.

Net income increased 32.2%, to $303.7 million, for the third quarter, and diluted earnings per share were $1.48, based upon 205.6 million weighted average diluted shares outstanding. Net income for the third quarter of last year was $229.6 million, or $1.11 per diluted share, based upon 206.1 million weighted average diluted shares outstanding.

Turning to the balance sheet, at the end of the quarter, cash and cash equivalents were $949.8 million, as compared to $828.3 million at the end of the third quarter last year. There were no outstanding borrowings under our credit facilities in either year.

We are pleased to report that we have repurchased approximately 5.1 million shares, totaling $399.9 million, under our $1 billion share repurchase program. This action reflects the Board and Management's confidence in our long-term growth outlook in free cash flow generation, and reinforces our commitment to returning value to our shareholders.

For the quarter, inventory increased $105.9 million, or 24.5%, versus last year. Our inventory growth reflect -- fluctuates from quarter to quarter, but we generally expect our inventory increase 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 $125.3 million. These expenditures were related to global resale, store expansions and renovation, construction and renovation of shop-in-shops, investment in our distribution facilities, and enhancement of our information system infrastructure.

We opened 36 new stores in the quarter, 17 in North America, 14 in Europe and 5 in Japan, and ended the quarter with 509 retail stores, including concessions. In addition, we converted 60 department store doors into shop-in-shops.

Turning to our outlook, for the fourth quarter of FY15, we expect total revenue to be between $1.05 billion and $1.08 billion, assuming a mid single-digit comp store increase. On a constant currency basis, we expect a high single-digit increase in comp store sales.

We expect diluted earnings per share to be in the range of $0.89 to $0.92, assuming a tax rate of approximately 30%, and 203 million shares outstanding. On a constant currency basis, we anticipate diluted EPS to be $0.05 to $0.07 higher than the reported number.

We expect gross profit margin to be approximately 59.5%, and operating margin to be approximately 24.8%. Our consolidated operations are impacted by the relationship between our reporting currency, the US dollar, and those of our non-US subsidiaries whose functional currencies are other than the US dollar. We expect the continuance of foreign currency headwinds in our fourth quarter, and into FY16, to impact our consolidated results, and have included the estimated impact in our guidance.

I would also note that the port congestion on the West Coast continues to pose a risk to incoming shipments. While we have not seen a material financial impact thus far, we have experienced an increase in delays, which are resulting in additional air freight costs and other transportation fees. While we have factored these increased expenses into our fourth-quarter guidance, there is some risk of additional delays that could result in lower revenues and higher costs than what we have anticipated.

For the FY15, we now expect total revenue to be approximately $4.4 billion, assuming a comp store increase in the low double digits. On a constant currency basis, we expect comps to be up in the low- to mid-teens range.

We now expect diluted earnings per share to be in the range of $4.27 to $4.30. The expected diluted earnings per share range assumes a tax rate of approximately 30%, and 205.8 million shares outstanding.

For the full year, we expect gross margins of approximately 61%, and operating margins of approximately 29%. Capital expenditures are expected to total approximately $400 million for FY15. 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 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 approximately 50 stores in North America, 50 stores in Europe, and 10 stores in Japan, expand approximately 40 retail stores globally in select locations in key cities, and convert approximately 700 shop-in-shops.

In summary, we are very pleased with our strong comp and bottom-line performance in the third 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. We remain excited about the multiple growth opportunities for our Company. We continue to capitalize on the strength of the Michael Kors brand, with the rollout of our global e-commerce business, the expansion of our footprint in North America, Europe and Asia, and the increased penetration in our wholesale business globally, as we further expand our accessories, footwear, women's apparel and men's categories.

Our focus remains unchanged. We will continue to successfully execute on our strategic growth initiatives. And even with currency headwinds, we believe we can continue to draw double-digit sales and earnings growth.

We have an exciting journey ahead of us, and we look forward to sharing our success with you along the way. We will now open the call for questions.

(Operator Instructions)

Kimberly Greenberger with Morgan Stanley.

Thank you. Good morning, and congratulations on the really nice earnings results this morning. John, you mentioned that comps -- store comps could be hurt by e-commerce purchases that get returned to stores. You have now seen a full quarter of in-house e-commerce operations. Are you able to quantify -- first of all, did you see that during the quarter? And do you have any idea what the comp impact might have been from e-commerce returns to stores?

First off, good morning, and thank you Kimberly. We did, absolutely, see returns that you would not normally have seen in our previous quarters, because those returns went to the Neiman Marcus website. So you could not return merchandise to our stores, previously. There is a number there. We haven't exactly quantified what that is. On the flip side, we look forward to, long-term, especially when we have our omni-channel capabilities, of being able to convert that customer to a future sale. But it did impact our comp stores.

Okay. Great. And then Joe, it looks like new store productivity picked up in the quarter. I'm wondering if you have any additional color you can share on that? And lastly, does licensing revenue comes through the P&L at 100% gross margin? Or close to that? I know there are SG&A expenses associated with licensing. But I'm wondering if there was any impact to your gross margin line from the very, very slow growth in your licensing sales this particular quarter? Thanks.

So the new store productivity, there's no particular color that we can add on that. Clearly, we -- as you know, as brand awareness has increased, our new stores have been very productive. So we are pleased with that. But again, there's not particular color that I can add. Certainly, the slow growth in the licensing did impact gross margin. We knew -- we had anticipated that that would happen. Clearly, we have talked before about the transition of the eyewear license. So we knew that was going to slow down, and we had to -- we had provided for that previously.

And Kimberly, it does come through with 100%, in terms of the revenues (technical difficulty).

Yes, clearly, it comes through for gross margin for 100%. For operating margin, it's diluted by direct costs, and then advertising costs.

Okay. Great. John, I'm wondering if you can just step back from the quarter for a second, and take a -- reflect back on 2014. Is -- there were obviously a number of things about the business that changed. Some things accelerate, some things decelerate. Reflecting on the year, what were the things that you felt particularly good about? Were there any surprises? And are there any changes to strategy, going forward, that you think might be needed or required? Thanks.

Sure. The first thing that we were really pleased about is the strong double-digit growth we had in accessories every single quarter. Both at wholesale, retail, domestic and international. And as you know, we commented, a number of times during the script, even in our own retail stores during Q4 -- calendar Q4, but our Q3 -- we had double-digit comp store increase in the accessories business. So clearly, the brand is resonating with the consumer.

The consumer feels great about Michael Kors and our new styling. We introduced a new bag called Greenwich, which was exclusive in our own lifestyle stores, which had excellent sales results. So reflecting back, we feel very good about that. We also feel excellent about our footwear business. We had amazing results in our department store distribution. As you know, we rolled out a lot of shop-in-shops.

We are quickly becoming one of the most important footwear brands at all of the -- not only domestic wholesale partners, but internationally, the shoe shops are going in, as well, and seeing the same type of results. So, we see the consumer responding in an incredibly positive way to the brand, and the brand continuing to grow. So -- and you look at North American growth of over 20% in the quarter. I don't think there's many companies who are putting on that kind of growth in this environment, and doing it in the way that we did, which I think was really pristine, in terms of how we produced inside the quarter. So thank you very much, Kimberly.

Thanks, John.

Omar Saad with Evercore ISI.

Thank you. Great quarter. Wanted to ask about the gross margin guidance. The gross margin continues to be really steady and stable and consistent, in an environment where a lot of other consumer discretionary stocks are seeing gross margin moves a little bit more wildly. But you talked about the fourth quarter, it sounds like you're expecting almost like a re-acceleration there. Help us understand the dynamic behind that? What gives you confidence that gross margin is going to take a little bit of a step up? And then I have a follow-up. Thanks.

I'll speak to it first, and then I'll turn it over to Joe. There's a couple of things that are impacting the gross margin. First off, as our international subsidiaries come on, and create more of a larger base to the business, that obviously impacts our gross margins. And as retail, in total, becomes a bigger piece of our business, that impacts our gross margins, as well. And even though we did have a little -- we were a little bit more promotional during the third quarter, you can see our margins still came out very, very strong.

And when you look at this, this even include the FX headwinds, as well. So once again, I think that's just all pointing to the fact that consumer feels really good about our product. She's voting yes. We're getting great sell-throughs, continuously, on most of our products. There are certain products that didn't perform as well for us. You look at something like the bucket bag, which from a fashion standpoint, you have to be a part of. But unfortunately, from a retail standpoint, is not getting the same type of resonation as we had liked, and our ownership had represented.

So you have to be a little bit more aggressive when those things don't work. But we are in the fashion business, and we have to be a leader. And Michael has always taken that position. But we have some great strategies for spring and summer and, quite frankly, even into fall on our leadership role. But Michael has really said, we have to excite the customer. That's the business that we are in.

And Michael and our design teams are just doing an outstanding job with that. And we're going to get it right, hopefully, most of the time. But every now and then, you're going to get it wrong. But we feel really good about how the customer is responding to our product, and those categories. So Joe, I will turn it over to you.

And honestly, there's not a whole lot I can add to that. We are feeling very good about our inventory position, and so we are not anticipating significant levels of mark downs and allowances in the quarter. And the only other thing that I'll add, Omar, is that we do hedge our positions. So, despite the fact that we do have currency headwinds, and we freely admit that, there will be a portion that is unhedged. But we typically hedge purchases into the future. So we do have most of our inventory positions locked in, in terms of pricing.

Thanks. That's very helpful. And just one follow-up on -- your partnerships with some of your wholesale partners, with some of the retailers, third-party retailers, especially in North America. There was some concern that there was a mismatch in the marketplace, during the holiday. Some of those retailers may have been using promotions on Michael Kors product to drive traffic, because it has been such a great brand for them. Just help us understand that dynamic. Is that accurate? Or is that a fallacy? And how are you thinking about managing that, long-term, as the North American marketplace becomes more mature for the brand?

Yes, Omar, we actually had a terrific third quarter with our retail partners, whether it was Macy's or Dillards, or -- all of our partners, I think, had amazing fourth quarters with Michael Kors. And yes, they were slightly more promotional, I think, this year versus last year, in some of their store-wide events, most of which we were not a part of. And we really didn't see any tremendous acceleration from ourselves, promotionally, in that category. Now that being said, you take something like boots, which did not -- I think the industry in general had a rugged time. So yes, we were more aggressive in that category to clear that inventory.

So I think you have to take it in perspective. We look at our comp store performance in our department store channel. And as we said in our prepared remarks, that actually was much stronger for us than it was even was in our own stores. But again, our own stores, you don't see the full picture reflected unless you add back the e-commerce part of it. So our partnerships are great. The shop-in-shops are working terrific. And I think our retail partners are seeing the results of really great product design by Michael and our design team. Thank you very much, Omar.

Thanks. Nice job.

Erinn Murphy with Piper Jaffray.

Let me add my congratulations. I was hoping you could talk a little bit more about your accessory business. You've continued to see the very strong double-digit growth there. Could you maybe just unpack which categories during the quarter really fueled that growth, when we think about handbags versus watches and jewelry, in particular?

Sure. Erinn, first off, good morning, and thank you for your comments about our quarter. Erinn, a couple of things. We are very impressed by what happened during the quarter. Because what was interesting is our -- not only was our dollar sales up double digits, but our units are up, even slightly higher than that. As you know, the large handbag trend has slowed down, and it's more about a medium-size handbag today. So for us to achieve our results, given the fact that there could be up to a $50 move in pricing, just because of the way that the consumer is responding. And this is globally; this is not just domestically.

And then secondly, you have swing packs -- or crossbodies, I'm sorry -- crossbodies, which are a very, very hot fashion category today. And that's at a slightly lower average price point. We look at those categories and say, given the fact that some of the average, in terms of the purchase, was down, for us to be able to deliver the results that we get, it was just outstanding performance. And we think we're leaders in both of those. When we look at our Selma, or our Hamilton traveler, or some of these bags that are in the more medium-size, and then you look at some of our crossbody businesses, we think we were market leaders in those categories.

And again, led by Michael and the design team, and they had it right for fashion for the third quarter. The watch business did not perform at the same levels for us in our own stores. And Erinn, that issue was one impacted by our sales. Last year, at this time, we had an enormous success with a watch -- an exclusive watch in our own stores, around Watch Hunger Stop. If you remember, that's when we launched the charity program, which, by the way, was hugely successful.

And we ended up donating a lot of money to the World Food Program, which I'm very proud of that, in terms of what we were able to raise for them. It was just shocking, in terms of the performance, and how excited they were, and the good that we did for people who are going hungry today. And as you know, Michael says that there's a lot of things we can cure in the world, but one thing we can't stop in life is hunger. And that watch did so much business for us last year. We were not able to anniversary that.

So actually, the department stores performed better than we did in our own stores. And that was one of the drags in our comp store performance, was how exciting, and the performance we generated off of that watch for last holiday season.

Great. That's very helpful. Thank you for those insights. And then just on the guidance for the fourth quarter, could you maybe just help us break out how to think about that mid single-digit reported comp by region? What would we expect to see the contribution in North America versus Europe, principally?

Yes, Erinn, we are not going to get into that on today's call. Because, as you know, this FX thing is moving daily. And we're hoping that the euro has found some stability. We're not exactly sure of that. So we are not really 100% prepared to go through it by region. But what I will tell you is that, again, we are anticipating that when we report our fourth quarter, you're going to see a significant number that will belong to this comp for e-commerce, and we see her shifting, and shifting dramatically.

One of the other things that happened in e-commerce -- and I know some people are counting styles on the web, and whatnot. You need to be careful. Because last year, Neiman Marcus did not have the size assortments that we have today. We have huge increases in assortments on our online, which we know is driving the customer there. We also have effected free shipping at all times, basically, on the sites, which also is driving a lot of people to, quite frankly, purchase from the site. It's just easier and more convenient.

So bigger assortments, convenience, in terms of the way that we are offering shipping, and the service, is all going to, we think, continue to drive more business to e-commerce, and that will impact our comp store reported growth.

We ask that you limit yourself to one question. We'll take our next question from Oliver Chen with Cowen and Company.

Extraordinary growth. I just wanted to ask you, regarding your merchandise margins across the various channels, it looks like you managed it quite prudently. And your product assortment brand has impressively expanded. But could you characterize how you performed, relative to your expectations, across outlet versus wholesale and owned stores, with the promos discounts and allowances?

Yes. Thank you, Oliver. First off, I think we pretty much came in more or less where we thought, just a little slightly better, quite frankly. Our wholesale, our gross margin, was a little more impacted by some of the allowances. As the business gets bigger -- and you know this, and we have talked about if before -- there is some normalization in some of the sales. And the second thing, on the wholesale -- again, you are going to be careful as you look at this, going forward -- is, as shoes and women's ready-to-wear, and ultimately menswear, become bigger pieces of the business, that will reduce our gross margin in the North American market, in particular.

In those -- because they're just -- they're lower-margin businesses. So it will absolutely impact us on a go-forward basis. And we will give you some flavor around that, when we talk to you in our fourth-quarter guidance. But I would tell you, overall, we felt really good about the way that the margins came out for the quarter, the way that it performed in each of the channels, and how we managed ourself through the holiday season.

Okay. And just from a bigger picture perspective, John, could you speak to the evolution of handbags as a percentage of mix over time? And you've had some really interesting initial items with wearables and technology. I just wanted to get your thoughts there, as it is on people's minds, as an interesting, important potential category, going forward?

Sure. So accessories will continue to be the dominant part of our business, and growing. And we classify accessories today, including watches and footwear, et cetera. We will probably start to look at that a little differently, on a go-forward basis, because the footwear businesses is really starting to become a large and significant factor in the business. So we will probably start talking about that a little bit more, going forward, and some percentages.

The wearables category is something that we are working very diligent on. You know Fossil announced, three quarters ago, they are in multiple partnerships with different companies, Intel, Google, et cetera. We are obviously, if I might say, the lead on that, with Fossil. And we expect to have some announcements for the marketplace, in the next few months, about what our strategy is. We will be in wearables. So I will tell you that that is coming from Michael Kors, and we have a whole strategy around it.

But what we're going to do is, we're not interested in being the first one to rush to the race. What we want to make sure is that we have an ecosystem that our customer really believes in, and thinks is a viable addition to not only their fashion wardrobe, but also to how they live their life. We think luxury -- and you've heard me talk about this before -- is not just about products. It's about a lifestyle. And Michael has said this a number of times. It's how you feel, it's the way that you look, it's the way that you express yourself. And we think that technology is obviously going to continue to play a part in that. And we will be part of that, as well. Thank you, Oliver.

Matthew Boss with JPMorgan.

Your total aggregate top line is up 30%, gross margins are down 30%, both better than your guidance. John, when you take a step back, do you think 15% to 20% top line CAGR the next three years? Is that still achievable? And more importantly, within that, the high single- to low double-digit sustainable comps that you have spoken to, just your level of confidence that that is still the core underlying?

Matt, I would tell you that certainly, more or less what you are talking about is our goals. Obviously, we are studying those numbers, and we will give you further visibility on that when we report in our fourth quarter. You heard me say, at the end of the closing comments, that even with FX, we believe that we will continue to have double-digit revenue and double-digit earnings growth. So we won't opine to where that exactly is, at this point. Obviously, that is going to be impacted by FX from where it was before.

But we think we have a tremendous amount of initiatives, everything from our continued store opening program to the e-commerce, and what that's going to generate for us, to the expansion of classifications, women's, footwear and menswear. And then, I might add, the brand is still organically growing very, very nicely. You heard me talk about our Facebook fans being up, our Twitter fans, our Instagram. This is customers coming to look for the Michael Kors brand, and how she can embrace the lifestyle. We are also extremely pleased -- our fragrance business is doing really, incredibly well.

We were one of the top performers in fragrance during the holiday season in the US. We're seeing similar types of results happening in Europe. As a matter of fact, I spent Monday with 150 people from Estee Lauder who are really driving this business in Europe, et cetera. So we think our international growth in fragrance also bodes well for us. And the last thing I just want to say is, Asia is starting to really come on. Asia is working.

So you've heard me be a little bit more cautious, in our previous calls, about that. Our results in China are really starting to catch hold. That's becoming a sizable business. Our business in Japan is -- you can see the numbers, the traction is there. And we are going to open some amazing flagship stores, so watch out. We are going to be a real competitor in that marketplace. And then Southeast Asia is also performing at very high levels for us.

So we see that as the marketplace. If you remember the waterfall, North America will eventually slow. We've all talked about that. Europe is going to continue to grow very, very nicely, and Asia is the next big front for us. We're underdeveloped. And then lastly, menswear will come on. So same strategy that we've talked to you about since the IPO, and I think we are executing on -- and firing on all cylinders on developing that strategy. So thanks very much, Matt.

Paul Lejuez with Wells Fargo.

Given your comments about your customers' buying patterns shifting to e-com a little bit faster than you thought, I'm just wondering if that changes at all how you're thinking about the pace of growth, from a store perspective? Particularly here in the US? And then, as you think about that e-com business becoming 20%, I believe, is the number you gave of the overall business, longer-term, how do you think about the profitability of e-com versus your retail channel? Thanks.

Thank you, Paul. Paul, a couple of things. Number one, I want to add that not only is the shift in e-commerce happening more rapidly than we had anticipated in our own stores, but I'm sure you all are hearing the same thing from the department store partners. We're already at, depending on certain regions, over 20% with certain people, in our penetration with e-commerce with people. And it's not only here in the US. We are seeing very similar types of rates, anywhere between 10% and 20% in the UK, in particular. The balance of Europe is really not there, yet.

But we're seeing excellent penetration, while still achieving comp store growth at the same time. So similar to what you're seeing in our North American business. So you also have to remember that, when we open a Lifestyle Store, those stores are highly profitable for us. And Joe mentioned that before. So even with comp stores coming down from where they had historically been, we're still incredibly profitable inside of our own stores.

And the last thing I just want to say is, from the day we went public, we told everyone that we would open 400 stores. That doesn't change. When you're opening a store in -- and we don't have a store, for example, in Omaha, Nebraska, today. We want to have a store in Omaha, Nebraska. We think that's a great marketplace, that the customer would enjoy having the Michael Kors product from us. And that's going to generate a lot of revenues. It's going to make a lot of customers happy, and we think that's a continued strategy.

But we will stop at 400. So there won't be any more. And the same thing in certain other marketplaces where we've given some guidelines. The one marketplace where we do think there is probably a little more potential -- and we're still analyzing that -- is possibly Europe. But again, these are stores that are going to serve as marketplaces where the consumer today can't get Michael Kors. And I'll give you good example that in Europe, in Romania, we intend on opening in that marketplace.

Where that customer, she doesn't travel quite as frequently as maybe a customer who lives in France, or customer who lives in Spain, et cetera. But there is beautiful locations for us to open in those marketplaces, and we think that just adds more dynamic engagement with our customer. So thank you very much, Paul.

Lindsay Drucker Mann with Goldman Sachs.

It sounds like, based on your March quarter guidance, that you actually are feeling okay about the gross margin story. You talked about how you are not -- you are comfortable with your inventory positioning, and you're not looking for a big step up in allowances. And you gave explicit gross margin guidance. I was just curious if you could give a little bit more detail, then, on the 200 basis points of operating margin compression that you are guiding to? What are the big drivers that you are thinking about for the fourth quarter? And then, as we think longer-term, how should we be thinking about that? Not the gross margin area, but the opportunity to leverage operating expense over a longer term? Thanks.

Lindsay, I'm going to just talk to the long-term thing, and then I'm going to let Joe speak to the components of it. We said, from the day we went public, that we don't believe that 30% plus operating margins were ever sustainable. And quite frankly, we don't think it was the right thing, when you have to invest to build our type of a business. We're building beautiful new distribution centers to support the growth of our business. As you know, in e-commerce, technology is very expensive to keep up with what it needed to develop the right platforms to operate off of, whether it's other -- needs that we have to invest in the businesses, stores, et cetera.

So we believe in investing. We certainly have the balance sheet and cash flow to do that, and we think that is the right thing to do for our Company. So that will impact the operating margin, and Joe will talk about that. We don't think there's going to be leverage in the next couple of years. That's not something, actually, we are trying to plan for. We think that -- and we had guided -- all year long, we've been telling people that 200 basis points is what we think is -- for this year, the right operating margin decline.

And you can see we delivered the results, more or less, as we had guided. And we continue to think that's the right thing for the business, for the balance of this year. And then we'll give you guidance, when we sit down on our next call, about the out years. I will turn it over to Joe.

So I'm in full agreement with what John said. Not a whole lot to add, other than to say, thank goodness we've got the Soho store open now, so the pre-opening costs, we're no longer incurring those. However, do keep in mind that, as we open more European stores, they tend to be more street stores. As opposed to the North American stores, which are more mall-based stores. And they will have additional -- or they tend to have more pre-opening costs, and a little bit more expensive to start.

Yes, and Lindsay, if you just look at the profile, right off the bat, 1% is coming from D&A. And that's just building more stores, and our investments we're making in our warehouse and distribution facilities, et cetera. Margins are coming down a little bit, and so that's affecting operating margin. And then the balance is SG&A. So that's the way that we view it. I'd also like to add to what Joe just said. Even though Soho just opened, which we are very happy about getting rid of that drag, you just heard us announce the Ginza store.

We have a couple of other big stores that are coming on stream that will sit, with six, seven, eight months without any revenues. So that will impact us. Also, next year, there's going to be an impact from startup of the European and Japanese e-commerce businesses. So we don't get leverage from that, because again, you hire a staff for six, eight, nine months, with no revenues against it. You have all the systems costs. So -- but at the end, I do believe that in the out years, you're going to see some positive results from all of this, because they're all excellent investment, and they will hopefully, in the future, create leverage for us. Thank you, Lindsay.

And we'll take our last question from Simeon Siegel with Nomura Securities.

Just two quick ones. Given the new repurchases, can you update us on the desired cash cushion that you have? And then just a quick clarification. When is e-com actually included in the reported comp?

So we think that we're generating enough cash to keep our cash position approximately where it is. John and I are both conservative. We both want to have a strong balance sheet. We've always said that. Again, we have no debt. So I can't guide you specifically where that is going to be. But we're comfortable, as we said in the script, that we're generating enough cash flow -- free cash flow to service that commitment that the Board and the Senior Management has made. In terms of the e-commerce comp, remembering that it's the US only. But the US e-commerce comp will come in after September.

Great. Thanks a lot.

I'd like to thank everyone for joining us this morning, and we look forward to updating you on our additional progress in our next conference call. And I would like to add, again, that Michael Kors brand continues to demonstrate, we believe, best in class results in the luxury designer arena, and accessories, in particular. And we look forward to continuing that strong growth. Thank you very much.

That concludes today's conference. Thank you for your participation.