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Operator
Ladies and gentlemen, thank you for standing by and welcome to Kohl's Q3 2015 earnings release conference call.
Certain statements made on this call including projected financial results are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.
Kohl's intends forward-looking terminology such as believes expects, may, will, should, anticipates, plans or similar expressions to identify forward-looking statements.
Such statements are subject to certain risks and uncertainties which could cause Kohl's actual results to differ materially from those projected in such forward-looking statements.
Such risks and uncertainties include but are not limited to those that are described in item 1A in Kohl's most recent annual report on Form 10-K and as may be supplemented from time to time in Kohl's other filings with the SEC, all of which are expressly incorporated herein by reference.
Also please note that replays of this recording will not be updated.
If you are listening after November 12, 2015 it is possible that the information discussed is no longer current.
(Operator Instructions)
As a reminder, today's conference is being recorded.
I would now like to turn to the conference over to our host Mr. Wes McDonald, Chief Financial Officer of Kohl's department stores.
Please go ahead.
Wes McDonald - Senior EVP & CFO
Thank you, good morning.
With me today is Kevin Mansell, our Chairman, CEO and President.
I will start today's call by walking through our operational results and then Kevin will provide more details on our Greatness Agenda initiatives.
We will then open up the call to your questions.
Comp sales increased 1% in the quarter.
This was our fourth consecutive quarter of comp sales increases.
More importantly, we have effectively reversed the downward sales trend that we were experiencing before we introduced the Greatness Agenda last fall.
Looking at the comp metrics average unit retail increased 50 basis points and units per transaction increased 1.3%, resulting in an average transaction value increase of 1.8%.
These increases were partially offset by an 80 basis point decrease in transaction per store.
From a line of business perspective for the quarter footwear and women's performed better than the Company.
Men's was generally in line with the Company and children's accessories and home performed below the Company.
As Kevin will discuss in more detail in a few minutes we have renewed our focus on our women's business.
This business had trailed the Company for quite some time, so we are pleased it has outperformed the Company for a second consecutive quarter.
Juniors which was challenging in the spring season was particularly strong with a mid-single-digit comp increase for the quarter.
Geographically which includes online originated orders the southeast was the strongest region and the south-central was the most challenging, particularly in Texas.
All the regions were generally consistent with the Company.
Gross margin decreased slightly for the quarter down 10 basis points and is flat year to date.
Merchandise margins increased for the quarter but was offset by an increase in shipping costs as we continue to grow the online business.
SG&A expenses for the third quarter were flat to last year.
As we said in the past our goal is to leverage SG&A assuming a 2% comp increase, so we were pleased that we were able to leverage expenses this quarter on a 1% comp sales increase.
Marketing leveraged significantly in the quarter but is expected to deleverage in the fourth quarter as we invest heavily to drive sales.
Logistics and credit also leveraged during the quarter.
Depreciation expense was $236 million for the quarter, $9 million higher than last year primarily due to higher IT amortization.
Interest expense was $81 million for the quarter, $4 million lower than the third quarter of last year due to our recent $1.1 billion debt refinancing.
We completed the refinancing during the quarter when we settled $318 million of debt that had been called in the second quarter.
In conjunction with the refinancing we incurred a debt extinguishment loss of $169 million including $38 million which was recognized in the third quarter.
Our income tax rate was 36.5% for the quarter, higher than last by 120 basis points.
Last year's results included some favorable state tax settlements during the quarter.
Net income for the quarter was $120 million.
Earnings per diluted share was $0.63.
Excluding the $38 million of debt extinguishment losses that were recorded during the third quarter earnings per diluted share were $0.75, 7% higher than last year.
We opened two new stores during the quarter and we currently operate 1,166.
Gross square footage is 100.6 million square feet and selling square footage is 83.9 million square feet.
Moving on to the balance sheet, we ended the quarter with $501 million of cash and cash equivalents.
Inventory per store was 5% higher than the third quarter of 2014, 400 basis points lower than the 9% increase at the end of the second quarter.
The increase is primarily within national brands which are up 8% over last year.
Our seasonal inventories are up 2% versus last year.
Our investment in fall inventory is in four major areas that have been performing well: active, premium electronics, entertainment and licensing and cosmetics.
As a reminder we now have 900 stores with our new beauty environments and brands.
We continue to expect a low single-digit increase in inventory units per store at the end of the year.
As we move into the spring of 2016, we are planning to see low to mid-single-digit decreases in our inventory units per store.
AP as a percent of inventory decreased from 47.9 last year to 40.7 this year.
The decrease reflects accelerated timing as merchandise was received early in the quarter and therefore was paid for at quarter end.
Much more of our third-party receipts arrived in August and September than last year as the supply chain has returned to normal from the West Coast sport disruption.
Total third-quarter receipts were actually down slightly to last year.
Capital expenditures were $551 million year to date.
This is $10 million lower than last year as higher IT and base capital spending in 2015 were more than offset by spending on a credit call center in 2014.
Weighted average diluted shares were 192 million for the quarter.
During the quarter we repurchased 5 million shares of our stock.
We ended the quarter with 191 million shares of stock outstanding.
On Wednesday our Board declared a quarterly cash dividend of $0.45 per diluted share which is payable December 23 to shareholders of record at the close of business on December 9.
I will now turn it over to Kevin will provide additional insights on our results.
Kevin Mansell - Chairman, CEO & President
Thanks, Wes.
It's been one year since we introduced our multiyear strategic framework which we call the Greatness Agenda.
Against a generally soft macro demand backdrop in the categories we compete in the initiatives within that plan have turned our sales results from negative to positive.
We've now produced four consecutive quarters of positive comps since the time we introduced the plan.
While we've changed the trend of our business we're well aware that we must accelerate the rate of change going forward to achieve our long-term goals.
In the last month we announced an evolution of the plan which includes both intensifying our effort on some of our moves in the plan and introducing new moves as well.
The intent is to accelerate our growth rate in both the fourth quarter this year and into the next fiscal year as well.
As you know, all of our moves are organized under the pillars of our plan and I'd like to take a few minutes to touch on each of them.
The first pillar is amazing product.
Two key areas of success under our amazing product pillar have been in our active and wellness initiative and around our effort to improve the perception of consumers of Kohl's as a great place for national brands.
Active and wellness continued to produce double-digit increases in the third quarter, maintaining the rate of growth through the year.
Brands like Nike which produced a sales increase of almost 30% in the quarter along with others like Columbia, Gaiam, Fitbit, and our own Tek Gear drove the active growth.
Our effort to improve the perception of consumers at Kohl's as a great place for national brands continued to succeed as well.
In addition to the strong performance in active we also saw out-performance in Levi's and in Carter's.
Our overall national brand penetration increased approximately 260 basis points to 52% for the quarter and 50% year to date.
As part of the evolution of our plan and based on the success to date of our localization efforts we are accelerating our effort on localization by declaring we intend to have unique store assortments in all of our stores by the end of 2016.
In addition, we've determined that to succeed long term we need to do more to become a destination for her and as a result have launched an intensification around our biggest single business: women's apparel.
We intend to grow that category faster than the store's result.
We are already seeing results and women's produced a better in-store performance in the third quarter.
Our second pillar is easy experience and under easy experience we've had several successes in the year-to-date and quarter results.
Most importantly, online generated demand continues to exceed our multiyear growth plans.
Two important drivers of that in the most recent quarter include our new mobile platform which we launched in September and a growing positive response to our Buy Online, Pick Up In Store or BOPUS functionality which we just began marketing.
Our new mobile platform has driven significantly higher conversion since the launch and mobile has reached 50% of our total online traffic.
BOPUS has been embraced by consumers, driving in-store traffic and we've enjoyed better than expected attachment rates to those visits consistently exceeding 20%.
As part of the evolution of the plan we're changing our objective from being world-class in mobile to being world-class in digital.
This is to acknowledge the importance of giving a complete, great digital experience both out of store and in-store.
We also intend to launch several new distribution channels.
Perhaps most important is the launch of a new 35,000 square foot prototype to provide access to a great number of smaller markets as well as create fill-in opportunities in urban areas that don't have the economics or the availability of real estate to support a larger store.
We also intend to launch an outlet model with the first brand being 10 to 15 stores for Fila.
Finally, we're going to test two more pilots of our off-aisle concept.
Our third pillar is incredible savings.
Under incredible savings our Yes2You rewards program has now been embraced by 34 million members with almost 24 million enrolled since our national launch last October.
As we anniversary the launch we're seeing significantly larger reward levels as we enter the holiday season.
Those high outstanding reward levels combined with the high redemption rate we'll experience will be a key driver of incremental traffic and sales this fourth quarter.
As part of the evolution of our plan we're embarking on an initiative under our incredible savings pillar that I truly believe long term has massive value for us to drive revenue growth.
While Kohl's has always been a destination for great value we know we're not getting full credit with consumers.
We've analyzed multiple years of Kohl's data and along with qualitative research we are now focused on using data-driven insights to make our value much more apparent to customers.
We'll focus intensely on the categories and items that create the greatest impact on value perception.
Our fourth pillar is personalized connections.
We've now successfully piloted and tested new marketing strategies using both segmentation and personalization to lift results.
Those tests continue to be successful in the third quarter.
Just as importantly our new mobile app along with the functionality it provides has now reached 9 million downloads.
As part of the evolution of our plan we will be activating beginning in the fourth quarter a series of initiatives to drive traffic with our 34 million Yes2You members to reward their engagement.
We'll also be concentrating our personalization efforts to specifically drive new customer engagement and targeting two growing segments of the population: millennials and Hispanics.
And our final pillar is winning teams.
Our associate response to the Greatness Agenda since the launch has been amazing.
They believe it's a plan that will drive our business to succeed in the long term.
In the very short term since the launch, our associate engagement scores have increased dramatically.
We've now exceeded our long-term engagement objective already in most of our business areas.
Just as importantly we're continuing our journey to attract and develop new leaders in key areas of competency that didn't exist to Kohl's before.
25% of our corporate associates are in roles that didn't exist three years ago.
In summary, we remain committed to the Greatness Agenda.
It's very clear we're on the right path.
In the three quarters last year prior to the launch of the plan our comps were negative.
In the four quarters since we have reported positive top-line results.
The type of change we're attempting takes time.
The Greatness Agenda is a multiyear plan and it's clearly working.
With that Wes and I would be happy to take your questions.
Operator
(Operator Instructions) Kayla Wesser, Piper Jaffray.
Kayla Wesser - Analyst
Good morning and congratulations on a solid quarter.
One question for you on loyalty.
I know you mentioned you're up to what, 34 million people and just obviously there's an incrementality there and I'm wondering if you could give us some color on how much of your comp was driven by these incremental non-tender-based loyalty members?
And is that driving maybe some confidence towards your lower or your previous guidance of the low-end of the 440 to 460 for this fourth quarter or for the year?
Thanks.
Kevin Mansell - Chairman, CEO & President
While I think just in general you know that one of the objectives in the launch of loyalty last year was to reach more new customers and to engage customers outside of our Kohl's charge platform to start the experience with the brand.
So I think one of the things we've seen since the launch of loyalty is that the non-Kohl's charge trends in our business have improved a lot.
And we also see as you know our rewards program is an onboard ramp to get people excited about the Kohl's brand and hopefully eventually convert some of them if not many of them into the Kohl's charge business.
Definitely going into the fourth quarter I think Wes and I feel really positive about both the number of rewards that we're going into the fourth quarter with and the dollar value.
Based on last year's experience in the fourth quarter this is the one time of year when people really use their rewards.
So I think both of those give us confidence.
Wes McDonald - Senior EVP & CFO
Yes, the redemption rate goes up from the low 30s in terms of percent of rewards redeemed to about 40% for the fourth quarter.
So that's a headwind honestly we're not even counting on -- not a headwind, a tailwind that we're not even counting on for the fourth quarter because if you guys remember during our Analyst Day we only built in loyalty incrementality for the first year.
So now that we've anniversaried it any upside from that is just gravy.
Kayla Wesser - Analyst
Thank you.
Good luck this holiday.
Operator
Matthew Boss, JPMorgan.
Matthew Boss - Analyst
Thanks guys.
So on the inventory levels are you comfortable with a level and the content heading into the fourth quarter where you stand today?
And just as we think about that fourth quarter, any thoughts on your same-store sales assumption and is there any change to your full-year earnings guidance?
Kevin Mansell - Chairman, CEO & President
This is Kevin, Matt.
I will just make one comment.
Wes McDonald - Senior EVP & CFO
That's three questions Matt but we will answer them all.
Kevin Mansell - Chairman, CEO & President
I will make one overall comment on inventory and then Wes can provide some clarity around it and give you probably some insight into what our inventory is made up of.
Generally we would always have the perspective less inventory is better than more inventory.
So we are working hard to try to turn our inventory more quickly and so going into the holiday with more inventory than last year we'd like to be going in with the same or less inventory.
Having said that we were able to bring our inventories down.
We started the quarter I think 9% over last year and we ended the quarter only 5% over last year and we expect to be down again by the end of the fourth quarter.
As far as the content goes Wes can give you some insight there.
Wes McDonald - Senior EVP & CFO
I think I mentioned in my prepared remarks that the seasonal inventories were only up 2%, so national brand's up 8%.
The national brands tend to be less weather sensitive, so obviously Kevin mentioned Nike had another strong quarter.
We've obviously invested a lot of inventory in that which has less markdown risk.
So I feel comfortable about where our inventory -- we're obviously going to have to hit the comp assumption that we think we can do in the fourth quarter.
The earnings guidance we did not change in the release so that did not change.
We still think we can hit 440.
That's the goal.
We have to obviously improve our comp from the 0.8 that we're running today, sort of some things that hopefully will get you guys a little more comfortable with our ability to do that.
It's really no different than what I told you last year if you look in the script.
We got an increase in our online generated orders have consistently outperformed our plan.
We expect that to continue in the fourth quarter.
And online is a much bigger part of the fourth quarter than it is in the first three quarters.
And then we have the infamous additional day calculation which some of you guys still owe me a bet on out there but that's worth about $80 million.
Then we've added our incrementality on the bold moves as Kevin described.
They are not fully baked in because some of it is displacement of product that was there but when you add that in you back out the negative weather trend that we expect for the fourth quarter.
And then our true store comp, you can get to a comp increase that's a little bit above 2%, somewhere between 2% and 3%.
So that's what we think we can do and if we can do that given what our expectations are for gross margin and expenses we can hit the low end of that 440 range that we talked about last quarter.
Matthew Boss - Analyst
Fantastic.
Best of luck.
Operator
Lorraine Hutchinson, Bank of America.
Lorraine Hutchinson - Analyst
Thank you, good morning.
You spoke about working the inventories down and you were still able to drive merchandise margin expansion in the third quarter.
Can you give us some of the drivers that helped do that and then what the outlook is for 4Q gross margins?
Wes McDonald - Senior EVP & CFO
I think the first start to lower inventory is buying less so we did that for the first time in a while in this quarter, down slightly last year as I mentioned in my comments.
From a margin perspective a couple of things.
Our shipping cost continues to be basically what we thought about 20 basis points roughly of headwind each quarter.
The national brand mix even though it increased 200 basis points was not as much as what we thought it was closer to the low end of that 4 to 7 per hundred basis points, so that helped a little bit.
So the goal of the margin formula to get to flat to 20 is our two merchandise margins have to increase about 50 basis points.
If you take the merchandise mix 10 basis points as we have more home online than the 20 basis points of shipping cost that gets you to the high end of the range.
So our merchandise margins as I mentioned improved, just not to the extent that they needed to to get to the high end of that range.
So we expect to be able to do that as we move into the fourth quarter.
Our receipts will be down for the fourth quarter.
That's part of the reason we're getting to where we want to be from an inventory perspective, moving from up about 5 to up about 2 or 3.
Lorraine Hutchinson - Analyst
Then can you give us a sense of the firepower that you have in terms of outstanding rewards and what kind of impact you think that could have on 4Q?
Kevin Mansell - Chairman, CEO & President
It's just I mean no, the short answer is no, we're not good to go into the detail of that kind of information, Lorraine.
But in general we basically are entering the quarter with I think something like twice as many loyalty members as last year.
So you can imagine with twice as many loyalty members as last year behaving similarly or better than they did last year we're going into the holiday in November with a lot more rewards and a lot more dollars.
Operator
Paul Trussell, Deutsche Bank.
Paul Trussell - Analyst
Yes hi, good morning.
Just in thinking about the SG&A guidance Wes, I believe the prior statement was towards the higher end of the 1.5 to 2.5 growth, third quarter was managed very well.
Just want to understand how we should think about the fourth quarter?
Wes McDonald - Senior EVP & CFO
Sure.
I still don't come off of that high-end SG&A for the fourth quarter will be up somewhere between 4% and 5%.
We're going all-in on marketing.
It's a big increase in marketing, marketing for the fourth quarter is going to be up about 14% to last year.
Our tab spending continues to be down but we're reinvesting that in more into primarily digital but also direct mail and broadcast.
So definitely going to see a bigger share of voice from Kohl's in the fourth quarter in terms of broadcast and digital.
Paul Trussell - Analyst
Got it.
That's helpful.
Thank you.
Then I just wanted ask a broader question around your store fleet.
Kevin, you're moving into outlets and also the smaller the 35,000 prototype.
Where will we see this smaller, more nimble store located and how does that perhaps change at all the thought process around your current 1,100 stores?
Are you looking at all at potentially reducing some of the square footage within those boxes?
Kevin Mansell - Chairman, CEO & President
We'll take them one at a time.
On the 35,000 square foot prototype our thinking on that is for the most part pretty much as we stated in our remarks which is we think we have two opportunities that are distinct.
One is there are clearly a whole bunch of smaller markets across the country where we know we'd be really successful with the Kohl's brand and also effectively really work well with our digital strategy.
And we talked at length about both Buy Online, Pick Up In Store as a key element and our ship from store strategy online generated demand as well.
That's one avenue.
And the second avenue which is more distinct is current both markets we're in where there are trade areas that we just either due to the price of real estate or the economics, perhaps the density in the trade area between two existing Kohl's stores, we can't really figure a way to make a full-size store, even our small prototype work effectively.
And we think the 35,000 square foot prototype could do that.
In addition obviously in the back of our mind is we're going to want to watch the results.
It's possible that as stores come down the road and hit lease expirations that we will be looking at reducing the size of some stores that we have that are bigger that didn't pan out to the same level of volume that we thought they might have let's say 10 or 15 years ago.
And you can imagine that's in parts of the country that didn't grow at the rate that we thought pre-recession they would.
The outlet thing is pretty straightforward.
I think we're going to find out about the outlet strategy and the whole point of piloting and testing to see how we reach more customers and present them with the Kohl's brand.
So the big idea I think we believe we have is the 35,000 square foot prototype.
I really do.
It works across so many multiple fronts for us and it also will eventually I think it will help us deal with the need to have smaller stores generally as people shop more online.
Wes McDonald - Senior EVP & CFO
A couple of things we're testing are the two stores in Boston that we've actually downsized, given some space back to the landlord and brought traffic driving things like supermarkets in as a replacement in the space.
We just did one and we're going to do one next year.
So depending on how well that works that could be another option.
It would be somewhat limited to areas of the country like the Northeast and maybe Mid-Atlantic where real estate is at a premium and we have older Bradleys and counter boxes that are 100,000 to 120,000 square feet where we can downsize and free up some space for the landlord to bring somebody to drive traffic to that.
In order to do that the rent commanded has to be pretty high to get us to pay us back for demising the wall and things like that.
But that's something that's an exciting opportunity for us going forward.
Kevin Mansell - Chairman, CEO & President
I do think one thing Wes and I and the rest of the leadership team agree on is our brick-and-mortar business and our physical presence is a dramatic competitive advantage versus both virtual retailers and some of our brick-and-mortar competition.
So I don't know necessarily that we see fewer stores.
They will probably look a little different and they'll probably be smaller than they are now, but I actually think this strategy effectively executed will give us more presence, not less presence than we have today.
Paul Trussell - Analyst
Thank you for the color.
Good luck.
Operator
Oliver Chen, Cowen and Company.
Oliver Chen - Analyst
Hi, thank you.
Regarding the women's mix and how you're thinking about becoming a bigger destination could you just remind us what percentage of sales that is and where it may trend over time?
What are the big areas within women's that you see as the opportunity for you to further add depth and presence?
And also Kevin the incredible savings pillar I was curious about what that means in terms of how you may work with vendors and how you think gross margins may trend over time and what you are going to actually do there if it's a really big long-term idea?
Wes McDonald - Senior EVP & CFO
I will take the first part and probably the part about pricing then Kevin can give you some more detail on the women's business.
Women's is about 30% of the business now.
Before it started to downtrend it was about a third of the business so there's a lot of opportunity I think for us to get better.
This is the first quarter in a long time where both Missy and juniors have run a positive comp so that's very encouraging.
And I will let Kevin talk a little bit more about the brands and things we're going to do.
Kevin Mansell - Chairman, CEO & President
There are a series of initiatives that have been already activated and in some cases I think we're getting some results from them.
We got some results in the third quarter on them underneath this effort to make women's more of a destination and the things that maybe some of which may be obvious to you like a dramatic intensification around our active business and women's because we are headquarters for that and we think we can exploit that in a dramatic way.
Plus size is a business that we own a nice share but we think we have lots of opportunities to grow.
And so making plus a more important destination is a critical factor.
The one that probably has the biggest impact overall that we're really highly intense upon is just providing more clarity in our women's offering.
And by that I mean being more clear to the customer about differentiation in what we sell under mostly our proprietary brands, to making it clear to them why Sonoma is Sonoma, Apt 9 has a different aesthetic and perspective and Croft & Barrow has another one.
Same for our proprietary brands that are in New York, brands like Vera Wang or others.
On the data-driven insights, just to be clear on that, that in our mind is a revenue driver.
It's all about understanding better through data analysis which we've done.
And we have massive amounts of data both in total and individual customer data and looking at categories and items that provide based on history the strongest correlations to customers' perception of value of the store.
Then in addition we're looking hard at elasticity ratios to make sure we understand that we're investing in price in categories that will actually lift demand the most.
By default that means of course that' spending our markdown money, promotional money, value money in a different way than we did in the past where it's possible we applied promotions or discounts more universally across our assortment.
So I think Wes and I both, Wes and Michelle are really heading up this initiative to give you a sense of how important we think it is.
And the whole leadership team feels like this is a massive idea for Kohl's for the future and it also addresses one of our core challenges which is to get consumers to be more aware of our value.
Oliver Chen - Analyst
Got it.
That's helpful.
And Wes and Kevin when we model and we think about traffic for fourth quarter and the holiday season which factors would you prioritize on a year-over-year basis as we think about mobile and BOPUS and loyalty?
Would you help us weight which ones are the most dramatic on a year-over-year basis and might have the most needle moving traffic impact to your overall comp?
Wes McDonald - Senior EVP & CFO
Digital is going to be the biggest driver obviously as I mentioned in my remarks.
It's the much bigger impact on the fourth quarter given the dramatic increase in size of the business.
The traffic is moving much much more towards mobile.
We just relaunched our M.com platform in the third quarter and have seen a dramatic improvement in our conversion rate as people seem to find it a lot easier to navigate and that will be important for the fourth quarter.
Loyalty as I mentioned we're not counting on getting anything but we know what double the people and increase in the response rate at least if last quarter, last year's fourth quarter is any indicator should hopefully have some more traffic in the stores.
So those would be the two biggest things and then obviously the extra day which is not inconsequential.
There's a lot of sales to come.
We had our first $100 million day yesterday so that was a good indicator of the start of the season.
So we just have a lot more $100 million days to go.
Oliver Chen - Analyst
Okay, thank you.
Best regards.
And congrats.
Operator
Dan Binder, Jefferies.
Dan Binder - Analyst
Hi, thank you.
The juniors business considering where you were earlier in the year, what allowed you to really move it that quickly?
Kevin Mansell - Chairman, CEO & President
Well I think warm weather was probably a headwind, it was probably a headwind for everybody.
We're not unique in that band.
Wes McDonald - Senior EVP & CFO
If I gave you a number it would be a guess, not a scientific calculation.
Kevin Mansell - Chairman, CEO & President
The best way we look at and Wes also mentioned we're assuming that weather will be a headwind in the fourth quarter.
So that's sort of built into our assumptions.
The best way we look at it is we look at the performance of seasonal categories in a particular period versus the overall business and the seasonal categories in the third quarter ran significantly lower comp results than the overall business did.
That's usually the signal that weather is a factor in terms of people's demand and behavior.
Because we sort of assume we're doing the same job, the same quality of work around our seasonal exhibits as we are on our other assortments.
And all things being equal if weather is not a factor it will run kind of near the store.
If weather is positive it runs better, if it's negative it runs a little less.
So I would reemphasize again not only that weather was a factor in our sales but I suspect it's a factor in everybody's sales.
I think the juniors business the team has just worked really hard.
We had some as you may remember some long period of underperformance in juniors which was followed by some marked improvement and then pullback a little bit.
I just think the sense of urgency they had and some momentum they had that preceded it probably helped them get going in the right direction a little more quickly.
Wes McDonald - Senior EVP & CFO
Yes, I mean it helps that it's the shortest leadtime business we have as well.
So I think we mentioned to you guys in the spring one of the issues in juniors was we didn't invest enough in the basics.
We tilted the pendulum a little bit more towards fashion.
So we corrected that in the third quarter and SO which is our private brand business in juniors which is the biggest brand in juniors ran a double-digit comp for the third quarter.
So that indicates we got our inventory investment back in the right places.
Dan Binder - Analyst
On just one more if I could on gross margin improvement in Q4.
I think you've noted in the past and certainly obviously yesterday there's probably some talk of inventory in the industry, obviously a lot of business still has to get done in the coming weeks.
But if the industry broadly is seeing excess inventory levels, how do you think about your ability to achieve gross margin gains against that backdrop and I'm not sure you can refer to prior examples or your general feelings about it this holiday season but any color would be great?
Kevin Mansell - Chairman, CEO & President
Just in general level of inventory by category, level of inventory in total, general sense of the macro environment that we operate in, all are factors in how we determine where we think will not come out from a merchandise margin perspective.
And I don't want to minimize it at all and I don't think Wes will minimize it at all that we expect the holiday season to be very promotional, very competitive.
Wes mentioned to you that we've baked into our assumptions a really pretty significant increase in our marketing expenditures.
Probably the biggest one we've had in a long time and part of the backdrop to that is that we have an expectation that if we're going to win we're going to have to drive traffic and that's going to depend on our ability to both utilize digital marketing and massmarketing like broadcast to do it.
So there are all factors --
Wes McDonald - Senior EVP & CFO
An increase in the marketing spend obviously means an increase in marketing markdown, hopefully if the marketing is effective, and we've built that into our plans.
We expect the gross margin increase for the fourth quarter if we run between a 2 and 3 comp which is what we expect then we will get a gross margin increase.
If our comp doesn't improve we will have to take more markdowns than we anticipate today.
So it's really all -- fourth quarter is all about sales.
That's been in this business a long time, it's always all about sales in the fourth quarter.
You can manage the best you can but if you don't get the sales you're not going to make your numbers.
Dan Binder - Analyst
Great, thanks.
Operator
Paul Lejuez, Citigroup.
Paul Lejuez - Analyst
Hey, thanks guys.
Wes can you just review what is it that you're expecting again on the line item basis to get to that low end of your EPS guidance?
You said 2% to 3% comp, but what was the actual gross margin?
I'm not sure if your distinction between gross and merch margin, just wondering what the gross margin assumption is to get there and SG&A dollar growth?
And then just as a second question I think you've talked in the past about $750 million, $800 million is the right range for CapEx in future years.
Wondering if you're seeing any change in your thinking around that and just what are your expectations for free cash flow this year?
Thanks.
Wes McDonald - Senior EVP & CFO
That was four questions but we will answer them all.
The CapEx and cash flow are easier.
CapEx no change really.
I think we're going to think I've told you guys $750 million, $800 million is a range.
We'll probably be closer to $750 million this year.
I suspect we'll be closer to $800 million next year.
The timing of our POS roll out, our new POS system is going to be either in 2016 or 2017.
We have it piloted right now in a couple hundred stores.
So depending on how that goes and the number of fixes or enhancements we need to make could change some spending between 2016 and 2017.
Free cash flow will be a little lighter than we anticipate.
I think we've targeted $1 billion.
I think it will be closer to $800 million this year.
As far as SG&A I told you between 4 and 5. I told you 2 to 3 on the sales and you guys can figure out the margin yourselves.
So I won't get into the quarterly guidance game.
We've been pretty consistent about the annual guidance but we expect to see an increase in gross margin.
If we're able to get the comp lift that we expect we will be able to hit the 440 range that we talked about.
Paul Lejuez - Analyst
Wes, what's the delta on that free cash flow?
Wes McDonald - Senior EVP & CFO
In terms of the change?
Paul Lejuez - Analyst
Yes.
Wes McDonald - Senior EVP & CFO
Probably we're going to have more inventory, we're going to be up and inventory at the end of year slightly and I expected us to be down.
So that's really the big difference is inventory.
Operator
Michael Binetti, UBS.
Michael Binetti - Analyst
Hey guys good morning nice quarter and a tough backdrop.
I think you said on the last call, just wanted to check on one thing on the last call you talked about a pretty big event in October.
I wanted to see if you could maybe and then through the middle of the year you talked about changing up some of the strategy on the approach to some of these events.
Could you update us on the October event how that worked and what you learned and what we may see you apply going forward?
Kevin Mansell - Chairman, CEO & President
I think probably the thing you're talking about is the anniversary of the Yes2You launch last year.
And fundamentally I think that the marketing team did an amazing job of anniversarying the launch because I think that was a focus of concern by many investors before and it aided our performance in October.
Wes gave some color on that, that our performance in the quarter was exceptionally strong in the back-to-school period.
And it turned strong again in October.
That was a big driver of that.
But the big benefit from that is actually looking forward because if you can -- it's always the forward look that matters.
So if you activate the anniversary of the Yes2You launch successfully what that means is that more people have more rewards and more dollars to spend to shop back at Kohl's in November.
So I think we look at more on the forward basis than a backward basis but I do know that many people were concerned that we couldn't anniversary that launch and I think we did successfully.
Wes McDonald - Senior EVP & CFO
We feel good about that.
One of the questions that you guys have been emailing me during the call as I forgot to mention in my remarks was both credit and non-credit card customers comp positively for the third quarter.
If you recall in the first two quarters we had made a lot of changes where credit took away some credit events, things like that, so those guys comped negative.
But we were able to get both to comp positively so that's a move in the right direction.
We just need to raise the level of both of that a little bit to get to where we want to be, so just to let you guys know that.
Michael Binetti - Analyst
Okay.
That actually is a nice dovetail.
I think the golden goose for you Wes for several years has been getting the Yes2You launch and then figuring out how to convert those customers over to the key credit card customer.
And I think you're talking a little bit about having some ideas on how to make the conversion work in the middle of the year as well.
Are you maybe an update on that and are you seeing that are your launching some things to help you convert that customer over to the credit card customer?
Wes McDonald - Senior EVP & CFO
We have a big campaign that we back doing in the fourth quarter to take some of the data from our Yes2You members and offer them a prescreened so they are already prequalified is the question I'm saying yes.
So what we're trying to build more systemically into our system as we move into next year is, and this is in conjunction with the new POS system so we didn't want to waste money on fixing the old system to build it into the new system going forward.
So when you come in it will identify you personally and it will let the associate know at the POS that you're a Yes2You rewards member, you're a credit card member so that's a good thing so you want solicit credit if they are already a credit card member.
And if you're not and you prequalify they swiped their bankcard you can already give them a pretty high percentage of assurance if they say yes to credit that they will get approved.
So that's not ready yet.
That's something that should be ready next year but we think that's really the next leg of taking Yes2You and really building it in as a link to the credit card program which as you've mentioned a significant part of our sales and also obviously a pretty nice business from a profitability perspective as well.
Michael Binetti - Analyst
That's great.
So then one last one is you've talked over time about how the increasing penetration of e-commerce is obviously going to be a drag to the corporate margins but you thought you could get the margins on the e-commerce originated sales higher.
You started launching things like Buy Online, Pick Up In Store.
Are you starting to see this margins migrate higher ,any kind of forward-looking comment you that you could help us with?
Wes McDonald - Senior EVP & CFO
Yes, the profitability of our online generated order business is improving dramatically.
A couple of lines that have really showed nice improvement, merchandise margins, our clearance merchandise has gone down considerably in the first nine months of the year.
So a lot of credit needs to be given to our merchants and plant allocation team that work on that.
The most impressive thing honestly has been in our e-commerce fulfillment centers in combination with our stores.
Our UPH is up I think year to date 13% of 14%, the highest that we've ever hit units per hour.
So if we continue to do that in the fourth quarter that will be a big tailwind to our profitability.
So we're learning as we go ship from store and Buy Online, Pick Up In Store is certainly going to be a big help.
BOPUS I think at the end of the third quarter was 3% of 4% of our business.
We've hit days already this quarter where it's been 6% to 8%.
Our expectations for the fourth quarter is that that will be about 10% of our business online and that comes at no shipping cost.
So lots of things working the right direction online.
Still not as profitable as brick-and-mortar but we're closing the gap.
Michael Binetti - Analyst
Okay, that's great.
Thanks a lot, guys.
Operator
Bob Drbul, Nomura securities.
Bob Drbul - Analyst
Good morning guys.
I guess I just had two questions.
The first one is you're talking about the inventory build on one of the categories is licensing.
And I was just wondering if you felt like you got a good selection of some of the licensing opportunities in this holiday season with the movies and toys, etc.?
Kevin Mansell - Chairman, CEO & President
I think we've talked at length probably coming into the fall holiday that entertainment was one of the key initiatives, one of the big bold moves both entertainment licensing and sport licensing that we look to build over the course of the next couple of years.
And we made a big bet last year with Disney on Frozen and it was exceptionally strong and drove a lot of traffic was successful and we have obviously made an even larger bet with Star Wars this year and we think we've got the same opportunity to build that business looking into the fourth quarter.
So we actually feel really good about the entertainment licensing strategy.
Wes McDonald - Senior EVP & CFO
The other big one is that NFL.
That's been a big one not just on the men's side but we've also made a bigger investment in women's and kids.
There's definitely a timing difference between Frozen and Star Wars, though, obviously given the launch of the movie in December.
Part of the reason the kids business trailed the Company in the third quarter was the Frozen baseness was much bigger in the third quarter.
The Star Wars business is going to come much later.
Bob Drbul - Analyst
Got it.
And Kevin I just one of the big successes that you guys have had has been in the national brands.
Just wondering if you could give us an update just on progress attaining more national brands?
And I think within women's do you think you'll have some success there?
And in the store the Life is Good brand seems to be a new one.
I was wondering if you could maybe comment on how that's going for you?
Kevin Mansell - Chairman, CEO & President
It continues to be a big focus of that Michelle and her merchandising team and we're obviously making a lot of progress.
Our national brand penetration continues to go up.
I think we gained another 250 or 260 basis points of penetration in the third quarter again.
And it's being driven by both some new brands.
Life is Good is a great brand that is not in all stores but is online and in selected stores and we're testing to see how big that could be.
But some of the biggest successes we've had to be honest with you is the recommitment to our current brands.
So the brands like Nike, brands like Levi's, brands like Carter's, in some cases new national brands like Fitbit or Gaiam, those are driving those results.
So I think that is definitely a strategy we feel good about.
And I know investors sometimes get a little lost in the detail of the implication of reemphasizing national brands from a merchandise margin perspective or the impact on our inventory because they do carry higher average retail.
But the fact remains that customers left national brands and there's a quality and credibility that they have that is a real key factor in deciding where to shop.
So I think we've landed on the right strategy and it is working.
Bob Drbul - Analyst
Great, thank you very much Kevin.
Good luck.
Operator
Stephen Grambling, Goldman Sachs.
Stephen Grambling - Analyst
Hey, good morning.
Two quick follow-ups, one on SG&A and you've done a good job of keeping that level of plan for three quarters now and while it sounds like it may shift in the fourth quarter you'll still end up probably better than you thought.
Have you been able to cut things structurally such that SG&A leverage point has cut down and how should we be thinking about that from here on out?
Wes McDonald - Senior EVP & CFO
Well I think our leverage point is still going to be at 2. The thing that's relatively new to us at Kohl's and also in the industry is obviously wage inflation primarily with our store associates.
So that's something that's real and we've chosen to address it market by market.
So that's going to be a headwind.
It was a headwind in the current quarter, it will be a headwind in the fourth quarter.
We just have to find savings in other areas to cover it.
So one of the savings we've had for the first three quarters that we've chosen to reinvest is in marketing.
So we've done a lot with tab optimization to better target the people that get our tabs via newspaper and that's saved quite a bit of money from a production perspective as well as a distribution perspective.
So we have to continue to do that.
As I mentioned where my getting more efficient in e-commerce fulfillment.
That's helping.
But I think whatever savings we got on the other lines is going to go to investment in our store associates and I don't see us being able to lower the leverage point beyond the 2%.
Stephen Grambling - Analyst
That's very helpful.
And then I guess the other follow-up is just on online and you mentioned that gap between the stores and the e-commerce business.
I guess where is that gap now and where do you think the key opportunities are to further narrow that gap?
Wes McDonald - Senior EVP & CFO
We're no longer breaking out the businesses separately from a sales perspective just because it's all gotten very confusing in terms of ship from store and Buy Online, Pick Up In Store counts.
The store sales when you return it to the store counts a reduction of store sales and everybody does research online.
So we're just looking at it as a big sales bucket and they are just choosing how they pick up the product differently.
The two biggest things are continued efficiency with our distribution centers.
I think like I mentioned we have improved double digits, best performance we've had.
But I think we can continue to improve pretty significantly.
And then secondarily partnering with carriers like FedEx, UPS and the Postal Service to try to get more postal insertion on ship from store that saves us a little money on the end to the customers.
And obviously BOPUS is a big opportunity, if we can move that needle from 10% of the online orders to 15% that would allow us a lot.
Then we still have margin opportunities.
We have a very, very long tailed SKU distribution of what we carry online.
We carry a little over 1 million SKUs online.
Many of those are direct ship but ship alone and they are fine but there's a lot of SKUs in our EFCs that don't turn very fast.
We have to make a decision on whether or not those are profitable enough for us to get to take up slots or should we do a better job of double facing high velocity SKUs.
So those are a couple of things we can do to improve.
Stephen Grambling - Analyst
All great color.
If I can sneak one last one it would be you mentioned a $100 million day in November.
Are you currently running within your expectations for the fourth quarter?
Kevin Mansell - Chairman, CEO & President
We never comment on sales during the quarter.
Wes McDonald - Senior EVP & CFO
I just threw out a fun fact on the $100 million day.
Kevin kicked me under the table.
Stephen Grambling - Analyst
Well best of luck this holiday.
Thank you.
Operator
Mark Altschwager, Robert W. Baird.
Mark Altschwager - Analyst
Great, good morning.
Nice comp in this environment.
I just wanted to follow up quickly on the components of the comp.
It looks like it was the first time in almost a couple of years that UPT was positive.
Similarly I think I think selling price per unit growth decelerated quite a bit despite the big increase in national brand penetration.
So just anymore color on what is driving those would be helpful and how we should think about that heading into fourth quarter?
Wes McDonald - Senior EVP & CFO
I think we were probably a little bit more aggressive on some marketing markdowns.
That drove the AUR down a little bit.
In general the average transaction value over the last few years has been up somewhere between 1% in 2% I think.
So it's just a mix of the components.
We're trying a lot of different things in marketing.
The Holy Grail is to get that traffic transaction per store positive.
So we were able to do that in the fourth quarter last year and first quarter this year.
A little light in the last two but nowhere near where we were prior to the Greatness Agenda.
So we will continue to tweak the marketing calendar and see what we can do to move it up in the positive range.
Just a little bit more aggressive on marketing markdowns is really what is driving that.
Mark Altschwager - Analyst
Thank you.
Then just a quick follow-up on SG&A if I may.
How should we think about the longer-term targets in the context of these new store initiatives that were outlined this quarter?
Thank you.
Wes McDonald - Senior EVP & CFO
Kevin hasn't given me any relief on leveraging that 2 comp so that's going to be the goal, so I would expect dollars to increase somewhere around 2.5%.
We have a big delta to solve for 2016 but we've got a lot of smart people working on it and I'm sure we will be able to get there.
So as you're looking at your modeling I would just plug-in about 2.5% a year.
If you're assuming a 2 comp, if you're assuming we get to the $21 billion that we laid out obviously the dollars would grow but we'd get a little leverage past that.
Mark Altschwager - Analyst
Great.
Best of luck for the holiday.
Operator
Richard Jaffe, Stifel.
Richard Jaffe - Analyst
Thanks very much guys and just a couple of details if possible, the success of cosmetics if you can help us quantify that, perhaps change year over year similarly for the women's business?
And then if you could talk about Columbia, the stores look terrific, the presentation is excellent, the shop-in-shops for both men's and women's, great job for both you and Columbia.
But with the weather headwind could you help us balance those two out?
Lastly just one for Wes, given the $1 billion ad spend should we anticipate a Super Bowl presence?
Wes McDonald - Senior EVP & CFO
I've got to go no on the Super Bowl, that's for sure.
Kevin Mansell - Chairman, CEO & President
On the three specific merchandising questions beauty continues to run significantly better in the store in the double-digit range.
There's always more opportunity so we're definitely in a learning curve on beauty.
And we're still I think to some extent experimenting to the extent that we can in our different beauty formats as to the right formula but it's definitely working and it's running very strong results across the Company.
Women's ran better than the store in the third quarter.
I think actually relatively significantly better in the store and it was also importantly relatively broad-based.
I think Wes both juniors and the core women's business ran positive as well.
Wes will verify that but really happy with the women's business as a result.
And the Columbia success has been and Wes said that's right on women's.
The Columbia success has been great and to be honest with you Columbia to me the experience with Columbia to me is sort of a single example of what we're facing in our whole business.
We're in a very competitive industry and we're fully aware of that.
And there are clear headwinds in the near term, so some of the categories we operate in are not necessarily in favor of the customer, they like some other things and the new shiny things a little more than the current categories we are in.
Weather is definitely a headwind.
It was in the third quarter.
We're just expecting it to be in the fourth quarter.
There is generally higher inventory in the industry I think because of weaker sales generally in the third quarter.
And some of those things apply to a brand like Columbia but we're for the most part really focused on the long term.
And we just think Columbia is a phenomenal brand that our customers absolutely love and they love it way beyond outerwear.
They love it in an active brand across a bunch of categories.
So I think they are a good example of a business that we're having really good success with and you can always have a near-term disappointment due to factors that are beyond your control but in the long term that is going to be a home run brand for us.
Richard Jaffe - Analyst
I would agree.
It looks terrific and I think your broad-based presentation is going to be very helpful.
Kevin Mansell - Chairman, CEO & President
Thanks Richard.
Wes McDonald - Senior EVP & CFO
Thanks everybody.
If you have any other calls I will be around.
Operator
Thank you.
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