柯爾百貨 (KSS) 2017 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to Kohl's Q3 2017 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 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will not be updated, so if you are listening after November 9, 2017, it is possible that the information discussed is no longer current.

(Operator Instructions) As a reminder, today's conference is being recorded.

I'd now like to turn the conference over to our host, Mr. Bruce Besanko, Chief Financial Officer of Kohl's Department Stores.

Please go ahead.

Thank you, Tony.

Good morning.

With me today is Kevin Mansell, our Chairman, CEO and President.

I'll start today's call by walking through our third quarter performance.

Kevin will provide more details on our results and our operational priorities.

We'll then open up the call to your questions.

So starting with sales.

Comp sales were positive for the quarter, up 0.1%, as we continued to build on the sales momentum we saw in the second quarter.

The comp improvement was again generated by improved traffic trends.

Though still negative for the quarter, we're encouraged by the sequential improvement in traffic we saw throughout the quarter.

Average transaction value increased for the quarter, driven by a strong increase in average unit retail, which was partially offset by a decrease in units per transaction.

Like most retailers, our third quarter comps were negatively impacted by the hurricanes, which resulted in the temporary closure of more than 100 of our stores.

We estimate we lost approximately $15 million in sales and approximately 35 basis points to our comp sales while the stores were closed.

From a line of business perspective, our footwear, home, men's and children's businesses reported positive comps.

Footwear was especially strong, driven by athletic and kids shoes.

Our accessories and women's businesses were challenging.

We also saw strength across most of the country with the South Central, Southeast, Midwest and West all reporting positive comps.

The Mid-Atlantic and Northeast regions underperformed the company average.

Kevin will provide more details on our sales results in a few minutes.

Our gross margin rate decreased 30 basis points for the quarter.

The positive impacts of less clearance markdown levels were more than offset by higher shipping costs due to growth in our online business and higher reserves, such as loyalty rewards and sales return adjustments, which primarily resulted from the strong sales in late October.

SG&A increased by $15 million for the quarter to $1.1 billion.

Approximately $8 million of the increase was attributable to Hurricanes Harvey and Irma.

While the hurricanes during the quarter created a temporary impact on our business operations as it did for most retailers, we made the deliberate decision to absorb some financial impact as we took several additional steps to support our associates, our customers and our communities in the aftermath of the storms.

We believe this was the right way for our business to respond to these significant natural disasters, and we believe decisions like this will help ensure we maintain our strong corporate reputation in the communities we serve.

As a percent of sales, SG&A deleveraged 33 basis points.

Our store teams did a fantastic job managing store expenses, especially payroll, in line with the sales trends.

Marketing expense is also leveraged.

We saw a pressure in IT expenses as we migrate to the cloud and invest in digital and holiday capacity.

Logistics cost deleveraged as a result of opening our fifth e-commerce facility in the third quarter.

Credit deleveraged as we waived fees for customers impacted by the hurricanes.

Depreciation expense was $243 million for the quarter, up $11 million over last year's third quarter.

The increase was driven by higher IT depreciation.

Interest expense decreased $2 million for the quarter.

Most of the decrease was due to lower interest on capitalized leases as the store portfolio matures.

Higher earnings on our investments also contributed to the increase.

Our income tax rate was 36.1% for the quarter, an increase of approximately 110 basis points over last year.

The increase was primarily due to favorable audit settlements that we had in 2016 but did not have in 2017.

And so for the quarter, net income was $117 million.

Diluted earnings per share were $0.70.

Transitioning to the balance sheet.

We ended the quarter with $736 million of cash and cash equivalents, an increase of $139 million.

The increase is the result of lower share repurchases and lower AP payments.

Inventory per store decreased 2%, and units per store decreased 4% percent, consistent with our expectations for low to mid-single-digit decrease for the year.

Our AP-to-inventory ratio increased 120 basis points to 45.6%, reflecting the positive impact of our continued emphasis on inventory management.

On November 3, we successfully amended and extended our $1 billion revolver for an additional 2 years.

The amended agreement expires in 2022, which is 1 year after our next long-term debt maturity.

The financial covenants and other terms in the amended agreement are generally consistent with our prior agreement.

Moving on to capital management.

Year-to-date capital expenditures were $547 million, $44 million lower than last year.

The decrease reflects the net impact of lower new store and higher IT spending.

We repurchased 1 million shares of our stock during the quarter, bringing our year-to-date total to 7.3 million shares.

Weighted average diluted shares for the quarter were 166 million.

As of quarter-end, we had 168 million shares outstanding.

On Wednesday, our board declared a quarterly cash dividend of $0.55 per share.

The dividend is payable on December 20 to shareholders of record at the close of business on December 6. Based on our year-to-date results as well as our outlook for the fourth quarter, we're narrowing our range on earnings per share by increasing the lower end of our prior guidance.

Our new adjusted EPS guidance range is now $3.60 to $3.80.

In addition, we're expecting the benefit from a tax settlement in the fourth quarter.

The tax benefit is the result of a state tax settlement dating back several years.

We expect to receive a pretax benefit of $30 million, which will run through our tax rate and results in $0.12 EPS benefit.

Including this tax benefit, we expect earnings per share to be $3.72 to $3.92 for the year.

And now I'll turn the call to Kevin, who will provide additional details on our results for the quarter and update on our key initiatives.

Thanks, Bruce.

Let me start with a few comments on the overall results in the quarter, and then I'll provide more color on the progress we're making around each of our key pillars in the Greatness Agenda.

Most importantly, we return to a positive comp increase in the third quarter, and we continued the steady improvement in sales results we've seen all year.

As you know, driving traffic is one of the 2 key priorities for our company.

And as Bruce shared, there was sequential improvement again in our store traffic metrics, and this increase in traffic was the driver of our improved sales performance.

From a timing perspective in the quarter, we had a strong back-to-school selling season with sales from the beginning of August through Labor Day up low single digit.

This was driven by particularly strong performance in kids and footwear and continued strength in activewear.

The rest of the September sales period was weak, affected substantially by the impact of hurricanes in some of our regions and unseasonably warm weather throughout almost all of our regions.

Sales turned positive again in October, driven by particular strength in the back half of the month.

Regular priced sales for the quarter were up 1%, while clearance sales were down 7%.

This was driven by lower levels of clearance inventory.

On an overall basis, a portion of our improvement in our sales trend is attributable to our targeted efforts to capture share from competitive store closures in some of our trade areas, and we expect this will continue, if not accelerate, through the holiday season.

From a category standpoint, the positive comp performance was broad-based with nearly all categories improving their sales trends.

Men's, footwear, kids and home all reported positive comp increases in the quarter.

Our core women's business was negative, but we did see continuing improvement in the trend, particularly in our private brands.

The accessories category continued to lag the company.

It was down mid-single digit.

Looking at the progress in our individual key pillars.

On the product front, our active business increased almost 20% for the quarter, an acceleration of the year-to-date trend.

Both apparel and footwear categories in active were strong, and this was driven by large increases in both Nike and adidas as well as continued strong performance from Under Armour.

We continue to gain market share in active.

We expect a very strong holiday performance in both active apparel and footwear categories.

Our national brand penetration rose to 56% for the quarter, up 300 basis points.

This was driven primarily by the active growth, but we also had growth in several other important national brands, including Levi's, Carter's, Van Heusen, Haggar, Columbia and Fitbit.

We also launched the Clarks footwear brand to further expand our footwear offering.

Our private brand performance saw significant improvement as substantially all brands reported improved trends.

This was driven by the growing impact of our speed-to-market efforts and improved performance of our Jumping Beans children's brand at back-to-school and the relaunch of our Apartment 9 brand.

Our exclusive brand performance continued to lag the total, but that's primarily the result of the paring down of brands and categories in that area of the business.

Two of our most important exclusive brands, Vera Wang and Lauren Conrad, grew by double digits for both the quarter and the year-to-date.

In our efforts to provide a seamless and easy experience, we continue to make great progress in delivering a best-in-class omnichannel experience.

Online generated demand sales grew 15% for the quarter, and we continued to grow the percentage of those online orders that are fulfilled by stores.

Stores fulfilled 30% of the total units for the quarter with both BOPUS and Ship from Store growing significantly compared to last year.

Productivity metrics improved again, resulting in a lower cost of shipping and fulfillment as a percent of total digital sales, which aided profitability.

We also opened our fifth EFC, which we expect to contribute significantly to our ability to grow our business and improve efficiency beginning next year.

Improved experiences in our mobile applications increased digital conversion at a low double-digit rate, and mobile accounted for 67% of our traffic in the quarter.

In the area of personalization and savings, we continue to enhance our capability in using data and analytics to drive our marketing, digital and personalization efforts.

In the quarter, we increased our level of personalization in key marketing events as well as leveraged our new insight-based pricing tools to deliver new promotional events that are resonating with our customers.

We completed the rollout of Your Price during the third quarter.

Your Price shows the personalized price of individual items based on the customer-specific offers that provide immediate visibility to the value of those customers receive at Kohl's.

Our personalized search initiative makes it easier for customers to find what they're looking for based on shopping preferences from previous online and in-store purchases.

And finally, our smart card application continues to provide customers an opportunity to save more by choosing to pick up in-store versus ship to home on their online orders.

During our second quarter earnings call, I mentioned that we would pilot a further evolution of our loyalty program next year.

Our loyalty program includes the Kohl's Charge, Yes2You Rewards and Kohl's Cash elements.

The objective of the pilot is to simplify the program, broaden the reach to provide even more rewards to users in a program that already is best-in-class.

With over 30 million unique customers utilizing at least one of the elements of our loyalty program, we believe this next evolution has great opportunity to drive a step change in traffic and sales.

The timing of the pilot has now been set for the second quarter of next year, and approximately 100 stores will participate.

We would then include the learning from this pilot in an expected company-wide rollout intended for fiscal 2019.

Finally, in the area of store optimization.

We continue to make progress in amplifying the role and the relevance of our physical stores across a number of fronts.

Success in many of these efforts has built further conviction in the importance of our physical stores and our long-term success.

First, we opened 4 new 35,000-square-foot stores in dense trade areas in the third quarter, and the openings were extremely successful.

We now have 12 of these stores across the country in both secondary and major markets.

Beyond the potential for growth these stores provide us, they importantly provide us insights into how we can operate our other stores more effectively in the future.

Second, our standard-to-small store strategy continues to drive lower inventory levels and is resulting in improved profitability in over 300 of our stores.

As Bruce indicated, inventory per store at the end of the third quarter was down low single digits and is expected to be down mid-single digits at the end of the year.

This is our seventh consecutive quarter of lower inventory per store.

And on a 2-year stack basis, our inventories are down in the low teens.

More importantly, we still believe we have the ability for future multiyear contraction in our average inventory per store.

Obviously, this has significant positive implications for improving our working capital and our cash flow metrics.

Third, in the last quarter, we continued to refine the opportunity on rightsizing some of our lower-volume in full-size stores with new tenant space being developed as a result.

You should expect to hear further developments on this effort in the fourth quarter call as we expand this.

We also continue to test and iterate our future store experience through our Your Store initiative, and we'll share more details on this initiative on the fourth quarter call as well.

Finally, there have been a number of questions regarding the test of Amazon Smart Home Experiences in 10 of our stores, and Amazon returns at Kohl's in 82 of our stores.

I'm pleased to say that both tests launched successfully in mid-October in select stores in the Chicago and the Los Angeles markets.

At this time, we won't share any other details on the tests beyond the store location and what was contained previously in our press release on the subject.

The objective from our perspective is very simple and very straightforward.

We believe both of these tests have the potential to drive incremental traffic to our stores, which, as you know, is our #1 priority.

In summary, the third quarter showed continued improvement in our financial results.

We are on track to achieve the goals we established with investors at the beginning of the year.

Just as importantly, the results further reinforce to us that our 2 key priorities are the right ones.

On the #1 priority of driving traffic, we feel we're very well positioned for the fourth quarter with lean and well-balanced inventories, compelling products, more fully developed personalization tactics in place and a strong digital business trend going into a period when online demand is at the highest penetration of the year.

On our other priority of operational excellence, we have made additional investments to support our long-term omnichannel strategy.

These include moves like building out our fulfillment infrastructure, moving much of our technology to the cloud and launching new applications to make the customer experience easier.

At the same time, we're innovating with new smaller store concepts, rightsizing some of our stores with other retailers and piloting concepts like our initiative with Amazon.

In spite of these investments, we remain on track to reach or exceed our goal of $250 million in expense savings over the next 3 years.

Managing operations has always been a strength for us, and we believe we can continue to build further on that.

And with that, Bruce and I will be happy to take your questions.

(Operator Instructions) We'll take our first question from Mark Altschwager with Baird.

I wanted to dig into gross margin a bit.

First on the quarter, one of your competitors was aggressively clearing to repair all inventory.

Just wondering to what extent the competitive environment weighed more in your merchandising margin than anticipated and did any quantification on other factors like inbound freight, outbound shipping, AUC.

And then looking into the fourth quarter, the comparison is a bit tougher here.

Clearly, the environment remains promotional.

Maybe just walk through some of the benefits you're baking in, whether it's e-commerce efficiencies, be it initiatives that give you some line of sight into that gross margin line.

Thanks, Mark.

I mean, this is Kevin.

As it relates to the competitive activity, no, competitive activity had no impact at all on our margins.

From a margin perspective, as Bruce indicated in the call, gross margin obviously decreased, and that was a function of certainly higher shipping cost due to the growth that we had online.

That's not new.

But also various reserves required simply because of when the timing of the sales came.

We had a lot of sales late in October that, I think, were probably driven by pent-up demand during the weak September sales period.

Merchandise margin actually improved in the quarter, and that was not a surprise to us.

We had expected to that.

So in terms of just managing our business, managing the mix of our business, managing our inventory levels, that's really, for the most part, all good news from our perspective.

Looking into the fourth quarter, I think you can probably tell from how we're describing our business trends, that we're very confident about what's in front of us.

Our inventories are very lean.

They're really well positioned.

We had a very strong trend in the third quarter.

We had a great trend coming out of the third quarter.

Our home business, which, as you know, penetrates more highly in the fourth quarter than the rest of the year, is extremely strong.

I think it was up mid-single digits, low to mid-single digits again in the third quarter as it has been for the year.

And very importantly, from our standpoint, our digital business grew double digits again, and, as you know, we're entering the most important quarter for digital.

So I think we're super confident as we go into the fourth quarter.

I just -- to build on what you said, too, Kevin.

In Kevin's prepared remarks, he indicated that the regular price sales for the quarter were up 1%, while clearance was down 7% percent.

So I think that's indicative of that -- how we performed in the quarter.

Is plus 10 to 15 basis points for the year still the goal overall for gross margin?

Yes.

I mean, I think the guidance that we gave at the beginning of the year, the only thing we've really done in this quarter is to raise the low end of the earning guidance up in recognition of the strong performance we've had all year, and the components of the guidance I don't think really have much changed.

I don't know if you have anything to add there.

I'd just say, we've incorporated the results of the first 3 quarters into our outlook.

We still have quite a bit of business with some very significant weeks here in front of us.

But we felt like based on the performance of the first 3 quarters and what we anticipate in the fourth quarter, we were able to narrow the range slightly ex the tax settlement that I mentioned in the prepared remarks.

So we've updated the EPS guidance in that way, but we have not and we're not going to update any of the particular line items.

And one more quick one.

I think you mentioned 30% of online demand fulfilled from stores.

How would you expect that to trend in Q4?

And you talked a bit about the Save More, Pick Up in Store.

Where are you with the rollout there?

And what's the communication strategy on that with the customer?

The impact of Ship from Store and Buy Online, Pick Up in Store in the fourth quarter is, as you can imagine, very high.

And in particular, the impact of Buy Online, Pick Up in Store, as we get closer to the holiday season, accelerates really dramatically.

So said another way, I guess, the changes that we've made and the initiatives we have put in place to drive customers to consider picking up in store, I think, will pay us big dividends in the fourth quarter.

We tested smart cart and then rolled the smart cart to our desktop platform in the third quarter, and the results of that are very encouraging.

It is definitely driving increased decision-making of customers to choose Pick Up in Store because we give them a benefit to doing that.

Our next question, that will come from Bob Drbul with Guggenheim.

I guess one question I have is, on the SG&A, as you look to the fourth quarter, around the marketing plans in terms of the investments, is there an opportunity to leverage marketing again in the fourth quarter?

How are you approaching that line item as you think about the competitiveness the next 90 days?

Well, I mean, overall, for -- and jump in here, Bruce, if I get this not exactly right.

But overall for the first -- fourth quarter, we've increased our marketing.

That was planned to increase our marketing.

We think we have a big business opportunity.

Clearly, leveraging marketing this year has been successful.

I think for the year, we've done a really good job in terms of leveraging marketing.

So I'm hopeful that the platform we have in place for the fourth quarter for our marketing spend will continue to drive that.

Some of the initiatives that we launched new in the third quarter, for instance, the tactics and strategy around taking advantage of competitors' closures, look to have paid dividends.

Those stores definitely outpaced the company, and we got a lift in those stores.

So I don't know if that answers everything for you.

Bruce, I don't know if you have anything to add.

I'd just say from a marketing perspective as you look at year-to-date figures, we are -- we leveraged in the third quarter.

We've been leveraging year-to-date, so we'll see how it performs here in the fourth quarter.

Got it.

And Kevin, when you talk about the women's business being challenging, you highlighted, I think the Simply Vera Vera Wang line.

From the perspective of the 10-year anniversary of having Vera in the store, is that -- can that turn the rest of the women's business with that line or around like the Vera Wang dark collection when you look around within the women's business?

Can you just talk about the outlook there a little bit?

The Vera Wang business is great.

It's been running super strong all year long.

I suspect the effort there we're putting around celebrating the anniversary of our partnership with her is going to probably accelerate that, Bob.

And Vera is the largest and most important exclusive brand we have, so I'm thinking it's going to help lift our exclusive brand sales.

You'll probably remember from the call, the biggest improvement we had in our overall proprietary brand portfolio was in our private brands, where speed-to-market, some resurgence in our Jumping Beans business and the relaunch of Apartment 9 drove that.

Overall, exclusive brands have definitely trailed the company, but the brands that we're betting on, brands like Vera or brands Lauren Conrad, those are growing dramatically.

It's more a case of us editing in and paring down and eliminating categories or other brands that aren't performing.

Our next question, that will come from Lorraine Hutchinson with BoA.

This is Heather Balsky on for Lorraine.

I was hoping if you could just talk a little bit about your credit business and the health of the portfolio and where do you see opportunities, if any, to continue to grow that business.

Yes, so let me make a couple of comments about the credit portfolio, which we consider to be a competitive advantage.

We have about, call it, 30 million households who have a Kohl's charge card.

Our penetration remains very high in the third quarter.

It was sort of in the 60% range.

It's typically in the high 50s and low 60s, so we were right there in the third quarter.

Credit revenue was up for the third quarter, and the overall health of the portfolio remains very strong.

As Kevin indicated, we're in the process of looking at our loyalty programs and the credit portfolio will be a part of that look, and so we're hopeful we can continue to have a really healthy portfolio that provides great benefits to our really great customers.

The next question in queue will come from Paul Lejuez with Citigroup.

You mentioned a strong back-to-school and a strong end to October.

Any further quantification you could share there?

I think you said low single digits, but you technically were up low single digits, I guess, for the quarter.

So just wondering if you could give a little bit more detail for those periods and also talk about the promotional cadence during those stronger periods.

Did you -- were you running promotions above the prior year?

And then separate, just on the $8 million in additional expenses for the hurricane, just wondering what that was, Bruce?

And did that include the credit deleverage piece that you spoke of from waving fees?

Also, should we expect any of those expenses -- those higher expenses to carry over into the fourth quarter?

I can probably answer the first part and then Bruce can answer the other part, Paul.

Back-to-school, which we characterize from first of August through the Labor Day date, the first week of September, we were up about 3%, and there was consistent performance the whole quarter and consistent performance across the most important categories, things like footwear, activewear and children's.

September was very weak from that point on.

So the second week of September through the first week or so of October, we were down low single digits.

But frankly, I attribute that completely and totally to certainly the hurricane.

Bruce, I think, quantified that to the best extent we can, and we've got a pretty handle on that part.

But also unseasonably warm weather, we had warm weather in all of our regions.

So that part of the quarter really suffered as a result of both of those things happening.

And then the end of October, we were up again.

So for October, we were up, let's say, closer to 1% with the end of October being stronger than that to drive that 1% number.

And there wasn't anything unusual that we did.

I think, as you know, Paul, in these kinds of seasonal businesses, when you have periods of low demand due to weather and hurricanes, then you're going to get pent-up demand and it's going to come back stronger towards the end.

And to some extent, you can almost see that even in our gross margin performance because one of the reasons why our gross margin was down, certainly shipping costs impacted gross margin, merchandise margin up, gross margin down, shipping cost was a factor, been a factor all year, of course.

But the other big factor was just these end of quarter reserves in accruals we had put in place because the sales can really very late, and that's just sometimes how it happens.

In this case, that's how it happened.

So there wasn't anything unusual from a promotional perspective that we did to drive that.

I think Bruce...

Yes, on the hurricane, let me give you a more fulsome response to the hurricanes.

We had 3 hurricanes, Harvey, Irma and Nate, during the third quarter.

And as I said, they had a 35 basis point unfavorable impact on our sales.

That's obviously an estimate but it seems about right, and it was about $15 million in sales.

The 3 hurricanes affected about -- a little over 100 of our stores in which those stores remained closed for between 2 and 7 days.

We also had an $8 million impact to SG&A in order to take care of our associates, our communities and our customers.

There are a few buckets or few categories of that.

One was donations to the Red Cross and some donations for our associates.

A second category was when these storms hit, we made sure that we continued to pay some of our -- pay our associates despite the fact that those stores were closed.

We had some insurance deductions as a consequence of the hurricanes.

And then, yes, the credit impact is contained in that $8 million number, so we froze some accounts for our customers during that difficult period.

So the net effect was about an $8 million SG&A.

When you combine it with sales impact, we feel like an estimated net income impact of roughly between $8 million and $8.5 million, which is an EPS impact of about $0.05.

Great.

And anything going forward, Bruce, or are we done with those expenses?

I think those are complete.

Our next question then will come from Oliver Chen with Cowen and Company.

Kevin, regarding traffic and the journey to positive traffic, how would you prioritize the key factors that will drive that just overall in terms of focusing on what will be important to you and where you see the most material drivers for that?

And on women's and accessories, do you have thoughts on timing and catalyst and what we should expect in terms of what's achievable as you look to improve those parts of the business?

Sure.

On the first part, in terms of the traffic drivers, like everything, Oliver, it's a multiple of factors that are going to lift our traffic continuing going forward.

And some of it is, of course, very straightforward, which is all of these efforts that we have in place around personalization, particularly in our digital marketing, which is now our largest marketing spend, where we're delivering more specific offers based on customers' past preferences in reaching them more directly.

So I think that plays a big, big role.

Product, of course, we're retailers so products play a massive role.

And as we think about driving traffic, having more relevant product in our stores is a big, big part of, I think, the resurgence in traffic.

People are finding what they want more regularly.

I would say the third piece is, as you know, we've made very large investments to be best-in-class from an omnichannel standpoint.

And therefore, what we present to customers digitally online, giving them access to everything we offer is a big component of this and then giving them the opportunity to make the decision of whether they're going to buy it, whether we ship it to them, whether from our stores or EFC or they visit one of our stores, the Pick Up in Store.

I think that's probably the third big factor.

In terms of the 2 businesses that have been lagging, I wouldn't want to get ahead of myself too far but I think I would say that we're more optimistic on our women's apparel business turning positive.

You just see it in the trends.

It has consistently improved.

The private brand penetration in women's apparel is extremely high.

And therefore, when we start seeing improvement in our private brand performance, we can sort of anticipate more improved performance in the overall women's apparel business.

I would be less optimistic on accessories.

I think that's a tougher business for us right now.

You can see it in the numbers, we talked about that in this call.

But women's is an important component and if we can get the women's business to move positively, that is going to pay big dividends for our overall business.

Okay.

And our last question is on the loyalty evolution.

This is a really nice catalyst and opportunity as you simplify and embrace, and I'm sure you can leverage it to drive and enhance personalization even more than you're doing.

So how -- where are some of the parameters around the test in the evolution?

Because it looks like you will have to integrate a lot of pieces.

I'm just curious about the opportunities and risk and what you think will happen when you step change and embrace that?

I mean, as we look at it, there's no risk.

We have -- we're building from a massively successful program, to begin with.

And what that's allowed us to get is great insights and great information to build it better.

Fundamentally, in the easiest way possible, we talk about it by saying "Hey, we got to simplify it." There're multiple components and so making it easier for customers to understand would help engage more people.

We have to broaden it, meaning we have the reach more people outside of our charge base because a large percentage of our loyalty program relies on our charge base.

And then without question at all, we want to engage more over the course of time.

So I think our sense is that this is going to be a positive for the business.

Beyond that, the details of it, I think I would want to wait until the February call and we'll give you a lot more specificity around what the program looks like.

I don't know if you have anything to add there, Bruce?

No.

Our next question, that will come from Charles Grom with Gordon Haskett.

Just a couple of questions.

First, can you remind us on e-commerce how much the penetration increase is in the fourth quarter relative to the rest of the year?

And I guess to dovetail off of that, in the third quarter, was the drag from e-commerce the typical 20 to 30 basis points?

On the second part of the question, I can definitely give you a quick answer, which is the drag due to shipping and fulfillment was very typical of what we see each and every quarter, so there's no change there.

There's no change in trend, and it is pretty much as expected.

In the fourth quarter, you're right, the penetration is much higher.

I think Bruce has got the number roughly.

Yes, roughly speaking, it's about 25% is I think what we're looking at.

And of course, that's all built into our forecast and our thinking in terms of how we give you the guidance.

And that 25% compares to what year-to-date?

Do you have that, Bruce?

I'm calculating it, give me a second.

About, call it, mid-teens.

Okay.

So if we think about your gross margin guidance for the year, which is up, it basically implies an up fourth quarter in gross margins.

So I'm wondering what the offsets are going to be to that increasing penetration and the drag associated with the shipping and fulfillment costs.

Well, I mean, fundamentally, at the end of the day, what we believe is that we're going to get an increase in our merchandise margin.

We've had an increase in our merchandise margin.

We expect to continue to have an increase in our merchandise margin, and the reason that we do is the components of merchandise margin are working in our favor.

Inventories are better managed.

Inventories are leaner.

Inventories are more relevant because receipts are coming closer to sales.

And as result of all of that, we have improved merchandise margin.

And then, of course, working against us is the headwind of shipping and fulfillment, but we've done a pretty good job of anticipating that impact.

And it's been very consistent, so I would expect it to be consistent in the fourth quarter as well.

Okay, very helpful.

And then, obviously, I think everybody on this call knows that warmer weather in September and October is not good for you and you've done a pretty good job quantifying the hurricane.

When we think about it, it sounds like the commentary on the end of October and so far in November, sounds like the business has bounced back.

Can you look at certain categories and say you think the weather had x impact on the third quarter and, therefore, the opportunity for pent-up demand is y?

Yes, I mean, generally, I don't want to get over my skis on these.

But generally, the warm weather in those 4 weeks in September negatively impacted sales in total for the quarter.

And you see it because the seasonal categories, which are a significant percentage of our total business, ran down, let's say, mid-single digits.

And in spite of that, we had a positive overall comp.

So that's the main indicator that you have that it has an impact.

That puts the hurricane to the side.

That just looks at the seasonal categories, and then we've continued to see strength.

So you combine those 2 things together, and you've got to say that is a good signal.

Great.

And just one quick one, just any color on trends within your noncredit customer.

Noncredit is definitely running better.

It's leading.

You can see that from a share perspective, Kohl's Charge as a percentage of our total business.

That is not by accident or by chance.

As you know, Chuck, we've had a strong initiative in place to broaden the reach of Kohl's to more customers.

And by default, that means make some of our value more appealing, so a lot of these technology implementations do that and make it easier for a more casual customer to consider Kohl's and get the kinds of value that typically might have only been seen clearly by our charge customers.

So usually growth in non-Kohl's Charge business is a very good signal for us that we're on the right track to improve performance looking forward.

Yes, the non-Kohl's customer data is favorable.

It's a nice change for us as we saw in the third quarter.

And the other piece that I think is important that is sort of buried in there, Chuck, is that for the first time in quite a long time, we have begun to see new customer acquisitions grow, and that has not been the case for us for quite a long time.

And so that's another indicator that the offering, both product and marketing that we're delivering, is more appealing to people who haven't traditionally shopped at Kohl's.

Our next question, that will come from Matthew Boss with JPMorgan.

So larger picture, Kevin, with all the lines blurring across retail, I'm curious what you define as your competitive set and more so, how you're positioning Kohl's today going forward and what you see differentiating the company from the department store space over time.

Well, I mean, I think, we've staked out our space, Matt.

I think we've looked at our business and recognize that our long-term success hinges on our ability to deliver a best-in-class omnichannel experience.

So that means recognizing that on the digital side of the business, we have to compete with virtual retailers like Amazon, as well as general merchandise retailers, let's say, in our private brands, like Target and Walmart, as well as general merchandise department stores who offer similar kinds of categories that we do.

But the biggest asset we think we have in our stores.

And the fact that we're non-mall-based, 95% of our stores are in strip or freestanding locations, gives us a huge advantage to be an omnichannel retailer in the future.

And so everything we're working on is to fundamentally make that happen.

And our sense, and we're probably sounding very optimistic because we are, is that this is working and it's delivering, and you're seeing it in the results.

Traffic is improving sequentially all year.

Sales are improving sequentially all year.

Bruce just updated our guidance by raising the low end, which tells you that we're very confident going into the fourth quarter.

So I think our focus is how do we continue on this path to be the best we can from an omnichannel standpoint, and so many of our investments are targeted there.

Great.

And then just a follow-up.

So with the encouraging trends when the weather was in your favor, I guess, how are you thinking overall about the opportunity in the fourth quarter and holiday more so just versus what you did and what you saw a year ago?

And just anything specifically that you're doing to capture that share from all the lateral store closures that we're seeing out there.

I mean, the store competitive closure strategy or the tactics, that will continue in the fourth quarter, and we're probably more optimistic on that just because we now have the third quarter results behind us and we can see we actually got a lift.

From an initiative perspective, I think we covered a lot of the things we're doing in the fourth quarter, but the trend of the business coming out of the third quarter and now into the fourth quarter just kind of indicates to us that the things we're doing are working.

I'll just add on the competitor store closures that we're working hard to take advantage of those store closings.

As Kevin said in his prepared remarks, we believe a portion of the improvement in the third quarter was from a sales perspective attributable to the efforts that we've put forth against those stores to capture share, and we expect it will continue in the fourth quarter.

Our next question, that will come from Paul Trussell with Deutsche Bank.

Just a few very quick questions from us and apologize if we missed it earlier, but you did mention national brands continuing to gain traction.

Just speak to the actual brand mix or the mix between the 2 and the sales performance of those 2 groups.

And then second, the activewear business has obviously been successful.

You outlined, I think, 20% growth.

Could you just remind us at this point, was the penetration of that category across the whole store?

Has that reached kind of a mid-teens type of penetration level or any type of direction you could give us on that front?

And then lastly, from the -- I know you don't want to get into the details of the Amazon partnership, but is there any color you could provide around just the overarching thought process and decision to do the deal, how it came about?

Would just be interested in any of that color.

Sure.

I mean, I can probably provide some of your answer and Bruce can give you any specifics that he wants to add.

We did talk about national brand mix in the call.

It grew 300 basis points as a percentage of the total, which means that it grew in the mid-single digits as an increase, which by default means that our proprietary brands were modestly down as a result of that, but it was functionally all because of the edits and paring down of the brands and categories we offer in the exclusive brand portfolios.

So our actual private brands performed pretty well.

It was a nice increase step-up in trend.

On the active business, yes, I'd say mid-teens is a good number to use.

We have aspirations of it going higher as customers continue to move into that lifestyle, so I think we're well positioned to take advantage of that for sure.

But third quarter continued the same trend.

On a sales basis, it accelerated.

But as a percentage of the total, yes, I'd use a mid-teens number.

On Amazon, there's really not any more color other than to reinforce what I said in the call.

We have a really very simple straightforward objective here, and that is driving traffic is the #1 priority we have as a company and initiatives that might help us drive traffic and allow customers to consider Kohl's as a stop instead of somewhere else, we're going to consider.

And we think -- these are 2 companies that share a lot of common traits in terms of their pursuit of excellence.

And so it just made a ton of sense for us given the objective we have.

Our next question, that will come from Brian Tunick with RBC.

This is Bilun Boyner for Brian.

Just wanted to ask about online strength, that the online business generally mirrors stores in terms of category trends and then maybe national brand versus private label penetration.

Is that also similar to what you report company-wide for online business?

Any color you can provide on that, what's driving the online strength would be very helpful.

There is a little different mix of online.

There tends to be a little more mix toward home so that's, I think, the main...

Yes, I mean, there're 2 big things.

Home over-penetrates, it always has.

You can imagine there are obvious reasons that that happens.

And the second piece, of course, a little bit connected to the first is national brands over-penetrate as well.

But those 2 things are tied together, right, because home is more highly penetrated than national brands as well.

So the national brand is more important online and home definitely more important online.

Again, we're back to this discussion about the fourth quarter.

One of the reasons we're relatively bullish on the fourth quarter beyond the trend of the business coming into the quarter is just that online business has been very strong all year.

Home business has been very strong all year.

National brands have been very strong all year.

We have a much wider assortment, too, online that penetrates toward that national brand as well.

Our next question will come from Dana Telsey with Telsey.

Can you talk a little bit about speed-to-market and any updates on the speed-to-market initiative?

And the SG&A reduction program around $250 million or so, how is the progress there and what you're seeing?

Thanks, Dana.

I can do the first part.

Bruce will answer you on the S&GA.

On the speed-to-market initiative, we continue to make really good progress there.

Without going into all the details about the individual brands percentage of product received, which is on speed-to-market versus not on speed-to-market, the way I would characterize it, I think you can watch the performance of 2 metrics as indicators as to whether or not we're making progress.

Number one, if speed-to-market is working then inventory should go down while sales should outpace inventory.

So I think third quarter is a great example of that.

We came into the quarter with less inventory than last year.

We came out of the quarter with less inventory than last year, and yet we had a positive sales increase.

So what that says to me is we're delivering more relevant merchandise more closely to need and overall, very, very positive.

And the second obvious metric you can watch is our merchandise margin improved, particularly in our private brands did we start to get improved performance.

And I think all 3 quarters this year, we've stepped up performance with our private brands and a lot of it is due to the speed-to-market initiative.

On the SG&A stuff, I think Bruce would have that.

Yes.

Yes, so as we've said on previous calls, I think Kevin in the first quarter and second quarter calls talked about this SG&A project.

The company has kicked off this process.

It's been going on now for many months to identify long-term and a key is sustainable expense reductions to permanently lower our annualized SG&A rate.

We're confident that we'll achieve our 3-year target of $250 million in annualized SG&A savings over that time.

This effort is being led by Jill Timm, one of our executives.

Many of you know Jill.

We are probably through much of the initial phase.

We're now in the process of baking some of those opportunities into our budget process here as we move through the rest of this year so that we can achieve that goal.

So we couldn't be happier to be part of a program that's been, I think, so well run.

Our next question, that will come from Patrick McKeever with MKM Partners.

Just on the -- going back to the competitive store closures and the lifts that you're seeing in some of your stores.

I don't suppose you might be willing to quantify the impact or at least how those stores are performing, quantify the impact of those stores -- how those stores are performing versus stores that are not in that same trade area.

And then also just, I mean, in those markets where you're seeing competitors close stores, are you also seeing a lift with your digital sales?

I know you've said that when you close a store, it has a negative impact on digital sales in that particular trade area, so I'm wondering if there's a positive impact when competitors close stores to your digital business.

Sure.

Patrick, on the competitive store closures, the only way I would characterize it is that, obviously, we have a relatively sophisticated tracking system for this, looking at the sales of the stores in the trend in and the sales of the stores in the trend out.

And there's no question that in the markets in which we've targeted competitive store closures, we have lifted sales.

I wouldn't want to quantify it for you and I wouldn't want to at all try to project that into like some future performance because I think that's dangerous to do, but there's absolutely no question that sales have lifted in those markets.

For sure, when we have opened stores in markets, omni sales are positively affected.

And when we close stores in markets, omni sales are negatively impacted.

I can't tell you and I don't think we have the numbers on these specific store, so I wouldn't want to go there with you right now.

But there will probably a point in time down the road where we could give you more information on that.

But there's absolutely no question that omni sales are positively or negatively impacted based on the scale of the physical environments you have.

And so that's why we -- again, we're back to this why we feel so strongly about our store base.

Yes, okay.

And then just on localization.

I mean, I know that's an initiative as well.

Just wondering if you could give us a quick update on where things stand with that program?

We continue to make progress.

Again, without going into all the detail in the various areas inside the business, some are making more than others.

As you can imagine, some regions of the country are more positively impacted by localization than others.

But I always -- the 2 metrics that I look at is if localization is working if what we're saying we're doing is effective, then you should see inventories become more productive.

I think we would say they have been, and you should see merchandise margins improve.

And I think factually that has happened as well.

So those are the 2 primary impacts.

Of course, it should have a positive impact on sales as well.

And I think as you look at this year, we were down close to 3% the first quarter, we were down still modestly in the second quarter and we were up in the third quarter.

So it's definitely having an impact on sales.

Ladies and gentlemen, this concludes our Q&A session.

This conference will be available for replay after 11 a.m.

Eastern daylight time today through December 9 at midnight Eastern daylight time.

You may access the AT&T Teleconference replay system at any time by dialing 1 (800) 475-6701 and entering the access code of 413291.

International participants may dial (320) 365-3844.

That does conclude our conference for today.

Thank you for your participation and for using AT&T Executive Teleconference.

You may now disconnect.