Urban Outfitters Inc (URBN) 2010 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Urban Outfitters Incorporated second-quarter fiscal 2010 earnings call.

At this time, all participants are in a listen-only mode.

Later, we will conduct a question-and-answer session, and instructions will follow at that time.

(Operator Instructions).

As a reminder, this conference call is being recorded.

The following discussions may include forward-looking statements.

Please note that actual results may differ materially from those statements.

Additional information concerning factors that could cause actual results to differ materially from projected results is contained in the Company's filings with the Securities and Exchange Commission.

I would now like to introduce your host for today's conference, Mr.

Glen Senk, CEO.

Sir, you may begin.

Good morning and welcome to the URBN quarterly conference call.

Joining me today are John Kyees, our Chief Financial officer, and our senior team, including the majority of our brand and operational leads.

Earlier today, the Company issued a press release outlining the financial and operating results for the three and six-month periods ending July 31, 2009.

I will begin today's call by reading prepared remarks regarding our performance.

Then the group and I will be pleased to answer any questions you may have.

The text of today's conference call can be found on our corporate website at www.UrbanOutfittersInc.com.

We believe the Company performed admirably in the quarter, given the challenging marketplace conditions.

To summarize second-quarter fiscal 2010 results compared to the same period last year, the Company reported $78 million of income from operations, resulting in an operating margin over 17%.

Earnings were $49 million, or $0.29 per donated share, despite an increase in the quarter's tax rate.

Total Company sales increased by 1% to $459 million.

Comparable retail segment sales amount, which includes our direct-to-consumer channel, decreased by 3%.

Comparable store sales decreased by 6% with reductions of 4%, 16%, and 8% respectively at Anthropologie, Free People, and Urban Outfitters.

Direct-to-consumer sales jumped 17%, despite a 2% reduction in circulation, with all three brands posting double-digit increases.

Wholesale revenues declined by 7% to $26 million.

Gross margins declined 26 basis points with significant gains in initial markups being offset principally by an increase in merchandise markdowns to clear seasonal product and a high rate of store occupancy expense driven by the decrease in comparable store sales.

Comparable store inventory decreased 7% by quarter's end.

Selling, general and administrative expenses, expressed as a percentage of sales, increased by 89 basis points, largely due to the deleveraging of fixed store-related costs and the impact of a one-time development expense associated with a prospective Terrain location.

Finally cash, cash equivalents and marketable securities grew by $155 million to $583 million.

I will now go into more detail on each of our key business metrics for the quarter, starting with sales.

New and non-comparable store sales contributed $18 million for the quarter, including an offset to the $10.7 million in currency translation adjustments to the comp for foreign-based sales.

The Company opened ten new stores -- four Anthropologie stores, one Free People store, and five Urban Outfitters stores.

Within the quarter, comp sales performance was consistent in May and July and weakest in June.

By region, sales in Anthropologie were the strongest in the South; sales at Urban Outfitters were strongest in the Midwest; and sales of both brands lagged on the West Coast.

By location type, sales were strongest in malls for both brands and weakest in metropolitan locations for Anthropologie and lifestyle centers for Urban Outfitters.

Transaction counts for the quarter were flat with increases of 2% and 11% at Anthropologie and Free People, respectively, and a 2% decrease at Urban Outfitters.

Stores average unit selling prices decreased by 1%, up 1% at Anthropologie and down 23% and 2% at Free People and Urban Outfitters, respectively.

Units per transaction decreased 5% on average, down 7%, 1% and 4% at Anthropologie, Free People, and Urban Outfitters respectively.

Direct sales for the quarter increased 17% to $71 million despite a circulation decrease of 2%.

The penetration of direct-to-consumer sales to total Company sales increased by 215 basis points to 15.5%, underscoring a shift in the way our consumer is shopping.

These results were driven by over 19 million website visits, a gain of 22% or 3.5 million visits from the prior year's quarter.

Our direct-to-consumer business was double-digit positive at all brands and at Free People, with just 18 out of 33 Free People stores falling into the comp growth, direct-to-consumer revenue exceeded comp-store revenue yet again.

By merchandise category, at Anthropologie, the women's accessories business led the pace, and at Urban Outfitters, the women's apparel business was strongest.

We exited the second quarter with strong fall fashion cues, and I believe we are well positioned for the second half of the year.

As I've communicated consistently throughout the spring, the customer is seeking fashion and there is practically no evidence of price elasticity on compelling product.

Undistinguished basics, or any commodity-like product, is another story altogether.

There, it's a buyer's market and the right price is critical.

I believe the challenging environment has triggered profound changes in the consumer psyche.

As we move into the "new normal", I believe the customer will be more discriminating; I believe she will be looking for authenticity; I believe she will modulate the way she shops for commodity product versus special product; and I believe she will shop brands whose values she shares -- all changes that I believe will play to our strengths for years to come.

Now let me turn your attention to wholesale.

With the addition of Leifsdottir, total quarterly wholesale revenue declined by 7% versus the same quarter last year.

Free People's wholesale revenue decreased by 13% for the quarter, with sales to department stores decreasing by 9% and sales to specialty stores decreasing by 21%, in large part due to credit quality.

The brand's regular price average unit selling price decreased by 4%, and regular-priced unit sales declined by 9%.

I believe Free People outperformed most brands on the contemporary floor, and we ended the quarter achieving our desired inventory plan with all of our major partners.

Fall and holiday deliveries are modestly below last year, so it is likely that current trend will continue over the short-term.

Leifsdottir, the Company's new wholesale line, generated revenue of $2 million in the quarter.

The selling at our retail partners has far exceeded expectations, so we are encouraged by the brand's potential.

I'd like to now turn your attention to gross margin, operating expense and income.

Despite the reduction in comp sales, gross margins for the quarter decreased by just 26 basis points to 40.8%.

The Company continued to experience meaningful gains in initial margin, which were more than offset by an increase in markdowns to clear seasonal product and a higher rate of store occupancy expense driven by the decrease in comparable store sales.

The organization continued to aggressively control expenses.

Total selling, general and administrative costs for the quarter as a percent of sales rose by 89 basis points to 23.7%, largely reflecting deleverage of fixed-store expenses due to the decline in the comp and one-time site-development expenses associated with the prospective Terrain location.

The Company generated an impressive 17.1% operating margin, earning $78 million of income from operations, a decrease of 5% versus the same quarter last year.

Our net income for the quarter was $49 million with earnings per diluted share of $0.29, a decrease of 14% from the prior year.

The Company's quarterly tax rate closed at 38.3%, versus 33.2% during the prior year, primarily due to substantial tax rate increases in certain municipalities where we have sizable volumes of business, and a lower proportion of holdings income from tax-free securities, based on a strategic shift to lower-risk investments.

I closed our last call by remarking that I was feeling more optimistic than I had since October 2008, and I added that, in many ways, I was feeling more optimistic than ever about the long-term prospects for Urban.

The good news -- I continue to feel that way.

I couldn't be more proud of how our team has reacted over the last nine months.

They've responded to the changes in the environment at breakneck speed, and they've proven that they are as good at inventory and expense discipline as they are at creating compelling brands.

URBN's culture has always emphasized the balance of creativity and control, and the team has exhibited an exceptional level of discipline that will reap benefits for years to come.

What the numbers don't illustrate is the investment we've continued to make in our business, including a joint venture agreement with our largest Asian buying agent in support of our concept-to-market strategy, the strategy that will give the planning, merchant and design teams and unprecedented level of flexibility to get the right product at the right price, in the right place, at the right time -- a multitude of web-based initiatives including site redesigns; increased functionalities; expanded product offerings, strategies to monetize social media; and the addition of a mobile site to the Urban Outfitters brand; a marketing and business intelligence database that will profoundly impact all of our brands and channels; a 50% increase in the size and capacity of our East Coast distribution center; a European infrastructure that will ultimately resemble the North American infrastructure, providing necessary support for an ambitious European expansion; Proof of concept tests on Terrain and Leifsdottir, plus early-stage development of other potential new brands; and last but most important, an increasing level of investment in people, our single greatest asset.

Our team has proven that they are adept at driving profit in the face of challenging fundamentals.

Equally important, they are likewise committed to growth with continued focus on four main strategies -- increasing productivity in all of our core businesses; elevating the penetration of direct to consumer sales to total Company sales; driving international expansion; and adding new brands to the URBN portfolio.

For a company that has achieved an average of 26% annual revenue growth and 7% annual comp growth since 2001, single-digit sales increases are not in our corporate D&A.

We do not believe that the country will be returning to 2007 consumer spending levels anytime soon.

But we feel the environment reflects a degree of heightened stability, and we are confident that there is abundant opportunity for growth.

The changes facing our industry are profound, and the future belongs to those of us who are disciplined, nimble and unafraid to challenge the prevailing mindset.

The URBN family is committed to doing all of that and more.

We will compete the way we always do -- by remaining wholly customer focused and working hard to excite the customer on a daily basis; by taking managed risks so that we stimulate the customer with newness and innovation; and by making our stores, catalogs and websites unexpected, fun, and utterly compelling, all while mining the opportunity to transform our business for the next generation of consumers.

Our Company's overarching goal has been constant and simple -- to grow revenue by a least 20%; to grow profit at a faster rate than sales; and to reach a minimum of 20% operating margin.

As always, the leadership team and I look forward to continuing to inspire our customers and reward our shareholders and employees alike.

I will now open the call to questions.

As is our custom, I ask each of you to limit yourself to one question.

I apologize in advance.

If you ask more than one question, we will respectfully respond only to your first query.

Thank you.

Thank you.

(Operator Instructions).

Kimberly Greenberger, Citigroup.

My question is for John.

John, the gross margin was well above where we had expected it.

I think probably we hadn't factored in the magnitude of the initial markup improvement.

I'm wondering if you can just help us understand the magnitude of the IMU improvement versus, let's say, the markdowns and the occupancy deleverage.

Well, Kimberly, the initial margin improvement was comparable to the markdown excess, and we would expect that to have a good opportunity to continue.

It is a product of better buying and sourcing mix from our third-party brands for our own brands.

Just so I'm --

Dana Telsey, Telsey Advisory Group.

Glen, can you talk little bit about, as you look at Anthropologie and the Urban Outfitters business, how are you looking at the product assortment and pricing initiatives going forward, and how do you see the mix changing?

Thanks, Dana.

You know, we've been pretty consistent in our views really all spring long, and by that I mean what we've said is that we have fashion.

There's really not a lot of price elasticity.

On a more basic product, there is price elasticity.

What we have said pretty consistently is we're going to let the customer tell us where she wants the AUR.

As you can see from our results, it is slightly down, just less than 1 percentage point down from a year ago.

So in general, they are pretty happy with kind of flattish pricing.

I don't expect that to change, but we will let the customer tell us.

Christine Chen, Needham & Co.

Thank you and congratulations on a very solid quarter -- impressive margins.

Thank you.

I was wondering if you could give us an update on potential opportunities in Asia.

I know that you've been approached in the past.

I'm just wondering what you're thinking about that and timing and what options might be.

Yes, Christine, Ted and Matt Kaness, our head of Strategy and New Business Development, and I were just in Asia a few weeks ago for several weeks and doing a fair amount of research.

I think it's too early for us to talk about any timing.

We have a Board meeting next week where Ted, Matt and I will present our findings.

My hunch is that it's likely we will do something at some point, but it's just too early for us to talk about timing at this point.

I think we will probably have an announcement on that in the next three to six months.

Stacy Pak, [Saints] Research.

Just following up on Kimberly's gross margin question, I think she got cut off there, so John were we looking at maybe 150 basis points of negative or of occupancy deleverage?

Did you have a benefit from the obsolescence reserve?

If so, how much?

Should we be looking for 50 or 100 basis points in costing help going forward?

Sort of what should we assume there?

More broadly, given what's happening with product costing and the tight inventory management, what level do you guys think we should assume as a sort of normal gross margin for Urban now going forward?

You know, I think, obviously, we're not going to get into all the detail that you're asking in terms of our margin and margin performance, but I will tell you that our occupancy result was better than you would have expected, predicated on the negative 6 comp.

It was not the 150 deleverage that you might have expected based on our history.

So with that being said, that's probably as detailed as we want to get on this margin discussion.

Stacy, I will say a few things here.

First off, I want to call out David Ziel, our Director of Development, Wade McDevitt, who does our real estate.

We've been working very, very hard for the last several years on our site selection.

We've talked extensively about the fact that we've gone and renegotiated many of our deals, particularly the ones that are coming due in the next few years.

Dave has done an extraordinary job with construction over the last several years.

So as John said, we certainly deleveraged occupancy but not nearly I think what the Group would expect because of the fantastic job that Dave, Wade and the rest of the Group have done.

Secondly, I want to call out to Barbara Rozsas, who is our Executive Director of Production, and all of the merchant heads in all of our businesses.

They collectively have done a phenomenal job of pounding away at the initial margin.

This started years ago, this effort.

It's continuing.

As I mentioned in my prepared comments, we executed our joint venture agreement with our largest Far Eastern buying agent, which is part of the strategy.

We've been talking, since our secondary, seven or eight years ago, we've been talking about IMU opportunity.

We've achieved what we said we were going to do seven, eight years ago several times over.

We think there's a lot of opportunity for us going forward.

As John said to Kimberly's first question, in general, we're not going to get into details.

In general, the IMU improvement was offset by the markdown decrement.

You know, whether or not we're going to continue to experience those markdowns for the next quarter and the next several quarters, I really don't know.

If I did know, I couldn't say, but I think the IMU improvement is real and I think that we have continued opportunity there.

Kimberly Greenberger, Citigroup.

I just wanted to make sure I understood that John's answer was implying that merchandising margin was approximately flattish.

It sounds like, with Glen's clarification, that's the case, but I just wanted to make sure I understood it properly.

That's correct.

Sharon Zackfia, William Blair.

I wanted to talk through kind of where you are with new store productivity for the three concepts this year, and how you're thinking about expansion for 2010 and the rate of SG&A growth.

I know you're holding back SG&A growth this year and your breakeven comp was a little bit lower than normal.

How are you thinking about that for 2010?

Sharon, our new store productivity, I think -- and I'm looking at John for him to shake his head -- is probably the best number that we've ever had, certainly since we've been tracking it.

So again, kudos to both Wade McDevitt and to Ted, to Wendy Wurtzburger, Wendy Brown and Meg for collectively doing a much better job picking the right locations and negotiating the best deals.

They've done a terrific job there.

With regard to SG&A, I want to emphasize what we said in our prepared comments.

The Company has continued to invest in a variety of growth initiatives.

When our business hit the wall back last October, the first thing that Dick and the Board said to me is "Do not cut the muscle." We have not had layoffs; we have not cut investment in a myriad of growth initiatives.

What we have done is gone back at every single expense pocket of our business and work with our suppliers, our partners, to whittle to the core.

So we've done that, but we've not delayed investment.

I think that differentiates us from our peer group.

I want to be very, very clear about that.

So John, I don't know if you want to add anything else.

No, I think Glen is right on the money.

We've done a nice job.

Our SG&A only grew slightly less than 5% this quarter, which is -- if you look at our history, we have typically grown more than 20% year-to-year, so this has been an exceptional year for us.

I would expect us to keep a pretty good lid on that going forward.

Brian Tunick, JP Morgan.

Thanks, good morning.

I guess maybe Glen, you highlighted the accessory business at Anthropologie.

Can you just maybe give us more color on how the apparel is trending, and what do you see as the [lugs] as you've talked about before?

Then just for maybe Ted, just on how he feels about inventory now at the Urban Outfitters division.

Should we expect less markdowns going into the quarter?

Brian, I think as you and the rest of the group know, we prefer not to give out fashion information on these calls.

What I will reiterate -- which is what I said in the prepared comments -- is there is a lot of fashion in the business.

I mean we have very, very strong Qs, very strong highlights and all of our brands.

We are very, very liquid.

We have money open for the third quarter.

The majority of our open to buy is open for the fourth quarter, so the merchant team and the supply organization again have done an extraordinary job of compressing the calendar so that we can react quickly to trends.

As you know, all three of our brands dropped fall catalogs in the beginning of July, so we get very good fall selling information, literally by July 4, July 5, and the merchant teams are reacting.

With regard to Urban, I will turn it over to Ted.

Yes, Brian, I think the question was inventory at Urban, and markdowns.

With regard to the inventory, as you know, our dialogue on inventory always revolves around weeks of supply, and the weeks of supply in the Urban business for the second quarter was slightly higher than last year.

I will remind you that, last year, we improved weeks of supply by three weeks over the previous year, and the net result of that is weeks of supply in the environment we were operating in this year in second quarter was the second-best performance we've had in the last six years.

That's kind of the history that I have in my files, and I don't know that it's probably not even further back than that.

But over the last six years, our performance on weeks of supply certainly was in line with what we would want to see.

On the markdown front, you know, we've talked a little bit previously in the call about IMU balancing out markdown.

We had very good performance in that regard in the Urban brand as well.

Our IMU was up nicely and that's on top of up nicely last year.

I am quite confident that, on an MMU basis, any markdowns that are needed to be taken will more than be covered by IMU.

Thanks, Brian.

The one other thing I will add is, in terms of just the FIFO analysis, the quality of our inventory is, again, fresher than it has been since I have been monitoring it -- very, very fresh.

Roxanne Meyer.

UBS.

Let me add my congratulations on a terrific quarter.

My question revolves around the direct business.

Such a strong showing, up 17% on lower circulation.

I am just wondering how that has made you think about your circulation strategy going forward.

Also obviously the plans are for retail ticker over time, but how do you think about what the potential could be for the direct business?

You know, the direct penetration has been increasing in the neighborhood of 1 point a year.

Obviously, this quarter, it increased more than that, and we are very excited by that.

As John said, in terms of channels, it's the most profitable channel for us.

It's definitely the way people are shopping.

I think it's starting to have a reverse effect that people are shopping the Web first and then going into our stores, so it is highly synergistic.

As I said, we are making a myriad of investments, everything.

We redesigned the sites at Anthropologie and Free People.

We launched the mobile site for Urban Outfitters.

We have improved functionality in all three of our sites, so we're doing everything we can to mine the social media.

All three brands have Facebook pages now, and so on.

So we are doing everything we can to drive business there, and the direct heads have done a fantastic job.

Where it's going to land, I don't know.

Could it be 25% penetration total Company sales?

Absolutely.

Could it be 30%?

Possibly.

Again, we are going to let the customer tell us.

The other thing which I will ask Freeman Zausner to talk about briefly is the investment we are making in our database, which will support our CRM initiative but also our direct business.

So, Freeman, do you want to mention a word about that?

Sure, Glen.

We have our comprehensive database, marketing and CRM initiative which will embrace the enterprise data warehouse, our campaign management, software suite and business intelligence software.

It will be designed this year and implemented throughout the end of this year and through calendar '10.

It will have a major impact on the personalization of a 360-degree view of our customers, and all marketing efforts in all channels.

That goes back to your question, Roxanne, about retail.

We've been flying blind with our retail business.

We really don't know who shops, why they shop, how the communication that we send out impacts their shopping behavior and so on.

We've now selected over 1 million names in the Anthropologie business.

We will start collecting names at Urban Outfitters and Free People as well, and then we will have this database to really slice and dice that information so that we can make more effective decisions.

It's very, very exciting.

Edward Yruma, KeyBanc.

Just a further clarification point -- I know you had previously guided to SG&A being up on an absolute basis 5% to 10% for the year, and you've now had two quarters where you have been beneath that.

How should we think about the flow of SG&A for the remainder of the year?

I think it will reflect pretty much with sales.

As I've said before, about 30% of our SG&A is variable, so as our comps continue to improve, I would expect that 5% to grow a little bit, just because of the variable portion.

But I still think we will still be pretty comfortable with that 5% to 10% growth throughout the second half.

Great.

Given the performance, have you had to accrue for performance bonuses?

Thank you.

Yes, the performance bonuses have been accrued for.

Holly Guthrie, Boenning and Scattergood.

Let me add my congratulations.

Just a question on real estate, given all the changes that we've seen over the past year.

Could you give us some color on, over the next six months and maybe even into next year, on opening both domestically and internationally by division?

Holly, we always goal in the two large brands roughly 15, 16 stores a year.

Some years, we've fallen a little short; some years, we've done a little bit more than that.

That's in North America.

That's roughly what our targets are.

In Europe, we typically, for the Urban brand, we typically open a store or two a year.

We will begin to accelerate that.

We have the first Anthropologie opening this October, October 23.

The second Anthropologie, that's opening on Regent Street in London.

The second Anthropologie in Europe will open in the first quarter of 2010.

I think we will begin to see Europe accelerate.

Andrew McLean, our Chief Operating officer for Europe, started with us in January and just moved to the UK about a month ago.

He is creating the kind of infrastructure there that will resemble what we've done here, so that Hugh and James, who run Urban Outfitters and Anthropologie, respectively, can focus on real estate and merchandising and marketing at not so much back-of-house.

So I think John is feeling comfortable with a number of around 50 stores next year.

Barring any unforeseen circumstances, I think we will be roughly in that range.

Eric Beder, Brean Murray.

Good morning.

Congratulations.

Could you talk a little bit about Leifsdottir and Terrain, where you see those going and when do you think the kind of training wheels might come off of those, in terms of adding stores or creating stores for Leifsdottir (inaudible) expanding Terrain?

Yes.

You know, Terrain started comping last April, so they've been comped for several months now.

We have learned a tremendous amount.

For those of you who visited the location last year, if you go back and visit it this year, I think you will see a lot of change.

It is absolutely stunning.

We all say internally that it reminds us of the beginnings of Anthropologie.

It took Anthropologie a couple of years to get profitable.

There was a lot of playing around with the merchandise mix, the merchandising, the marketing, and John Kinsella, who runs Terrain, is in the midst of doing that right now.

We are optimistic about the prospects for the concept.

I think it's likely we will open a second location, so that we have a second location to get feedback on, but in terms of us proclaiming what it is going to look like five or ten years from now, I think it's too soon to tell.

Leifsdottir is probably a little bit more predictable because it's in a business category and the model that we know quite a bit about.

We just had a fantastic quarter, just did a little bit more than $2 million.

I guess the best news there is the way that it is selling in our accounts, particularly Neiman Marcus, where it will roll out to 31 doors for the second half of the year.

The sellthroughs have been terrific.

The customer response has been terrific.

Again, it's too early for us to say what it's going to look like in the next couple of years, but based on all the learnings we have from Free People wholesale, I think it is likely that it (technical difficulty) wholesale business for us.

Betty Chen, Wedbush Morgan.

Congratulations.

I was wondering, Glen, if you could give us your thoughts on the product right now at both Anthropologie and Urban.

I think you've mentioned, obviously you felt even better now than you did a quarter ago.

Then related to that, could you also give us an update on the initiative at Urban Outfitters in terms of increasing the own brand product mix?

I know there's been a lot of hiring needed to build up that team, so any update on that and the potential margin benefit from it would be very helpful.

Okay, you know, I realized, after I graded the assortments on the last earnings call, that I probably shouldn't have done that.

You know, I had so many people follow up with me.

I think, if I had to rank them right now, I would say Anthropologie, the assortments at Anthropologie looked the best.

I think all three businesses look relatively good.

Dick always talks about the target, and whether or not we are in the bull's-eye, one rung out, two rungs out.

I think we're -- all three brands are hitting the target, but they are hitting the target in different places, Anthropologie probably closest to the bull's-eye.

With regard to Urban, I will let Ted respond.

In regard to initiatives on the design team, I would say that is right at the top of our initiative roster.

The organization has been filled in nicely over the past year, year and a half.

I believe the structure we are currently working with dedicated to women's product design and development is right at 30 people.

There are a couple of roles that remain open that we are continuing to look for.

The improvements that we've seen in the business have been seen in metrics across the board, whether it's -- you're talking about turn or you're talking about IMU improvement.

Both of those categories -- both of those metrics have been performing very well.

The penetration on private brand, we really break it down in a number of different ways.

If I were to give a percentage that does go through design in one way or another, we are over half of the product mix; well over half the product mix at this point design does touch in some way, from peer out-and-out design from the get-go to being involved in some reinterpretation work with buyers on products that they are acquiring in the market.

But we have been able to move the needle north of half of what's coming into the business at this point.

Betty, I want to congratulate Bill Cody, our Chief Talent officer, and Ted, Meg, and Wendy on the hiring that they've done in the last six months.

We have gotten several exceptional designers and senior designers into the organization.

But every cloud has a silver lining, and one of the silver linings over the last nine months is it's been increasingly easy for us to recruit people into the organization.

I mean, when a company earns 17.1% pretax income in a challenging environment like that, I think that (technical difficulty) employees say, hey, this is a place where I want to be.

So that's been a real positive for us.

Just a quick follow-up if I could?

I mean, where could we see that private-label mix go to from about 50%, and any timing related to that?

I think that when Dick conceived of this business, his vision was always that we would have a healthy mix of market product and owned-brand product.

So I think 50% is probably where it's going to be.

There might be opportunities in certain categories and at certain times, depending upon the fashion, how good the market looks, how good our internal product looks.

But 50% penetration is roughly where we want to be.

Okay, thank you so much.

The stores look great.

Best of luck.

Jeff Black, Barclays Capital.

So Glen, can you drill down on the wholesale business for a minute?

You mentioned that some of the weakness is coming from credit constraints.

How much of the account base is feeling this?

Sort of if you look back, how much growth over the past couple of years has been due to these smaller accounts, and what does that do to the picture going forward for the next year or so?

Yes, great question.

I mean it really has varied.

Our specialty business has been anywhere from 35% to more than 50% of our sales, depending upon the quarter.

It's on the lower side right now, given the credit issues that so many of our partners are having.

My sense is -- and this is anecdotal, it's not factual -- that it's beginning to stabilize.

I'm saying that and John is shaking his head yes.

I am saying that because I'm just not hearing, when I walk back into the finance area, I'm not hearing the kinds of conversations I was hearing three or four months ago.

You know, we love our specialty store business; we love the way they represent our product; we love what we learn from them.

So we have done and we will continue to do everything we can to support them, but the department stores have been easier.

As I said, our business is obviously slightly negative in the department stores, but based on my conversations with all of the principals in department stores, we are doing much better than our peer group.

Great, thanks, good luck.

Liz Pierce, Roth Capital Partners.

Thanks and I will add my congratulations.

John, I wondered if you could just clarify on the tax rate for us.

Yes, Liz, going forward, I would project that you would use a year-to-date rate rather than the second-quarter rate.

The second quarter experienced some surprises with a couple in municipalities raising tax rates substantially and making them retroactive for the year.

As Glen said in the prepared remarks, unfortunately we do -- or fortunately, depending on how you look at it -- we do a lot of volume in those particular municipalities and it's having a negative impact on our tax rate.

If I could just follow up, should we then use that also for next year?

We hope that we can find ways to improve that tax rate, but at this point, I would say it would be safer to use that.

Thanks, good luck.

Richard Jaffe, Stifel.

If I could ask just a follow-on question to the foreign and then if John could qualify the one-time impact of Terrain, that would be helpful.

Glen, if you could talk about international growth, it seems to be remarkably successful, Urban transferring across borders to the UK and into Europe, Anthropologie looking promising.

Could you sort of big-picture talk about how you see both brands expanding internationally?

Do you see it as a landmark or flagship in selected countries, or much more pervasive as you move into the continent?

A great question, Richard, and one of these calls, we are going to get (inaudible) correct.

This is just a standard.

As a company, we -- for us and under the flagship strategy works for other companies -- for us, we don't really believe in the flagship strategy.

You know, I think to have a flagship store in our own company is somewhat disrespectful to all the other locations.

It's like having a favorite child.

I think the brilliance of our model is that, in North America, our stores work everywhere, and they are profitable and they are highly profitable everywhere.

I remember when I interviewed with Dick I think 18 years ago, I said to him, "Why did you open the first Anthropologie in Wayne, Pennsylvania?" He said, "Because anybody could do a lot of business in New York City, and if we can find a way to make it work in Wayne, Pennsylvania, then it will work anywhere."

So our model is really based on everybody being equal and having a profound desire to please the customer wherever she lives.

The same will be true for Europe.

Now, certainly the London stores will do more business than the stores outside of London, but that doesn't mean that we won't be equally if not more profitable in secondary and tertiary markets.

So it won't be a flagship strategy.

It will be a multi-store strategy where James and Hugh, Ted and I actually have a meeting this afternoon with our real estate group to continue to drill down into the details.

But I think that we're looking at a minimum of 100 stores between the two brands in Europe, and probably more.

Wow!

So we are very, very excited bout it.

I mean, if you look at the five major markets, they comprise about 70% of the apparel spend in Europe.

That's the UK, Spain, France, Germany and Italy.

We will probably follow the customer in those markets.

That's exciting stuff.

Thank you.

John?

Yes, Richard, the Terrain impact in the second quarter this year, in terms of a net loss, was comparable to what it was last year.

And the one-time expense you called out, what was that?

That was built into that comparable negative -- or the comparable loss to last year.

So we really haven't specified that.

Robert Samuels, Oppenheimer.

Good morning, everyone.

You're obviously going to end the year with a sizable amount of cash on the balance sheet.

Can you just talk about what your plans are, your thinking around this, what you're going to do with it?

You know, I'm sure we will talk about it at the Board meeting next week.

I think we are smiling around the table.

We have said before that we wouldn't rule out the possibility of an acquisition.

I think it's highly unlikely that it would be a large acquisition.

I think, if we were ever to acquire anything -- and the operative word there is "if" -- it would be a small business that had strategic synergies to the URBN portfolio.

So that's one possible use.

You know, we certainly could do a buyback; we are authorized to do one.

We've elected not to do one.

We went into the -- we talk about this in every Board meeting.

We certainly don't mind having the kind of cash that we have on hand in this economic environment, and that's basically -- John, do you want to add anything?

No, I think Glen hit it on the head.

The only depressing part about it is that interest rates in the marketplace are not particularly exciting, as you notice by our other income being lower than last year even though we have $160 million more in cash.

So that's unfortunate.

But outside of that, Glen summarized it very well.

I think, John, correct me if I'm wrong, but when you look at our cash on hand relative to the rest of our financial metrics, we kind of fall in the middle of the pack.

It's relatively consistent with many others.

Then quickly just on SG&A, even though comp came in -- or comp looks better than the first quarter, dollars were at the low end of the plan.

So I'm just wondering if we can keep the same sort of level going forward in the back half.

No, I would say it's not out of the question that we can continue to manage the SG&A dollars pretty effectively.

Again, if comps grow from the negative 6 to something better than that, then I would expect the SG&A to grow commensurately.

Michelle Tan, Goldman Sachs.

John, I was wondering if you could give us a sense of whether the IMU gains accelerated meaningfully this quarter, and then what the bigger driver is.

Is it overall deflation versus your sourcing and strategy -- sourcing strategy and the mix changes that you called out?

Yes, the IMU gains were substantially greater this quarter than they were in the first quarter.

It was an outstanding quarter, and I think it's based on a combination of things.

I think it's based on the mix change of Urban moving more to owned brand, as Ted talked about.

That's probably the biggest issue.

But then there are significant negotiating successes with the production team on the product costs.

Yes, I really have to again callout Barbara Rozsas, the head merchants in each of our businesses, and there are many, many people who have been working very hard on this for several years.

So this is the result of their hard work.

I expect we will continue to see these, this level of improvement, not continuing improvement but this level of improvement going forward.

I don't think it is an external factor; I think it is internal.

That's great, thanks.

Then on the occupancy side, do you see that kind of rate of second quarter continuing in terms of the lower I guess leverage point or the reductions that you're seeing?

I believe so, again, based on the elements that we talked about -- better site selections, lower construction costs and lower rents.

All of those will continue to impact the occupancy cost.

That's perfect.

Thanks for the help and good luck.

Adrienne Tennant, FBR.

Good morning.

Let me add my congratulations.

Great quarter.

My question is for Glen.

Can you talk about Free People and the progress at the retail stores?

It also looks like wholesale seems to be stabilizing, so any trends going into the fall season on the wholesale business?

Thank you.

Yes, the funny thing or not so funny thing about core Free People is, if you combine their direct-to-consumer business with their comp retail business, they were actually comp-positive; they were comp-positive.

I'm not going to give you the numbers because that will let you back into the size of their business, but they were nicely comp positive.

Because their basic direct-consumer-business is smaller, it impacts the mix much more dramatically than it does in the other two brands.

Having said that, I think that we look more on brand and the content is better today than it was three months ago.

I think that we probably moved the needle a little bit too much going into the year.

We reacted to some of the fashion change and maybe did so without the Free People lens or filter.

I think that Meg and the design group have done a much better job on that for the second half of the year.

So I think you'll -- I hope that you'll see continued improvement.

On the wholesale side, you're seeing the same type of reaction?

Yes, the same thing.

I think that the wholesale line at this point looks different than the retail line.

There's about between, depending upon the time of the year, for the month, as little as 30% crossover, probably in an average month maybe 50% crossover.

Quite frankly, I think we did a better job managing the assortment in our wholesale business than we did in our retail business for much of the spring season.

Okay, great.

Thank you very much and good luck.

Erika Maschmeyer, Robert W.

Baird.

Good morning and again, great quarter.

I noticed that I was getting more value-focused marketing e-mails from the Urban Outfitters division.

Could you talk about this and the impact on sales and gross margin?

Then do you continue to go forward with this type of marketing?

Erika, I think I will let Ted finish for me, but the main point is what I said in the prepared comments.

The more distinct the fashion, the less price elasticity.

The more basic the item is, the more price-sensitive it is.

I think the big learning for Urban in the second quarter and a good deal of what you saw in the marketing was that the basics were more price sensitive than we realized they would be going into the second quarter.

Ted and the Group did a fantastic job of reacting within the quarter, and that's what you saw on the floor and in the e-mails.

But Ted, do you want to add to that?

The main thing I would talk about in this regard is our interest at the moment is evolving from really a channel-centric approach to our marketing to a more brand-centric approach.

It goes back to what some of what Freeman was talking about earlier.

Most of our work over the last few years has been fairly silo-ed where the retail group has their agenda and the direct group has their agenda, and they are both driving their businesses.

We are really looking a little bit more cross-pollination with the onset of this database marketing tool.

So we've been experimenting with some marketing here as we come through the first half of the year that is more retail-sensitive or more retail-intensive than we've been in the past, learning the crossover that we have and the database that we are working with, and that too probably has a bit to do with what you saw as we came through the quarter.

Extremely helpful.

Thanks so much.

Liz Dunn, Thomas Weisel Partners.

Let me add my congratulations.

Clearly, there are a bunch of ways that you can get back to 20% operating margins, but if you had to venture a guess, could you tell us what you think would need to happen on the top line, and how much would come from gross margin and SG&A to get back to 20% operating margins?

I will let John answer that.

Yes, Liz, I think the compelling part of the 17% in this quarter is that, if you think about leverage points and the fact that if that had been a plus 3 or a plus 4 comp, then we probably would have been at 20% because we would have leveraged SG&A and occupancy effectively.

So going into next year, I would say that, if we did our 7% comp that we've averaged for the last eight years, that we could have a real good shot at doing 20%.

It will come somewhat from leverage and somewhat from initial markup.

The inventory management has been good, so some of it could come from markdowns as well.

I mean, the exciting thing for me -- and I keep repeating this -- is that the impact over the last nine months I think will have sustainable changes for the Company.

Quite frankly, we used to talk about 20% a year ago.

I mean, we almost made it a year ago before we kind of revisited every expense line in the organization.

So, I think the probability and the speed with which we will hit 20% when our business -- when the top line improves -- is even higher or faster.

Robin Murchison, SunTrust.

Thanks very much, and of course congratulations.

My question has been answered, but let me ask just a housekeeping.

Any holes in or the organization, if you just kind of refresh our memories on talent that you're looking for?

Thank you very much.

You know, we've been looking for a Chief Operating officer for several years.

I would say we have been aggressively looking for a Chief Operating Officer for the year.

That person will be my partner in running the business.

He or she will work with Freeman and John, [Glenn Bossi] and the rest of the shared service leads so that we have a world-class infrastructure to support our brands, not only in North America but also in Europe and eventually the Far East.

It has been an interesting journey.

We have had some good candidates and we are continuing to speak to people.

I would say, in terms of openings, that is the single biggest opening.

I mean it's - -by the way, this is a kind of an investment that we're making in the future.

Freeman, John, Glenn, Dave, Calvin -- you know, you go down the list, they are all doing terrific jobs, so it's not like there's a strong need now.

This is a need for the future, and we are being smart about it.

Other than that, I think we are in pretty good shape.

We are always hiring, but we are in pretty good shape.

Margaret Whitfield, Sterne Agee.

I wondered, Glen, if you could elaborate on your earlier comment about investments in early-stage developments of new brands and whether that includes any M&A activity in this latest quarter.

If I could also ask, what is the strategy at Anthropologie regarding owned brands?

Yes, we have not acquired anything, if that's what the question was.

We certainly look at many businesses, and Matt Kaness, who is our head of Strategy and Business Development, is a terrific partner in doing that.

But nothing, nothing -- no serious conversations.

With regard to other new business ideas, the Company has done a phenomenal job incubating ideas internally.

Remember, we started with this business.

Actually, originally, it was called Free People and then Dick renamed Urban Outfitters.

Urban Outfitters bore Free People; Free People bore Anthropologie; Anthropologie bore Leifsdottir; Dick gave birth to Terrain.

All of the brands -- you know, we have a very creative group of people here, and all of the brands have a variety of very exciting ideas for new businesses that we are working on right now.

We had a very high success rate; we are not planning on having the kind of success rate prospectively that we have had retrospectively, but I think it's likely that a good portion, if not all, of our new business ideas will be internally generated.

We are not ready to talk about any of them yet, but I'll tell you we've got eight or ten in the works.

Then what was the last question?

(multiple speakers)

(multiple speakers) the strategy on owned?

Yes, that has not changed.

It has been penetrating roughly at 50% in Anthropologie for years.

They've done a great job with it.

It is a mix; like at Urban, it is a mix of roughly 50% owned brand, roughly 25% vendor collaborations in the market and then 25% straight branded product, and that's been consistent.

Michelle Clark, Morgan Stanley.

John, you had mentioned last quarter that you were seeing modest benefit from rent concessions.

Was that the case in the second quarter, and do you expect that to play out in the back half of the year as well?

Thank you.

I think the whole occupancy leverage issue is related to a number of elements.

I would say rent concessions are a piece.

Certainly, construction costs are a piece, and the better site selection has been very important, as evidenced by the performance of our new store against the base chain.

So overall, it's a combination of things that are impacting occupancy.

We would expect rent to continue to be an opportunity going forward.

Okay, great.

John, could you just update us, then, on the leverage point for occupancy?

Is it now at 3%?

Well, that's what we have been saying but in the first quarter, it actually -- or in the second quarter, it actually ran lower than that.

Okay, great, thank you.

Laura Champine, Cowen & Company.

You mentioned, at the beginning of the call, Glen, that you thought that the consumer would modulate the way that they buy basics.

You talked about some of the price sensitivity on basics.

Could you comment a little further on what that means that they will modulate the way they buy basics and how Urban is going to adjust to that with your different brands?

Yes, and I talked a lot about this during the last call.

You know, I think the market is really bifurcating.

I think the customer who wants a basic V-neck T-shirt or a basic pair of jeans can go online.

She can price comparison shop within a nanosecond, and many -- not all customers but many customers are going to go where the deal is.

If you go online, which I'm sure you do daily, the world of $15 denim and $3 tank tops and $5 T-shirts is aplenty.

Not so much at Anthropologie, but at Urban, you know, I'm not suggesting, I don't mean to suggest that we are going to have $19 or $15 denim, but we have to be mindful of, particularly at back-to-school time, that the kids are price-sensitive.

If they can get $3 tank tops at a competitor and our tank tops are $30, it's going to cause a problem for us.

So I'm not saying we have to be $3, but we have to be at a good price, given what our product stands for.

You know, so that's kind of one part of the business.

The interesting part of the business for us is really the fashion.

What I said in the prepared remarks -- and boy does this resonate with me as I shop stores, which I did again last Friday -- is the whole authenticity thing.

I think, in this day and age, the customer -- I really feel like the middle is dropping out.

I think luxury obviously has been challenged for the time being, but what I think really resonates with people is a connection to either an artist or a manufacturer, a level of authenticity in the product.

I feel that our Company and all of our brands can do that better than just about anybody.

So it's the story behind the merchandise.

People really want to know how something was conceptualized, how it was manufactured.

They want to know about the people making the garment; they want stories; they want special product.

This is something that the chains and certainly the mass merchants can't do, and this is a calling card for our Company.

That's what I meant when I said modulate.

I think they are going to some of the mass merchants for white T-shirts or basic denim, but they are coming to us for the special product.

Thank you.

Howard Tubin, RBC Capital Markets.

Just a question on inventory -- you've done a really great job managing it over the course of the last several quarters.

Should we expect to see per-foot levels or per-store levels down for the rest of the year throughout the fall season?

Then is there any way you would to comment on business here in the third quarter to date?

Howard, what was the last comment -- no, we're not.

It's too early in the quarter for us to make any comment.

We will do that mid-quarter, as is our custom.

With regard to inventory, as Ted said earlier, we manage our inventory based on weeks of supply.

We don't plan it based on square footage or per store.

I've said very consistently for a long time I think there's opportunity in the long-term for us to reduce weeks of supply.

In a perfect world, we would have tomorrow's sales in the store today.

That's never going to happen.

But I think, with the extraordinary job the organization has done compressing the calendar and everything that we have on the docket in terms of continuing improvements to our planning and allocation strategy, continuing improvements to our supply chain with the logistics side of supply chain, that over the next several years, we will see substantial weeks of supply reductions.

That only creates good.

I mean, it lowers markdowns; it lowers selling expense; it improves the customer experience.

Only good things come out of reducing weeks of supply.

That's great.

Thanks.

Randy Konik, Jeffries.

A quick one -- going back to the first quarter on the IMU, you said that -- you made a comment that the wholesale business was hurt by some closeout performance, or higher-than-normal closeout performance.

Was that the case in the second quarter, or were all channels of distribution up in the IMU?

Yes, we won't go into detail by brand, but we did not have the closeout issue in the second quarter that we had in the first quarter.

Great, thanks.

(Operator Instructions).

Jennifer Black, Jennifer Black & Associates.

Good morning and let me add my congratulations.

I wondered if you could talk a little bit about Leifsdottir.

The product looks great.

I wondered if you are in a position to raise price points.

Then I also wondered how much crossover there is.

I realize it's small at this point -- there is in your own stores versus wholesale.

Thank you.

With respect to Leifsdottir?

Yes, with respect to Leifsdottir.

There's not a lot of crossover.

Occasionally, Anthropologie will buy a bit of Leifsdottir, but it's a very, very small percentage of their assortment.

The average price, selling price in Leifsdottir is about $240.

We feel comfortable with where that is right now.

We are projecting that it will be roughly a $10 million wholesale or roughly, call it, a $22 million to $25 million retail business this year.

That is done largely through Neiman Marcus, Bergdorf Goodman, Nordstrom's, Bloomingdale's and roughly 50 specialty doors.

So again, it's too early for me to make a statement about what it's going to look like in the next several years, but considering this is its first full year of business, I just think that's a stellar result.

I don't see the prices going up.

I think the great thing about all of our brands is that they are uniquely positioned.

You know, I call Leifsdottir "young designer" and it sits with Marc by Marc Jacobs, DVS, Milly, See by Chloe, but it really does something very different than any of those brands do just in the way that Free People, Urban and Anthropologie do something different than their peer group

Thank you very much.

It looks great.

Janet Kloppenburg, JJK Research.

Congratulations.

Just a couple of questions on the gross margin improvement, which was a big surprise to me.

On the timeline of opportunity, Glen, where would you say the Company is?

This is the first time that we've seen such a surprise in the gross margin rate coming from, say, the higher private label business, and I believe lower costs on the third-party vendors.

So where are we along the timeline?

Can you help us understand the opportunity going forward?

Just secondly, when you talk about open-to-buy and being so open, I am just wondering.

As you do devote more if your open-to-buy to your own labeled product, if that doesn't somehow increase your leadtime and maybe constrains your flexibility on open to buy.

Yes, I will respond to the second question first.

You know, it's a misnomer to think that our own product is any faster or slower than the market product.

In fact, it's probably faster at this point because, internally, I think we've done a better job compressing the calendar than many of our resources.

I mean, when you have distribution that, on the low end, are 3000, 4000, 5000 units, it's not like people have the merchandise hanging.

They cut it for us.

So there's really no difference in terms of speed from buying in a market versus our own brand.

I think that where we are -- the bulk of the IMU improvement came from our sourcing.

So the penetration of owned brands to total certainly helps, but the bulk of the improvement came from the tremendous job that Barbara and the merchant heads -- and I also should call out Kelly from Urban and Denise from Anthropologie and Jeff from Free People, our heads of planning, they've also done a great job.

This has been a multiyear effort and we are seeing the results of this tremendous effort.

I mean, I think Dick probably started talking about this three years ago.

We started making investments in this a couple of years ago, and we're about, in terms of our CTM, our Concept To Market, we are about two years into a three-year plan.

But I honestly can't tell you, Janet, when it's going to finish because, every time we think we're getting close to the end, we see new opportunity.

So then we should expect the continued positive buys to gross margin as we go forward?

Well, gross margin is a function of a lot of things.

It is a function of initial margin, markdowns.

Excuse me, merchandise margin, a part of the buyers function, (multiple speakers).

Well, merchandise margin is a function of markdowns in IMU.

I think that, to answer your question, I think that there is continued IMU opportunity.

When we did our secondary, Dick used to talk about 200 points.

As I said earlier, we realized that 200 points probably twice, secondary.

I think that we have -- I don't want to put a number to it -- but I think that we have significant opportunity going forward.

The markdowns are a whole other number.

I mean the reality is our markdown rate is running significantly higher than it runs when we have an average 7 comp, or even when we are a flat comp.

I mean, we are buying tight but make no mistake about it; we took higher markdowns than we normally run, and that we would like to run, so when we can get to a normalized markdown rate again, there is going to be nice MMU improvement, maintained merchandise improvement.

Given your optimism, Glen, would you say that there is an opportunity for markdown levels to begin to come in here as we go through the back half, particularly with easier comparisons?

You know, I really don't know, Janet.

I hope so, but I think the minute the comps improve, the markdowns will reduce.

I hope so.

I mean, we have a phenomenal staff, and they don't generally make the same mistake twice, so I hope so, but I wouldn't count on it right now.

Okay, best of luck to you all.

Thank you.

Maggie Gilliam, Gilliam & Company.

I had another question on Leifsdottir.

Is this good performance at wholesale partially a function of the very -- channel distribution you have for it?

Second of all, it's a brand that lends itself very well to other products.

I know you don't -- at least licensing has not been in your vocabulary, but would you comment on that?

Yes, I think it's doing well because I think the Group did an exceptional job with it.

So, kudos to [Johann Yurisgarvi], who is the head designer, to Wendy Wurtzburger, who helped to conceive the line, Barbara Rozsas and her staff who helped produce it.

The product is beautiful.

It is remarkable to me how quickly it has become a brand.

I mean, if you Google it, it comes up; if you go to People's website, they have it.

It really is a testament to how beautifully conceived and executed the line was.

So, congratulations to them.

With regard to other product extensions, I agree.

It's something we are talking about internally.

We are not ready to comment on it yet, but I wouldn't be surprised if we expand it outside apparel.

We have no more questions in the queue at this time.

Mr.

Senk, I will turn the conference back over to you.

All right, well, thank you so much for everyone.

Great questions as always, and look forward to speaking to you individually and collectively in three months.

Thank you.

Ladies and gentlemen, thank you for participating in today's conference.

This concludes the program.

You can now disconnect.

Everyone have a wonderful day.