Vera Bradley Inc (VRA) 2018 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Vera Bradley Second Quarter Fiscal 2018 Earnings Conference Call. Today's conference is being recorded.

At this time, I'd like to turn the conference over to Mr. Mark Dely, Vera Bradley's Chief Legal Officer. Please go ahead, sir.

Good morning and welcome, everyone. We'd like to thank you for joining us for Vera Bradley's second quarter call. Some of the statements made on today's call during our prepared remarks and in response to your questions may constitute forward-looking statements made pursuant to and within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 as amended. Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from those that we expect. Please refer to today's press release and the company's Form 10-K for the fiscal year ended January 28, 2017, filed with the SEC for a discussion of known risks and uncertainties. Investors should not assume that the statements made during the call will remain operative at a later time. The company undertakes no obligations to update any information discussed on the call.

I will now turn the call over to Vera Bradley's CEO, Rob Wallstrom, Rob?

Thank you, Mark. Good morning, everyone, and thank you for joining us on today's call. John Enwright, our CFO, is also on the call.

Before I get started, let me update you on some executive changes. I am happy to announce that Beatrice McCabe has been named Vera Bradley's Chief Creative Officer. Our Founder, Barbara Bradley Baekgaard, has had the opportunity to work closely with Beatrice since she joined the company 18 months ago and has great confidence in her. Beatrice joined Vera Bradley in January 2016 as our VP of Design, coming to us with over 15 years of extraordinary design and brand development experience at several well-known retailers and brands, including Fossil, Vince Camuto, Diane von Furstenberg, John Galliano and Marni. Beatrice has an incredible design sensibility, and since she has been at Vera Bradley, she has led our cotton reinvention. In her new role, Beatrice will continue to oversee product design, and will work closely with the product development, marketing, stores and verabradley.com teams to ensure brand and design consistency between our offerings, marketing, stores and digital flagship. Barb remains the heart and the soul of our brand. She will remain with the company, but this change will allow her to spend more time focusing on several Vera Bradley project that she is very passionate about, including the Vera Bradley Foundation for breast cancer and promoting her book, A Colorful Way of Living.

Theresa Palermo, our Former EVP of Marketing, has left the company and accepted another marketing position in her hometown of Dallas and we wish her all the best. Stephanie Scheele, our VP of Marketing, Strategy and Operations with over 20 years of industry experience, has been named our Interim Chief Marketing Officer.

Now let's shift to our performance. Although our comparable sales trends improved over those in the first quarter, challenges in the retail environment continued into the second quarter. Total revenues were in line with our expectations. Our second quarter EPS of $0.13, excluding charges, exceeded guidance primarily due to our diligent expense management.

Over the last 3 years, as we embarked on a plan to strengthen and modernize our brand, we've made meaningful progress on many fronts, including evolving our product offerings, distribution channels and marketing, as well as broadening our customer base. However, given the backdrop of continuing challenging retail environment, our progress has not been made at the pace that we have planned. And as a result, we are in the process of refining our business model and strategic plan, which will involve taking a much more aggressive approach to turning around our business over the next 3 years. Our ultimate goal is to restore brand and company health by methodically moving to a less clearance-driven business model and reducing our SG&A expenses.

We have engaged in outside consulting firm, working alongside our team to perform a comprehensive review of our business model, existing strategic plan and historic performance, and to provide us with in-depth analysis and research on critical components of our business, and this information and research is being integrated into our plan, which we are calling Vision 20/20. We will have more details and specific action plans to share in the coming months, but Vision 20/20 will primarily center around 2 key areas: product and pricing, and SG&A expense reductions. We believe Vision 20/20 will lay the foundation for growth, a more profitable future and continued solid cash flow.

I will give you an update on our current year initiatives, as well as some additional color on Vision 20/20 after John reviews our second quarter results and our outlook for the balance of the year. John?

Thanks, Rob, and good morning. Let me go over a few highlights for the quarter. The numbers I will discuss are non-GAAP, which excludes the various charges outlined in today's release.

Net revenues of $112.4 million were in line with our guidance of $111 million to $115 million. Direct segment revenues totaled $89.3 million compared to $87.2 million last year or a 2.4% increase. Comparable sales decreased 4.2%, which was more than offset by new store growth. This comp performance was much better than the first quarter's 12.5% decline, driven by a meaningful improvement in our verabradley.com business, as well as improvement in our consolidated store performance.

Indirect segment revenues decreased 27.9% to $23.1 million from $32 million in the prior year, reflecting a reduction in the number of specialty accounts, coupled with a reduction in orders from both specialty accounts and certain key accounts. Our gross margin rate for the quarter was 56.3% compared to 57.4% last year. The 110 basis point decline related to reserve taken against slow-moving inventory increased promotional activity in our factory stores and channel mix changes, partially offset by reduction in product cost. All of these factors resulted in the miss to our guidance range of 57.5% to 58%.

Excluding charges, SG&A expenses totaled $55.9 million or 49.7% of sales compared to $57.8 million or 48.5% last year. The rate was meaningfully lower than our guidance range of 53% to 53.5% due to diligent expense management, cost reductions, as well as the timing of approximately $500,000 of marketing expenses that are expected to be incurred in the second half of the year. Excluding charges, operating income totaled $7.5 million or 6.7% of net revenues compared to $10.8 million or 9.1% in the prior year. Direct operating income was $17.6 million or 19.8% of net revenues compared to $19.7 million or 22.6% last year. Indirect operating income was $7.8 million or 33.9% of net revenues compared to $12 million or 37.5% in the prior year.

Net capital spending for the quarter totaled $2.7 million and $6.1 million for the 6 months. During the second quarter, we repurchased approximately $2.1 million of common stock or approximately 242,000 shares at an average price of $8.79. We have approximately $18 million remaining under our share repurchase authorization, which expires in December of this year. Quarter end cash, cash equivalents and investments totaled $102.3 million compared to $85.5 million at the end of last year's second quarter. We had no debt outstanding at quarter end. Inventory totaled $104.1 million compared to $96.5 million at the end of last year's second quarter, and in line with guidance.

Let's shift our focus to our outlook for the third quarter and full year. Keep in mind that current year estimates do not include certain consulting, severance, impairment, lease terminations to our closing or Vision 20/20 charges, and the prior year numbers exclude the previously disclosed store impairment charges, certain severance charges and the release of certain income tax reserves. For the third quarter, we expect net revenues of $112 million to $117 million compared to prior year revenues of $126.7 million. We expect direct segment net revenues to be relatively flat to down low single digits compared to prior year, including a comparable sales decreased, including e-commerce in the low- to mid-single-digit percentage range. Based on recent trends, we believe our indirect net revenues will be down by 25% to 30%. Our gross margin for the third quarter is expected to range from 57.1% to 57.6% compared to 57.6% in the prior year. The expected decline relates primarily to change -- to channel mix changes.

SG&A as a percentage of sales is expected to range from 50.8% to 51.3% for the third quarter compared to 48.3% in the prior year, excluding charges. Deleverage is primarily due to expected reduced revenues in the quarter. We expect diluted EPS of $0.13 to $0.15. Excluding charges, net income totaled $7.6 million or $0.21 per diluted share last year. We expect inventory to be in the $100 million to $110 million range at the end of the third quarter compared to $95.7 million at the end of last year's third quarter.

For full year, we expect net revenues of $460 million to $470 million compared to $485.9 million last year. Our revenue guidance assumes direct segment net revenues to be relatively flat to up low-single-digits compared to last year, with comparable sales, including e-commerce, down in the low- to mid-double-digit percentage range. For the full year, indirect net revenues are expected to decline in the high-teen percentage range. Our gross margin for fiscal 2018 is expected to range from 55.5% to 56% compared to 56.8% last year. The expected decline relates to increased promotional activity at the company's factory stores, channel mix changes and the reserve taken against slow-moving inventory, partially offset by reduction in product cost. SG&A as a percentage of sales is expected to range from 49.9% to 50.1% for the fiscal 2018 compared to 48.5% last year, excluding charges. Deleverage is expected due to software sales.

We expect diluted EPS, excluding charges, for the full fiscal year to range from $0.44 to $0.50. Before charges, diluted EPS was $0.72 last year. We expect our net capital spending to be approximately $10 million to $15 million for the full fiscal year, primarily related to new factory store openings, full-line store renovations and continued technology investments.

Let me turn the call back over to Rob, who will give us an update on the business and more details on Vision 20/20. Rob?

Thanks, John. This year, we have focused on increasing our brand desirability through marketing, increasing our product desirability and strengthening our distribution platform. This spring, we expanded upon our It's Good To Be A Girl marketing campaign, introduced last fall and partnered with key influencers, leveraged social media channels and worked with other high profile partners, like Girl Starter TV, all to increase brand awareness.

On the product front, we are most excited about the reinvention of cotton, which remains 50% of our business. Customers are responding to our newly introduced iconic cotton collection, featuring micro quilted -- quilting, added functionality and innovation and several new updated silhouettes. We are also thrilled about the progress we are making in licensing. Licensing is an important part of extending our brand and reaching new customers and markets. We are strategically layering in licensing opportunities where they make sense: Vera Bradley technology products, including smartphone and tablet cases, power solutions and portable audio launched in March, the swimwear collection launched in May; and our bedding stationery and hosiery collections were introduced in July. We continue to see an extremely positive response from the market in terms of placement in both existing and new distribution.

For example, our smartphone cases are now offered in over 900 AT&T stores, and due to strong performance, we'll be expanding to all 2,500 doors this fall. Bedding is available in over 200 Bed Bath & Beyond locations. And in 2018, we will introduce medical uniforms to the mix, and we are continuing to explore other opportunities.

As we look at our distribution platform, we have primarily focused on 3 areas this year: launching our new verabradley.com website, rightsizing our full-line store base, and prudently growing our successful factory business. The relaunch of our digital flagship platform went live in February, and we have continued to make additional enhancements to the site to improve our customer's experience and increased conversion. And during the second quarter, we added the GiftNow feature, an improved shipping and tracking solution; product vignette pages for products like bedding and swim; continued improvement in site speed; and visual enhancements to our checkout page intended to make the process easier and to reduce cart abandonment. And as a result, second quarter verabradley.com conversion increased and sales trends improved significantly over last quarter.

On the full-line store front, we are continuing to upgrade our most productive stores so that about half of our current 111 store base will feature our new design standards by the end of the year. We closed 2 full-line stores so far this fiscal year, our San Francisco location in the second quarter and our Thousand Oaks, California store in August. We expect to have additional full-line store closings to announce in the coming months. On the factory side, we opened 3 stores in the first quarter and we'll open 3 additional locations in the third quarter, which will bring our factory count to 52.

Now let me elaborate a bit more on Vision 20/20. As I noted earlier, our primary goal over the next 3 years is to improve our brand and company health by moving to a significantly less clearance-driven business model and reducing SG&A expenses. We are in the process of finalizing our detailed plans with the majority of the implementation to begin next year. On the product and pricing front, we will focus on 3 key initiatives: resetting our customers' pricing perception and restoring our full price business by significantly reducing the amount of clearance product available in verabradley.com and in our full-line stores; two, narrowing our current product offerings by eliminating unproductive or incongruent categories and SKUs from our assortment; and three, building tighter assortment guardrails around introducing new categories, patterns and pricing, assuring that the right fit for our brand and that our products not only provide Beautiful Solutions, but also reflect both our comfortable and casual lifestyle at attractive price points.

We know these actions, particularly dramatically reducing our clearance levels, will not be easy, but are the right actions to take for the health of our business. The majority of the product and pricing initiatives will not be implemented until next year. We estimate revenues will be negatively impacted by $40 million to $60 million in fiscal 2019.

As we reduce revenues, we also expect to reduce annual SG&A spending by up to $30 million from our fiscal 2017 baseline spending, excluding severance, Vision 20/20 and other disclosed charges. Certain cost reductions have already begun, and are reflected in our 2018 SG&A guidance. The majority of the balance of the reduction is expected to be made in fiscal 2019. Reductions will come through rightsizing our corporate infrastructure to better align with the reduced size of our business, along with taking a more aggressive stance on closing underperforming full-line stores. We are forecasting to close up to 50 full-line stores by the end of fiscal 2021, primarily as leases expire.

Over the last 2 years, we have increased our marketing spend, with the incremental expense largely focused on branding and brand awareness, and we found that it was difficult for the brand-related marketing to rise above the clearance noise. As we make changes in our assortment and reduce our clearance promotions, we will reduce our marketing spend in the near term -- near to moderate term, focusing primarily on optimizing return on spend, and keeping our most loyal customers highly engaged.

We have done a good job reducing cost of sales over the prior 3 years by shifting to lower-cost manufacturing, better raw material sourcing and distribution efficiencies. We believe that there are incremental stores seen and supply chain opportunities ahead, and these savings can help offset the natural overhead deleverage that will occur as we reduce our inventory levels.

On the distribution front, we will continue modest expansion in our factory channel, adding about 6 stores per year. We will also launch a flash sale site in the fall to segregate certain clearance sales from verabradley.com. We will provide guidance for fiscal 2019, in conjunction with our year-end earnings call. By executing Vision 2020, we expect that our business and brand will become healthier. Operating performance will improve, and shareholder value will be enhanced in the next 3 years. Our team is very committed to and focused on turning the business around.

Operator, we will now open up the call to questions.

(Operator Instructions) And we will take our first question from Oliver Chen with Cowen and Company.

Rob, regarding Vision 20/20 and also your thoughts on where the business is now, what are your thoughts regarding pricing, and what are you looking at for good, better, best in terms of the big opportunity going forward there? Related to that is the parameters around different channels and what should happen from a product perspective, and any color on what the indirect channels looking like in terms of opportunities to improve that over time?

Well, thanks for the question, Oliver. Couple things, in terms of pricing, a few things that we are looking at. We definitely know when our research that there's 2 different factors. One is clearance. Clearance, definitely, despite our actions of reducing hyper-promotional clearance activity over the last couple of years, our overall level of clearance has just remained too high. The perfect example is if you go on to our verabradley.com website, and you pull up something like the Vera Bradley tote, you will see that we have, let's call it, 8 patterns under new, and we'll have twice as many patterns under clearance, which just is not a sustainable business model. So we feel that we really need to take that down to a much more appropriate level, which is probably closer to 2x the pattern assortment in our full-price selection as in our clearance section. So we believe that that's going to be critical to kind of reestablishing our full-price business. As we look at price points, what we found out is that we believe in our core cotton product that our price points are appropriate. As a matter of fact, as we introduced our Iconic Collection, we've actually taken some of our price points up as we've added additional functionality in, and we've actually found that those new products are actually performing better than the old styles, which has been encouraging to see. On the flip side, as we've introduced new categories and new fabrications, in some cases, I don't believe that we kept our price point sharp enough. So a perfect example is we're looking at leather, and we did a lot of analysis on our leather collection. What we saw is that the velocity was much stronger, more opening price points of our leather business and our more casual parts of our leather business, and so we're really going to refocus our leather assortment around this casual, comfortable and affordable price point. So what does that mean specifically? It means that we use to have price points in leather that probably hovered closer to the $300 price point, and we actually see that probably coming down on average, about 1/3 to be more around the $200 price point. As a matter of fact, we have a great new crossbody that we're excited that's going to be launching at $98. So we do believe that our prices have to be sharper in the new fabrics that we put in the assortment that the earlier price points might have been a little bit high. And that also applies as we go into brand extensions. And one thing that has been happening as we've worked with our licensing partners is they've been very good at focusing on price targets and the right price targets. And we want to make sure that we keep those really at this great, sharp affordable price point, which is we believe where the Vera Bradley customer is. As you think about distribution, and what does it mean from a distribution standpoint, our goal right now is to really help our wholesale partners, as well as our self-drive comp sales get their inventories leaner, cleaner, moving faster, and so at this point, what we see is keeping the distribution tight. We don't see a lot of distribution expansion in our department stores and our specialty channel, maybe a slight tightening there. Where we see the distribution expansion occurring is as we open up our new licensing partners, as we talked about with AT&T and Bed Bath & Beyond. So we think that's a great way to bring new customers into the brand, and get some expansion in the consumer world, but at the same time, not over distributing our core channels that we have today.

Rob, and also regarding the store base, it's a hot topic and some client incoming on just your framework for thinking about what's the right size of your store base and there is a difference between full-line versus your factory. And it would be great if you could share with us some of your thoughts around optimizing your relationship with Amazon as well.

Absolutely. So first of all, in terms of the store base, as we all know, the retail environment obviously has been challenging, mall traffic continues to be very challenging, particularly in the full-line space. And we really believe that as we looked at the leases, last time we talked about store closures, we had talked about the stores we were going to close this year and next year and we talked about 20. As we put the Vision 20/20 together, we've looked further out and we've put a couple additional years on the backside of that, and that's why we are now talking about totally getting up to 50 stores. So we do believe that we're going to continue to watch the full-line industry and see how the mall traffic begins to stabilize over the next few years, but we're taking a very cautious approach to our full-line real estate. On the factory side, our factory stores, as we opened them up, continue to perform well, and we believe that there's opportunity on the factory side, but we're trying to take a very prudent and kind of modest growth plan there. And so if you project out what that ratio of full-line to factory stores looks like at the end of 2020, if everything goes according to what we've laid out, we would be closer to a 1:1 relationship. So we are monitoring that and very aware of that ratio. On the Amazon side, we are working closely with Amazon, working to understand how to maximize that relationship with them by focusing on full-price, and really focusing on enhancing the brand on the Amazon experience, trying to clean up unauthorized distribution and really reestablish our full-price pricing on Amazon. So we do think there's growth there, and we're focused on it, but we want to make sure it's the right type of growth, which is a full-price growth and not an off-price growth.

And we will take our next question from Mark Altschwager with Robert W. Baird.

Rob, just with the initial guidance related to the 20/20 plan, it seems to imply roughly neutral EBIT impact, I guess, assuming that the current gross margin run rate and the lost revenue, offset by the SG&A savings. Is that the message we should be taking away today? Or any other puts and takes we should be considering as we take a look at our out-year models?

Yes. So Mark, this is John. Ultimately, I think we're not going to give guidance update, but I think that's a fair estimate on kind of how to look for if you look -- think about the reduction in sales of $40 million to $60 million with up to $30 million of SG&A save. From an EBIT perspective, you would -- depending on where gross margin comes in, because we're still finalizing that, you could estimate it's going to be relatively flat.

That's helpful. And then on the $40 million to $60 million revenue reduction, any way to add some context to how much of that is the reduction in clearance sales versus reduced buys at some of the retired product, and then the streamlining of the assortment that you mentioned earlier?

Yes. What I would say in that $40 million to $60 million, we anticipate that the vast majority of that is all out of the clearance bucket. That's really what the guidance implies. We are really going out and targeting by reducing our entire clearance volume by over 50% in our direct-to-consumer business. So it's a very aggressive approach. The majority of that will come on our e-commerce site. The fact that our e-commerce site has remained primarily a clearance business is not healthy for the brand, and we tried to wean that down. But as we've gone through that voyage, we really feel that we have to take much more aggressive action to establish that more full-price oriented experience on e-commerce.

One more quick one if I may. On the marketing front, any updates on the learnings from the recent campaigns and any anticipated changes to the strategy, moving forward, given the management changes announced at the beginning of the call?

Yes, absolutely. Regarding marketing, what we have found is that everything that we were doing, as we've talked a lot about building brand awareness and top of funnel, we've really increased activity. So I'll give you a perfect example. Last quarter, we saw the impressions that we generated that went from $50 million in the prior year to over $300 million this year. So we've definitely got a lot of people looking. What we were finding though is that we weren't driving enough of them through our funnel. And really, with all of the clearance information that's out there, all the pricing information that's out there, that people were going more towards our clearance assortment. So we were not getting the full pay off we expected out of the marketing, and so part of that, we'll give more definition around. But with 20/20, we're going to tighten up some of the marketing spend, move a little bit of it from the top of the brand awareness, and really focus on kind of down funnel activities, conversion really focused on the customer that we know, and we believe getting a higher rate of return for our marketing spend, as we kind of reestablish the full-price assortment credibility, and then we'll take a new look at that in the out-years.

And we will take our next question from Eric Beder with FBR.

Could you give a little update on back-to-school? I know it's a big holiday for you guys. What are you doing in terms of the back-to-school product here?

Yes, in terms of back-to-school, as you say, it's not only a big season in retail, but definitely, a big season for us. So there has been a lot of movement in back-to-school in terms of back-to-school, like most of the holiday continues to get a little bit later. But we're continuing to see, we still have a very dominant position in the backpack business, and it continues to be really important for us. But we see the back-to-school business continuing even now, and continuing through early September, and our performance in back-to-school is reflected in our guidance.

Okay. And when you look at the license categories, what should we be thinking about the ability for them, going forward? And how big do you think that can be longer term in terms of your vision here? And how do they fit into Vision 20/20?

Yes. I think with the licensing categories, right, a lot of these businesses are just launching. But what is exciting for us is they really plan future growth, right? They help us bring new customers in the brand and new classifications. There's other classifications that we're pursuing. So from a retail sales standpoint and a brand expansion standpoint, they offer some opportunity. Now with licensing, when you look at royalty revenue and how that flows through to the bottom line, it obviously doesn't hit the top line as productively as the businesses we do internally. But we are very excited about it. We think that there's a couple more categories, but you will see us stay very focused around the home category, very focused around this casual comfortable lifestyle, and that's really where our focus is, as we sign up new opportunities.

Okay. And finally, you've had last year have the issue with the data breach. How much do you think that was an impact last year? And I'm assuming that's not going to be an issue this year with you, hopefully, at all. How should we be thinking about that?

Yes. So from a data breach perspective, all the analysis we did last year, we don't think actually impacted our sales at all. And obviously, for this year, we don't anticipate anything occurring. So there was no impact because we kind of went through our analysis to last year's results.

Okay, and last question. And even if you do the entire buyback, you have significant amount of cash. You're probably going to read with less stores, less sales, reducing inventory even more. What should be an appropriate use, going forward, do you think, for all this cash?

So I mean, I'll take the first stab and then Rob, you can jump in. I think, depending on our strategy though, first and foremost, we're going to use cash for strategic initiatives, going forward. So as we implement Vision 20/20, to your point, we'll utilize the cash associated with any strategic initiatives there. So we may have some additional investments in technology, but I would not think there would be significant use of cash associated with Vision 20/20. Outside of that, as we move forward from Vision 20/20, it will be based on what our new -- our strategy would be on a go-forward basis.

Yes. I think the only color I'd probably add to what John's talking about is that, our current cash position, we've obviously taken a little bit of a conservative approach to it, as we navigate this retail disruption that's out there, and we believe that that's the most prudent short-term use of our cash. As we look in the out-years of the Vision, we know that cash is an opportunity for us to improve shareholder value, and it's something that we will be looking at as we go forward in the years to come. But in the near term, the short term, we believe that it gives us the basis to execute our turnaround plan, and that's really where our focus is, as we want to get the business healthy, and get it stabilized, but that's our primary focus today.

(Operator Instructions) And we will take our next question from Edward Yruma.

This is Matt on for Ed. So can you talk a bit more about the third key initiative, adding more discipline into your assortment and introducing new categories? Does this mean new patterns will be introduced more methodically? I guess I just needed some clarification there.

Thanks for the question, Matt. A couple different points. One, in terms of patterns, we are absolutely looking at our pattern life cycle. Our analysis really shown us that we've been introducing even as we've worked on editing patterns and pulling patterns down, we have kind of moved through patterns quicker than we need to. As we look at the rate of sale, we think that some of our patterns have a longer life cycle. And due to the amount of clearance business we've been funding, we've been marking patterns down and moving them to the clearance bucket earlier than they probably need to. So we are going to be working on pattern flow. That's a big part of the work that we're working through right now, so we'll have a lot more to say, as we kind of progress through that work. The second thing in terms of tighter guard rails, as we look at all the products that we introduced over the last couple of years and we think that there's been a lot of positive learnings and a lot of new customers that we've bought into the brand, but what we did find is that products that were casual, comfortable and at sharp price points were the best performing ones. And when we allowed ourselves to kind of move out of our core customer segment and move in to what I'll call a dressy point of view and a higher price point, point of view, we found more trouble. So let me give you some perfect examples to that. A great example would even be in something like fragrance. What we found are -- or things like our hand lotions that were just easy and simple were top producers. But things like our crystal cotton glass and candle that became very expensive and kind of very formal and very dressy did not perform well. In our leather category, our Gallatin performed much stronger out of the gate, kind of at that $200 price point, very casual in appeal. But when we did things in Sycamore, where we did framed handbags and we did pony hair, when we did things that became very dressy, those are the ones that definitely did not perform as strongly. So we do believe that we've learned a lot through those launches, and we believe that we'll have a much more focused assortment as we go forward.

And have you learned anything from the virtual reality experience? And will this roll out more to stores or categories? Or I guess, how do you view virtual reality in the stores moving forward?

Right now, we see virtual reality in the stores as really an entertainment, right? It's really an opportunity for customers to come and experience something fresh, something to talk about, something to keep customers engaged. In terms of is it going to become a primary purchasing vehicle, no. We do think it's a way to showcase parts of our assortment that are not available, but we don't see a major rollout, but really was meant as a great way to kick off our bedding assortment and let customers experience it because we obviously couldn't get beds into all of our stores just based upon our size, so it's a fun way of rolling that out, but we don't see a short-term major rollout of VR. We might continue to play with it with new opportunities that come up, but it's definitely more on the entertainment side than truly on the commercial side.

And we will take our next question from Andrew Gordon with E.F. Gordon Capital.

I was curious about the part of your guidance around the SG&A. There's about an $8 million shift for fiscal '18 versus what you had implied over the last 2 calls. And I think you mentioned rightsizing the corporate infrastructure at one point during the comments. But I wondered if you could be a little more specific on exactly what you're changing?

Yes. Just for clarity, I want to make sure I understand, are you talking about $8 million shift in guidance for FY '18?

Yes.

So I think just to speak to that, right -- we have expense reduction plan in place each year. So we look at expenses each year. And as we continue to look through the course, we've had savings, if you look through the first and second quarter, of a few million dollars below what we had anticipated from an SG&A perspective. In rolling that forward, we'd expect some additional savings. So that's where you'd probably see the $8 million associated with some corporate infrastructure, whether it's headcount, marketing, some T&E and is also associated with some professional fees. So those are like the big, larger buckets that we're looking at for FY '18. We see some savings associated with FY '18. And if we look at FY '19, those are also larger buckets that we're looking at for savings and Vision 20/20.

Just to be clear. I'm talking about an $8 million shift for your current full year guidance versus what you had implied over the last (inaudible).

No, I know. So I apologize if I'm not being clear.

And the other part of it that makes me scratch my head a bit is your store base is continuing to grow this year, by my math, is an average of 6 stores higher than last year. But your total SG&A target now is about $4 million lower. I'm just -- I guess what I'm wondering is, is this impacting your spend on product development at all? Or and also marketing how much is that? What's the budget change for marketing?

All right. So let me try to hit both those points. So over the course of the year, so we will probably a net to incremental stores, as we add basically 6 factory doors, as Rob commented too earlier, and then we're going close some doors this year. So we've closed 2 doors this year, and we expect to close more doors in the next -- in the back half of the year. In regards to whether or not we are curtailing product development spending and marketing spending, the answer to that is no. Marketing spending is probably expected to be about $2 million less than last year, but as is based on efficiency, we're actually bringing stuff in house that is taking our marketing a little bit more efficient. And then in regards to the $8 million difference from the beginning of the year and guidance, when you just do the ratios, again, we've just basically been curtailing kind of discretionary spend in order to help with earnings. Does that answer the question, Andrew?

Does that (inaudible). It does and it doesn't. I'm still wondering about product development expense.

And I would answer that. No, we are not curtailing our product development expense.

Yes, no, we are absolutely continuing to invest in product. If you look at our SG&A investments over the years, what we've been doing is taking expense out of the non-customer-facing touching areas, so areas like finance and IT and legal and HR, and the kind of the back of the house areas and continuing to invest in product development cost and continuing to invest in marketing. Now the marketing spend, we are taking a little bit tighter approach this year, and really pushing efficiency. And part of that is because, as we've invested in marketing over the last few years, we've been able to build out some infrastructure to do a lot more in-house, and take a lot back out of the agency world, which we can do a lot more efficiently.

Fair enough. If you don't mind me squeezing in one more question. The Vision 20/20 plan sounds like an exciting strategy development. But I was a bit curious, it just seems to me that when you shifted away from being promotional like in fiscal '16 and '17, ultimately, you're pulled back into being more promotional maybe as a function of the broader environment among other handbag sellers. And I just wondered if maybe you could give a little color on the degree to which you feel your ability to move away from clearance is fully in your own hands versus being impacted by other sellers' activity?

Yes, I think that's a great question, and I'll answer it a couple different ways. First of all, when we started to pull back, the first thing we did from pulling back on promotion was reducing what we called hyper-promotional activity. And just to remind everybody, if you went back 3 years ago, at that point, we were advertising online 70% to 80% off, and advertising up to 50% off of our regular price product. So we were at discount levels that were completely non-sustainable and we were able to eliminate those. The issue is that we've got through that and we eliminated that, and we still had a very large proportion of our business that was in the clearance category. So they moved from buying at a hyper-promotional discount to just moving to a clearance discount. And what we did not do adequately enough was make sure that the balance between our regular priced offering and our clearance offering was right. The fact, as I said earlier, that you go on to our website and you have 1/3 of the assortment that's a full-price and 2/3 that's off price is just the wrong balance, going forward. We're not saying that we will not have promotion in the business, and that we will not continue to do targeted pricing and promotion to keep the customer engaged because we do believe that in this market that there's still a need for some promotional activity. But it's just moving the amount of our business that's done at clearance, which is basically the 50% off category is what we need to get back in line, and that's really where our focus is. I do believe that the retail market is challenging. We know that the accessory market is really the most challenging. So we are expecting, and that's probably the reason we're taking the actions that we're taking that, that probably continues in the near term. So that's why we felt it was more prudent to take costs out of the business, get the clearance out of the business right now, while the market is still in the degree of challenge. And then as we get on the back side, we'll be a lot healthier. The other area that we do continue to respond to the consumer from a pricing standpoint is our factory channel. So our factory channel is a healthy channel for us, continues to contribute. We believe it's important to give the consumer an opportunity to find Vera Bradley products at a great price, but we believe that the appropriate place for that to happen is in the factory channel, and the inappropriate place for that to happen is on verabradley.com. So we're going to take a much more aggressive approach to getting that right. And that's why you're seeing us continue with modest growth in factory, while taking a very aggressive approach, reducing clearance out of verabradley.com.

And we will take our next question from Dana Telsey with Telsey Advisory Group.

As you think about the sweet spot of the pricing paradigm that you mentioned, as you think about the adjustment to lower prices, what impact on margins do you see from that? And how do you balance off volume versus pricing and margin? And then on the indirect business, what do you see on ordering trends there? And how is there -- what's different about their desire for goods or different types of goods that they may be ordering that you have that is selling through on the website and also in your stores?

Thanks, Dana. First of all, on the whole pricing reset and the volume mix, we're still, as we said, in the middle of finishing the Vision 20/20 work and really working through the pricing models, elasticity models. So we don't have all of that work completely done yet. But that's the work that we'll be finishing up over the next few weeks, and we'll begin to test a lot of that. We do know that there might be slight pressure on that side, but we feel there's a lot of gives and takes in the gross margin numbers. So if you think about the gives and takes, reducing the clearance volume will be positive to the gross margin number. Resetting some of the pricing could be a negative to the margin number, as well as the overhead deleverage can be negative. And then on the flip side, the other positive is continuing to work on our cost of goods, and the team has done a lot, particularly looking at country of origin and reducing costs through that side of the business, so a lot of pushes and takes. But what we really think is that the pricing in terms of what we're finding with our consumer is that we just need to stay very, very focused on the sweet spot, stay very, very focused on using our pricing with kind of a laser focus. We're seeing big differences between elasticity in different business classifications and different channels of distribution. So we're going to take a much more sophisticated pricing approach. If you talk about the wholesale and the sell in, what we do know from our wholesale partners and we've heard from our wholesale partners over the year, the #1 thing that's been suppressing their orders has been the amount of clearance activity on verabradley.com. And they found it to be very, very challenging for them to compete with our pricing promotions on our website. And so we're hopeful that as we begin to work through this that, that will be a positive for our wholesale partners. In terms of what's selling best through our wholesale channels, continues to be 2 things. It's our kind of our top 20 items. There's a lot of focus on our top items becoming stronger and stronger through our wholesale channel, as well as our focus on the new iconic products has also been doing well on our wholesale channels.

And we will take our next question from Steve Marotta with CL King & Associates.

As it pertains to the targeted SG&A savings for fiscal '19, is that an absolute number for the fiscal year in its entirety or is it a run rate targeted at by the end of the year?

So that would not be an absolute. So the $30 million is really a savings over the 3 year -- the period of time for Vision 20/20. But the majority of those savings are going to be realized in FY '19. So you can expect to see -- and your question being do we get a portion of it throughout the year? The answer to that question is I would expect to see a lot of the savings happen at the beginning of FY '19, and see the full realization of the savings, not of the $30 million, but of the savings that we're going to have in FY '19 happen at the beginning of that year.

Okay. So it's essentially a run rate, but that the target would be $30 million below the last fiscal year using it as a benchmark?

So yes. I mean, I think that's a fair way to think about it. But the $30 million really is the number over the 3-year period, but the majority will happen in FY '19.

Okay, okay. If you look at your current SKU base and you talked about a SKU reduction associated with Vision 20/20, what do you think -- what's being targeted for as a percent of the total from a SKU reduction standpoint, is it in the 5% to 10% area? Or is it in the 30% to 40% area?

Yes. In terms of working through the SKU reduction, Steve, we're still finalizing all of that. As we've looked at certain categories of the business and we might be discontinuing a couple categories as we do that. Some of those might be on the more SKU intensive side. But overall, I would say that we're looking at a SKU reduction that's probably more in the 10-plus range as opposed to the 30-plus range.

Helpful. And my last question is, can you comment briefly on your exposure to Hurricane Harvey in both the Houston area, as well as all the affected areas of the storm?

Sure, sure, I'll comment, and Rob can add to it. Right now, we have about 7 stores that are impacted, 2 factory locations and 5 full-line locations that have been impacted in Texas. From a sales perspective, we're analyzing it, but it looks like it's probably about $300,000 to $500,000 worth of impact. We have not been able to assess any damage associated with our stores yet. Once we'll be able to get in and assess, see if there's any store damage or a product damage, but right now we haven't been able to assess that.

And we will take a follow-up question from Oliver Chen with Cowen and Company.

We just had a brief question related to product and the Chief Creative Officer. She comes from a really powerful DNA of a lot of great luxury goods companies. Just curious about the direction and the priorities about where she'll look to evolve the brand. And since cotton's such a big part of your product with the cotton reinvention, just thoughts there on the next hurdles for cotton and what you want to do?

Thank you, Oliver. Yes, no, we're really excited about Beatrice becoming the Chief Creative Officer. I think there's a lot of reasons why we're excited. I mean, part of it is she does have a very unique background. As you said, she comes from some very high-end brands, and therefore, really has a great design sensibility and understanding of detail. And that's one of the things that's truly impressed me about her over the last 1.5 years as we've worked together. At the same time, she's also been in more affordable prices of the business with the Vince Camutos of the world and the Fossils of the world. So she's not stuck in high design. She also understands affordability. And she has a great understanding of who our customer is, who the Vera Bradley customer is, how to appeal to her, how to bring our brand to life in a way that's fresh and modern, but very approachable, comfortable and fun, and that's a very fine line, and I think she has a really good understanding of that. As we talk about cotton, as we brought Beatrice in, the first thing we asked her to do was reinvent cotton. She went back in. She looked at silhouettes. She did the micro quilting. The new Hadley collection that came out, the new Iconic Collection that just hit, she was really behind that and did a really nice job in updating the silhouettes, updating the quilting, paying attention to all the details, adding the functionality in. And I think really kind of modernized what cotton could look like, and it's been very encouraging to see the consumer responding to that direction. The next area that she is putting a lot of focus in and is really critical to our turnaround is really improving our ability to put patterns in market. Our pattern delivery over the last 10 years has been inconsistent. And she's really started about 60 days ago a real deep dive into our print DNA language, what makes a strong Vera Bradley print, to make sure that we have a very consistent print language that appeals to our core customer at the same time is modern. So kind of blending that blend between your great heritage, as well as modernizing the prints, and we're really excited about the work that she's putting together and are really expecting as that comes to market over the next year that we'll see our print performance improve. And as we know, prints are so important to us as a company that as our prints get stronger, our performance should get stronger, so that's really what her #1 focus is right now.

And ladies and gentlemen, that concludes today's question-and-answer session. At this time, I'd like to turn the conference back to our speakers for any additional or closing remarks.

Well, thank you for joining us today, and we look forward to speaking to you on our third quarter call on Wednesday, December 6.

And ladies and gentlemen, that does conclude today's conference. Like to thank everyone for their participation. You may now disconnect.