The Children's Place, Inc. Q3 FY2022 earnings call

• Published the 2021 ESG report with progress on environmental initiatives like reducing greenhouse gas emissions and using sustainable materials.
• Launched PJ Place online on October 12, offering an easy shopping experience for sleepwear and cross-promotion opportunities.
• Digital-first strategy with digital representing 50% of total retail sales, up from previous years, and e-commerce traffic up 6% year-over-year.
• Launched multiple marketing campaigns including a back-to-school campaign with Kevin Hart, holiday collaborations with Mandy Moore and the Kardashians.
• Strong results from Amazon partnership with Q3 Amazon site sales up 118% y-o-y, driven by marketing efforts and celebrity/influencer placements.
• Mobile app driving 75% of digital transactions, with loyalty program showing growth in penetration and customer spend.

Digital represented 50% of The Children's Place's total retail sales in Q3 2022, up from 48% in 2021 and 37% in 2019. Digital traffic was up 6% year-over-year. AUR increased 4% for the quarter versus internal projections of approximately a 2% increase. Store net sales were down 18% versus Q3 2021. Canadian net sales decreased by $7 million or 14% to $46 million versus Q3 2021.

• Revised Q4 net sales outlook: expected $460 million to $470 million, with adjusted operating income预计 to be 2.5% to 3.3% of net sales.
• Full-year 2022 net sales expected in the range of $1.713 billion to $1.723 billion, with adjusted operating income预计 to be 4.7% to 4.8% of net sales.
• Lower expectations due to macroeconomic challenges, continued supply chain cost pressure, and a heightened promotional environment in Q4.

• Supply chain cost pressures continuing into Q4, with elevated freight and distribution center costs impacting margins.
• Macroeconomic environment affecting consumer demand, particularly the core customer demographic facing inflationary pressures.
• Heightened promotional environment in Q4, which may further impact margins as the company works to rightsize inventory.

Q: Would love to get some more color as you see the current environment and the consumer. Is there a difference whether it's online, whether it's urban areas, suburban areas, malls? Whether it's rural? How are you seeing the consumer, how did it differ? And then on supply chain, how do you think about supply chain costs and the progress for you guys going forward into '23?

A: Sure. Well, I think from the -- as far as stores versus online, we are certainly seeing significant traffic challenges in all of our stores. Our outlets are performing slightly better in Q3 than our stores did, and we think that probably has something to do with the inflationary pressure on our consumer and seeking out deals in the outlet centers. As Maegan discussed and I discussed in the prepared remarks, the digital business has held up very well. We had increased traffic. So we're feeling good about where digital is headed. As far as supply chain, we are under significant supply chain cost pressures, and we've been calling these out all year. Again, in Q3, we had 300 basis points, as Josh called out of additional unplanned quote unquote, if you will, “supply chain costs”. And I think in looking at The Children's Place, when you look at what happened to us last year, we had very, very little supply chain pressure. And unlike most, if not all, other retailers in our competitive set, we didn't call out supply chain cost pressure in 2021 because of our inventory position. As if you remember, we were in really good shape with basics going into the back half of 2021 because we had them from the year before when the pandemic hit and kids didn't go back to school. So we weren't scrambling for containers. We weren't scrambling to put our goods on airplanes. And like I said, we were in a strong inventory position. So it is really, really showing up this year in the gross margin, how these costs are really kind of rocking us. And so we don't have the cushion from last year. We don't have a cushion of having spent $50 million on air last year. And so we're really, really seeing those peak costs now. This is the peak year, certainly for the AUC from cotton and for the input costs, and this is the peak year for supply chain costs. The good news is the cotton is moderating and the good news is the supply chain costs are moderating. And it's getting into the back half of '23, we're going to see significant progress on both those 2 fronts. We're going to live with these supply chain costs into Q4, which Josh mentioned. We're looking at another 900 basis points of gross margin pressure in the quarter, pretty much evenly split between merch margin, pressure from the competitive environment and what we anticipate to be a much, much more promotional environment, what we've seen in the last 2 weeks of October. Certainly, in the first 2 weeks of November is a significantly changed consumer and a significantly changed promotional environment. So we are going to focus on moving through our inventory and ending the quarter clean with no pack and hold, and we are going to continue to absorb supply chain costs in the quarter. So that's really how we see it. Like I said, the good news is both of them are abating. And when we get to the back half of '23, I think that we'll be on a much better path towards higher margin and EPS results.

Q: I understand the level of freight inflation. But just as kind of surprised I guess, why were you so surprised by the level of cost? It seems like something you would have had visibility into in August? So just hoping you can provide more detail on what happened in the last 3 months and then why this was such a surprise?

A: Yes, Jim, I think as I called out in my prepared remarks, out of the 900 basis points, there's about 300 basis points that we didn't expect, a vast majority of that is the incremental freight. As Jane mentioned, we continued to navigate through what was still a very volatile supply chain environment, we incurred more freight than we had planned and sold through the merchandise that we received really at a higher level of freight. So from that perspective, that's the biggest piece of that 300 basis point decline. The other piece of that 300 basis point decline, while it's a smaller piece relates to our distribution center, again, still under the realm of supply chain but in late September, we had a significant influx of orders, and we had to move more of our orders to our third-party fulfillment, which we fulfill at a slightly higher cost. So as Jane mentioned, from a freight and supply chain perspective, we think go forward as we provided in Q4, and you saw our guidance, obviously. We have captured the cost that we feel we're going to absorb in the P&L as we continue to sell through the higher freight inventory and again, really get aggressive to end 2023 -- I'm sorry, end 2022 in a rightsized and really clean inventory position.

Q: And I guess -- I mean, do you -- I mean, a lot of companies lock in freight costs, container costs on an annual basis. I guess, how are you approaching that? And are you going to negotiate an annual rate next year? And then when would that happen?

A: Yes. So we're seeing in the market as others are supply chain costs moderating now. Obviously, that doesn't impact our inventory that we're going to sell through in '22 and even to an extent in the first part of 2023, but we are starting to capitalize on the slightly lower container cost which we are seeing out in the market. And as Jane mentioned, really, when we're going to see the significant impact of those moderating supply chain cost is going to be in the back half of 2023.

Q: And then just on Amazon, what do you think the growth rate is going forward? And I guess where are you in terms of maximizing the potential of that opportunity?

A: Yes. I mean I'll let Maegan talk about the potential with Amazon and the opportunity. I think from a numbers point of view, we talked a little bit about picking up a nice chunk of business in Q3. We haven't really given the Amazon revenue metrics. So we're not going to do that today. But from an opportunity point of view, Maegan, if you want to comment on that? Maegan Markee: Yes. I mean I think longer term, we believe there's a significant amount of growth opportunities still sitting in this partnership. There's an incredible amount of white space in the kids business in Amazon. And really until now, there hasn't been a leading brand in the kids category. Our product, the depth and breadth of our assortment is really unmatched in the industry and certainly in the Amazon marketplace. And I think when we look at the incredible return on investment that we're seeing in our marketing investments and the efficiencies that we're gaining, it's signalling significant amount of headroom for our brands. So I think at this point, we don't even really know how high is high, and we're anticipating that this business will continue to grow for all of our brands on the Amazon marketplace.

Q: Can you just talk a little bit more about the promotional environment? How much is it being driven by traffic maybe slowing and the consumer being weaker? And how much is it being amplified by just the unusual levels of inventory at all of your competitors and what they're doing and how much more promotions you have to do to get your inventory back to where you want it to be?

A: Yes. I think, Jay, that we really saw a drop-off in business in the last 2 weeks of October. We had a really nice trend going from the mid-September to mid-October when the colder weather hit and also driven by the marketing campaigns. And then like we said, we saw a pretty precipitous drop off in end of October. And we got more promotional. If you go on our website, you can see we're in a 60 off event, which we haven't been in all year. There is definitely heightened promotions from our competitors that we're aware of. I think at the end of the day, when you look at the last 2 weeks of October and the first 2 weeks of November and what's happened to business, you just -- it's undeniable that for our customer, at least, that dealing with the 40-year record high inflation is definitely eroding our core customer spending power, if you will. Our customer is in a position now where they're going to have to make choices between discretionary spend and essential spend. Food's up, gas is up. You guys know that. They have less savings than they did a year ago, and they have less money to allocate. So she's in a different place than she was last year when she had stimulus, there was pent-up demand, supply chain shortages, none of that is really happening this year. Savings are leaner, and we've really seen her curtail discretionary spend. So our focus in Q4 is to really end clean. We have high AUC goods right now, which you know. And you can see that's showing up quarter after quarter in the supply chain pressure. So our focus is to really to deal with the challenge of the inflation, is to ramp up our promotions to stay competitive, number 1 and stimulate more discretionary spend, if you will, from what is now an extremely price-sensitive consumer. So we see the balance of Q4 being very promotional. We'll know a lot more when we get to next year and we start to see what happens on those real promotional days of Black Friday and Cyber Monday, we anticipate going into December and seeing a low, particularly in the first part of the month and we'll see what happens in Christmas and then particularly post Christmas when the sales are on. But we are not -- hope is not a strategy, and we are not feeling that the customer is going to come roaring back this quarter. So we are going to get those inventories clean. You can see it in our guidance. We're going to move through it. We're going to stay competitive, and we're going to do what we can to, like we said, kind of see if we can get some more discretionary spend out of what is a very strapped consumer at the moment.