Good day, welcome to the adidas conference call for the first half year 2018 results. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Sebastian Steffen. Please go ahead.
Thanks very much, Bettina, good afternoon, ladies and gentlemen. Also a warm welcome from my side to our second quarter results conference call. Thanks very much for joining us at a little bit different time and from a different location this time. Our presenters today here in London are our CEO, Kasper Rørsted, and our CFO, Harm Ohlmeyer. Before I will hand over to Kasper in a second, I will, as always, quickly run through a couple of housekeeping items. As always, I would like to ask you to limit your questions to two, also as always, please keep in mind that all figures that we will be talking about will be stated on a currency neutral basis and will be discussed for our continued business activities. With that, I would like to hand over to you, Kasper.
Thank you very much, again, also from my side, welcome to our second quarter call of 2018. The agenda is I will take you through the business highlights, Harm will take you through the financial items, I will deliver the outlook, Harm and I will be more than happy to take the questions you might have. Let's go into the second quarter and as always, go through the strength and weaknesses. On the strength side, we saw double-digit growth in North America, in Asia Pacific, in Latin America, and in Russia. We saw a strong growth in our sports performance and double-digit increase in training, running, and football. Football, of course, due to the World Championships in Russia.
We saw a very powerful brand activation on the global stage, not only the World Cup, but also our Run for the Oceans activity, where we activated more than 1 million runners to push running activity and of course, Run for the Oceans, which is a great campaign under our overall initiative for Parley. We saw excellent profitability improvement despite a significant increase in our marketing investment. On the weaknesses side, we saw a flat top line in Western Europe. As we communicated to you in May, we are facing challenges in Western Europe. Going into the year, we did expect some normalization take place, bear in mind that over the past three years, we have grown at a 15% CAGR and added more than EUR 2 billion to our top line in this mature market.
At the same time, we've improved our operational margin by no less than 250 basis points. The normalization year to date has been somewhat more pronounced as we expected into the year. This is also related to the fact that we did not execute as well as in the past on our product storytelling and consumer activation. As a result, we've acted and made changes in Western European management team in order to ensure that execution is being stepped up. We expect the current business trend from the second quarter to be largely unchanged for the second half as we're sticking to our disciplined approach. We did see less of an operation leverage matched by investments into our scalable business, but of course also into our brand.
We saw the momentum in sports normalizing, we saw retail comp trend being mixed, we'll get that into further detail. Major P&L items in the second quarter, revenue increased 10% on a currency neutral basis and 4% in euro terms to EUR 5.3. The number was similar in the first quarter with the nominal growth being 3%. Gross margin up 220 basis points to 52.3% despite ongoing FX headwinds in our gross margin. We saw the operating margin up 120 basis points to 11.3% due to higher gross margin and despite higher marketing investment. We saw net income from continued operations increase 20% to EUR 418 million and basic EPS from continued operations up 20% to EUR 206. Let me just dwell here for a second.
We said on the top line, we increased our top line with 4% in nominal terms, we increased our net income by 20%. That means we are having a five times stronger growth on the bottom line compared to the top, despite strong investment in our marketing activities. When we look upon our strategic growth areas, that is North America, 17% come on a very strong two previous years, Greater China 27%, e-commerce 26%. All elements are growing in the market and gaining market share in these areas. The FIFA World Cup was a showcase in the power of our brand. There is no doubt that the World Cup is the biggest brand event, the single biggest sporting event over a three-week period. We were, from a brand and social media standpoint, the most visible media when you measure that.
We were very active when it came to stadium advertising, which helped us drive the adidas downloads on our adidas app. We used the Creator Is the Answer campaign to push the entire value proposition around our brand. The global jersey sales outsold the number of jerseys we sold in 2014, despite what we would call a somewhat peculiar development of the tournament. The direct financial impact was limited on the bottom line simply because of the way the mix was in jerseys. Overall, we sold more than eight million jerseys during the World Cup. Moving to the adidas brand, we saw double-digit growth in North America, Asia Pacific, Latin America, and Russia. We saw growth of 12%. Sport Performance grows 16% due to double-digit growth in training, in running, and in football. Sport Inspired grows 7%, driven by a significant growth in footwear and apparel.
We saw footwear growth accelerating, resulting in a double-digit growth increase up from a single digit in the first quarter. On the Reebok side, we continue to see robust improvement in the profitability. We improved the profitability by 390 basis points, and right now we operate at 44.9% net margin, the highest net margin that I can recall. Reebok overall top line declined 3%. Client declines came from Western Europe, where we are seeing a similar situation for Reebok as we are doing with adidas, Latin America, and the emerging markets. Operationally, we are making progress on Reebok towards our target of returning Reebok to profitability by 2020.
On the e-com side, we continue to see excellent growth in e-com with a 26% growth, driven by double-digit growth in all regions. The adidas app has now been launched in 13 countries and more than 2.5 million downloads was done by the end of second quarter. We are now in all the Western countries of significance. What yet has to come from very large size is, of course, Latin America and China. We expect China to be ready by the end of the year. We are seeing the apps download being accelerated, particularly during the World Cup with the aggressive and very present advertising in stadium. With this, I would like to stop the overview part and now hand over to Harm, who will take you through the financial highlights.
Thank you, Kasper, and warm welcome out of London this time. Good morning, good afternoon, good evening, wherever you are calling from. Just very quick on the key regions. This time, every region is contributing to the growth. Kasper already talked about the flat Western Europe. I want to go a little deeper on this chart now about Russia and Latin America. Russia, of course, we got a nice uplift given the World Cup has happened in that market. We did a lot of on-site sales around the stadiums, and we definitely had more traffic than we originally had estimated there. We also see the net sales in line of 180 stores that we have closed in 2017 and another 50 stores that we closed in 2018.
At this stage, I think we are getting closer that we have found the bottom from a top-line point of view in Russia and can build on that one going forward. Of course, Latin America has also been positively impacted through the two federations that we had on our contract, with Colombia, Mexico, and Argentina. Hence a very good double-digit increase in the second quarter for Latin America. When I go to the details, starting with North America, strong top and bottom line improvements with overall 16%. For the adidas brand, revenues are up 17%, driven by double-digit growth in training, running, and football, and especially there on the sport performance side, very good sell-through and growth with one of our key partners with DICK'S Sporting Goods. Reebok brand revenues grew 6%.
That's something that we always highlight as strategic KPI for us, that we're back to growth in North America with Reebok, despite also their significant number of store closures in 2017 and only a small number of closures in 2018. Again, back to growth with 6% in North America. Gross margin decrease of 60 basis points to 40.8. There was better pricing mix offset by less favorable channel and category mix. Still there, I mentioned it in the first quarter, we are still impacted slightly by some clearance activities given the hangover of our warehouse constraints in 2017. That gross margin you should see improving Q3 and Q4 then as well going forward. Overall, given the cost leverage, our operating margin increases 3.8 points to 16.7 now. The leverage of the operating expense is more than compensated for the decrease in the margin.
We go to Asia Pacific. Again, strong double-digit growth, driven by Greater China. We mentioned the 27% growth in Greater China already. Overall, adidas brand sales increasing by 19%, double-digit growth in training, running, football, and Sport Inspired. The Reebok brand revenue is up 7%, double-digit growth in training in that region. Gross margin up 30 basis points to 57.5. Again, better pricing, channel and category mix compensates for some FX headwind in that region. Operating margin up one percentage point to 34.2, again, due to a higher gross margin and some operating leverage despite the fact that we are investing into that market to build one region in Asia. When it comes to Western Europe, Kasper mentioned already the flat development in Q2. That is given our expectation that we also announced after Q1.
adidas brand revenues are still up 1%, driven by significant growth in football on the back of the World Cup activities. I also want to mention the comps to last year, where the adidas brand grew 18%. The Reebok brand sales decreased 10%, again, reflecting a tougher prior year comp with 33% Q2 growth in 2017. Of course, we talked about the future marketplace initiatives that we not just did in Europe, but we started in Europe where we prepared for quality growth and are more selective in our distribution. It is, of course, to some degree, impacting the top line, but also shows the gross margin improvements of 330 basis points because this is really where we started with the quality growth initiatives, and that is paramount to the top-line growth.
No question, we are not happy where we are, and that's what Kasper mentioned. We have acted on Western Europe pretty much immediately. Now, coming to the financial result overview, I want to chew on this a little longer and have an additional chart on the operating expense on the next slide. I want to go back again what Kasper said. We delivered another quarter after Q1 according to our guidance. It is on the 10% top line currency neutral, and we have a factor of five when it comes to the net income of 20%. For the first half, 19% up in net income. This is slightly above our full-year guidance of 13%-17%. Again, when you talk about the gross margin, definitely up with 220 basis points. I have to admit it's a bit better than we originally had planned for.
We had good jersey and ball sales in the second quarter, overall driven by the World Cup. It had some impact. I talked about the future marketplace initiative that is definitely contributing to the quality of the margin. We are really happy with the progress that we have made on the margin. We will definitely get some questions later on on the margin development. I want to state that very clearly already here. There are different comps in the second half versus the second half 2017, where we had more than 100 basis points higher margin compared to the first half in 2017. There will be some unhedged portions of our currencies, especially Latin America, Chinese RMB, and there will be some other impacts to the margin in the second half that I want to explain later on.
This is really where we're guiding our margins, I also want to remain positive on the margin that there's opportunity when we look at the full year. I also want to highlight when we come to the cost, the other operating income is up to EUR 70 million compared to EUR 24 million in the previous period. Other operating expenses are up by 9%. I want to give you some more details on the next page when we talk about the bridge of the operating expenses to give you some more transparency. Overall, despite investment into the brand, the operating profit is up by 17% to EUR 592 million, with an operating margin of 11.3% for the second quarter, up again 120 basis points. All of this resulting into net income from continuing operations to EUR 418 million and 20% up over prior year.
We go to the operating margin expansion, somewhat more decomposed. On the first end, the really significant increase of the gross margin has to some degree been used to continue to invest into the brand with 120 basis points. If you look at the marketing working budget, the major driver of that cost increase in Q2 was our accelerated marketing spend. We leveraged the World Cup while continuing to invest over proportionally into our brands and the sell-through of our products. As a result, our marketing investment increased by close to EUR 100 million in the second quarter to 120 basis points, as you see in the chart. You always should see the investment into the brand and the gross margin on our quality growth, both in consideration to drive quality growth for our brand and ensure a sustainable top-line development, not just in 2018.
On the operating overhead, I put a little box around the operating overhead expenses and other operating income. On the operating overhead, first and foremost, we continued our investment efforts into our scalable business model and hence recorded a somewhat more pronounced increase in operating overhead expenses. Some examples, there have been some startup costs for our global business services. That is definitely scaling significantly in 2018. We prepared for that in 2017. We are in full action in 2018. We keep investing into IT-related expenses to drive our digital transformation, but also building one Asia, where we continue to roll out our ERP systems to drive one standard around the world, which we are going to finish early 2019 to be on really one standard as a company.
We also further transformed our operating model in Latin America by further reducing our fixed costs, primarily related to local production capacities. We remain proactive to look at our retail fleet from a closure point of view and from an impairment point of view already in Q2. These are some of the one-offs that you're seeing in the operating overheads. While some intra-year fluctuations can occur, we will deliver on our commitment to generate operating overhead leverage for the full year. We're just not going to focus every quarter exactly on what we said, but we are sticking to our guidance for the full year to generate leverage. On the other operating income, it's up to some release of prior year operational provisions and litigation gains. To be clear, we had not declared any of these provisions when building them in 2017.
This is mainly profits organically generated in the past that are now showing up based on our conservative accounting approach in 2017. As a summary, as you can see from the chart, the net of operating overhead expenses and other operating income actually only added 20 basis points to our operating margin. Hence, what you can see in absolute terms, the additional investment reflects on our operating overhead increase exceeds the gains that led to the other operating income hike. When it comes to the average operating working capital, I'm pretty happy where we developed there with the 20.1%. I always said, I ideally want to see in 2018, later in 2019, that we get to the below 20% line. We are getting very close to it with 20.1%, and one of the main reason for that is our disciplined action on the inventory.
We are acting on the sell-through that we are seeing. We are adjusting our buys accordingly and stay very disciplined in our pull model across most of the markets, that is leading to efficiency in the operating working capital. Given the strength in the operating working capital and discipline inventories, you also see the net cash position developing positively from last year Q2 2017, from a minus EUR 735 to now a positive EUR 89 million, including the share buyback. That is also what I said we wanted to generate the cash to then act on what we do as a return for the shareholders, and that what you see on the next page. We are executing on what we said in March, that we are going up to EUR 3 billion with the share buyback towards 2021.
The timeframe is May 2021, we also said up to EUR 1 billion already in 2018. You can see there's 2.8 million shares being bought back since March 22nd until the end of June in the amount of EUR 544 million. We are well underway, we are always in the market to continue that program in 2018 and beyond. That leads me to the retrospective accounting treatment of the Reebok trademark in 2016. You saw it in the press release this morning, and you will see a clear announcement in the afternoon in the
Thank you very much, Harm. I will now go through the outlook and also speak about some of the newly starting product launches we have. For 2018, we have and plan to have the right balancing between market share growth and margin improvement.
That is really the essence of what we are doing with our company. Drive market share and drive margin in the short, medium, and long term to ensure we expand our position, but also expand our position in a financially meaningful way. We have and will continue to strive for high-quality growth, which I hope you have seen we have done in the first six months with 3% nominal growth and top line and 19% income growth. We have been able to get both. We are seeing a product pipeline to support the planned top line expansions. I will take you through some of the new products we are bringing to market. We have and will continue to over-proportionately invest in brands and products.
The scaling, I'm going to be very clear on this, the scaling we're getting in our margin right now is getting a negative impact from our margin investment budget. We are heavily investing in our brand and will continue to do so to make certain that we're pushing the brand for the long term. We continue to implement a scaled business model, which also has some one-time costs associated with it, and we expect the margin expansion and an over-proportional net income growth. Let me take you through just a couple of the products to give you a highlight of where we are. Starting with the existing product franchises. Our Ultraboost, in the past three years, we built one of the most converted franchise in industry, the Ultraboost. The success continues with this franchise growing close to 50% in the past quarter.
We are a long way from being saturated. We have reactivated the Ultraboost collections this season in July, and the first drop of collaboration with the streetwear label, A Kind of Guise, has sold out instantly. You're going to see more of these special edition collaborative Ultraboost releases in the remainder of the year. This leads up to the launch of the next generation of the Ultraboost in early 2019, and this will be the next leg of growth for the Ultraboost franchise and drive it towards the EUR 1 billion mark.
When it comes to football, we're going to build on the excitement we created around the World Cup. Just days after the final in Moscow, we have collectively launched the latest iterations of our four big football franchises, X, Predator, Nemeziz, and Copa. This comes right in time when the kids are shopping for back to school and cannot wait to get back on the pitch in a new pair of football boots. Those iterations will be worn by some of the game's biggest players, Gabriel Jesus, Paul Pogba, Messi, Dele Alli, for the kickoff of the 2018 and 2019 season. All of them, of course, available in stadium, cage, and street versions in order to maximize our commercial impact as well as range synergies.
When it comes to Superstar and Stan Smith, speaking of successful franchises, let me give you an update on the two, because I know you care, and there seems to be some misconception. Let me be clear. We have proactively managed those two franchises down after they surpassed their peaks in this current cycle. In fact, Stan Smith and Superstar have been managed down for the past 18 months now, which did not get in the way of our continued top-line growth, as you know from the numbers we have reported to you year to date and also for 2017. Today, Stan and Superstar each only account for a low single-digit percentage of our total sales. Volumes out in the market are very healthy. If anything, there is more demand than what we want to supply right now.
As such, Stan and Superstar continue to be leading examples of disciplined life cycle management. You can expect us to handle other maturing franchises similar prudent. When it comes to launching new products, the P.O.D. System within sport-inspired, we are consistently delivering newness. In the past few months through Deerupt, Arkyn, Atric, Kamanda, Sobakov, among others. P.O.D. System is without doubt going to be the most visible sport-inspired franchise in the second half of 2018. What is unique about the P.O.D. System is its inclusion of two different types of foam on a sole, Boost at the heel and EVA cushion on the forefoot. Storytelling and activation is also much bolder and more focused than was the case in the past. We involve consumers around the globe, both physically and digitally.
Together with them, we bring P.O.D. System to life, be it through interactive creative workshops in our key city, London, or communal creative space in Brooklyn. Solar. Meanwhile, in sports performance, we have completely relaunched our technical running offering and created a holistic franchise for our running consumer, Solar. Solarboost, which has successfully launched in May, is leading the direction for Solar and is going to be complemented by several modular additions, namely Solar Glide and Solar Drive. This way, we're covering all the relevant price points between EUR 120-EUR 160. The franchise is gaining weight quickly and will contribute a material triple-digit million euro amount to our revenue already in one year. Solar features a ton of innovation, leading to a superior comfort fit and support in lightweight form. I want to highlight one benefit that we offer to the consumer, the transparent franchise setup.
It will ensure a consumer-friendly segmentation. Consumers will be able to identify the best fit product within the Solar across the different price points rather than being overwhelmed by an overabundance of different models. At the same time, the holistic franchise setup of Solar enable us to realize range efficiencies. Scaling and innovation. Our Futurecraft 4D we are incredibly proud of. Our collaboration with Carbon has enabled us to be the first brand to create 4D-printed shoes for our consumers and to commercialize it. We will bring this innovation to many more consumers in the second half as we increase volume at retail by tenfold. 4D will scale, and in the future, will be featured in our pinnacle products across several categories. Parley. We're just as proud of our collaboration in this area. Parley is our way of proving that you can do good and do business.
As we communicate to you before, we are on track to deliver 5 million pairs of Parley shoes this year, up from 1 million a year ago. Each pair of Parley shoes prevent approximately 11 plastic bottles from entering the world oceans. We haven't even started talking about apparel. We're also going to have millions of pieces featuring Parley this year. Taking sustainability to the product label and scaling it makes a real difference also for our P&L. We're also leveraging the industry largest and deepest archive to seize commercial opportunities. The first-ever re-release of the Continental 80, a classic trainer from our archives in the late 1980s, is a runaway success. Harm and I sitting here in London was walking down to the nearby store, and we couldn't get it.
It's a great thing to see that we continue to launch successful products, I can only encourage you to look upon the Continental 80. Yung-1 and Falcon, as well as Reebok Atric, old bulky silhouettes celebrating looks of the '90s, are also strong performers in terms of sell-through. Those silhouettes are significant commercial relevance already and definitely have the potential to soon become as big as some of our well-established franchises. We have been all but surprised by the emergence of these themes, and we are all but done with playing with them in a commercial, meaningful way. I've earlier explained how we score at global sporting events at the example of the World Cup. Of course, there's life after World Cup. Football clubs return to the stage, and we have some of the biggest global symbols with Juventus, with Bayern, with Real Madrid, and Man United.
We'll continue to leverage those assets globally and seize commercial opportunity as they arise. We've got too many great sports assets, both in teams and individuals, to mention at this place, but I want to call out Angelique Kerber. Her victory in Wimbledon was huge, and it raised even more awareness for rule-breaking collaboration with streetwear brand Palace on the biggest stage in tennis. On World Ocean Day on June 8th, we entered our second Run for the Oceans, a month-long campaign to raise worldwide awareness for the oceans and fight marine plastic pollution. Driven by our adidas runners community, we saw close to 1 million runners getting involved, supported by more than 200 events in 60 countries across the world. In total, participants, including more than 12,000 adidas employees, collected over 12 million kilometers through the Runtastic app.
This increased not only the awareness for one of the most pressing challenges of our time, at the same time, acted as an incredible platform for us as a brand and allowed us to connect with consumers around the world. Another example of doing good and doing business. Last, but certainly not least, I want to talk about our partnership with Kanye West. It's been 3 years now since we started the most significant collaboration ever created between a non-athlete and athlete brand. Together, we have created global brand power in an unprecedented way, with many of the products having developed in the most sought-after and fast-selling footwear models in the history of our industry. We are excited to build on this partnership and continue to explore new territories. Kanye has repeatedly stated his aspiration to democratize the Yeezy brand.
We share his aspiration, we're working hard to bring this vision to life. Watch out for more. This brings me to the outlook for 2018, this remains reconfirmed. Our net sales will continue to increase by around 10%, gross margin up 30 basis points, operating profit up between 9% and 13%, the operating margin should land between 10.3% and 10.5%, and the net income of continued operations should grow between 13% and 17%. I also want to repeat what we have said on several meetings with many of you through the second quarter. In our outlook, we believe there are more challenges on the top line than on the bottom line, we expect to deliver upon the promise we set here and ensure that we build the foundation also to deliver upon our promise towards 2020.
In summary, first half of 2018 is running according to plan. Secondly, we're seeing progress across strategic growth areas. We're acting upon the situation in Europe, we want to make certain that we build a sustainable solution and not have a one-time blip, that's why we're taking the time it takes to make certain that we will get Europe back into the state where it needs to get to. We're accelerating our margin activities to support brand and product. We're seeing strong profitability improvements despite investment in brand and business, we're focused on executing the second half of creating the new. For this, I'd like to thank you for your attention so far, Harm and I look forward to take your questions over the next 50 minutes.
Thank you. Ladies and gentlemen, if you would like to ask a question at this time, please press the star or asterisk key, followed by the digit 1 on your telephone keypad. Please ensure that the mute function on your telephone is switched off to allow your signal to reach our equipment. If you find that your question has already been answered, you may remove yourself from the queue by pressing star two. Again, please press star one to ask a question. Our first question today comes from Antoine Belge of HSBC. Please go ahead.
Yes, hi, good afternoon. Antoine Belge from HSBC. Two questions. First of all, you just mentioned that the top line remained a bit challenging. Compared to last time we spoke, in May, would you say that it's a bit less challenging that now that you've got the Q2 quarter behind you and maybe some kind of visibility on the back-to-school season? Also that the gross margin outlook looks really conservative. I understand the unhedged currencies, but you're doing 30 basis points when you've done already 118 in the first half, seems quite conservative. The second question is about Western Europe. I think you mentioned some management changes. I wanted to make sure I understood that correctly. Also, what's the plan for the second half of 2019?
Wouldn't you agree that maybe you underinvested in Western Europe and maybe because you were focusing, not overly, but concentrating on the U.S. and on China, and it seems that Nike has been growing faster. What's the plan for Western Europe? Thank you.
The outlook for Western Europe, as I said, remains flatish as we've seen. I completely disagree that we're underinvesting in Western Europe. If you look upon our brand spend in Western Europe compared to others, I do not see that being the case. We believe that the challenges we have lies in three areas, product launches, distribution, and probably focus. We have changed our management structure in Western Europe to ensure that we're building a plan to sufficiently address the challenges that we have. I can say very clearly that we're not underinvesting, and if you look upon our actual marketing spend, I believe that compared to the competitor that you just mentioned, we are close to mid double digit and they're high single digits. I just want to be clear that we're speaking on the same facts.
When it comes to guidance, which I assume is what you're speaking about, we believe that the current guidance is the appropriate one. We also, with the backlog situation, we think that the guidance we have is appropriate, and we will have some challenges in the second quarter. That's why we said that we see more challenges at the top line than the bottom line. The second quarter was positively impacted globally, of course, by the World Cup.
Okay. Thank you. Maybe just a follow-up regarding the management changes in Europe. Are they more at the regional level or in certain countries more specifically?
It is at the top of the house, so it's the head of the guy that ran Western Europe and of course, we put a plan in place to look upon all levels to ensure that we'll execute in our Western European organization similar to across the board.
Thank you.
Very quick on the gross margin question. I don't want to forget about this one. Yes, we have tougher comps on the gross margin. This alone may not explain it, but we have some unhedged currencies that are moving, especially Latin America, but also the Chinese RMB, given the growth that we have in China. There are some other smaller effects that we have that I don't want to go into the details. We remain bullish on this one. We definitely had a fantastic start, a little bit better than expected in the first half. We want to stick to the guidance because we also want to be opportunistic on supporting sell-through and want to balance in the gross margin improvements, obviously, top line delivery in 2018 and make sure that the sell-through remains healthy.
Thank you.
Thank you.
Our next question comes from Fred Doyle of UBS. Please go ahead.
Hey, good afternoon. Two questions from me, please. The first is on the footwear momentum you're seeing at the adidas brand. It looks like performance footwear's stepped up by quite a few points quarter-on-quarter. Just be very interested to get a little more detail around why that's accelerated in terms of by which sports, which franchises, which price points. The second would be a broader question on the gross margin. Obviously, you've been seeing some very strong improvements on the price mix. You talked earlier about working harder on the pull model. If we come back to the angle of boosting full price sell-through, if you like, could you just sort of talk to us about where you are on this journey? Are you seeing some of these full price benefits come through earlier than you'd expected?
Just some more color on how that's going would be great. Thank you.
I will take the first question, Harm will take the second. We're seeing the growth in footwear coming primarily from the sports side, from training and running. Of course, one of the key franchise we have is Ultraboost, which I spoke about, which grew almost 50% in the last quarter. You're seeing a significant impact on our very strong Ultraboost franchise. We're also starting to see the first early signs of Solar coming in and starting to make its contribution. It's really Ultraboost and Solar coming in. It's in the area of training and running. We'll continue to reiterate our Ultraboost model, as I said, and we'll launch the next generation of Ultraboost coming into 2019. On the second question, Harm will take that.
Yeah, great. Hi, Fred. I just don't want to comment again on the full price sell-through. I said it now for many quarters that it's difficult to get a solid number through all our wholesale accounts. We have it for D2C, but I really don't want to comment on the full price sell-through % anymore. Rest assured, whatever the full price sell-through is, key for us is that on the one hand, we remain disciplined in our pull model, that we don't sell in more than the sell-through is. This delivers better pricing if we continue with the full price sell-through. Secondly, what I mentioned earlier, what contributed to our gross margin improvements as well.
Our future marketplace initiative, where we are very clear with whom we want to grow and with whom we want to grow in a healthy way, and that we actually stepped away with the one or the other account or distribution center that we didn't consider to be healthy.
Great. Thank you.
John Guy of MainFirst can take the next question.
Yes. Good afternoon, Kasper and Harm. A couple of questions from me, please. The first, really following on gross margin. Appreciate the unhedged positions you have in LatAm regions, ruble, et cetera, and the tougher comp. If we're starting to see a more positive contribution coming through from Reebok, we're seeing a double-digit performance in direct-to-consumer. The fact that you lock in your procurement 12 months in advance, and you talked about positive effects, given where the euro has moved, on the way that you basically deal with that. It seems that up to 30 basis points guidance is still reasonably conservative, and I appreciate that labor and raw materials remain headwinds. Can you maybe just sort of flesh out why you're sticking to the up to 30 basis points? It does seem overly conservative.
My second question is around Reebok, clearly we've seen a very strong gross margin performance here. I think a lot of investors in the past have basically viewed Reebok as a free option. Kasper, you've now highlighted more of a timeframe around Reebok's turnaround to 2020. If we effectively get Reebok closer to group gross margin averages, would that lead up to at least a 60, if not closer to 100 basis points EBIT margin uplift at the group level? That's my second question. My final question around cash flow, very strong performance in your working capital, going to a net cash position even after looking at the balance of having continued with the share buyback, et cetera, is the EUR 3 billion that we have running through until 2021 still reasonably conservative given the kind of cash generation that we're seeing?
Would that leave further room for future buybacks after the EUR 3 billion tranche that we have over the course of the next few years? Thanks very much.
Let me just start with the gross margin. Take it in a bigger context. If you look at our annual report, we guide in 15 parameters. There's no doubt that sometimes there's a slight upside in one, and sometimes there's a slight downside in one. What we're trying to prevent is sitting and giving re-guidance in 15 parameters every quarter because it's actually a misleading indicator. I think the most important part, and we've hopefully been very clear on it, we're trying to drive market share expansion and margin expansion. The key KPI we have is net income, which is between 13%-17%. We're right now at 19%. That's why we try to guide you and say we look upon, there's probably more risk to the top line than there is to bottom line.
That means that there's somewhere else in the model that we will have some relief. I think as Harm said very wisely is when we see relief, we also take the opportunity and make investments that is good for the brand in the long term. I'm just saying, we are, of course, looking upon this strategically and where we're going to take the company, but we're also looking upon it tactically, and if there's opportunities that are good for the company, we'll take those opportunities and really address them. The best part was explained today in the operating overhead, where you saw an increase in this. Harm mentioned it, but I just want to re-guide you back to one single number. Look upon the headcount development. There's no headcount increase in our development.
What you rest assured is that we are building a company for the future, and that's why we don't want to go in and have 15 iterations of guide and revisions quarter by quarter. That was number one. On the Reebok side, of course, there is margin upside when we get there, but what I do want to say is, I think it's English that said you shouldn't sell the bear before you shot the bear. We got to make certain that we continue to do the progress with Reebok, both on the profitability side and the growth side. There's no doubt that today it's highly diluted to the margin. In 2020, we're also diluted to the margin, but to a lesser extent so. Over time, of course, Reebok, and even now, is helping on some of the margin expansion.
I believe that the right point will be when we get closer to 2020, we can give an outlook of what are the opportunities in value creation for Reebok.
Just to add to that, John. On the one hand, the gross margin, I can now go to the details of the model that we have internally, of course, when we talk about oil prices going up or the share of the North American growth that we have relative to other markets. As I say, we remain optimistic on this one. If we exceed the guidance that we have, we definitely will invest back into the company in the right way. Just rest assured, we are optimistic with our guidance when it comes to the gross margin. This is where I would leave it for now. When it comes to the working capital, you're absolutely right. I'm very happy where we are with the inventory discipline, that we are staying disciplined with our pull model.
Quite honestly, the share buyback probably has helped also to install the discipline in the company to focus on cash. That's something that I said from the very beginning, that profits are an opinion, but cash are facts, and this is what we are driving throughout the company. It's definitely too early to say what's coming after that share buyback plan because this is the biggest ever we have done. Let's execute diligently the EUR 3 billion until 2021, and then there's life after 2021.
Great. Thank you very much.
Thanks, John.
We will now take a question from Piral Dadhania of RBC Capital Markets. Please go ahead.
Thanks. If I could just start with investments that you referred to in terms of scalability of the business model and reinvesting gross margin gains. Are you able to quantify in EUR million terms how much those investments are in the second quarter? Looking forward, how long you expect those investments to last and when they might sort of complete? Secondly, just a quick question on receivables, which I note is up 15% relative to sales growth up around 10%. Is there any sales booked in the second quarter for wholesale deliveries for back to school in the third quarter? Thank you.
In the first question, Piral, of course, we have some details on what we invest into the scalable business model, whether it's around GBS or rolling out ERP systems in Asia. I'm not going to disclose the details of this every quarter, but as a guidance, look at the additional income that we had on the other operating income and assume the increase that we had there is probably the ballpark of we invested in the second quarter as well. Does it stop in the second quarter? No, we keep investing, but that is significant investment that we had in the second quarter. We'll continue to do that wherever it's required, and that's why I look at it as one bucket, but it doesn't prevent us from keep investing.
I stick to the guidance that there will be leverage for the full year, but I'm not that worried about quarter by quarter. On the second question about the receivables, yes, the receivables are higher than the constitutional growth for the quarter. That, of course, indicate as the aging is very healthy, that there was a good June. There was no extra effort compared to last year, what we had on shipments. There were probably some small initiatives, but I don't want to quantify these because they are not meaningful as we shift a little bit more in the U.S. getting ready for the back-to-school season. Back to school is still a big season for us, and we want to make sure as not all our warehouse constraints have been overcome yet. We have been to some degree, opportunistic to move in June.
Again, it's nothing to be significant or meaningful to be called out. Rest assured, we are preparing an operation to have a good back to school in North America.
Thanks.
Thank you.
We now move to a question from Jürgen Kolb of Kepler Cheuvreux.
Yes, thank you. Two questions in the area of products, mainly. First, you mentioned the Yeezys, and that you are thinking about rolling them out maybe more volume-wise. I was wondering if you could just give us maybe an early teaser here as to when we should expect that to happen. Is that going to be U.S. first in a certain category or whatever? Maybe any additional comment here. A similar question with respect to Parley. You mentioned how big the size and the contribution from Stan Smith and Superstar is. Maybe any indication how big Parley has grown since you initiated it, and it now has become obviously a big franchise for you. Thank you.
I'm very happy you asked the question around Kanye West and East, because we think it's very exciting. I can only say no comments and wait to see, but we think we have a good plan. Sorry for not giving you any more insight to that. On the Parley side, you can see the scale that we're getting now. Not long ago, it was 100,000. Last year was 1 million. This year will be 5 million. We increase this, it will very quickly surpass some of the franchises or the two franchises you know well. Right now, some of the constraint is simply in the supply chain, is not only collecting enough plastic, but also making the plastic from the raw material. The next thing that's happening, or already is happening, we'll be shipping 2 million pieces of apparel. Apparel started out in swimwear.
It's going to come into jackets. If you follow football, Manchester United and Real Madrid launched their jerseys also in Parley. Parley is becoming a meaningful platform for us, and it's one that has a very unique, I would say, signal into the marketplace. We will continue to have a very strong focus on Parley. So far, I believe that we have had constraints, or not have to believe we have constraints in really driving up to scale, but 5 million pairs of shoes, this is a significant franchise at this stage.
Yep. Thank you very much. Mm-hmm.
Our next question today comes from Omar Saad of Evercore. Please go ahead.
Thanks for taking my question. Very nice quarter. Actually wanted to ask a little bit of a follow-up on the conversation on Stan Smith and the Superstar. As you manage these franchises down, did a very nice job. Maybe you could talk about what you learned from that process, trying to transition the consumer, especially the original style-conscious consumer, to a new franchise, new platforms. You mentioned the Parley NMDs. Maybe you could go back and give us your thoughts on what you learned from the entire process as you guys stepped in when it had already become a very big franchise, Stan Smith and Superstar. Thanks.
What we are doing is we're building franchise models and look upon the life cycle of the model and what we expect should be the volumes, and ensuring that we become more, I would say, cautious on selling in. We don't want to sit on inventories. It's very difficult to say that we move a consumer from franchise A to franchise B, because some of the, I would say, Stan Smith and Superstar consumers are probably those that are moving right now to the Continental. That is, quote unquote, a like for like. You have some of those are moving from Stan into an NMD, which is like for unlike, and some of them are simply going somewhere else.
I think the most important part is that we realize and manage those franchises with a very long-term view, know that we have a very high upside over time, and very big downside. The more we get up, the more we get it down, and manage it in that context. Maybe one last point on it. The franchise in itself is at different stages at different places in the world. You might have a declining franchise for a Superstar in America, as an example, and a growing franchise for Superstar in Asia. We've got to look upon it in that context also. It's really a financial model we're looking upon and making certain that we don't get ourselves into dangerous territory.
Well knowing that a Stan Smith and a Superstar will start growing again in the next two to three or four years, and then we're going to have another hike. We want to make sure that we maintain the integrity of the brand.
Thank you. These insights are very helpful. Thank you.
Thanks, Omar.
We will now take a question from Susanna Foers of Berenberg. Please go ahead.
Hey, good afternoon. Thank you for taking my questions. I have two questions. One is on the like for like development, which in Q2 was exactly in line with Q1. I could be wrong, but on my estimates, if we basically exclude Russia, which improved significantly versus Q1 due to the World Cup, it looks like the like for likes underlying actually decelerated from +8% in Q1 to +4% in Q2. Also whether you have seen any underlying improvement towards the end of the quarter, just to get an idea where we will be heading in Q3 and Q4. Secondly, also on other operating income. It looks like in Q2, you saw again some small benefits from the one-offs. This time it was the provision.
I was wondering, is there anything else we should also expect in the coming quarters? Any releases of the past provisions? Anything you can anticipate at this stage, just to have an idea of what we can expect. Thank you so much.
Susanna, the first question on the comps, you definitely have a point when you take CIS out of it.
We have not been happy with the comp development, especially in Europe and in emerging markets. We mentioned it in the first slide from Kasper, where we talk about the strengths and the weaknesses. We said the comps and concept stores is a mixed bag. That is a good observation from your side, that's again, why we're acting also in Europe to go to better execution, especially also on the retail side, not just with our key accounts as well. On the other operating income, again, I by no means give any guidance now by quarter, given what we generated in Q2.
Just by normal course of timing, you primarily have effects from a prior year period, namely 2017, in Q1 and Q2, it's definitely less so in Q3 and Q4 because these are mainly accruals or restructuring items that you build in the prior year. Then you get to the actual of that in Q1 and Q2, very rarely in Q3 and Q4. It's definitely easing compared to the first half.
Perfect. Thank you very much.
Thank you.
We now move to a question from Andreas Inderst from Macquarie. Please go ahead.
Yeah. Hello, everyone. I have two questions. The first one, Kasper, you mentioned some brand activation issues, was suboptimal. What do you exactly mean here? What is to change from here? Maybe you can elaborate on your comment. A second question. China was extremely strong, much stronger than we and consensus anticipated. Maybe you can provide us with an update about the current market situation there. If I'm correct, you are now number one in Greater China. What do you see in the second half? How is the inventory position? How is the number of franchisees in terms of stores? Maybe you can give us a quick strategic update here. Thank you.
Let me start with Europe. I think it's important that, one, we're self-critical about what we're doing and try to understand the mistakes we're making. The starting point is that we're running a company at a 10% growth rate, which is very high. I think when you look back sometimes, successful companies become complacent, and I think part of it was complacency in Europe. I don't think that we launched the products in the right channels with the right, I would say, follow- through. That we believe that some of the selling was less than optimal, and sometimes we got the timing wrong. You can argue these are fundamental problems, which is why we also believe that we can fix them.
It came from a point where we need to get overall a combination, a better store selling with the product, and recognize that sometimes the products are not always unique and very good, but you got to have a very good store selling around it. As you can see, that Parley has been a unique example of a fantastic innovation, but it has taken us a while to get the store selling right. It's really, I would call it very fundamental elements that we didn't get right. Getting the right product into the right channel at the right time, getting the right follow- through, getting the right store selling, and just being more diligent, being in the details, and correcting when we make mistakes, and I don't think we did that.
Not only I, we don't think we did that, and that's why we made the management change. When it comes to China, first of all, China will continue to be a tremendous market simply because of the size of the market and the expansion opportunity. The growth we enjoy in the first half has been very strong. We continue to see store expansion, but at a lesser extent right now than we've seen before, simply because the physical stores also, I'm not saying reaching its limit in China because you still have a lot of opportunity in tier 4, 5, and 6 cities. We're now starting to see stronger growth on the digital and e-commerce side. Most of our franchises are selling well, but some of them that we spoke about here in Western Europe and the U.S., we have seen similar challenges in China.
We believe we have an acceptable inventory position in China, and we expect continued strong growth in China. We've not seen any really change in the market momentum. The biggest concern one can have is actually the one that Harm spoke to about the change in the Chinese currency and whether that could have an impact in the expense of the product. We expect, for the foreseeable future, very strong growth in China. The only point I would like to comment on, of course, the bigger we become in China, the harder it's going to be to keep the same relative growth rates because within 2 years, we're almost doubling. In 3 years, we're doubling the size of China. Running at the same relative growth rate means doubling the absolute.
I think that's what you have to take into account that the growth will still be very attractive, but it's a bit like the overall Chinese economy. The 7% growth they are enjoying today probably reflects the 13% they enjoyed 10 years ago, and that eventually will come to us and other partners in the Chinese market. In essence, we continue to remain very positive about the Chinese market. Maybe one last point. We are in very close dialogue with our two largest partners, YY and Belle. I would say we see them on a monthly basis. It's probably globally those that we have from a worldwide standpoint, the closest relationship to. Roland, who runs our global regions in China, I would say every other month. Eric has been there very often. Harm has been there. I was there three times in the third quarter.
I'll be going there again this quarter, next quarter. We have extremely close contact to ensure that of course, we are on trend, and when we're not on trend, that we do course correction as soon as we see that some of the franchises are not doing as they should. Excellent. Thank you.
Thanks, Andreas.
We will now take a question from Erinn Murphy of Piper Jaffray.
Great. Thanks. Good afternoon. I guess my first question is on digital. It was up 26% in the quarter. Could you just unpack how that looked by region? It's been pretty stable year to date. Is this the run rate we should expect into the second half, just in the absence of the new U.S. DCs?
We're not disclosing the actual number by region. We rank double digit by each region. Over time, we're investing heavily, as you know, in the U.S. to build an infrastructure that's appropriate to deliver upon the consumer expectation. Of course, with launches that are coming, depending on how we drive those launches, are they going through wholesale, own retail, or online? It will have a significant impact on our growth rates. We saw just as a reference in a very recent month in America, we launched a hot product, and the growth in our online channel was 100% that month. It's very much up also to us through which channels do we put which products. As I said, we have seen double-digit growth in each of the major regions, and that's the only disclosure we make.
Okay. That's helpful. On the apparel business, it was up mid-teens in the quarter. Can you just break out how that growth looked by pricing versus units? Any update on how your women's apparel business is trending?
We never disclose that, Erinn, by pricing or what the units are by pricing. Just on the women's question, it's pretty much going with the mid-teens that we announced for the overall apparel. It's pretty much on the same trajectory.
Okay. Thank you, guys.
Thank you, Erinn.
We will now take a question from Dan Homan of Citi. Please go ahead.
Good afternoon, guys. Thanks for taking my questions. First of all, just going back to your comments on Western Europe, you commented that the second half would look similar to 2Q. Does that include the gross margin and the strength that we saw in the second quarter in Western Europe? If not, was there any particular one-offs in Western Europe in 2Q that we should be aware of on gross margin? Then the second one, on the provisions, despite the release that you've done in the quarter, I noticed there's still over EUR 1 billion of provisions on your balance sheet, and they've grown year-on-year. Can you just give us an idea of what these consist of and when you might be looking to utilize them? Thank you.
On Europe, we're only guiding on top line. We're not speaking about gross margin guidance on a regional level. I can say the only one-off there was in Europe, and I'm not speaking gross margin right now, I'm just speaking one-off, was of course, the World Cup. On the provisions, I'll hand over to Harm on this. Of course, we're not driving our revenue or our income growth through provisions. We are, of course, when provisions are legally required to be released, we release the provisions. As you can see, we try to make sure that we invest appropriately in the brand, and that's what we're doing. I'll hand over to Harm for more detail on the provisional side.
I don't want to go through the details of this, there are always in the operational business some provisions that we need to provide for on the balance sheet. The biggest change you'll probably have seen is implementation of IFRS 15 that has some impact on the provision line as well. That's all the detail I would disclose here.
Dan, thanks very much. Bettina, we have time for two more questions, please.
Thank you. Our next question today comes from Simon Irwin of Credit Suisse.
Afternoon, everyone. Two questions. On the U.S., can you talk to us a little bit about the commercial channel launch and how material that is and what impact you think that will have on gross margins over time? Secondly, can you just give us your thoughts around tariffs? Obviously there are no particular impacts at the moment, but how much flexibility do you have in your model at the moment if the tariff situation worsens?
Let me start with the latter. We have a similar supply chain pretty much across all competitors in the industry. As you can follow as well as I can, the current, I wouldn't say trade war, but trade differences between the U.S. is predominantly between the U.S. and China at this stage. While we have a substantial manufacturing setup in China, it predominantly serves the Chinese market. It serves to a minor extent the U.S. market, whereas the majority of the U.S. market we service through Vietnam and Indonesia. I would say a trade war that would be relating the sporting goods industry on China will probably might have some irritation in the short term. In the medium term, it will have very little because of the footprint that we have. That's more the way we look upon.
We're actually just much more concerned whether it will have an impact on the overall U.S. economy, and the U.S. consumer will have less money to spend. I think that's the bigger macro risk for all consumer goods companies. I think in our area, this is not one, and we mean this respectfully, this is not one area that we are overly concerned about because first of all, it's outside our remit. Secondly is we have constructed a supply chain where the vast majority of our supplies to the U.S. is coming, w hen it comes to the distribution structure in the U.S., of course, we are expanding that, but we're trying to do it cautiously because we do not want to end up in bad malls or in different price points.
We have initiated a very strong relationship with DICK'S Sporting, which you can see if you go in store. You're seeing Dele Alli
Time-wise, not delayed, but from a time and from implementation, we are seeing a close coming up, hitting different price points than DSD. I think what you should think about in the following way, we're getting to a point where we're building an infrastructure where the infrastructure should not grow parallel to the top line because you will get the scaling. With the new warehouse investments that we are making, with the systems we're putting in place, you come to a point when you supply the very large partners, there is very little personnel expense associated with it. Of course, there's a price element associated with it. America is still diluting from a contribution margin standpoint. That is something that we have to address, and that will be addressed also proactively or possibly also with the distribution at lower channel.
That is not going to work against us in the short, medium term.
Fine. Can I just ask one quick detail question? Is that the sale of the Reebok campus, has that actually gone through and is that into Q and the balance sheet or is that not completed yet?
It has been completed, yes.
The funds are on the balance sheet for this quarter?
Correct.
Thank you.
Our last question today comes from John Kernan of Cowen. Please go ahead.
Hi, thanks for taking my question. Congrats on another strong quarter. Can you talk to the North American margin for? I'm sorry, can you hear me?
Yep, we can hear you.
Okay. Can you just talk to the strength in the North American margin performance? I know there's been some capacity constraint there that's affected the margins the past quarters. Where do you feel like you are in terms of capacity in North America? How should we think about inventory levels as we go into the back half of the year? The top line growth has been well above inventory the past couple of quarters. If this continues, there's obviously going to be pretty significant cash benefits. How should we think about globally inventory finishing year-end? Thank you.
I'll just take the last question. I'm not projecting any inventory for year-end, but just going back to the North American margin. You're absolutely right. The gross margin still impacted some of our warehouse constraints, but we're not significantly impacted by the capacity that we have. Given the growth that we are seeing and that we are planning for 2018, we'll be able to ship the products. What I've said on previous calls, the Service-Level Agreement that we have towards our key accounts and towards the end consumer is still the one piece that worries me. We can ship it, but it takes you 5 to 7 days to get to an end consumer on e-commerce on the West Coast from our warehouse on the East Coast. If you're not fulfilling the SLAs with your key accounts, that on the one hand doesn't make them happier.
On the other hand, it costs us money as well. The overall operating margin expansion that we have is just the sheer level of growth that we are seeing is outgrowing our growth in the infrastructure. Put it that we just can't build it fast enough. As I always said, the progress that we have made on the operating margin is almost too fast given the overall investments that we're doing. Again, for 2020, if I look forward and fast forward, we're definitely on track to deliver our targets towards 2020, and we start in 2020 seeing North America contributing to the company then.
All right. Thank you. Best of luck in the back half of the year.
Thank you.
Thanks, John.
Good. Let me just summarize before we close the call. We've had a first strong half of 2018. We grew 10%. Currency neutral, we grew the bottom line 19%. We made substantial improvement on our operating margin. We have done a substantial expansion on our investment into a scalable business model, integrated better shared services, also most important, into investing into the brand. We are completely committed to our 2020 targets. I want to make certain we reiterate that every time. We're trying to make certain that we build it year by year and also take as much work in front of us that we can to make certain that we build it in a way for the future. We want to be very transparent with you as our shareholders, that's why we're saying the way we are around Europe.
We're trying to disclose the problems that we have. A large company will always have problems. I think the most important part is that we hit our targets while addressing the problems that we have. You can see that despite the problem that we have in Europe, where our initial expectation was a 5% growth in a market that is highly profitable, despite that, we are hitting or doing whatever we can to hit our targets. Hitting our targets in a sustainable way, recognizing that 2019 will come after. You can see the cost consciousness upon which we are operating the company. You're seeing zero increase in people, and that speaks to the scalability of the business model. I want to thank you for the questions today. Thank you for being with us so far on the journey. We believe there's a lot to come.
We also believe there will continuously challenges, I can assure you that the management team, the entire company, Harm and I are very confident that we're going to make this happen, we are very determined to make this happen. I hope you could see that in the second quarter. It was a second quarter, which in all ways, the way it was reported, was a solid one. There were no one-timers . There were no items that was done to try to make it certain it happened because we know the third quarter is coming up now and we're sitting in it. We're very focused on making 2018 good, but even more focused on hitting the target for 2020 to ensure that we're building full confidence with you as investors.
Okay. Thanks very much, Kasper. Thanks very much, Harm. Ladies and gentlemen, this completes our conference call for today. Our next reporting day for our Q3 results will be the 7th of November. We all look forward to speak and see many of you over the next couple of weeks and months. If you have any questions in the meantime, don't hesitate to reach out to Adrian, myself, or any other member of the IR team. With that, I would like to thank you for participating and also thanks, at least to most of you for keeping an eye on the two question asks that I had at the beginning. For some, there's still some improvement potential. With that, have a great day, have a great summer, and bye-bye.
That will conclude today's conference call. Thank you for your participation. You may now disconnect.