Good morning. My name is Michelle, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Roots second quarter earnings conference call for fiscal 2022. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. If you would like to ask a question during this time, simply press star, then the number 1 on your telephone keypad. If you would like to withdraw your question, please press star followed by the number 2. On the call today, we have Meghan Roach, President and Chief Executive Officer, and Leon Wu, Chief Financial Officer of Roots.
Before the conference call begins, the company would like to remind listeners that the call, including the Q&A portion, may include forward-looking statements of our current and future plans, expectations and intentions, results, level of activities, performance, goals or achievements, or any other future events or developments. This information is based on management's reasonable assumption and beliefs in light of information currently available to Roots, and listeners are cautioned not to place undue reliance on such information. Each forward-looking statement is subject to risks and uncertainties that could cause actual results to differ materially from those projected. The company refers listeners to its second quarter Management's Discussion and Analysis and/or its Annual Information Form dated April the sixth, 2022 for a summary of the significant assumptions underlying forward-looking statements and certain risk factors that could affect the company's future performance and ability to deliver on these statements.
Roots undertakes no obligation to update or revise any forward-looking statements made on this call. The second quarter earnings release, the related financial statements, and the management's discussion and analysis are available on SEDAR as well as on the Roots investor relations website at www.investors.roots.com. A supplementary presentation for the Q2 2022 conference call is also available on the Roots investor relations site. Finally, please note that all figures discussed on this conference call are in Canadian dollars unless otherwise stated. Thank you. You may now begin your conference.
Good morning and welcome to our earnings call. Before I go through my prepared comments, I wanna thank the team for another great quarter. Although the macroeconomic environment has been more challenging in recent months, the team's hard work and dedication has enabled the brand to continue tracking well against its long-term growth strategy. Roots maintained its top-line momentum in Q2 2021, with sales increasing 22.9% year-over-year to CAD 47.8 million. Notably, the first and second quarters are generally equally weighted and taken together typically account for less than 30% of our total annual sales. Our strong performance in the second quarter was driven by higher in-store traffic, demonstrating the strength of our brand and the loyalty of our customer base during the ongoing market recovery from COVID-19.
We benefited from the absence of pandemic-related restrictions in Q2 2021 compared to the same period last year. Specifically, Roots stores were fully open this quarter compared to last year when they were open for approximately two-thirds of the quarter due to partial lockdowns in many regions across Canada. Excluding COVID-19 related government subsidies and rent abatements, we generated improvements in net loss, which improved by CAD 2.5 million year-over-year, and Adjusted EBITDA, which increased by CAD 2.5 million compared to Q2 2021. Mona will provide more details about these improvements in her financial overview. These solid financial results reflect our enduring brand affinity and our differentiated product offerings, as well as a focus on operational excellence across the entire organization. I am particularly pleased with our team's efforts to mitigate industry-wide supply chain challenges.
As mentioned in last quarter's conference call, we took a proactive approach to addressing these disruptions by balancing air freight with premium and regular ocean freight. Since the last quarter, we have witnessed incremental improvements in shipping times and freight costs, and the team's efforts have also ensured our inventory levels are more closely aligned with expected sales in the second half of the year, as well as enabled us to secure earlier deliveries of our important fall/winter collections. Accordingly, inventory rose 15% year-over-year to CAD 54.8 million at the end of the second quarter. We are comfortable with this inventory increase as our core collections represent the majority of our product offerings, and we have the flexibility to manage inventory as we advance through the quarter using our pack and hold strategy if necessary.
Turning to our operating highlights in the second quarter, the Beaver Canoe relaunch in celebration of its fortieth anniversary proved to be highly successful. Made with 100% organic cotton, the collection featured a diamond-shaped logo with a beaver and trees and included T-shirts, hoodies, vests, and accessories branded with a Beaver Canoe design. The relaunch celebrates the retro trends we increasingly see in the marketplace, particularly the demand for vintage Roots logos and products. We plan to build on the success of Beaver Canoe in 2023 by expanding the depth of the product offerings. As we look to the second half of the year, we have several exciting collaborations in the pipeline, and we are continuing to make changes in our product offerings that reflect our ongoing commitment to becoming a more sustainable brand.
We know that on average, our material choices are one of the biggest ways we affect the environment. As we begin to measure our impact, moving to more sustainable materials such as organic cotton is an important step forward for us as a brand. In early Q3, we relaunched our popular and iconic Cooper Beaver sweat in a combination of organic cotton and recycled polyester. In addition to this change in materials, in line with our goals of becoming an increasingly inclusive brand, we are also offering more fits and sizes as well as gender-free styles. With the launch of our updated Cooper Beaver collection, which is one of our highest volume product lines, we remain well on track to have most of our apparel made with sustainable materials by the end of the year. Achieving this sustainability objective is integral to our CSR commitments for 2022.
Turning to the second half of the year, which typically accounts for approximately 70% of our annual revenues, we believe Roots has a strong foundation which enables us to address many potential scenarios. Consistent with prior quarters, we will not be providing guidance. However, depending on how the quarter unfolds, we have many strategic tools at our disposal to maintain our competitive position. We are entering our peak period with healthy inventory levels, comprised mainly of timeless items with minimal fashion risk that are seasonally relevant. In addition, we have a robust balance sheet supported by nearly CAD 60 million in unused borrowing capacity. We also plan to continue deploying capital prudently to ensure our financial position remains solid. As I close my prepared remarks, I want to highlight that the growth strategy we have communicated in previous quarters remains unchanged.
We are staying the course on our four growth pillars, which include offering an elevated omnichannel experience, reinforcing the brand position globally with our exceptional products, strengthening our focus on CSR initiatives and operational excellence. However, we are monitoring the changing market environment and proactively preparing for multiple possible scenarios. On that note, I will turn the call over to Leon Wu, our CFO.
Thanks, Meghan, and good morning, everyone. Roots delivered strong sales growth and margin improvement in Q2 2022 despite the external macroeconomic uncertainties. As previously mentioned, we're cautiously entering the second half of 2022 from a position of strength. Our team remains fully committed to executing our long-term strategy and raising the Roots brand to the next level on a global scale. Our solid balance sheet will support our growth plan, while our focus on operational excellence ensures we address challenges with agility and proactiveness. Total sales increased 22.9% to CAD 47.8 million in the second quarter of 2022 from CAD 38.9 million last year. DTC sales were CAD 38.5 million, up 26.6% year over year.
This significant improvement was driven by higher store traffic following the recovery from COVID-19 and the absence of pandemic-related closures and restrictions versus last year. It was encouraging to see this traffic increase was more pronounced in urban centers and tourist areas, which had been hit the hardest as a result of the pandemic. P&O sales amounted to CAD 9.3 million in the second quarter of 2022 compared to CAD 8.5 million last year. This 9.6% improvement is driven by increases across the entire P&O portfolio, the Taiwan business, B2B, licensing, China Tmall, and a favorable foreign exchange effect. Gross margin improved year-over-year, rising 120 basis points to 59.3%.
In DTC, gross margin increased 60 basis points to 64%, driven by continued promotional discipline through reduced markdowns and the favorable impact of foreign exchange rates on U.S. dollar purchases. As you may recall, last year DTC gross margins benefited from pandemic-related government subsidies amounting to 320 basis points. Another one-time impact on margins is 50 basis points of additional airfreight costs incurred to bring in some inventory earlier than last year. Without the impact of these one-time items, gross margin would have shown an improvement of 430 basis points. I'm pleased to see the strength in our DTC gross margins continuously. We also gained leverage in SG&A expenses. We continue to be prudent in managing our SG&A while also ensuring we invest in the right areas for long-term growth.
Excluding the year-over-year impact of government subsidies and temporary rent abatements, expenses rose 12.9% from last year. This percentage increase is approximately half of the growth we saw in DTC sales, which reflects our discipline in managing expenses and our focus on operational efficiency. Higher SG&A essentially reflects higher store labor costs as stores were fully open this year. Additionally, we made some investments in talent and marketing at our head office. Adjusted EBITDA was CAD -0.6 million in the second quarter of 2022, compared to CAD 2.9 million in 2021. It is important to keep in mind that last year's adjusted EBITDA included CAD 6.5 million in pandemic-related government subsidies and rent abatements from landlords. Excluding these items, our adjusted EBITDA improved by CAD 2.7 million year-over-year.
The net loss in the second quarter of 2022 amounted to CAD 3.2 million, or CAD 0.08 per share, versus a loss of CAD 1.2 million or CAD 0.03 per share in last year's second quarter. As with Adjusted EBITDA, government subsidies and rent abatements had a material impact in this year-over-year variation. Excluding these items, the net loss improved by CAD two and a half million compared to a year ago. Turning to our balance sheet highlights. Our inventory position is healthy, standing at CAD 54.8 million at quarter end. This compares to CAD 47.5 million in Q2 of last year. This 15% inventory increase is essentially related to our decision to bring in certain fall and winter collections sooner to mitigate supply chain risks. Additionally, as you may remember, last year we had significant delays in arrival of inventory.
The inventory we also brought in by air freight, which adds to the reported value as these costs are capitalized. Of the CAD 7 million year-over-year inventory increase, approximately CAD 2 million is attributable to air freight. Our objective remains to have product in store on time at the most efficient cost possible. We believe our inventory position is well-balanced as we enter the seasonally strong back half of the year. It reflects the proactive steps taken to tackle supply chain volatility. We're aware of market concerns about certain retailers' high inventory levels, which could lead to markdowns. At Roots, we believe our inventory is less subject to potential markdowns. First, it mostly consists of timeless, limited fashion risk products, with core collections representing approximately two-thirds of our inventory. Second, we also have the option to strategically manage our pack and hold inventory. For these reasons, we're comfortable with our current inventory levels.
We ended the second quarter in a solid financial position with a net debt of CAD 50.2 million, supported by unused borrowing capacity of CAD 59.6 million under our revolving credit facility. Our net leverage ratio was also very sound at 1.1 x at the end of Q2. We view our financial position as a key strategic advantage given the uncertain global economy. It provides us with the flexibility to make appropriate adjustments as conditions change, like we did this quarter with the additional air freight to bring inventory in. Over the short term, we intend to remain prudent with our cash usage, which includes limiting activity on our NCIB program. In summary, looking back at the first half of fiscal 2022, we're pleased with our performance in what is a seasonally soft period for Roots.
Store traffic grew significantly, reflecting our brand's appeal and promotional discipline contributed to improved profitability. As for the third quarter, I draw your attention that we will not take advantage of subsidies or rent abatements, whereas such benefits totaled CAD 3 million last year for the same period. Looking ahead, we have no control over the economy, but we believe we have a clear understanding of who our core customers are. Roots is not a fast fashion brand. We offer comfort and quality to long-standing customers who see value in our products at full price. Roots' sustained efforts over nearly 50 years have built a strong, appealing brand while fostering passion, pride, and resilience throughout the organization. With these words, I sincerely thank our entire team for another solid quarter. This concludes our prepared remarks. With that, operator, please open the line for questions.
Thank you. Ladies and gentlemen, we will now begin the question and answer session. If you would like to ask a question, please press star followed by number 1 on your telephone keypad. If you would like to withdraw your question, please press star followed by number 2. One moment, please, for your first question. Your first question comes from Brian Morrison of TD Securities. Please go ahead.
Good morning, Meghan. Good morning. Good morning, Mona.
Good morning. Good morning.
With respect, I actually got dropped from the call, but just with respect to your outlook going forward, it sounds like you're preparing for many different scenarios. Can you maybe give us a little color on how Q3 to date has unfolded and how the back-to-school season trended for you?
Hi, Brian. Yeah, absolutely. I think as we've mentioned in previous quarters, we don't give guidance on an annual basis or really on the quarter. We have a lot of the quarter still left to go, so we're not providing guidance on back to school. You know, I know I'm sure you know, being in Ontario, that many people came back to school on a staggered basis at the end of last week. As we look at the Q3 overall, we're still kind of looking at a lot of the quarter left to go. I'd say as we look forward, really focusing again on monitoring the changing market environment and preparing really proactively for multiple scenarios. I think we feel good about the fact that we have a really healthy inventory position.
You know, we've got strong brand equity, and we've got a really solid balance sheet going into the second half of the year. Those are the things we're considering as we're looking to how do we develop long-term growth in the business.
When you talk about the strength of your balance sheet, and Mona commented that you're going to limit your NCIB activity, you're still gonna have tremendous free cash flow in the back half of the year. I'm wondering why you're not taking advantage of maybe the valuation discrepancy in the marketplace at this time?
I think, Brian, at this point, we're just being prudent with our cash. It's an uncertain environment out there, as you know, and while we have a solid financial position, there's a little bit of uncertainty in the back half of the year. We're being prudent, and we're just not providing guidance on what we're gonna be doing with our cash. We continue to monitor it. We continue to work on different scenarios and we'll be maximizing the value of the cash that sits on our balance sheet.
What are some of those options, Mona?
From an optionality perspective, obviously, we've talked about it, and you know, most companies have the same options, right? The priorities change and you can kinda change that, but it could be dividends, it could be acquisitions. It's a lot of different things that we're constantly monitoring, but you know, at this point, we're not really providing any guidance.
Okay, maybe one change of gears here. The market of Taiwan, obviously, there's some political activity there. Is the business being impacted by any of this? How do you prepare for any sort of scenarios that unfold there?
Yeah, I think first, yeah, the business is not being impacted. I think, you know, it's difficult for us to really speculate on the political side of the situation. From our operational and structural basis of the business, we have some good protections in place in the contract. You know, things like minimal purchase agreements, and we also have all of our sales in U.S. dollars. From an FX perspective, we have limited exposure there. We feel good about the business as it currently stands, and we're obviously closely monitoring the situation as it evolves.
Thank you.
Your next question comes from Stephen MacLeod of BMO Capital Markets. Please go ahead.
Thank you. Good morning, Meghan. Morning, Mona.
Morning.
Just wanted to follow up on a couple things. In the last call, you had talked about just some of the H2 margin impacts that you expected to see from increased air freight. I'm just wondering if any of those impacts or expectations have changed now that you've made your way through the second quarter.
Hi, Stephen. Good morning. From a margin perspective, we remain disciplined with our promotional activities. We are continuing to focus on full-price selling and, as you know, we have taken a minor price increase in, kind of towards the end of Q2 and in Q3 as well. Some of the organic product that is coming in is coming in at higher prices. From a margin perspective, we continue to ensure that we maintain the high margins that we have. On the air freight side of things, last quarter, we had communicated a range of 150-250 basis points in the back half of the year. We're now expecting to be on the lower end of that. As you know, the supply chain markets are improving. The rates have come down.
The transit times have shortened, so that has actually helped us to try to land on the lower end of that.
Oh, okay. That's great. Would you expect that to be sort of evenly split between Q3 and Q4, or is there still maybe a bit of a higher weight to Q3 on that?
You know what, I can't really provide that level of detail.
Sure
because it's dependent on how that product sells through. You know, from a back half perspective, I think you can weigh slightly towards Q3, but I wouldn't feel comfortable providing that guidance at this point.
Yeah. Okay. No, that's fair. Just curious with the increased traffic that you saw in Q2, and on a year-over-year basis with stores being closed last year, did you see any moderation in your e-commerce channel in Q2?
Yeah. I think the reason-
Yeah.
Oh, sorry. I'll go ahead on that, Mona. I think, you know, on e-commerce, we've kind of been commenting for quite a long time that we expected some moderation, when the pandemic started to ease and people decided to go back to physical stores. I think. We've talked about a little bit in the past the fact that our customers, you know, we have a good set of customers that do online and in-store shopping. We have a set of customers that only shop in stores, and we have a lot of customers who wanna come to our physical store environment to touch and feel the product before they purchase. We do see e-commerce moderating versus pandemic levels, which is expected in line with our, you know, focus in the business. Our business focus has really been around omnichannel.
We're really looking at how does traffic overall across both channels trend, and how are we seeing sales across both channels trend, as we think there really are symbiotic between online and in stores. That's really been our focus as a company, as we think about online and retail and how they play together.
Right. Okay. That's great. Maybe just finally, you know, you talked about the fact that you're approaching your 50th year . Any big merchandising plans that you have in place to celebrate that milestone?
Yeah, we have some exciting collaborations coming down the pipeline. We won't tell them yet as we'll save that excitement for our 50th year. We've got exciting collaborations. You'll definitely see some unique product for the fiftieth as in celebration of some of our key icons. I think also, as I mentioned on the call, one of the big things we've been focused on is the shift towards more sustainable materials in our products. We're gonna continue towards that push. With the Cooper collection being organic this fall, most of our products are now made with sustainable materials, but that's gonna continue to be a push as we go towards our fiftieth also.
We've got about a year left to go until we turn 50, so we'll save some of the surprises for when that actually happens.
Right. Okay. That's great. Well, thank you very much.
Thank you.
Ladies and gentlemen, once again, if you would like to ask a question, please press star one at this time. There are no further questions. I would like to turn the conference back to Meghan Roach for closing remarks.
Thank you. That concludes our second quarter conference call. We look forward to seeing you in December when we report on our third quarter. Have a great day, everyone.
Ladies and gentlemen, this does conclude your conference call for this morning. We would like to thank everyone for participating and ask that you please disconnect your lines.