As a reminder, this conference is being recorded. It's now my pleasure to introduce your host, Judy Meehan, Vice President of Investor Relations for American Eagle Outfitters. Thank you. Please begin.
Good morning, everyone. Joining me today for our prepared remarks are Jay Schottenstein, Interim Chief Executive Officer, Roger Markfield, Creative Director, and Mary Boland, Chief Financial and Administrative Officer. Also joining us for Q&A today are Simon Nankervis, EVP of Global Commercial Business, Michael Rempell, Chief Operating Officer, Jen Foyle, Global Brand President of Aerie, and Chad Kessler, Global Brand President of the AE brand. Before we begin today's call, I need to remind you that we will make certain forward-looking statements. These statements are based upon information that represents the company's current expectations or beliefs. The results actually realized may differ materially based on risk factors included in our SEC filing. Our comments today will focus on results from continuing operations and include non-GAAP adjustments. Please refer to the tables attached to the press release. We also have posted a financial supplement on our website.
Now, I'll turn the call over to Jay.
Okay, thank you, Judy, and good morning. What a difference a year makes. As I said on this conference call one year ago, we had significant opportunities across many areas of the organization. This included higher-quality merchandise that was more complementary to our lifestyle brand, a more innovative and fun customer experience, and greater team alignment. I am pleased to report that we've made good progress over the past 14 months. The work that began at the outset of 2014 is beginning to deliver results and fueled a stronger second half of the year, with momentum continuing as we enter 2015. Now looking back at 2014, the year in aggregate was challenging. Total sales declined 1%, and EPS of $0.63 was down 15%. Yet it was two very different halves. Our initiatives led to a recovery in the second half of the year following a weak start.
As we expected, the first half was extremely difficult, with financial performance below our targets and historical norms. Merchandise assortments were not where they needed to be. Sales and margins were pressured as a result. I am pleased with how quickly our teams responded to drive improvements to the merchandise assortments and marketing efforts. We cut planned expenses and demonstrated better inventory control. Our business began to stabilize by mid-year, with financial improvements in the third and fourth quarters. A few fourth-quarter highlights. The team executed very well, particularly given the challenges within our sector. Net revenue increased 3%. EPS of $0.36 increased 33%, driven by a significant reduction of markdowns. We successfully reduced promotions and saw sequential progress, with sales turning positive in the post-holiday period. AE saw improvement across the assortment, driven by innovation, quality, and better style.
Aerie had a solid year from start to finish. They delivered greater assortment depth, new product lines, and a marketing campaign that truly resonated with our customers. From a financial standpoint, consolidated inventories were well managed during the period, and expenses were controlled. We end the year in excellent financial condition with $411 million in cash and no debt. We invested $245 million into the business and paid out $97 million in dividends to our shareholders. We look ahead, we are encouraged by the early momentum we are experiencing. We also remain vigilant on our priorities. Roger will review our merchandising strategies in a moment, which are critical to maintaining momentum and achieving a recovery in margins. In 2015, we'll continue to focus on the following: growing our digital business and enhancing our customer experience. This year, we will launch a complete redesign of our digital site.
This will optimize our mobile capabilities and improve the shopping experience. Later in the year, we will open a localized site in the U.K. to be followed by a rollout of other EU countries. Additionally, we will expand online product lines for both AE and Aerie to build upon and complement our best sellers. We will continue to advance omni-channel capabilities. This year, we will add reserve online and work to maximize our existing tools, including buy online, ship from store, and store to door. Our goals are to drive better inventory utilization and customer satisfaction. This year, we will roll out the new point-of-sale system across the U.S. store fleet, enabling mobile checkout, enhanced customer security, and provide a workforce management tool. We continue to improve the profitability of our stores and rationalize the U.S. fleet.
We have flexibility with our portfolio of stores, with nearly 350 AE stores with leases expiring in the next two years. We will continue to expand our global presence, primarily through new licensed stores, combined with select company-owned markets. We'll work on maximizing productivity and profitability on those newer markets. Before I turn it over to Roger, I'd like to thank our entire organization for their hard work and commitment in 2014. I'm extremely proud of the progress we've made, and I'm encouraged by the strength so far this spring. We remain focused on the future potential to deliver profit improvement and returns to our shareholders. I'll turn the call over to Roger.
Thanks, Jay. Good morning, everyone. As Jay said, we've made great progress across the organization. Our vision and priorities entering the year were the right areas of focus. We are beginning to deliver positive sales and improved margins. Our fourth quarter results were fueled by better comparable sales and a successful reduction in markdowns and promotional activity. The period marked a continuation of sequential quarterly sales gains experienced throughout the year, as we drove continuous improvements to our merchandise assortments. We saw sales accelerate in January, due in part to a positive response to the spring transition line. Positive comparable sales have continued into the spring season. I'm extremely pleased by the team's execution, particularly in the light of unprecedented competitive pressures. We're seeing strong sell-through rates and are chasing bestsellers.
Inventories are lighter than we'd like due to delayed receipts from the port, which we expect to be fully resolved in the second quarter. In the fourth quarter, we delivered 400 basis points of merchandise margin expansion. More compelling merchandise, combined with more relevant brand marketing, enabled us to successfully reduce store-wide promotions. We did not anniversary 35 days of these events from last year, driving a much healthier business. We saw solid growth from digital sales across brands. As Jay mentioned, we have exciting new advancements planned across digital and omni, creating greater choices and a better brand experience for our customers. Consolidated sales metrics reflected a healthier business, with increases in the average unit retail price, units per transaction, and transaction value. Our assortments are better quality, more trend-right, and consistent with the DNA of our brands.
During the quarter, greater innovation and attention to detail drove the best performance in our signature categories, including men's and women's knit tops, women's denim, sweaters, and accessories, as well as men's pants. Aerie had an outstanding quarter, completing a breakout year. Comps increased 13% and margins strengthened. While we saw good strength across the business, some of the best categories were intimates, PJs, and soft bottoms. Innovation in accessories such as blanket scarves, all of which were trend-right and played into Aerie's emphasis on gifting. Looking forward, we've just begun to scratch the surface of what we can achieve. Our margins remain below historical levels. We have plenty of opportunity to deliver stronger sales, productivity, and margin gains. Now I want to review our key areas of emphasis as we move into 2015: product, people, process, and presentation.
Starting with product, we will continue to differentiate our merchandise assortments, leveraging our competitive strength and sector-leading denim and bottoms businesses. Driving sales in tops is a very meaningful opportunity. For the first time in a long time, we're seeing positive reads in top categories. This is an early, yet very encouraging sign. The team will continue to ensure we deliver great quality and fashion. In the competitive landscape, we need to up our game by using innovative fabrics, washes, great styling, and product details. Next, people. I was thrilled to announce the promotions of Chad Kessler and Jen Foyle to Global Brand Presidents for AE and Aerie. Chad has been instrumental in leading the improvements within the AE brand assortments, driving better sales and markdown rates. Jen has had a strong and consistent performance, posting positive comps in each quarter of the year and steadily improving profitability.
Under the new structure, the teams are aligned the right way, creating a singular brand and customer experience. Chad and Jen are the right leaders to take us into the future. They're with me here today, and you'll be hearing a lot more from them in the future. Now, process. Early last year, we worked to strengthen our process, including our production calendar and testing capabilities. We are currently testing new fashion items and denim fabrics for the upcoming back-to-school season. From our Don't Ask Why fashion capsules, we have successfully adopted new key items into the mainline business. We built a good chase process to quickly replenish strong sellers and flow more newness to the floor. We continue to present 10 new floor sets a year with updated key items and fresh marketing. Lastly, presentation.
As a lifestyle brand, we must tell a strong story that connects to each new merchandise flow with consistency across digital and stores. We need to ensure an emotional connection to our customers. I think we made good progress in 2014 and expect to get even better in 2015. I look at spring right now and I see the right trends, a strong point of view with well-curated outfits around themes that tie perfectly into our lifestyle, all in a more fun and exciting store environment. To wrap it up, we made great strides in 2014. I'm very optimistic about our future. Our AE brand is extremely well-positioned and operating from a position of strength against its competitive set. Aerie has tremendous runway ahead as a truly different and real intimates brand. I'd like to end by thanking the entire team at AEO.
Everyone came together to end 2014 on a very positive note. We will all continue to work hard to see that momentum carry into the future. Thanks. Now I'll turn the call over to Mary.
Thanks, Roger. Despite the very competitive holiday season, we are extremely pleased with our fourth quarter performance, as sales were above our expectations. We effectively reduced markdowns and controlled expenses. This led to adjusted year-over-year earnings growth of 33%. Looking at the details of the quarter. Total net revenue increased 3% to $1.07 billion from $1.04 billion last year. Consolidated comparable sales were flat. By brand, AE comps were down 1% and Aerie increased 13%. On a consolidated basis, the number of transactions decreased due to decline in traffic. However, the average transaction value increased in the high single digits. This was driven by a mid-single-digit increase in the average unit retail and a low single-digit increase in units per transaction. Additional sales information can be found on page 10 of the presentation.
Total gross profit increased 13% and as a rate to revenue, rose 320 basis points to 35.1%. The margin improvement was driven primarily by reduced markdowns. This was partially offset by 90 basis points of rental leverage, combined with higher delivery costs due to an increase in direct orders, including orders filled through buy online, ship from store. SG&A expense of $227 million increased 5% and deleveraged 50 basis points to 21.2%. The dollar increase was driven by planned investments in marketing and incentive compensation, as well as new international store openings. Through good expense management, including reductions in overhead and other expenses, we were able to significantly mitigate the impact of these investments. Depreciation and amortization increased to $37 million, deleveraging 50 basis points due to omni-channel and IT investments, new factory and international stores, and the new fulfillment center.
Operating income grew 31% to $112 million, and the operating margin expanded 230 basis points to 10.5% as a rate to revenue. EPS of $0.36 increased 33% from adjusted EPS of $0.27 last year. I'd like to spend a few minutes reviewing 2014. The year was a tale of two very different halves. The first half was weak, with comparable sales down 9% and EPS of $0.05, down 82% from the prior year. We were pleased to see that improvements made throughout the year led to better financial results in the second half, when we saw comparable sales decline 2% and EPS of $0.58, an increase of 26% from last year. Getting back to looking at the year in total. Revenue decreased 1% to $3.3 billion. AE brand comps decreased 6% and Aerie comps increased 6%.
Gross profit increased 1% to $1.15 billion, and the gross margin increased 60 basis points to 35.2%, primarily due to lower markdowns, which were offset by 140 basis points of deleverage of rent on negative comparable sales and higher delivery costs. Selling, general, and administrative expense increased 2%, deleveraging 70 basis points as a rate to revenue. The increase resulted primarily from planned strategic investments in advertising and incentive costs, which were partially offset by reductions in corporate overhead and variable expenses. Operating income increased 11% to $207 million, and adjusted EPS of $0.63 decreased 15% from last year. For additional information, please refer to page six. During the period, we took a $0.04 charge related to lease obligations in connection to the exit of the 77kids business in 2012.
The charge was net of proceeds provided by the purchaser and ends the obligations related to the discontinuation of this business. Turning to the balance sheet. Starting with inventory, which can be found on page 11 of the presentation, we ended the quarter with inventory at cost per foot down 5%. We currently expect first quarter ending inventory at cost per foot to be down in the low single digits. We ended the fourth quarter with $411 million in cash and investments, compared to $429 million last year. Capital expenditures totaled $245 million for the year, above earlier expectations, due in part to incremental strategic omni-channel investments, including retail fulfillment in the Hazleton DC, as well as the pilot of our Oracle point-of-sale system. We expect CapEx to be approximately $150 million in 2015.
This includes the chain-wide rollout of the point-of-sale system and supporting technologies, the completion of our new fulfillment center, and new and remodeled store investments. 2014 store openings were focused on new factory stores, Aerie side by side, under-penetrated markets, and international locations. We also prioritized international licensed stores, ending the year with 99 locations across 16 countries. As we look to rationalize the domestic fleet, we closed 70 stores, including 49 AE and 21 Aerie standalone locations. In 2015, we plan 20 to 25 targeted openings and will close another 70 stores. Additional store information can be found on pages 14 through 16. Now, regarding our first quarter outlook. Based on a positive mid-single-digit increase in comparable sales, we expect first quarter EPS of $0.09 to $0.12, which includes about $0.02 per share of negative impact from the port slowdown.
The guidance compares to EPS of $0.02 last year and excludes potential impairment and restructuring charges. Regarding the year, it's important to note that we have meaningful opportunity in the first half of the year as we anniversary a very weak period and low single-digit operating margins. While we see potential in all quarters, certainly the growth in the back half of the year will be a bit more muted due to the recovery we saw in the back half of 2014. For the year overall, we are targeting a further reduction in markdowns fueled by product improvements and better inventory utilization. We continue to drive lower fixed SG&A expense dollars through reduced overhead, including salaries, professional services, and other expenses. Any increase in variable SG&A would relate to strong sales and related incentive costs.
As Jay and Roger said, we'll stay focused on our priorities and look forward to delivering better returns. Thanks. Now we'll take your questions.
Thank you. At this time, we'll be conducting a question and answer session. In the interest of time, we ask that you please limit yourselves to one question. If you'd like to ask a question, please press *1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press *2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Once again, if you'd like to ask a question today, please press *1 at this time. We do ask you to please limit yourselves to one question. Our first question today is coming from Adrienne Tennant from Janney Capital Markets. Please proceed with your question.
Hey, everybody. First, kudos to the entire team. Returning to positive comps and spring looks great at both brands. Secondly, congrats, Chad and Jennifer, on your promotions. Well deserved.
Thank you.
Roger. You were one of the first people, I think, last year to be optimistic about incremental trends in 2015. Can you expand upon the comments you were saying about knit tops? When was the last time we had a strong knit top cycle? Then, secondarily, when do you expect to be fully in stock ahead of spring break with your inventory due to the port delays? Thank you.
Thanks for all your compliments.
You're welcome. You deserve them.
We're happy how good the stores look for everyone. Most important for our customers, which is really our voice. Our top business in the women's side of the business hasn't been good for years. I think that Chad and team have just been terrific with the design organization and getting it right. We hit the trend. We know where the trend is moving, and our concept team has never been working better in alignment with the design organization. We think that this trend for us will continue. We're really delighted.
Great. In stock?
In stock. Well, we think goods are flowing very well right now. Probably take us another three to four weeks to get our inventories to the level that we need them. If you look at it from your perspective, we're turning our inventories at over 10 times a year at this point in time, which is quite fast. The sell-throughs are great.
Thank you. Our next question today is coming from Simeon Siegel from Nomura Securities. Please proceed with your question.
Thanks. Good morning, guys. Congrats on the results.
Thank you.
Can you talk about your longer-term store targets between full price factory, maybe domestic and international? Then just great results on the gross margin. Mary, can you quantify the ongoing markdown improvement opportunity you see longer term? Thanks.
It's Simon. In relation to full price versus factory, we've been fairly clear over the last year. We've got a very strong approach to fleet rationalization. I don't think we have a fixed number in mind, but we definitely have a perspective that we do need to see rationalization of our domestic fleet. We still continue to see improvement in our factory stores. They're still delivering returns above the balance of chain.
We have seen a shift in traffic patterns over the last quarter, in particular in our mainline business, which is positive. In relation to domestic versus international, we've really only started to scratch the surface internationally. We've got 99 stores that are licensed today. We only have a very small owned and operated fleet outside of the U.S. We'll continue to invest in that business as the rates of return continue to provide incentives for investment. Our focus is still on continuing to develop the licensed fleet and that business, as our opportunities to invest and expand in owned and operated markets occur and arise, we'll look to those investments at the same time.
Regarding the markdown improvement, we expect to see a good markdown improvement, certainly in the first half of the year, as we anniversary a bit of a weak first half of the year last year. As I think about how that all flows through to gross margin, we expect to see higher gross margin as the year plays out. We're not providing annual guidance at this point, with the improvement in markdown, certainly in the first half of the year, we'll see an improvement there.
Thank you. Our next question today is coming from Thomas Filandro from Susquehanna Financial Group. Please proceed with your question.
Hi. Thanks. Nice job across the board on the execution as well. Congratulations as well to Chad and Jen.
Thank you.
A question for Jay first. Obviously, you've elevated here, or Chad and Jen have been elevated. That's great news. What's the latest update on the CEO search? Then again, separately for Jay, can you just tell us where you're spending the bulk of your time to drive the strategic changes in the business? I'm gonna slip in one quick one. Roger, you mentioned the Don't Ask Why assortment. Can you help us understand how you're leveraging that assortment? Thank you very much.
All right. First of all, as far as CEO search, the search continues. As soon as we have something to announce, we'll make the announcement. The bulk of my time, this past year, we knew we had a merchandise problem. We knew we had to work through it through the first and second quarter. With Roger and the team, we put a lot of emphasis to make sure we start making the product the way that we'd be very proud of it. I'm very proud of what the team has done, and where they're going. The merchandise I see coming for this coming year, I'm very excited about. Now we see opportunities in certain of our expense areas to get under control, to do a better job at, and there's lots of opportunities there.
The good news is there's a lot to do, which means there's a lot of opportunities. The team is very focused. We have a great team. I feel very good about all the key officers of the company, and they keep me busy. Tom, thanks. I'm gonna let Chad answer the Don't Ask Why question.
All right. Tom, thanks. Just one thing, I'd like to take a moment to thank the whole AE team that I work with. I appreciate people's comments on Jen and my recent promotions, but the turnaround in 2014 that we saw wouldn't have been possible without the team that was already in place when I arrived. Don't Ask Why is a terrific testing lab for us, for the brand. We really have an opportunity through our partnership and partners in Italy and the trend team here to really find new fabrics, new washes, new fits, and get them testing in our most trend-forward stores at a very quick rate. Then, we're able to take those sales and create those styles overseas, in Asia, more cost effectively, and supply them to the entire fleet.
We're finding that as we find bestsellers in Don't Ask Why, we're really able to leverage those to grow the whole tops business, especially. It's, I think, really a key part of how we've turned the tops business around.
Thank you. Our next question today is coming from Randal Konik from Jefferies. Please proceed with your question.
Great. Thanks a lot. Just a couple quick ones. Mary, the guidance on the mid-single-digit comp for the first quarter. You noted in the fourth quarter, average transaction value drove the results. Has traffic turned up in the first quarter thus far? Do you think that is a sustainable inflection point? I guess, second for Roger. You noted some opportunities on the supply chain and improvement in speed. Can you give us some specific examples on what you've been doing there to improve chase? Lastly, as it relates to the commentary around international strategy, great job on keeping it capital light with a licensing model, and you talked about some owned opportunities. How do you think about keeping that capital light versus capital-intensive model long term on the international side?
What international markets of the 16 countries are showing the most promise from a demand standpoint for the brand right now? Thanks a lot.
Real quickly on traffic. Yes, we did see traffic start to improve, especially in January and in February. February's been a little bit challenged with weather, so a little tough to call a trend. Yes, we've seen improvement.
Chase strategy?
Great. On Chase, Randy, this is Michael. Like Chad said, we have a number of ways that we've been able to drive that capability. Don't Ask Why has been one of the key drivers. Like Roger indicated in his prepared remarks, we also really got our testing process back on track. We're out far ahead of where we need to be in terms of looking at washes, fabrics-
Fit, silhouette, and styles. We've been able to leverage that effectively. We're leaving open to buy like we haven't in the past. We have platform fabrics and trends at our vendors. We have capacity available for us, and we built processes and systems to use quick approvals to get goods in as little as 30 to 45 days. It's been very effective for us here in the back half of the year, and we plan to build on it in 2015.
Randy, it's Simon. In relation to the international strategy, at the moment, we have 16 licensed countries and five countries that we own and operate. We opened Thailand and Indonesia in Q4 of last year. We've signed Chile and Peru, which will open shortly. We have a number of other countries under negotiation for licensing. Our focus is definitely to continue on developing the licensed business. In relation to the balance between our own operated and those licensed stores, it goes back to what I was saying earlier. As we see the profitability of those countries and the return on investment in our own markets improve, we'll continue to focus and expand in those markets where it's appropriate.
There is a big focus this year, especially in Western Europe and the U.K., on developing our international digital capabilities, which we would see going global in the next couple of years.
Can you hear me?
Yes, Randy. What?
Just wanted to ask as a follow-up. Of all the international markets, just from a demand standpoint, where are you seeing the most demand for the AE brand right now? I'm just curious. Thanks.
I think it's pretty even across the globe. I think it really depends on the penetration we have in each country, so it's sort of hard to say which one. I can say that generally, we've got equal demand in all markets, and we've seen positive momentum in our sales over the last year as we've become more penetrated.
Thank you. Our next question today is coming from Anna Andreeva from Oppenheimer. Please proceed with your question.
Hi, guys. It's [Janet Lin on for Anna. Congrats on a great quarter. We just had a couple quick questions. First, on the mid-single-digit comp guide, is that what you're currently running? With the big improvement in the women's business, congrats on all the progress there. What are the plans to improve men's?
In terms of the mid-single-digit comp, that's our guidance for Q1, so that's what we expect to run for the quarter.
In terms of the trends of the business, we did see coming out of Q4 that the women's business was a bit stronger with a positive comp and men's trailing slightly. In spring right now, the businesses are running much more closely together, with both looking positive. We're seeing strong momentum in the men's bottoms business and a similar increase in men's tops that we're experiencing in women's. It's looking strong for men's as well.
Thank you. Our next question today is coming from John Morris from BMO Capital Markets. Please proceed with your question.
Thanks. Congrats on the quarter and also to Chad and Jen.
Thanks, John.
Well, question for Chad and Jen. Chad, at dinner in Orlando, we talked about the bottoms category. You guys are such a destination in bottoms. I think the way that you're doing some of the athleisure trends and whatnot. How's denim doing? What's the outlook for denim currently? Have you seen a continued improving trend there? Then Jen, with the Aerie business, key drivers, you guys mentioned them in the remarks. Wondering if you can elaborate a little bit more and talk about the profitability going along with it. Are you seeing a commensurate improvement in merch margins there as well? Thanks.
In terms of bottoms, we are a huge bottoms destination for our customer and denim destination for our customer. We really are focusing on his and her entire bottoms wardrobe and seeing nice gains there in total. In terms of denim, we're actually pretty excited about denim. We had a good fall in women's after launching Denim X, and that momentum continues into spring. Men's, we are seeing a stronger trend in denim. Coming out of holiday with the Destroy capsule we delivered for the trends floor set. We're testing some innovative denim fabrications and fits in men's that we're getting strong reaction to. We feel good about denim overall, both men's and women's, and the total bottoms business entirely. We talk a lot about tops. Bottoms is definitely our foundation, and we feel strong about that.
In Aerie, certainly, yes, the profits followed with the sales and the top-line growth. As you recall, we resized the fleet to leverage the side-by-side opportunity, closing some non-productive stores, as well as driving the direct business and then certainly delivering the product attached to that. That whole combination and the team really delivering really hit the profit line. We're excited with what we saw.
Thank you. Our next question today is coming from Rakesh Patel from Stephens Inc. Please proceed with your question.
Good morning. Great progress, and I'll add my congrats to Chad, Jen, and the team as well. Can you talk a little bit about omni-channel and you've rolled out the capabilities to new stores. Any way to quantify the impact this is having to comps or to conversion? Then as a follow-up, can you provide some color on AUC, perhaps how that changed in the fourth quarter and any way to quantify how we should expect that to change in the first half versus back half of this year?
Great. It's Mike Rempell . I'll take both of those.
On the omni-channel side, the team had a lot of success this year. The ship-from-store program that you mentioned before really exceeded our expectations this year. It allowed us to leverage inventory in the store. The team executed really well. A lot of people can implement technology, but very few companies, I think, could execute across the board, across stores, operations, technology, and planning, the way our teams did. It did have a nice impact on comps. We did approximately $50 million in revenue through that program, which was about double our expectation. That was in really the third and fourth quarter. We're looking forward to having that for the full year. We see plenty of other opportunities. Jay mentioned the reserve-in-store program that we're going to have this year.
We're very confident in our ability to execute that, and we're very excited about the ability for that program to drive really qualified traffic into our store. On the AUC side, we are seeing opportunity for AUC in the back half. To quantify it, we're seeing anywhere between 3%-7% improvement in AUC. What I would tell you is, consistent with our strategies, we plan on taking a portion of that and flowing it directly through a bottom line, and a portion of that and reinvesting into the product, supporting our strategies of better product, better value, and ultimately, a less promotional business.
Thank you. Our next question today is coming from Dana Telsey from Telsey Advisory Group. Please proceed with your question.
Hi, good morning, everyone, and congratulations. Congratulations, Chad and Jen, on the promotions. As you think about both the cadence of promotions being planned going forward, how do you think about the cadence as we go into the spring break season? On the drivers of the mid-single-digit comp guidance for the first quarter, how do you think of the elements underneath that? Thank you.
Thank you, Dana. In terms of the promotional cadence for spring, our strategy is to continue to try to reduce the promotions that we're running in the store. Fewer box off promotions, smaller discounts. Our goal is to try to drive more traffic into the store. We know we can convert once we have the customer in there. Our goal is to try to make our lease signs and our promotional activity more engaging for the customer. We set a new floor set this weekend with a new lease sign, which I think will speak to that somewhat. You can go see it this weekend. The goal is really to try and engage the customer, get them excited about being in the store, excited about the product, and really speak to product first, price second.
We've started to see that being an effective way to drive both sales and profitability and continue to make that our goal.
That's ditto for Aerie. The nice thing about the businesses in both Aerie and AE, we're up against less promotion from last year. We set the course to prepare ourselves for easier hurdles, pulling back from the promotion last year. It's nice to be able to get in front of that and just surprising and delighting our customers.
Yeah. I would say in addition to traffic and conversion, which Chad and Jen just mentioned, we are looking for AUR to be up mid-single digits as well, as we deliver that great and compelling product and are able to reduce the reliance on markdowns like we did in the back half of 2014.
Thank you. Our next question today is coming from Paul Alexander from BB&T. Please proceed with your question.
Hi. Thanks for the question. Jay, you noted that there's no news to talk about yet in the CEO search, can you talk a little bit philosophically about the search? It doesn't seem like there's a ton of urgency to name one right away, and it sounds like you love your current team, obviously. Just what's your thinking about the need for the CEO, and what are you looking for in a CEO to add that you don't currently have? Thank you.
As I said earlier, as soon as we have something, as far as announcing, we'll announce it. From my standpoint, I want to make sure the person we put in is the right person. I want to make sure that we have the right temperament of the person, that whoever we put in this position will bring something to the table, bring something to the plate, and has a certain vision that we buy into. That's what we're looking for, is a person who could bring everyone together and has a vision.
Thank you. Our next question today is coming from Lindsay Drucker Mann from Goldman Sachs. Please proceed with your question.
Thanks. Good morning, everyone. I just wanted to clarify, the $0.02 impact that you're talking about from the port issues in the first quarter, is that a function of higher shipping costs, or is that a function of having less goods to sell in 1Q and more of something that might be weighing on the comp guidance, so maybe we should think about the underlying comp guidance about mid-single digit being higher if you weren't held back on some of these units. Also, did you have any port costs in the fourth quarter number? Then the second thing is just how should we think about tax rate for fiscal 2015? Thanks.
Okay, I would say the $0.02 impact is roughly half and half shipping, half inventory related. In Q4, seriously minimal impact in terms of freight issues in Q4 related to the port strike. The team was able to manage through that, I think, pretty effectively. Then the tax rate for 2015, assume around 40%.
Thank you. Our next question today is coming from Paul Lejuez from Wells Fargo. Please proceed with your question.
Hey, it is actually Jennifer Davis on for Paul. First question, Mary, could you talk a little, I know you haven't given full year guidance, but maybe some thoughts around SG&A. I think you said fixed costs would be flat. I also think on the last call you said that you expected SG&A for the year for 2015 to be flat to down slightly. Just wondering if that's changed at all. Secondly, a clarification on the buy online, ship from store. I know you said it had a nice impact on comps, the $50 million benefit to revenue. Could you talk a little bit about margin there? Other retailers have been talking about lower margin than they originally thought, given the increased shipping costs, et cetera. A little color on that would be helpful. Thanks.
Okay, regarding SG&A for 2015, the team continues to stay focused on expense reduction, and I think doing a really nice job. We do expect our fixed expenses to be flat to decline as we look forward into 2015. The one caveat is obviously variable expenses, so depending on how the year plays out, what ultimate comps we do end up delivering for the year. Those expenses will, of course, be driven by positive sales and performance throughout the year. We do expect, though, to leverage our operating expenses for the year, with our fixed expenses being down, either flat to down slightly, and whatever variable expenses flow through. I think in terms of your question on gross margin for buy online, ship from store, we are seeing good flow through on our gross margin. It's to our expectation, as we had planned it for the year.
Right. I would just add that when you think about that program, and we analyze the profitability, not only does it show a nice profit, albeit there are some incremental delivery costs. What it really allows us to do is leverage our inventory across the company as a whole. We're able to actually drive a higher margin rate through our e-commerce business because we have higher sell-throughs leveraging inventory that we have in the stores.
Thank you. As a reminder, in the interest of time, we ask you, please limit yourselves to one question. Our next question today is coming from Susan Anderson from FBR Capital Markets. Please proceed with your question.
Hi, thanks for taking my question, and congrats on a really good quarter. On the international expansion with now opening owned stores, I don't know if you'd give a little color on what you think the timeline of profitability of these stores will be. With the finalizing of the fulfillment center, is there any benefits that you could talk about for this year through the P&L? Thanks.
In relation to international expansion, Susan, I think it's early days for us with our global footprint of the owned and operated. The way we look at our international business is in totality, including the licensed business with the owned and operated business, and we're actually seeing good flow through from that business today. The strategy we entered the markets with was that we would see that our licensed business would enable us to grow the international business in the owned and operated markets without us needing to significantly invest, and that strategy is playing out at the moment. We've been very happy with what we're seeing.
On the distribution center, I appreciate the question. What you're gonna see this year in terms of cost, we will have some opening costs as we shift retail from our existing fulfillment center into Hazleton. I do expect leverage in the back half of the year, and we should see that in our processing costs. You have to keep in mind that DC, the reason we're so excited about it is because while a lot of people are building e-commerce or converting DCs into e-commerce DCs, this is a DC built to handle both retail and direct in the same distribution center. There's a lot of efficiencies and a lot of leverage, both in inventory and in our associates in the DC, and a lot of flexibility with how we allocate those resources.
Thank you. Our next question today is coming from Janet Kloppenburg from JJK Research. Please proceed with your question.
Morning, everyone. Congratulations to Chad and Janet, and congratulations to Roger on a really great turnaround in a very difficult year.
Thanks, Janet.
Two questions really quickly. Do you guys think that the denim business is turning because of new trend in the business, or is it simply a function of replenishment on bottoms? Just for Mary or anybody, I was wondering what the outlook was in the outlet business. I know that it had been challenging in FY 2014, and I'm wondering if you're seeing improvements there as well. Thanks so much.
Hi, Janet. In terms of denim-
Yeah.
I think we're seeing
What?
Sorry, there's some banging on the-
No worries. It's the background
line. I think we're seeing
A lot of positive things happening in the denim business. First, with the denim business and the bottoms business being our foundation, we really are careful to make sure that we're invested in enough inventory that we can have the sizes available to our customer. I think that that, compared to some competition that might not be taking those positions, I think is important. I think beyond that, I think we're seeing that there's a lot happening in terms of silhouette and fabric innovation, both in men's and women's. We've seen a big shift that we've talked about before in women's when we set the Denim X collection in September, and continuing to expand that this spring with Sateen X that's launched. The fabric innovation in denim is really driving excitement for the customer, and I think becomes a conversion opportunity in stores.
In men's, we're also looking at innovation that, as I mentioned before, we're currently testing and are bullish on for fall. We're also seeing silhouette changes happening. I believe there's a lot of newness happening in denim that we're excited to talk to our customer about, and remain bullish on the category going forward.
Janet, in relation to your question on our factory business. We still remain incredibly positive about our factory business. That fleet is healthy. It generates a full-wall profit in all of the stores. It's a double-digit full-wall profitability. It still performs above the balance of the mainline fleet on a turnover per square foot basis. Have we seen a shifting in the way the consumer's shopping? Yeah, we've seen that in the last year, we still remain committed to the investment, and we're still seeing great returns. We'll continue to expand that footprint, although it'll be at a substantially reduced new store rate as we go through this year and beyond.
Thank you. Our next question today is coming from Richard Jaffe from Stifel. Please proceed with your question.
Thanks very much, guys. Pleased to hear how well Aerie's doing. If you could elaborate a little bit on the success, the side-by-side stores, the shop in shops, and how you see this business growing and how big you think it could be. That is, say, if you take your most successful shop in shop, could you see that in every location? If so, how much larger would the Aerie brand become?
Yeah, sure. Well, first, just thinking on the year, the team put a plan in place and delivered. I'm really proud of the work the team did. We assembled the team not too long ago. That said, we're only just beginning. I think we're really excited about the opportunity. There's certainly white space for this customer that we see. We think that there is certainly opportunity leveraging the box, leveraging AE. They're a big brand, they have a huge customer base, and we speak to the same girl. Certainly by doing so, opening up the side-by-side stores, the shop within shop opportunities, we're seeing nice leverage on the square foot base there. Reducing, obviously, the square foot where we had some bigger standalone stores. Just, again, delivering the product that she wants to see. We launched several product categories this year.
One being that's been a huge success in bras, the Sunnie bra. That bra is winning over so many customers, and we're thrilled, and we're going to leverage that going forward. Undies. Those two categories are just amazing for us, and certainly the roots of the business. I think what we've seen going forward is there's opportunity in other categories. For instance, in holiday, we leveraged PJs and sleep and also the gifting category. Roger mentioned in his opening comments the blanket scarves. That was an incredible gift that really the customer loved to see in holiday. We will continue to offer exciting other categories as well as our fundamental businesses.
Richard, just to provide a little bit of color on the numbers. We doubled our side-by-side fleet last year. We doubled the square footage. We actually reduced the total square footage in Aerie. Our square footage was halved in those side-by-side locations from the freestanding stores. We were able to retain over 80% of the revenue on incremental profitability. We see the strategy being very profitable for the company, and it's something that we're focused on expanding over the next two years.
Kevin, we have time for one more question. Thank you. Our final question today is coming from Oliver Chen from Cowen and Company. Please proceed with your question.
Thanks a lot. Congrats, guys, on really great looking product and all the execution. Regarding the excitement around women's top going forward, how are you feeling about the breadth versus depth of this category, and where do you see it evolving as you look to the enthusiasm you're seeing? I'm just curious about the price point angle too, and how you're feeling about the assortment and how that may move. Then Mary, as we model merch margins, is it a back half opportunity as well in terms of overall context for that line on the income statement? Thanks.
Hi, Oliver. In terms of the women's tops assortment, we have a limited size box. I don't see us really expanding the breadth of the assortment much beyond what we have today. I think where we've fallen down in the past few years in terms of women's tops is not having the trend-right items or not having the right outfitting for the customer to go with the bottoms. Our focus really in growing that business is around building a strong assortment that provides great outfitting, great quality, great value to the customer. Not necessarily a much bigger assortment. Of course, we'll ebb and flow in terms of the categories within tops, in terms of how the trend is going, but the total customer choices in stores will remain relatively constant.
In terms of the AUR, I think part of the challenge we had in the spring last year, in addition to some fashion missteps, I think in terms of tops, was actually trying to compete too much on price. Really, I believe strongly that our customers loves American Eagle for the value we provide, if we can provide great trends, great quality at the right price, where she perceives it as being good value, we'll get a strong return there. We expect, and our strategy includes getting slightly higher AURs, which we're seeing so far.
In terms of merch margin, yes, we definitely see opportunities throughout the year, including the back half of the year. Q4 2014, we had over 400 basis point improvement in merch margin. That will be a little bit difficult to anniversary at that kind of.