As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Judy Meehan, Vice President of Investor Relations. Thank you, Ms. Meehan.
You may now begin.
Good morning, everyone. Joining me today in Pittsburgh are Jim O'Donnell, Chief Executive Officer and Joan Hilson, Executive Vice President and Chief Financial Officer. Roger Markfield, Vice Chairman and Executive Creative Director joins us by phone from our New York Design Center. If you need a copy of our Q3 press release, it is available on our website ae.com. As discussed in our press release, beginning with the new fiscal year, we will discontinue the practice of reporting monthly sales.
Beginning with the Q1 of 2011, we will report sales and earnings together in the quarterly earnings announcement. Today, we will review 3rd quarter adjusted results from continuing operations, which excludes the impact of the ARS liquidation this year and the tax benefit last year. Before we begin today's call, I need to remind everyone that during this conference call, members of management will make certain forward looking statements based upon information, which represent the company's current expectations or beliefs. The results actually realized may differ materially from those expectations or beliefs based on risk factors included in our quarterly and annual reports filed with the SEC. And now, I'd like to turn the call over to Jim.
Thanks, Judy. Good morning and thanks for joining us. The Q3 demonstrated progress towards driving our brand forward, while enhancing overall profitability. We experienced growth in both sales and operating income during the quarter. The increase in our adjusted EPS reflects the positive impact of recent actions to drive higher sales and expand our profit margins.
It's very gratifying to see the AE brand show recovery in important categories and gain momentum with our customers. I'm encouraged we are on the right track and excited about the opportunities ahead. Now, I will take you through some of the initiatives which drove the Q3 profit improvement. I will also address our longer term plans regarding growth. Starting out with merchandise, we delivered high quality, trend right fashion.
In fact, the 3rd quarter customer conversion rate was up over last year. We are winning where our merchandise is elevated, special and differentiated. We will not compete on price alone. A clear example is demonstrated by the strength of AE Denim and Sweaters. These product lines represent the best quality and fashion across several compelling price points.
Overall, we were less reliant on promotional activities to drive business, which is further evidence of our progress. In the Q3, lower markdowns delivered an improved merchandise margin. Our inventory is balanced and on plan. Enhanced tools continue to drive more precise and allocation to stores and contribute to lower markdowns. We've been successful with reducing inventory overall.
Turns are faster, we are flowing goods into the stores more frequently and with improved capabilities in production and design, we're also leaving more open to buy, enabling us to chase strong categories. In fact, we did this for holiday. Now regarding product costs, there are clearly pressures in the marketplace with sharp increases primarily in cotton and to a lesser degree labor. For the second half of twenty ten and spring twenty eleven costs were held flat. However, we expect modest pressure for summer product.
Beyond June, it is still too early to forecast. Importantly, we are doing everything possible to minimize the impact. For example, we are consolidating vendors and fabric purchases and leveraging our volume to negotiate better costs. Additionally, we continue to move production to the Western Hemisphere, which has been advantageous to cost, transportation and increased efficiencies. What we absolutely will not do is lower the quality or fashion content.
During the quarter, we made progress on streamlining and reducing expense. Essentially, we're transforming the business to shed complexities and unnecessary layers in process and structure. We continue to identify opportunities across the organization. A few of the primary initiatives are centered on supply chain, production and non merchandise procurement. We are strengthening our time in action time and action calendar, which we will believe will yield both savings and efficiencies improvements.
Additionally, we are consolidating purchases and reviewing all outside vendor contracts. These opportunities combined with product enhancements put us on a path for further operating margin improvement next year. Our overall financial strength is clearly reflected in our balance sheet. We are committed to putting our financial resources to work to enhance shareholder value. Now a few notes on our future growth opportunities, which include Aerie, AE Direct and international expansion.
1st Aerie, it is a critical growth driver with the potential of reaching 350 to 400 stores versus 147 stores currently open. Beginning this holiday, we are repositioning Aerie into a complete lifestyle brand with a meaningful addition of apparel to complement the business. We expect Aerie stores to be accretive next year. I believe with the team we've assembled and the assortments they're delivering, Aerie can be one of the most exciting new brands in the mall today. Secondly, AEO Direct will leverage website upgrades and exclusive online product as well as brand and international expansion.
We will invest in relevant marketing such as social media outreach and mobile to develop incremental businesses. We will continue to drive profitable direct to consumer business with a goal of achieving sales of $500,000,000 The 3rd growth vehicle, international expansion, where we will cultivate a global appetite for the AE brand. Our first franchise stores in the Middle East are exceeding expectations. And in 2011, we will open additional franchise stores in Dubai and Kuwait as well as launch flagship locations in Moscow, Shanghai, Beijing and Hong Kong. Board on 77 Kids, 77 Kids Online has proved to be a great catalyst for the new brick and mortar stores and the early success we're seeing.
We're encouraged about its long term prospects. In conclusion, we are making significant strides and are optimistic that our momentum will continue in the Q4 and into 2011. We expect the environment to remain competitive. However, our formula for quality, on fashion at compelling price points will enable us to gain market share and increase our customer base and deliver profitable growth. Now, I'll turn the call over to Roger.
Thanks, Jim. Good morning, everyone.
As I said on the last conference call, I am very confident that we are moving in the right direction. And now we are beginning to see it in our results. No question, the Q3 was driven by more desirable product and improvements in merchandising. We experienced strength in denim, women's sweaters and accessories as well as men's shorts and knit tops. Across categories, we have strengthened the fashion component and how we interpret trends for the AE brand.
Our back to school and fall lines featured exciting new trends, including modern military and Bohemian inspired styles. We took a step forward in both fashion and quality and we are emphasizing details such as elevated fabrics, washes and embellishments. Positive sales metrics including increased conversions and lower markdowns underscore the customer's acceptance. Our holiday line extends our expression of style and emerging trends across sweaters and outerwear as well as accessories and great gift items. If you haven't yet, I encourage you to visit our new SoHo store, the AE brand's most iconic hip and current venue, perhaps the best store in the country.
I believe that now more than ever, we are clearly different from our direct competition. We are staying true to our 20 year old college age customer. As a result, the assortments the stores come together with the right looks, the right energy and the right mix of categories. Customers are responding to truly compelling and fresh merchandise with little price resistance. As an example, we are seeing average unit increases in many of our areas, including sweaters, accessories and outerwear.
Recent external research has underscored the powerful presence and growing momentum of the AE brand in the marketplace today. According to market research, including Piper Jaffray, AE took top position as a favorite brand. Additionally, MPD research as of the end of September indicated that we further expanded our market share in denim. In fact, we had an increase to 15% total market share of the 15 to 25 year old customer and rank as the one specialty store denim brand. We are extremely proud of this and our denim teams for maintaining strong performance year in and year out.
Our creative teams, both design and merchandising,
have been strengthened across all categories, which I believe will
lead to a been strengthened across all categories, which I believe will lead to a greater broad based consistency. Now on to Aerie. As I briefly indicated on the last call, Aerie is being repositioned as a more complete lifestyle brand with a strong point of view. With intimates as the big inspiration, we're expanding the apparel categories to supplement the strength in bras and undies. The core of the Ares DNA is beautiful, 21 year old girl.
Our Holiday line is the very first beginnings of this expression. We are very excited about this opportunity and believe it will help drive Erie productivity and profitability. We continue to view the brand as an additional platform for future growth. In summary, I am pleased with the momentum we're beginning to see in our business. Our teams are energized and looking forward to the opportunities ahead.
And now over to Joan.
Thank you, Roger, and good morning, everyone. Our Q3 financial performance represents tangible progress on both top and bottom line results. Turning first to the top line. Sales for the quarter increased 2% to $752,000,000 Comparable store sales rose 1%. By brand, AE increased slightly and Aerie increased 11%, Up against a 9% increase last year due to heavy clearance levels, sales for AE Direct decreased 2%.
Despite lower sales this year, direct to consumer margins brand sales were driven by positive comp performance during the peak back to school selling period. Improved assortments translated to higher transactions and an increase in our transaction value. This was due to increases in both the average unit retail price and unit sales. Women's comps were up in the low single digits and men's declined in the low single digits. Now moving on to margin.
The merchandise margin improved by 90 basis points driven by lower markdowns. As a result, the gross margin increased 30 basis points to 41.6%. Due to the timing of new store openings, including our new SoHo flagship, buying, occupancy and warehousing increased 60 basis points as a rate to sales. Now looking at operating expense. Demonstrating at operating expense.
Demonstrating continued focus on expense reductions, SG and A dollars declined excluding $2,500,000 of severance and related charges. SG and A leveraged by 50 basis points on a 1% comp. We achieved cost improvements in virtually all operating areas with the exception of advertising. We invested in mall and outdoor advertising to support our AE denim assortment during this fall season. For the 4th quarter, we expect SG and A dollars to be down and approximately flat for the year excluding severance and related charges.
Importantly, our 3rd quarter operating margin increased 70 basis 0.29 percent to $0.29 per share, which also reflects the benefit from a lower share count resulting from share buyback activity. Now turning to the balance sheet. 3rd quarter ending inventory was down 4% and cost per foot was down 2%. Our average weekly inventory was on plan and ending clearance levels were well below last year. Looking ahead, 4th quarter average weekly inventory per foot is planned down in the high single digits.
Consistent with our commitment to control costs, certain capital projects were eliminated, while others are coming in on the low end of budget. Therefore, we are narrowing our 2010 CapEx guidance to $90,000,000 to $100,000,000 We ended the Q3 with a strong cash position of $631,000,000 including the liquidation of $150,000,000 of auction rate securities. Now in terms of our Q4 outlook, due to the importance of Thanksgiving weekend as a gauge to holiday selling, we will provide 4th quarter earnings guidance on Thursday, December 2 along with the November sales results. Now a word on our profit initiative. Our plan is aimed at improving efficiencies and changing the way we work.
In the initial phase, we have identified $20,000,000 to $30,000,000 of sustainable cost reductions, which will be implemented over the course of the next 12 to 24 months. We have addressed operating structure and completed organizational changes. Other savings relate to stores, procurement and supply chain. It is important to keep in mind that these savings will be captured in gross margin or SG and A. We will continue to target additional savings through the later phases of our initiative.
As we move through the program, we will update you on the progress and additional savings. In closing, we are pleased with the turn in our business in the Q3. We are regaining momentum on the top line and demonstrating improvement in operating margin. We continue to pursue
inventory efficiencies and are pleased with the
success in the initial operating margin. We continue to pursue inventory efficiencies and are pleased with the success in the initial phase of our cost reduction program. This is leading to meaningful progress on the bottom line, which we expect to continue as we move forward. And now I'll turn the call
back over to Judy. Thanks, Joan. And now we'll move on to Q and A. So that more participants can ask a question, please limit yourself to one question. If we have time, we'll take follow-up.
Okay, Rob, we're ready.
Thank you. We'll
We'll
Thank you. Our first question is from the line of Jeff Klinefelter of Piper Jaffray. Please state your question.
Thank you. The question is really around the international expansion. Jim, you mentioned opening up flagship stores, I believe Moscow and then Shanghai, Beijing, Hong Kong. Just remind me again the timing of that. Are you doing it alone or with joint venture partners?
How do you anticipate the follow through in terms of mall opportunities? And just along with that, I was wondering if any domestic rightsizing or closures would be on deck for the next couple of years? Thank you.
Sure, Jeff. The Moscow, Shanghai, Beijing, Hong Kong flagships are all franchise operations. The Moscow operation is a continuing growth with our Kuwait partner and the Chinese venture is with a Chinese organization based in Hong Kong. As we move forward, we see tremendous opportunities and we're pursuing cautiously, but we are moving forward with other initiatives with other partners around the world and you'll be hearing more about that in the ensuing calls as we begin to complete the contracts and the transaction details. As far as the domestic front, we will close over the next 2 to 3 years somewhere between 50 to 100 stores and in the year next year we'll probably close somewhere in the vicinity of about 25 to 30 stores.
What is the timing of those franchise stores?
The franchise stores that I mentioned, the Moscow, Beijing, Shanghai, Hong Kong are all slated for 2011 with Moscow and Hong Kong and Shanghai for early to late spring and for Beijing for what we would call back to school.
Great. Thank you.
Thank you. Our next question is coming from the line of Brian Tunic of JPMorgan Chase. Please state your question.
Thanks. Good morning and congrats on the improvement. Question I guess is a sense of where the markdown rate stands today sort of where it's been the last couple of years. And given what Roger is saying about his inventory plans and also what you're seeing in the competitive pricing landscape, what is a realistic improvement on that markdown rate to expect over the next year or 2?
Thanks, Brian, for the comments. The markdown rate for the Q3 was significantly improved from the prior year. However, we still have opportunity to improve the markdown rate certainly next year in Q3. And as we look forward to 4th, again, we expect significant improvement in markdown. As we look forward into 2011, certainly the front half of the year we would expect even more significant improvement in markdown rate given the promotional activity that we saw last year or excuse me in 2010.
Okay. Next question, Rob.
Thank you. Our next question is coming from the line of Kimberly Greenberger of Morgan Stanley. Please state
I'm wondering if you can talk about your longer term financial goals. You've expressed a target of getting back to a mid teens operating margin. And can you just help us understand the pieces of how you get there? Is there a specific recovery in your store productivity that you're looking for? And how does Aerie fit into that financial picture?
Thanks.
Thanks, Kimberly. Clearly, mid teen is an operating goal for us. Now as it relates to 2011, as Jim stated in his remarks, there's pressure that we're all aware of related to cotton and costs of labor, particularly in the back half of next year. And the magnitude of that, we're working through and it's too soon to tell what that will be. But clearly, we're working aggressively towards solutions to mitigate those pressures.
Some of the things we are doing is keeping our inventories conservative. So as Brian mentioned earlier, we continue to have the opportunity to drive to a lower markdown rate through conservative inventories, faster turns, flowing of product more frequently and more precise allocation. All of those will contribute to the lower inventories as well as just buying less and pitching our plants closer to trend and chasing into inventory. Importantly, our cost initiative will also help us drive towards that operating margin goal. We've delivered savings in our first phase.
As I said, it was $20,000,000 to $30,000,000 and that's expected over the next 12 months to 24 months. So these are the efforts that we have in place to drive towards the school, a possibility for 20 11 and more likely for 2012. Thanks, John. Likely for 2012. Thanks, John.
Thank you. Our next question is from the line of Christine Chen of Needham and Company. Please state your question.
Congratulations on the improvement. Thank you. I wanted to ask about Aerie. So you threw out numbers of 350 to 400. I seem to recall at some point you had said maybe that Aerie could get up to 500.
Wondering what has changed. Is it a type of mall that you're considering entering? It makes it seem like maybe you want to focus on A malls and I'm wondering if there's a difference in performance of area across different mall types? Thank you.
That's a very good question, Christine. We actually did one time feel that 500 was the magic number of stores. I haven't ruled that out. The 350 to 400 would be domestic. We still think there's a play we definitely think there's a play for Aerie internationally.
But what we are finding is in the mall comparisons is that the brand seems to perform at a much higher level in what we would call the strong A and B plus shopping centers. It's not that we don't have success in some of the smaller markets, but it's clearly less than. So what we're focusing now on is trying to place the brand in more of the A and the B plus shopping centers with hopefully very, very good locations. But that's an indicator as of this point.
And just a follow-up to that, long term do you expect Aerie to be as productive as your AE stores from a sales and operating margin contribution perspective?
No, they're not planned at this particular time to run at level. I think they can get close, but right now we don't have enough information or I don't feel confident enough that I can make that statement that it will. But I do think that if the plan follows the vision of Roger and the merchant team and we can deliver the right balance of real estate, it will be a very profitable brand and a brand that we'll be very proud of. And I think it will add a whole new dimension into the shopping center environment. It's a brand right now, it's very desirable by the shopping center developers.
We've actually slowed it down a little bit just to kind of get our second wind and also get this repositioning in a much more formidable state where we feel pretty good about it. And I think holiday will be some of the first indications of its acceptance. But clearly Q1 of 2011 is really where we've pitched both the product and the marketing and all the messaging that surrounds the repositioning of the brand that we would like to think we would see a very substantial lift in top line and hopefully convert that into bottom line earnings.
Great. Thank you and good luck for the holiday.
Thank you.
Thank you. Our next question is from the line of Jennifer Black of Jennifer Black and Associates. Please state your question.
Hi.
My question is on Aerie, because now it's a lifestyle brand. I wondered how much crossover we'll see in merchandise between Aerie and American Eagle going forward? Thank you.
Very little, Jennifer.
Perfect. Thank you.
Thank you. Our next question is coming from the line of Paul Lejuez of Nomura Securities. Please state your question.
Hey, thanks guys. A question on the direct business. Just wondering if you can maybe share with us how big the kids business is as a percent of total and how should we think about growth in that channel overall in 4Q? Should it still underperform the stores? Thanks.
Paul, sure. On the direct business, the kids piece of that is small and it's basically immaterial to the bottom line performance of that channel. In terms of modest growth at the top line, but I just need to reemphasize that the clearance inventory volume from last year, which was heavy in the Q3 is really what contributed to the down comp, if you will, in that channel. Some markets. Thanks.
Thank you. Our next question is from the line of Janet Kloppenburg of Jacobs, Jenner and Kent. Please state your question.
Hi, everybody. Congratulations. Hi, Janet. Hi. I was wondering if Roger could talk a little bit about the maybe what he might have done differently in the 3rd quarter business?
And maybe if you could talk a little bit, Roger, about the men's business and if you're happy with the performance there? And if in the Q4 you've capitalized on some opportunities that could perhaps help comps to accelerate? And I know you're not giving guidance. I'm just talking about opportunities. Thanks so much.
Right. Well, Janet, Q3, we and you saw the stores and commented that we were really pleased with how we put the assortments together. And you know the customer responds to the right product. And as you know, we're really in terms of the destination for back to school, we're the leading brand and denim is the most important singular category for back to school. And our denim assortment, not by I don't want to be the one to measure it, but obviously from all of the research, it is stronger than ever.
And I'm in the streets of New York every day and it's just amazing how any street I walk on, I'm always looking at the backsides of people and there's always an American Eagle Jean on someone. So denim really helps us in that particular type of period. As it relates to the Men's business, the average unit retails in most of the categories was up. We're running very tight and conservative inventories. The denim business was very strong.
And overall, I would have liked to have seen a little bit more impetus in terms of the volume level. But I think the assortments, if you go into the store now for Q4, look right on. We're the dominant brand in men's. We're the number one brand in men's in the 15 to 25 year category. And our share of market has not gone down at all.
So I feel pretty good.
Okay. Well, lots of luck. I hope this is a great season for you guys.
Right. And this is that Soho store. It's quite something.
Thanks.
Thank you. Our next question is from the line of Lorraine Hutchinson of Bank of America. Please state your question.
Thank you. Good morning. You had some B and O pressure this quarter from the Soho Soho flagship and other items. And I was just wondering what you expect for the Q4 and beyond and where you think your leverage point will be on that line item? Lorraine,
the leverage point is a mid single digit comp. When we look forward Q4, I wouldn't expect to see the same pressure on that line item. And as we move forward into 2011, we see that leverage point come down slightly.
Thank you.
Thank you. Our next question is from Dorothy Leichner of Karruys and Company. Please state your question.
Thanks. And let me add my congratulations. The SoHo store does look fantastic, especially compared to the much smaller older one. My question is for Roger going back to the Aerie assortment because it does look just fantastic in that store.
So I'm wondering if you could just talk a little bit
more, give us more color on what And then just one other add on and that is, assortment? And then just one other add on and that is you've seen strength in denim and sweaters. What about the knit category, which was a problem for you last year or earlier this year? So what are you thinking about in terms of that category going forward? Thanks.
In both men's and women's, Dorothee, the knit category overall is pretty strong for us. We redid the both from merchandising and design, and we like what we have. And I think if you look at the assortments in the store, the nets look pretty good right now. As it relates to Aerie, we put together a complete new design team, as you know, and a new leader for the entire brand who is an incredibly capable person and has built brands. That combination is very powerful.
And when you visit the store, I think as you said, you'll start to see the difference. But keep in mind, it's an intimate brand. The power will come from panties and bras. The bras to us will be like Denim is in the Eagle, but the sportswear that's being developed will help with the productivity and the average unit retail dramatically. And the team that we have assembled has the capability to build beautiful, soft, sensuous apparel that enhances the intimate lifestyle.
I think for us, this is a major niche in the market that we really can win on.
Great. Thanks and good luck.
Thank you.
Thank you. Our next question is from Liz Dunn with FBR Capital Markets. Please state your question.
Hi, good morning. Let me add my congratulations. I guess, I'm looking at your inventory position and hearing you that you have more open to buy and can chase. But I just sort of wanted to know, do you feel like you have enough inventory to drive a positive comp in the Q4? And then also I was wondering about uses of cash given that you didn't buy back stock in the quarter and you obviously have a very healthy cash balance.
Thanks.
Okay, Liz. With respect to the inventory, yes, absolutely we have enough inventory to drive a positive comp. It's well balanced. Our clearance inventories are down and we're positioned against targeted key items on preplanned promotions. So feel very good about inventories position for the Q4.
With respect to share buyback, no, we were not active in the quarter. However, over the course of this year, we have repurchased 14,000,000 shares, roughly 192,000,000 dollars We are a believer in share buybacks. If you look at our history over the last several years, we've repurchased 50,000,000 shares, almost $1,000,000,000 So, we're a believer in the program. We also have just raised our dividend in the Q2, so with a nice yield on that dividend. So we feel very good about our capital program and we continue to evaluate that on an ongoing basis with our
Board. Our next question is coming from the line of Randy Konik of Jefferies.
Question for Joan. Joan, can you just go over again these expense savings, just specifically the $20,000,000 to $30,000,000 How much would be from the SG and A line versus the gross margin line? And then you said this is just the first phase. How many more phases can we expect? And are those phases could those phases be bigger than the first phase?
Thanks.
Thanks, Randy. The $20,000,000 to $30,000,000 is over the next 12 to 24 months. And it really relates to 1, organizational changes and changing the way we work, which did changing the way we work, which did result in the elimination of positions in that affect both SG and A and margin. We also have addressed indirect procurement, very specific spending that more affects the SG and A than the gross margin line. And we're working through some supply chain initiatives as well and store operating costs that the supply chain affects gross margin.
The store operations clearly is in the SG and A line. So at this stage, it's a little early to break it out specifically as we are in the midst of our implementation of those initiatives. So once we can get to the timing of when those costs will actually be seated in our operating P and L, I'll be able to be more specific. With respect to later phases, we are working on an ongoing basis identifying now in our second wave here additional cost savings. And we see it again in the way we operate our business across all functions.
No function has been excluded. So it's an ongoing basis, Randy. So there isn't a stop and start to each phase. We'll and we'll continue to report our progress on each call.
So if I just hear this correctly, it could be something where the first phase the second phase is not announced on completion of the first phase, you could have a second phase layered on top of the first phase. Is that correct?
That's correct. That's correct, Randy. It's ongoing.
Okay. Our next question is from Roxanne Meyer with UBS. Please state your question.
Great. Thanks. Good morning.
Good morning.
My question is on SG and A. I'm just wondering based on your flat SG and A dollar guidance for the full year that implies something like a 10% reduction in dollars in the 4th quarter. So just wanted a little bit more color on how you see where the costs are coming down? Thank you.
Yes. In the Q4, we would expect SG and A to be down high single digit Roxanne. And where the costs are, it's really
across our operating expense lines. Our advertising, however, will
be flat. We expect in the
next question please.
Our next question is from Michelle Tan with Goldman Sachs. Please state your question.
Great. Thanks. I think last year you guys gave us an update on November to date. I was wondering if there's any sense you can give us on where you guys are tracking. And then also just remind us what the loss is on Aerie roughly for this year and whether you expect it to be accretive on a 4 wall or all in basis for next year?
Thanks.
So November sales, we'll talk about when we release in the 1st week of December. With respect to Aerie, we would expect Aerie for next year to be accretive on an all in basis. So 4 wall plus covering of overhead. Great. And what was the loss for this year?
But we've not disclosed the loss. However, I will tell you that it has improved to the prior year and it has been improving each quarter.
Okay. Perfect. Thanks.
Thank you. Our next question is coming from John Morris of of Montreal. Please state your question.
Thanks. My congratulations to you guys too on the progress. Joan, just quickly, you've already addressed it quite a bit, but the new store impact on gross margin, can you tell us nice improvement in gross margin, up 30 basis points. Can you tell us what it would have been ex that impact of just that new store? And then also, Roger, good work on merchandising, etcetera.
The bottoms trends perhaps shifting as we move into next year, do you see that in terms of maybe moving, broadening out away from denim a little bit more? Clearly, that will continue to be a pretty important category for you. How are you positioned to capitalize on how those new trends are shaping up? Thanks.
Joan, do you want me
to take the question on bottoms?
Yes,
sure. John, yes, obviously, denim is forever and we will continue to be dominant. And our inventories are very efficient. And we see no slowing of the denim business. With that being said, we're very clear on the new trends taking place and you will see that impact as we enter into the spring season.
Good. We picked up on that. Thanks. Joan?
Yes. The deleverage in rent largely relates to the timing of Soho as well as remember that Times Square has not comped yet. So that's the impact largely relates to those 2.
And are we talking 10 to 20 basis points? What would that have been?
Well, we need to leverage rent on a mid single digit comp as you'll recall. And so I would say it's 20 to 30 basis points related to the stores.
Our next question is from Richard Jaffe of Stifel Nicolaus. Please state your question.
Thanks very much guys and well done. I guess just a quick follow on question on the expenses. The SG and A savings we're going to see in the Q4 is remarkable. What's the degree of change or how do you see continuing in 2011? I assume the pace will slow throughout the year 2011.
And can you perhaps quantify the year over year declines?
Let's start there.
Richard, the SG and A for next year, we are in the process of finalizing our 2011 operating plan and we plan to talk more about that probably in January the ICR event. The issue with quantifying at this stage is really getting into the detail of the timing of the savings in our initial phase. So before I can really do that, I need to understand how those will lay into both 20 11 2012. So it's really stay tuned on the year over year look. Bear in mind, we do look.
Bear in mind, we do expect to open net additional stores, which will drive some of our operating costs up on a variable basis too.
Okay. And just a quick question on the kids business. Has your passion for that business slackened with Aerie becoming the new darling if you will for growth along with e commerce?
No, not at all. We actually have 2 darlings. We have the twins. We have Aerie and we have 77 Kids. 77 Kids as I stated earlier, we gained tremendous amount of consumer input from being online for 2 years.
We have translated that into our brick and mortar stores which we have 9 open currently. And I can state that as of this point we're pleased with all 9. And but we're going to be very cautious. The motto around here is no more Martin Enosis. So we're going to be very cautious about what we do.
Aerie, as Roger stated very aptly, we have 147 stores, so we have some critical mass. And so therefore, we can expect Aerie to contribute at a much higher rate. The kids business is a few years away, but it's a stepping stone of positives right now and we're going to continue on that path.
Great. Thanks very much. Thank you. Our next question is from Marni Shapiro of The Retail Tracker. Please state your question.
Hi, guys. Congratulations everybody and good luck with holiday.
Thank you.
Could you just touch a little bit more and I hate to beat a dead horse here in Aerie, but some of the apparel has looked quite good there, even better than what I'm seeing at the Eagle stores. So can you talk about just how far down the apparel line you envision this brand? Does it have its own denim assortment? Is that part of the lifestyle? And what happens to fit personal care?
Does men factor into this? Does guys factor into this at all? Just a little bit more color on that.
I'll tell you, I just read a blog on the website RAT and I think this girl was in our store in SoHo and she says it pretty well. She says, The lower level features an expanded Aerie collection. It's just not underwear anymore, folks. The muted colors and cozy textures of the labels, separates and sleepwear and broad new range of Aerie accessories stand in sharp contrast to the all American sporty prep feel of prep And we just finished going through obviously, I've done the spring lines and I've done the summer lines. When you see the spring lines in the store, you will really be excited.
It's all of the beautiful soft apparel that goes with the intimate lifestyle for the girl to be in the dorm or wear outside the dorm. Personal care will become a very big part of it, but not right away. Accessories is a major opportunity for us in this particular business and the bra and pammy business will only grow.
I guess in response to that, the dash and the dash, you know what, actually I think I'll take this offline. Good luck for holiday guys. Thank you so much. Okay.
Our next question is coming from the line of Jeff Van Sinderen of B. Riley. Please state your question.
Good morning. And let me add my congratulations as well. Just a broader question for you guys. Given the changes in pricing and promotional strategy at some of your competitors like Abercrombie and Fitch, not to single anyone out. But how has that changed how you think about your competitive positioning in terms of price value, if at all?
And how do you see that evolving over the next year or so? Over the next year or so?
Jim, would you like me to take that?
Sure, Roger.
We are our own lifestyle. And as you know, we're a very value oriented brand. With that being said, with since you mentioned Abercrombie, we have not found that when they promote, it has an impact on us. And we certainly know that their impact of promotion has been quite strong. We run our own business and we are really the main lifestyle.
When you think about the size of our brand, the Eagle brand, which is a $3,000,000,000 brand in the U. S, there's really in the 15 to 25 year old category, we're the biggest brand. We're the big highway. So we have to run our business the way we run it. And we have not had difficulty with whoever the competition is, whatever they might be doing.
And if you metrics, our average unit retail within the A and E brand is up with all of that promotion taking place. So we feel very good about where our brand is positioned.
Okay. Great to see. Thanks very much and good luck for holiday.
Okay. Rob, we have time for one more question.
Okay. That question is coming from the line of David Glick of Buckingham Research. Please state your question.
Yes. Good morning. Just a question on pricing. We recognize the second half of next year is very uncertain, it's highly fluid and you probably don't know at this point exactly what your product costs look like. But clearly, as you indicated, they're likely to be higher.
I'm just wondering what your philosophy is as you approach that timeframe from a pricing perspective. Do you think you can and do you plan on passing it through
a to mitigate what looks to be cost increases for the second half of the year. Clearly, I think it would be foolish and foolhardy to state that you're we were as a value brand that we were going to arbitrarily take prices up across the board. We look at product all the time, prices. But right now what we need to do is get our and maybe move the prices. But right now what we need to do is get our partners lined up and so that this is sort of equal sharing of some of the cost increases.
And so, it's really too early as you stated to actually forecast a definitive action. We have a number of different initiatives that we are that we know will help mitigate some of the increase. We just don't know how much of it's going to be able to be mitigated until we actually see what the actual cost is for the raw material and for the finished product. So, that's more to come.
Luck.
All right. Thank you.
All right. I know everybody has a busy day today. So thanks for your participation. Our next announcement will be November sales on Thursday