At this time, I would like to turn the conference over to Brian Logan. Mr. Logan, please go ahead.
Good morning and welcome to our Q3 earnings call. Earlier this morning, we released our Q3 sales and earnings, income statement, balance sheet, store opening and closing summary and an updated financial history. Please feel free to reference these materials, which are available on our website. Also available on our website is an investor presentation, which we will be referring to in our comments during this call. Today's earnings call is being recorded and the replay may be accessed through the Internet at abercrombie.com under the Investors section.
The call is scheduled for 1 hour. Joining me today are Arthur Martinez, Executive Chairman Jonathan Ramsden, Chief Operating Officer Joanne Gervoisierat, Chief Financial Officer Fran Horowitz, Brand President of Hollister and Chris De Angelides, Brand President of A&F and Abercrombie Kids. After our prepared remarks, we will be available to take your questions for as long as time permits. Before we begin, I remind you that any forward looking statements we may make today are subject to the Safe Harbor statement found in our SEC filings. With that, I hand the call over to Arthur for some opening remarks.
Thank you, Brian, and good morning, everyone, and again, thank you for being with us this morning. Our 3rd quarter sales and adjusted operating income exceeded expectations coming into the quarter. A number of key metrics turned positive during the quarter including comparable sales for our Hollister brand and across both our international businesses. This provides the strongest validation yet that our initiatives
are
year on a constant currency basis. While there was a benefit from a lower tax rate, the majority of our earnings improvement came from quality growth resulting from improvements in our sales performance and efficiencies throughout our business. We recognize that we still have much to achieve, particularly in our journey to improve the performance of the Abercrombie brand and more generally to drive more robust traffic to our stores and our website. While conversion has been strong, traffic has been challenging. We remain intensely focused on continuing to execute against our strategic initiatives to deliver a compelling customer focused shopping experience and assortments based on clearly defined brand positions.
We are pleased with our progress, but remain cautious as we move into the Q4 given the mixed signals that are coming from the sector. Regardless, we are confident that the work we are doing will continue to provide the foundation for long term growth and profitability. Now let me hand it over to Jonathan to provide an update on our strategic initiatives.
Thanks, Arthur, and good morning, everyone. As Arthur mentioned, our results for the quarter validate that we are on track with our ongoing efforts to turn around our business. Many key indicators turned positive during the quarter, and we delivered meaningful adjusted EBIT growth on a constant currency basis for the 2nd consecutive quarter. Of particular note, our European business comped positively for the first time since 2011 with most of our individual stores comping positively. And while the ever important holiday season is still ahead of us, we are confident that our strategies will support continued progress.
With regard to our strategic initiatives, I'm just going to give a brief update on a few items today since we expect to provide a more comprehensive update at the end of the year along with our outlook for 2016. Beginning with customer centricity, we continue to be very pleased with the strong performance of our remodeled Hollister stores. We now have 13 remodeled stores and the group continues to post strong results relative to the Control Group. In addition, we opened our first two new A and F prototype stores during the quarter and we'll read the results carefully as we look to expand this concept to more stores. On the digital side, we are very pleased with the results from the investments we have made in mobile, which now accounts for approximately 60% of all online traffic and is posting double digit increases in conversion year over year.
We now have close to 3,000,000 cumulative downloads of our mobile apps. And in our ongoing efforts to support the shift to mobile, we recently released upgraded iOS and Android apps, which are getting strong user ratings. In addition, our omnichannel investments are delivering strong returns with order in store contributing significantly to our e comm growth. We look forward to rolling out capabilities beyond the U. S.
And we started in the U. K. In the Q3 with the launch of Click and Collect in all of our stores there. With regard to e commerce in general, we continue to see strong growth in China, where we once again did very well on Singles Day, generating nearly $2,000,000 in sales. A year into our localization efforts there, we are pleased with the return on our investments, driven by both increased traffic and conversion.
Looking forward, we will add mobile enhancements in China in 2016, reflecting the already strong mobile penetration in the market. Moving on to our efforts to expand our brand presence. We opened 9 full price stores during the quarter, including our 4th A and F and 12th Hollister stores in China and our 4th Hollister Store in Hong Kong. We also opened 4 new A and F outlet stores in the U. S.
During the quarter, which brings us to about 30 new or converted stores with MFO merchandise, mostly A and F. Outlet stores with MFO merchandise continue to perform well with strong four wall margins. In early 2016, we plan to convert approximately an additional 10 wholesale outlet stores from liquidation to MFO. Finally, our wholesale business while still small continues to grow and is on track to hit our target of $6,000,000 in margin contribution this year. And our licensing business has now expanded to include Fierce in select duty free locations in the U.
S. Across many areas of our business, we see the strategic choices we have made paying off. And as we see a return to health in the core of our business, we have a strong platform to leverage this improved performance. In sum, our results for the quarter reflect good progress on several fronts and give us confidence that the steps we are taking are the right ones. That progress is the result of the efforts of our talented and dedicated associates across the business and I would like to take this opportunity to thank them all for their efforts.
With that, I will hand it over to Joanne to review the Q3 results.
Thanks, Jonathan, and good morning, everyone. After recapping our Q3 results, I'll provide an update on our outlook for the Q4. In the Q3, as both Arthur and Jonathan mentioned earlier, continued improvement in the comp sales trend coupled with a higher gross margin rate resulted in significant growth and adjusted operating income over last year on a constant currency basis. Net sales for the quarter were $879,000,000 approximately flat to last year on an FX neutral basis. Changes in foreign currency exchange rates adversely impacted sales by approximately 4 percentage points or $33,000,000 Total comp sales were down 1% for the quarter.
On a sequential basis, comp sales trends improved broadly from the 2nd quarter, particularly in Hollister and internationally, where they turned positive for the quarter. As shown on Page 5 of our investor presentation by brand, comp sales were down 5% for Abercrombie and up 3% for Hollister. By category, we continue to see significant comp sales trend improvement in the tops business, particularly within female tops where comps were strongly positive. And while overall male business lagged female, we saw continued strength in jeans in both genders during the quarter with positive comps across all brands. By geography, comp sales were down 3% in the U.
S. And up 1% in international markets. We continue to see considerable improvement in international markets as comps turned positive for the quarter in Europe, driven by conversion with strong customer response to our assortment and pricing adjustments. Across brands, the direct to consumer and omnichannel business for the quarter accounted for approximately 21% of total sales, with growth over last year in both our U. S.
And international businesses on a constant currency basis. Excluded from our results for the quarter were net pre tax charges of $10,000,000 compared to $20,000,000 last year, which are detailed on Page 4 of our investor presentation. For the quarter, this included $12,000,000 in store asset impairment charges primarily related to the A and F flagship store in Hong Kong, which has experienced a significant drop in Chinese tourist traffic. This was partially offset by a benefit of $3,000,000 from higher than expected recovery on the Q1 inventory write down. Adjusted non GAAP gross margin for the quarter was 63.4%, 120 basis points higher than last year on a reported basis and 2 10 basis points higher on a constant currency basis.
The increase in adjusted gross margin reflected the benefit of lower average unit cost coupled with higher average unit retail, primarily in the U. S, driven by higher full price selling and less promotional activity. AUR in international markets was approximately flat on a constant currency basis, with higher conversion and full price selling offsetting price investments in those markets. On an adjusted non GAAP basis, stores and distribution expense decreased $19,000,000 from last year as a result of benefits from foreign currency as well as expense reduction efforts, partially offset by higher direct to consumer expense. On an adjusted non GAAP basis, marketing, general and administrative expense for the quarter increased $14,000,000 from last year, primarily due to higher compensation related expenses, including the restoration of an accrual for incentive compensation.
And as previously mentioned, adjusted non GAAP operating income was above last year on a constant currency basis. The effective tax rate for the Q3 was a benefit of 16%. Excluding certain items, the adjusted non GAAP effective tax rate for the quarter was an expense of 28%. Both the effective tax rate and the adjusted non GAAP effective tax rate reflect benefits related to a change in the estimated annual effective tax rate. In addition, the effective tax rate and the adjusted non GAAP effective tax rate reflects discrete benefits of $10,000,000 $8,000,000 respectively, related to the release of a valuation allowance and other discrete tax items.
Including these adjustments, for the full year, we expect the non GAAP adjusted effective tax rate to be in the mid to upper 30s. For the quarter, we reported adjusted non GAAP net income per diluted share of $0.48 compared to $0.42 last year. And as I mentioned a moment ago, our results for the quarter included discrete tax benefits of 8,000,000 or approximately $0.11 per share. In addition, our results reflect year over year adverse effects from FX of approximately $0.13 Turning to the balance sheet. We ended the quarter with $406,000,000 in cash and cash equivalents and gross borrowings outstanding of $297,000,000 compared to $321,000,000 in cash and cash equivalents and $330,000,000 in borrowing last year.
During the quarter, we repurchased 2,500,000 shares at an aggregate cost of $50,000,000 We also ended the quarter with total inventory down 3% versus last year, which included a significant increase in inventory in transit due to a floor set shift. Excluding in transit, inventory was down 10%. Details of our store openings for the quarter are included on Page 9 of the investor presentation. At the end of the quarter, we operated 7 90 stores in the U. S.
And 175 stores in Canada, Europe, Asia and the Middle East. With regard to our outlook for the Q4, we expect comp sales to be approximately flat, continued adverse effects from foreign currency exchange rates, gross margin rate to be approximately flat to last year on a constant currency basis as we begin to anniversary average unit cost reductions from a year ago, operating expense dollars to be approximately flat to last year after absorbing a provision for the restoration of incentive compensation and a weighted average diluted share count of approximately 68,000,000 shares, excluding the effect of potential share buybacks. In addition, we expect the full year adjusted effective tax rate to be in the mid to upper 30s, including the benefits related to the valuation allowance release and other discrete tax items recognized through the Q3. On a going forward basis, we expect the annual effective tax rate to be in the upper 30s. Potential charges related to impairment and store closings, our strategic initiatives and related tax effects are excluded from our outlook for the rest of the year.
We also continue to expect capital expenditures for the full year of approximately $150,000,000 In addition to the 23 new stores we have opened year to date, we expect to open 8 new stores in the Q4, including 6 international
stores and 2 North American stores.
In addition, we continue to expect to close approximately 60 stores in the U. S. During 2015 through natural lease expirations. I'll now hand it over to Fran and Christos to provide more color around brand performance and strategic initiatives. Fran?
Thank you, Joanne, and good morning, everyone. I would
first like to thank the Hollister team, both on campus and in our stores around the world, for their continued dedication, effort and optimism. We are encouraged by continued improvement in our results. As Joanne noted, we achieved continued sequential comp improvement and a return to positive comp in the 3rd quarter. By geography, comps in the 3rd quarter.
By geography, we delivered positive comps in each of our
key volume regions of the U. S, Europe and China. In the U. S, we are particularly pleased that our comp sales were largely driven by higher AUR as we continue to reduce our reliance on promotional frequency and depth and continue to benefit from lower levels of clearance inventory. In Europe, we returned to positive comps overall with positive comps in nearly every country.
Consistent with last quarter, we continue to see strong conversion driven by our improved assortment and updated pricing architecture. In China, we continue to see comp sales growth. By category, our performance was driven by continued sequential improvement in our assortments for both genders with the largest improvement coming from our girls' tops business. We saw particular strength in our mid business and achieved business and achieved positive comps across all girls top categories. Our girls' denim business remained solid as well.
On the guide side, we achieved modest sequential comp improvement from the Q2. Our denim and other long bottoms businesses remained strong, complemented by a strong sweater and fleece business. Across all categories, we are seeing the benefits of the improvements we have implemented around the design, assortment and buying process. With our back to school floor set, the customer responded to the steps we took to deliver a more thoughtful on brand and balanced assortment. This was evidenced by strong conversion and higher regular price sell through and resulted in substantial gross margin dollar growth.
We also continue to make progress during the quarter on our other strategic initiatives. From a customer messaging perspective, we continue to work with our key social media partners to drive innovation. During the quarter, we partnered with Snapchat to become the 1st retailer to offer a sponsored geo filter in 19,000 high schools across the U. S. And Canada.
We are committed to continuing to find new innovative ways to engage with our customers. We continue to pilot a loyalty program in several markets across the country with a U. S. Rollout planned for 2016. We remodeled 8 additional stores during the quarter, 5 in the U.
S. And 3 in Europe, all of which reopened with a fully redesigned and interior and storefront. We are happy with the initial results. And as Jonathan said, we continue to assess the performance of these stores, which will factor into the rollout plan we are developing for next year. Finally, we continue to strengthen our organization by putting the right people and process in place to support our continued progress and growth.
To close, we continue to make progress in Q3. We have plenty of work to do, but I am confident that we are putting the right people and processes in place to build our business around our customer and a strong modern brand identity. I will now hand it over to Jim.
Thank you, Fran, and good morning, everyone. Although comp sales declined in the Q3 versus last year, we did deliver continued sequential comp improvement in the Abercrombie brands. The sequential improvement in the adult business was driven by women's and in the kids business it was driven by boys. A and F men's underperformed where we need to do more work to further evolve the assortment and concentrate on newly designed exciting products. Geographically, we achieved sequential improvement across all three regions of the U.
S, Europe and Asia. Throughout the quarter, we also made progress on reducing our overall discounted ticket across all channels, while still ensuring that we remained competitive in a very highly promotional environment. As a result, our margin dollar improvement outpaced the sales improvement for the quarter. During the quarter, we continued to make progress on our strategic initiatives including increasing our focus on the customer experience. We now have opened a small number of new prototype stores during the quarter that offer improved lighting and open shopping experience and a format that allows our store associates to engage with more of our customers.
We also continue to enhance our store operating model with programs designed to increase the depth of our associates' product knowledge and support high levels of autonomy and decision making within the stores. These initiatives provide further opportunities for the field associates to engage with customers and make decisions that derive from that engagement. Regarding brand reach, we've expanded our wholesale partnerships launching a small collection of both adult and kids products with Next in the U. K. In early August.
Results have been promising. In addition, we executed the rollout of extended sizes for younger ages in our kids business. The entire online assortment and half of the kids in store assortment is now available in sizes for children aged 3 to 6. We're encouraged by the results and we will expand this as we move through the Q4. We also featured a select assortment of kids product on the adult website during the quarter, results have been positive in both new customer acquisitions and average transaction values.
We're also continuing the expansion of kids stores within the adult space and have opened 13 new locations since early October. Finally, I'm pleased to welcome Christina Sazs as our Head Designer for Women's. She brings nearly 20 years of industry experience to the brand, most recently as Design Director of the denim at Karl Lagerfeld and Tommy Hilfinger at PVH in Europe. We're already seeing the impact of the passion, energy and enthusiasm within the teams. Indeed I've been impressed by the attitude and response of all members of the team while we go through this repositioning phase.
In closing, while progress has been slower than we had hoped, we believe that the actions we are taking will drive continued sequential sales improvement in the Q4. With that, I'll turn the call over to Brian. Thanks, Christos.
This now concludes our prepared comments. We'll be happy to take your questions. Thank you.
Thank you very much. Our first question today will come from Matthew Boss with JPMorgan.
So a question for you, as we break down the operating expenses, you pulled out about $400,000,000 from the base the past 2 years. So as we think about the return to positive comps here, what's the best way to think about a potential acceleration of OpEx, any potential buckets of reinvestment to drive the business and the top line go forward?
Hi, Matt. This is Joanne. In terms of OpEx, we are dedicated to continuing to find efficiency and productivity improvements in the company. We are we do believe we have continued opportunities to drive efficiency. The outlook that we provided for Q4, the big drivers of flat dollars on flat sales outlook and on comp sales line are really investments in DTC offset with some continued benefits from FX rates.
Within and underneath that, there are some investments we continue to make in marketing, and as I said, in DTC, and we have found savings to offset those. So we'll continue to look for productivity improvements as we move forward. But we don't I won't we don't typically comment on those until we they're more certain. But we have an effort here in continuous profit improvement that will be ongoing and deliver benefits, we believe, into next year and beyond.
Great. And then I just had a quick housekeeping follow-up. As we break down the Q4 gross margin guide, what would be the puts and takes in terms of AUR, AUC and FX? And then just larger picture, what kind of promotional backdrop do you have embedded into the forecast?
Yes. You hit on the 3 moving parts in 4th quarter margin outlook. We are lapping the decreases that began last year in AUC. So we don't see that as a benefit in Q4 as we've seen for the previous three quarters this year. And as it relates to FX, although FX at our current estimates will be abating somewhat in the Q4, we also had benefits from hedging last year that we won't be anniversarying to the same degree.
So all in, we expect the FX headwinds to continue to be pretty consistent to what we've seen for the balance earlier this year. In terms of AUR, I think our outlook includes a realistic expectation for AUR growth given what is shaping up to be a potentially challenging and promotional Q4.
Next is John Morris with BMO Capital Markets.
Thanks. Congratulations everybody on some real nice improvement. I think my first question is picking up on the commentary about I think this is for Christa, the commentary about giving higher levels of autonomy and decision making in the stores, which I think is interesting. Can you give us a little bit more color on that? Are you going so far in terms of the autonomy extending to product positioning and or in store markdowns or anything along those lines?
And could you be considering extending some of that autonomy to the Hollister division as well, if not already? And then my quick follow-up is the plan for marketing changes next year. Given kind of the improvement that you're seeing, what are you thinking about in terms of marketing for next year? Could you be putting even a little bit more spend behind that in terms of the marketing positioning, etcetera? Thanks.
So it's Christoph. So in terms of high level of autonomy, it primarily revolves around the store associates' ability to move product placements in store. So putting product in positions that we know customers find favorable, best sellers near the front of the store for example or items that we feel are going to sell very strong in accessible locations. But it also allows associates to change their staffing model up or down, manage queues and manage the fit rooms. Perhaps more importantly, it means that the associates are motivated to engage with customers.
The impacts that are happening in Abercrombie are primarily the same in Hollister as well.
Great. And the marketing?
Sure. John, this is Fran. Yes, so we initiated the same at Hollister obviously, at the beginning of this year. We spoke about putting the customer in the center of everything that we do, and our store initiatives really support that. In addition, we had talked earlier about even an incentive plan that we've instituted that has been successful for the associates to really help them understand what is important in their business and the KPIs that drive their business.
So for both brands, it's been a successful initiative.
John, on the last piece, it's too early to comment on specific marketing expenditure plans or marketing plans more generally for 2016. We're continuing to work through this brand positioning project. We expect to conclude that in the relatively near future. And we do think that's going to be a very important component of driving engagement and traffic back into the stores, but it's too early to say exactly how we will communicate that positioning, but that will be an important part of our plans going forward.
Thanks, Jonathan. Good luck everybody for holiday.
Thanks, Joe. Thank you.
Nealey Kammingah, Piper Jaffray as our next question.
Great. Good morning. Congratulations to the whole team. So a couple of questions here from us on the holidays. So we've noticed in your right in front of the cash rep at Abercrombie, you've been bringing in holiday.
It looks like a little bit earlier this year versus last year. Can you speak to some of the plans there? Are you feeling like you actually have enough inventory for holiday based on what we're seeing? And then Fran, from very specifically on denim, we've noticed that you guys have kind of migrated from $25 denim up to BOGO $50 which kind of seems to take the outdoor pricing up higher. Would we see this potentially go back down to $25 around Black Friday or any sort of Black Friday plans you could offer for us would be helpful as we navigate it?
Thanks.
Hey, Neal. I'll take the first part across the business. We did set a little bit earlier for Christmas this year across both brands. That's just part of the normal cycle of reviewing floor set dates. So you would have seen that in the stores.
With regard to the second part of your question, yes, we feel we have appropriate levels of inventory coming into the Q4. I'll let Fran take that denim question.
On the denim piece for Q3, we did navigate between $25 Jeans and BOGO Jeans as part of our strategy, which we will continue to do throughout the quarter for Q4.
And I think on the last part, we never give forward looking commentary on our promotional plans.
All right. We'll be in the stores.
Best of wishes out there. Thanks.
Thank you.
Our next question will come from Betty Chen, Mizuho Securities.
Thank you. I was wondering if you can talk a little bit about what are some of the opportunities for both brands going to holiday season. I know Fran you cited some nice improvement in many of the product categories, knit, denim, remain strong. Are there some other opportunities that you feel like are pretty significant callouts year over year? And same thing at the adult A and F brand, Christos.
Can we essentially see the men's business start to evolve in the 4th quarter or is that more 2016 and any sort of big callouts for women's opportunity you? Thanks.
Hey, Betty, it's Fran. As far as palates are concerned, yes, we certainly have seen some very significant improvement, particularly in our girls' tops area consecutively last few quarters, as well as having a strong denim business as you mentioned. As we go into Q4, we believe we will continue to see improvements.
In terms of Abercrombie, Betty, I think our Christmas gifting is going to be very important as we go into Christmas and also our sleep collection, seeing very good initial signs from that area. In terms of the men's in the Q4, I think we'll see an improvement but actually the significant change I expect will come in 2016. You may recall we've appointed Aaron Levine as the new men's design lead and his collection will start to come in, in the New Year. I've been very impressed with some of the first ideas I've seen.
And then can I just follow-up in terms of weather? Some of the retailers have called out sort of weather being uncooperative so far in the season. How do you feel about your positioning in some of the thicker weighted items like sweaters and outerwear? I know inventory was clean coming to the quarter, but just curious on some of the cold weather items.
Yes, it's very disappointing, isn't it, when weather doesn't cooperate? It's really annoying. So well, we're managing the every week weather dependent there are issues. And it's our job to manage those issues. It's not something that we talk about on a day to day basis to be honest with you.
Our job is to manage all of those conditions. So yes, we have outerwear, we sweaters. In some areas it's light, some areas it's heavy, but we'll have proposals to get through those.
Great. Well, congrats on a nice quarter. Best of luck for the holiday.
Thanks, Cody.
Our next question will come from Simeon Siegel with Nomura Securities.
Good morning, guys. This is Gene Latimerov on for Simeon. Congrats on a strong quarter.
Can you give us any
color on what drove the positive comp internationally and any divergence you may have seen in the trends between Europe and China? And then maybe how you think about the opportunities there going forward? Sure, Simeon. I'd say it was a broad based sequential improvement across the international
business, across brands and across channels that we saw stores and e comm. We gave a couple of data points earlier on. So I think if you break it down a little further, we saw strong conversion improvement, which was the biggest driver of it, which we view very positively as a reaction to the product and pricing, particularly in Europe. But it was fairly broad based. I mean, there were some countries that were outliers, but overall, the improvement was broad based from the prior quarter.
And then a quick follow-up. Just wondering if we can get some color on the wholesale business, like how big do you see that getting over time? And how broad are the distribution you'd like to see there?
Yes. It's early days for us on wholesale. We've got these two
relationships in place today with in place today with NEX and ASOS, predominantly in the U. K, although ASOS does serve an international customer outside the U. K. As well. As we said in the prepared remarks, we're pleased with the progress we've made how significantly that could ramp up over time, but we're certainly happy with what we've seen so far.
Great. Thanks. Good luck for holiday.
Thank you.
Our next question will come from Kimberly Greenberger with Morgan Stanley.
Great. Thank you so much. I want to dive a little bit into the average unit cost savings. It sounded like you expect the AUC savings to diminish, I guess, after the Q4. And I'm wondering about any potential savings in cotton in 2016.
And then just a clarification for Joanne, I think payables rose about $106,000,000 year over year, but your inventory fell $16,000,000 So we were just wondering what the cause of the divergence is? Thanks so much.
So on AUC savings, Kimberly, we have been working to reduce AUC really with product reengineering and have seen the benefit of that for about the past 4 quarters. We began seeing the benefits in Q4 last year. Cotton, certainly, in Q4 this year, our outlook takes into account that we're going to be lapping those savings. So we don't expect to see the same AUC savings that we've experienced year to date as we come back around. As we move forward, certainly raw material prices are a function of the equation in AUC moving forward.
We're also looking at investing back into the product in certain cases, and we'll do that on a case by case basis where we believe we can get paid forward in terms of AUR growth. In terms of payables, we did make an adjustment in our terms. We've offered some supply chain financing for our suppliers to take advantage of and also adjusted our payables terms. In addition, we mentioned the In addition, we mentioned the transit increase year over year related to the floor set shift and that also factored into our payables balance being up this year.
Thank you.
Next is Janet Kloppenburg, JJK Research.
Hi, everybody. Congratulations on a nice quarter. Just a couple of questions. You had said that you felt that your 4th quarter assortments or your holiday assortments were really where we should see some major change. You were encouraged about the improvement there.
So I'm wondering if you could talk to any improvement you might have seen when those assortments hit the stores in October, maybe give us some idea of how comps trended during the quarter. And on the gross margin guidance, you are up against a a significantly easier comparison in the Q4 than you were in the Q3. And I know the AUC obstacle, but I'm wondering if that just reflects the fact that there's a lot of inventory on hand at your competitors and you're worried about promotional activity or if your promotional plans may be different. If you could help us with understanding that, that would help a lot. And also, Joanna, if you could give us an idea on your outlook for gross margin for the year now, how should that come out?
Thanks.
Hey, Janet, good morning. I'll take the first part and then Joanne will play the other part. So in terms of improvements in the assortment, we typically don't comment on the cadence within a particular quarter. I think we're continuing to make improvements and refinements to the product and we have a level of confidence that we're going to continue to see a return from that, but we can't really comment more specifically than that.
Yes. In terms of margin guidance, I think I spoke to earlier the moving parts that are impacting our guidance. I think the 4th quarter margin rates reflect and our outlook reflects, as I said, lapping the AUC increases from a year ago. We do continue to expect FX headwinds. And to your point, we expect that the Q4 will be challenging
given some
of the commentary we've heard in the sector, some of the inventory levels across the sector. We do feel good about our inventory position, as Jonathan mentioned earlier, going into the quarter. But we know the Q4 is always is a very competitive quarter, and that is what our outlook reflects.
But FX will be less pressure than in the Q3. Is that correct, Joanne?
No. We do see the based on what we know today, obviously, what we can see today in terms of currency exchange rates, we do see it abating somewhat as we start to lap the beginning of the big declines from a year ago, Janet. But we do have, from a year ago, Janet, but we do have, hedging benefits that we're up against from last year that we won't be able to anniversary to the same degree. So all in, the FX headwinds we see are as pretty consistent as what we've seen for the balance of the year.
Okay. Lots of luck for a good holiday. Thank you.
Thank you. Thank you.
Next is Susan Anderson with FBR.
Hi, good morning. Thanks for taking my question. I was wondering if you could talk about the logo business, maybe the performance that you're seeing in the U. S. And international now that you brought it back.
And was there any second part of the question? Yes. I'll kick it off. I don't
we didn't bring logo back. We brought it down to a level that we thought was appropriate in our assortments. And what we have said is logo will continue to have a place in our assortments. And we did see improvement across the tops business in general, particularly in female tops. Logo was a part of that, but the improvement that we saw was very broad based.
And on a go forward basis, we're reviewing and evaluating the logo business as we would any other part of our business. I'll turn it over to Fran for any
Sure. Just to echo what Joanne said. Logo is a piece of our business. We are currently figuring out to what degree is important, but the customer has voted continuously that they do want logo both in the U. S.
And internationally. As we move forward, we will figure out the appropriate levels, but it will be a part of our business.
Got it. And that's helpful.
Susan, just quickly from Abercrombie point of view, I think it's very encouraging that customers are happy to buy products that have got the logo of both brands on the front of them. I think it's a very positive message.
Great. That's good news. And just one follow-up on the weather question. So is that kind of what's adding your cautiousness around 4th quarter? Is it more just the promotional environment out there?
And then maybe if you could just give a little bit more color on how your trends are quarter to date if it's been impacted by weather, but it seems like from your comp guidance, you still feel pretty good about the sequential improvement.
Yes. I wouldn't say that our outlook is specifically related to weather. We believe that it is realistic. Our outlook for Q4 is fairly consistent with where we were in August when we provided an outlook for the back half. We have a lot more data points at this point, including both our performance in the Q3 as well as what we're hearing from competitors.
And at this point, we don't see any reason to be any more bullish on Q4.
Great. That's helpful. Thank you. Good luck next quarter.
Thank you. Thank you.
Marni Shapiro with the Retail Tracker has our next question.
Thanks, guys. Congratulations. And Fran, I'm so excited about the geotag at Snapchat, my favorite mode of communication. So it is, it's so efficient. So I have a question about what I'm seeing online and in stores.
I spend a lot of time online and a lot of time in stores and it's very easy to navigate online and find what's new and see what's new and sometimes you arrive in the stores both at Abercrombie and at Hollister and it's not so easy to find the merchandise and it's not saying that it's specifically online only goods. And I'm curious, is this selling out too quickly in the stores? Is there a way to better connect those dots? Or are these things that haven't hit the stores yet or will never actually will never hit the stores?
Mona, I'm not sure what you're referring to in terms of are you saying it's difficult to locate online only goods in stores? Is that what you're
saying? No, no, no. These aren't this isn't merchandise that is online only. So it's if you shop like a customer and I go online and I look for things and I'll create lists to go into stores to look for as a customer would. It's been very difficult at your stores over the last couple of months to find these things.
And I'm curious, are they not in these stores? Are they sold out? Is it the way the stores are merchandised? I guess the point is, is there a better way to close the loop? If mobile traffic is up so strong, we know she's shopping at home online, isn't the dream to get her into the stores to buy it, but she has to be able to find it?
So, Marley, I think overall, there's no generic I mean, without knowing the specific stores, you've gone into it's hard to comment on exactly what you've seen, but there's no generic reason why you should be seeing less availability in store than online of your current merchandise. Obviously, we do now have pretty good omnichannel capabilities. So if you're looking for a particular item that's not in store, We do have order in store enabled in pretty much all of our U. S. Stores at this point.
But maybe we could follow-up with you offline about the specific stores you went to and understand that point a little better because we're clear on why you would be seeing that.
Right. Maybe it is something to follow-up online. To me, it becomes a bit of a disappointment when you come into the stores as a customer and you can't manage to find everything you're looking for. So if I could just flip to one other quick question then, if you wouldn't mind. The little kids in the Abercrombie stores, is this helping to drive traffic as well as sales?
It is. Although it is mixed across several stores that we have. But in general terms, it is helping to bring into the stores a new customer. I think they have lapsed customers. And in general terms, it is helping to drive the sales, Jess.
Fantastic. Great. And I'll follow-up with you guys offline.
Yes, that'd be great.
Thank you. Thanks, Brian.
Thanks a
lot for our holidays.
Our next question will come from Brian Trujnick with Royal Bank of Canada.
Thanks. Good morning, everyone. I guess two questions. 1 on the international price adjustments. Have they been rolled out now to all the countries?
And were you guys pleased with the 4 wall margins or dollars you got from the sales improvement? Did that help offset the AUR declines on the international side? And then the second question, I think on the balance sheet, did we see you guys bought back some stock here in the quarter? And just sort of remind us what your philosophy is there on minimum cash? And so what are you thinking about for the balance sheet and inventories as we end the year?
Thanks very much.
So Brian, on the international price adjustments, we did roll that out broadly with the back to school floor set. So at the end of Q2, it impacted all of Q3. We are pleased with the customer response to those adjustments, both the pricing adjustments and our assortments. As we mentioned in our comments, we saw benefit in conversion and return to positive comps in our international business. So we believe that those were well received by the customer.
We also mentioned that AUR on a constant currency basis was actually flat in our international markets in the Q3, which with higher full price selling and mix of business offsetting those price declines. So we are happy with the 4 wall margin. Obviously, with a flat AUR, we were pleased with the margin performance in the international markets overall. As it relates to the balance sheet, we did repurchase shares. Our capital allocation strategies have not changed.
We our first priority is to invest in our business and projects that provide the highest risk adjusted return. And then beyond that return excess cash to shareholders through dividend and share repurchase. We make our share repurchase decisions on a quarterly basis based on our liquidity outlook and as well as valuation in the market. So we did repurchase shares in the Q3. As it relates to forward view, our cash targets are we believe having about $300,000,000 to $350,000,000 in cash on the balance sheet provides the cushion that we need to operate our business.
And then from an inventory perspective, we continue to expect inventories to be down as we move through the Q4.
And if I could just throw in one more on the store closing side, obviously Hollister looks like it's stabilizing here. Has your perspective at all changed on what the right size of the Hollister fleet should be Or how many stores come up for Hollister renewals in the next 2 or 3 years?
Hey, Brian. We still have a very high percentage of our leases up for renewal over the next 2 or 3 years. So we have a lot of flexibility. I would say at this point our view has not changed. We've indicated 60 closures across brands this year or something in that order of magnitude and likely continuing at that pace for the next couple of years.
But obviously we continue to review that as we move forward and it's a store by store decision ultimately based on the projected economics of each individual store. But at this point, I would say no significant change in our outlook there.
Next we'll hear from Richard Jaffe with Stifel.
Thanks very much guys. And I guess a couple of general questions. The fashion trends that you see working particularly on the women's side, could you provide a little bit more color on what's working? And then
just a follow on, if
you could spend a minute on the outlet opportunity? Thank you. So the Thank you.
From a Hollister perspective, hi, Richard. We've actually had nice reaction to all top categories that's inclusive of knits, wovens and sweaters, as well as fleece. So we've had a pretty consistent reaction, over the past few quarters and nice comp increases in those categories, as we mentioned in the last call and further today, positive comps for the first time in a very long time, in 2 consecutive quarters of that. The customer is responding very nicely to the product that
we're putting out there. From an Abercrombie point of view, Richard, I'd rather not call out specific fashion trends actually from a competitive sensitivity point of view other than to say that primarily it's driven in the top areas in the same respect as Hollister.
And Richard just on the outlet side, I would say overall we're taking a balanced approach to outlets. We're certainly pleased with the performance we're seeing in the converted MFO and the new MFO outlet stores. We do anticipate more conversions and openings in 2016. But obviously we're also mindful of the balance between our outlet stores and our full price stores. So that will continue to be something to which we'll pay close attention.
Thank
you. And our next question will come from Paul Lejuez with Citi.
Hey, thanks guys. Hey, on the improvement in international, just curious if that was driven more by better sales to local customers or has there been an increase in tourist shopping and spending in some of those locations? And then just secondly, curious about your initial thoughts on CapEx for next year? Thanks guys.
Hey Paul, on the international improvement, most of our business internationally is local, particularly in the mall based stores. We obviously have some flagship stores in more tourist based locations. But tourist business in our international business is a relatively small slice of the business overall. So predominantly that improvement has been driven by the local customer. And that was Joanne for the CapEx question.
We are currently evaluating our CapEx budgets and we'll I don't have a lot to I can't report a lot today, but we are in the process of evaluating CapEx budgets in light of a lot of the projects that we have initiated this year, evaluating the performance and those will all be included in the outlook that we provide at the end
of the year.
Thanks. Jonathan, just to follow-up, can you share the performance of the flagships versus the mall stores internationally?
Yes, we certainly don't get into that level of detail. I would say in terms of the overall impact of the comp of the flagship and tourist stores, it wasn't a material impact relative to the overall trend of the business. Thanks guys. Good luck. Thank you.
Thank you.
Omar Saad with Evercore ISI has a question.
Hi, guys. This is actually Westcott Roeschad on for Omar. Can you speak to your online business? I think you said it was up both international and in the U. S.
I know you called out China, but can you speak give a little bit more color about the growth in the online? I think that that's been under a little bit of pressure. It seems like it's turned. Thank you.
Yes. It was up both domestically and internationally. Again, we don't typically sort of pass it out much more than that. And we talked in the prepared remarks about strong growth in China as we lap the even after we've left the localization there. As you probably recall, about a year ago, we went to local fulfillment, local translated websites in China and for Asia as a whole.
And that gives a very significant boost to the business, which is obviously also been augmented by the increased store presence, growing brand awareness in the region. So overall, we saw growth across domestic and international, strong growth in China and we typically don't pass it out much more than that.
And we'll take our next question from Anna Andreeva with Oppenheimer.
Good morning. This is Janet Lynn on for Anna. We were hoping that you could speak to some of the changes going on at the A and F brand and any more detail on the prototype remodels. Also I know at A and F there have been some ongoing adjustments to pricing. If you could speak about the progress of these initiatives and maybe an update on other ways the new leadership is affecting the business?
Thanks.
So in terms of the prototype, Janet, so we opened a couple of stores. They are more opening feel, slightly lighter in terms of the ambiance. And we made adjustments to the way that we laid the product out. So far the results are encouraging, but it's very early days. In terms of pricing, pricing really is an ongoing thing that we look at on a continual basis.
There's no strategic shift in pricing other than we have to be very mindful of our brand position and we have to be competitive. And then in terms of the organizational structure and people, quite a few hires obviously are now embedded in the business and they're all making an impact on the improvements that hopefully we'll see in the brand next year.
Okay, great. And if I could just sneak in a follow-up. I know you said traffic has been a challenge. What do you think, I guess was traffic stronger at A and F versus Hollister or what were your trends
versus the mall?
I think we're commenting on obviously that across U. S. Retail in general mall traffic has been challenging. I don't think that's any breaking news and that's something we certainly experienced as well. And in general improvement we've seen in our business has been from conversion rather than traffic.
So it's important for us going forward to start to drive more robust traffic as as Arthur alluded to in the opening comments.
Our next question will come from Oliver Chen with Cowen and Company.
Congrats on solid results. We just wanted to ask you regarding the balance of the assortment between some of the attractive price point essentials versus novelty. Like how do you feel about the evolution of that? And also regarding the apparel execution, I'm just curious about how the integration has been amongst the categories as you become more and more of an outfitting kind of whole picture destination? Just wanted your thoughts there.
Thank you.
Well, like you say, the balance of the assortment is an evolution. It's a continual process and it's something we change on a reactionary basis to what customers need. Essentials is a very important part of the mix, but so is more improved and higher design content product. So all I can say really, Oliver, is that it's something that's a continual process.
And from the Hollister perspective, it's part of our good, better, best pricing strategy. And we are currently finding success, both with our entry level with the must haves, as well as our fashion offerings. So it's been a nice balance between the 2.
Okay. And women's tops is really impressive that you've had good momentum there. What's next for that category? And is this early innings of this positive response that you're seeing?
And we too are encouraged by the positive response. Clearly, as we've discussed several times, our conversion has been up significantly domestically and internationally, which signals that the customer likes what we are putting out there. And we'd like to believe that that will continue.
Thank you. Best regards.
Thank you. Thank you. We have
time for one final question. And that question will come from Lorraine Hutchinson with Bank of America Merrill Lynch.
Thank you. Good morning. Joanne, just looking at where currency rates are today and also taking into account your hedging, what kind of pressure do you expect on both the top line and the gross margin for next year?
Yes. Lorraine, and some of that remains to be seen as we move through the quarter. But what we can see today, a top line perspective, we do see the FX pressure abating, but still being a headwind, so abating from what we've seen in the prior few quarters. However, as you mentioned, the hedging benefits, we had larger hedging benefits last year in Q4 as we were just stepping into these rate declines that we don't expect to anniversary. So on the margin line, we expect the FX headwinds to be very consistent with what we've seen for the prior quarters, but on the top line abating somewhat.
In the Q4. In the Q4, right.
And then as we move through next year, when do you expect that margin headwind to abate?
There's obviously a big dependency on the exchange rates. So based on however, we do have some hedging benefit that we experienced pretty much throughout the year this year that will be up against next year. So obviously, very much dependent on where the currency rates and how they move through the year, but we have a known headwind on the hedging benefits from this year going into next year.
Thank
you.
And that does conclude our question and answer session. And that is all the time that we have for today's conference call. We thank you for your participation.