I would now like to introduce your host, Tina Romani, Senior Director of Investor Relations. Please go ahead.
Good afternoon, everyone. Welcome to Gap Inc.'s fourth quarter 2018 earnings conference call. Before we begin, I'd like to remind you that the information made available on this webcast and conference call contains forward-looking statements. For information on factors that could cause our actual results to differ materially from the forward-looking statements, as well as the description and reconciliation of the non-GAAP financial measures, as noted on page two of the slides supplementing Teri's remarks, please refer to today's earnings press release, as well as our most recent annual report on Form 10-K and our subsequent filings with the SEC, all of which are available on gapinc.com. These forward-looking statements are based on information as of February 28th, 2019. We assume no obligation to publicly update or revise our forward-looking statements.
Joining me on the call today, our President and CEO, Art Peck, and Executive Vice President and CFO, Teri List-Stoll. With that, I'll turn it over to Art.
Hi, everybody, thanks for joining us today. I'm going to start by discussing the announcement we made this afternoon to separate Gap Inc. into two independent, publicly traded companies, cleverly named NewCo and Old Navy. I'll then get into specifics around the quarterly results. Our announcement today is an acceleration of our balanced growth strategy and an indication of my commitment to position all of our brands for success. With this plan, we will stand up two independent companies, creating a unique and differentiated portfolio of specialty brands in NewCo and standalone Old Navy, both well-positioned to lead in the evolving retail landscape. NewCo will bring Gap brand, Athleta, Banana Republic, Intermix, and Hill City into one operating model. I feel strongly that this combination of brands will be powerful.
By bringing them together, we can better leverage capabilities and investments across the brands, share best practices, and drive efficiencies to create value for all stakeholders. NewCo will have approximately $9 billion in annual revenue, a strong balance sheet, and a significant opportunity to innovate and explore new ways to serve the customer. Quite frankly, what's on my mind is to write the next chapter for specialty retail. I also believe NewCo will be positioned to take a global leadership role in sustainability. It's the ethos of this company and the ethos of these brands. In Old Navy, we have one of the fastest-growing apparel retailers in the United States, with a winning business model and an impressive runway for future growth, including capitalizing on opportunities like opening new stores and expanding into new product categories.
The standalone company will have approximately $8 billion in annual revenue and will be able to capitalize on its scale, broad consumer awareness, and unique positioning to drive growth. Why are we doing this, and why now? Our customers' preferences and shopping habits continue to evolve, which is challenging the traditional retail model. We've responded to this with our balanced growth strategy, which has positioned us well with investments in our global supply chain, our digital capabilities, and an enhanced and evolving omnichannel customer experience, while at the same time improving operational efficiencies across the company. Over time, Old Navy's value creation levers, business model, and customers have increasingly diverged from our specialty brands.
That divergence to me is now clear, and we think the best way for each company to grow and meet the evolving needs of our customers is to allow them to pursue tailored strategies separately. The separation presents us with a unique and catalyzing moment to simplify what we are doing and how we're doing it. With more focused companies, decision-making can be accelerated, and I'm confident that we'll be able to move quickly and with agility to serve our customers. Let me describe what each of these companies is going to look like in a bit more detail, starting with NewCo. Following the separation, I will become the CEO of NewCo.
I'm excited to lead and continue to lead these great brands under a different structure that will create clearer focus on what is necessary to deliver improved profitability at our mature brands, Gap, Banana, and Intermix, while capitalizing on the momentum and the newly launched Hill City. With approximately $9 billion in revenue, NewCo will continue to have scale, but will be better positioned to drive sustainable growth, improve profitability by leveraging a scaled operating platform to deliver distinctive products and experiences to an attractive and loyal customer that significantly overlaps. In NewCo, we have the advantage of iconic brands, but we also have a business that needs to evolve and change. With our concurrent announcement on restructuring the Gap brand specialty fleet, we have a smaller, healthier base of stores that provide a critical component of the omni-experience that our customers demand.
In addition, we will continue to grow with the value trends in the industry in our outlet and factory business across the portfolio and thoughtfully evolve specialty access through locations and formats that serve our customers' shifting shopping patterns. The NewCo challenge and the NewCo opportunity is to provide truly frictionless access across stores and digital, to continue to harness the power of data from cross-brand shoppers, and to become what I call radically more responsive to our customers. As I mentioned earlier, NewCo will be uniquely positioned to grow its leadership also in sustainability and social responsibility. It can build off the B Corp certification recently earned by Athleta to potentially become the largest publicly traded B Corp, positively impacting the environment, our employees, our vendors, and our customers.
Responsibility has been a foundational element of Gap's history. We have the opportunity and obligation to lead the industry going forward. Turning to Old Navy, which I am quite honestly equally excited about. As the number two apparel brand in the U.S. with approximately $8 billion in annual revenue, Old Navy will be able to capitalize on its scale, broad customer awareness, and unique positioning to extend its category leadership, maximize revenue growth, and deliver a profitable growth as an independent company. Sonia Syngal, who has led Old Navy since 2016, will continue as the CEO of the standalone company. She has a proven track record of results, leading Old Navy's most recent transformation and driving product-to-market innovations that serve all of our brands. She also has deep experience managing and optimizing the supply chain and manufacturing, both at Gap Inc. and in other industries.
With its U.S. store footprint under-penetrated versus the value peers, Old Navy will have improved focus and operating discipline that will enable it to increase customer access through new stores, including infill locations and smaller markets where our tests indicate substantial opportunity. Old Navy will continue to evolve its omnichannel model and will have the opportunity to expand its product categories and market presence to continue to successfully resonate with value-focused consumers. I look forward to seeing where Sonia and the team take Old Navy. I and all Gap Inc. shareholders have a vested interest in that success. Teri will discuss some specifics of the transaction in more detail. Before I hand it over to her, let me switch gears and hit some highlights of our Q4 and fiscal year results.
Overall, the quarter did not live up to what I know our brands can deliver. We did not finish the year as strongly as expected. As others have pointed out in the industry, the macro environment played a role. We know we can do better, and we are committed to doing better in the areas of the business that we control. That said, as we look back on the year, there's many things to be pleased with. We made good progress on our productivity goals and disciplined choices to deliver our guidance. We saw the continued renewal of Banana Republic with positive trends and a stronger foundation. We continue to see market share gains at Athleta and Old Navy. We made meaningful investments in technology to drive future growth and efficiency.
Before I dig into our fourth quarter performance at Old Navy, I think it's important to put into context the health of the brand, which remains strong, and a market leader in the value space. I just really want to start this conversation by saying I have 100% confidence in the Old Navy business and the Old Navy business model. 2018 was a record year for the brand, delivering comp growth of 3% or 9% on a two-year stack. The brand continues to operate at very healthy margin rates, leading the Gap Inc. portfolio. Underlying the success was a large and healthy active file of high-value multi-channel customers that grew double digits in 2018. The brand also nicely grew its high-value multi-channel shopper base.
Old Navy has successfully introduced new product to the assortment that have quickly become must-have staples such as fleece, puffers, and fashion outerwear. These add to the continued strength in tees and jeans for the entire family. Old Navy continues to play and win across a wide range of merchandise categories with continued room to grow. Looking at the quarter after a strong start in November and through the Black Friday weekend, Old Navy, like other concepts, experienced a deceleration in traffic in the middle of December, and we quickly began hindsighting the trend. While there may have been some macro issues at work, we also recognize we could have done more to engage with our customers to drive traffic during this typical lull in the season.
We also acknowledge that our assortment did not provide enough newness or excitement, and that our investments in products were more heavily skewed to repeated winners, leaving less room to flex into better performing items. While we are generally not satisfied with our execution for the holiday and should have been able to drive a better Q4 result, we know and I know the brand's momentum remains solidly positive. Old Navy is still an incredibly exciting growth story, and I remain very confident in the brand health and the leadership team's continued focus on delivering exceptional product, fresh marketing, superior customer experiences, and continuously pursuing operational excellence to drive growth. Turning to Banana. Overall, 2018 was a year of progress that strengthens our confidence in the relevance and potential for Banana Republic, with the brand achieving a positive comp coupled with 120 basis points of product margin expansion in 2018.
On the product side, Banana Republic grew market share across pillar categories including sweaters, suiting, and dresses and skirts. On the customer side, our connection with the customers at BR is getting even stronger, and our customer base continues to grow as product acceptance ticks up. Acquisition and reactivation rates improved over the last year, reflecting marketing that now has a more consistent and brand appropriate aesthetic. On the operations front, the team is now working more productively and efficiently from their single headquarters location in San Francisco. In Q4, BR delivered margin expansion, which was a continuation of their trend, underscoring the team's commitment to reducing the intensity of promotions used in the commercial plan. In line with this strategy, the brand pulled back on promotional levels during the quarter, which was a detriment to traffic and ultimately comp during the highly competitive holiday season.
The team is continuing to assess the effectiveness of utilizing varying degrees of promotional messaging, particularly during event-driven periods such as holidays, as they continue to focus on providing value and experience our customers expect while continuing to drive margin expansion. Overall, the BR team is determined to capitalize on the momentum seen throughout this year and will incorporate key learnings from holiday as they continue to focus on building strength through customer re-engagement and acquisition, all the time while reducing promotional intensity to drive further margin expansion. Athleta. Zooming out for the year, there's a lot for us to be proud about their performance. Another market share gaining year. We opened 13 stores ending the year with 161 stores. The girls' business remained spectacular, delivering an over 60 comp for the year. The entire company received B Corp certification, which is really resonating with customers and employees.
The active customer file grew 20%, exceeding their goals, and we launched our men's performance lifestyle business, Hill City. In Q4, Athleta experienced similar traffic softness in December that we've spoken about. Sales less traffic, a key indicator of product acceptance, remained positive and held to year-to-date trends. We continue to see tremendous market share opportunity and runway for growth in 2019 and beyond by leveraging the brand's differentiated positioning and purpose-driven mission, our unique range of product offering, and growing our capabilities in performance fabric innovation. Moving on to Gap. As I committed last quarter, we have taken thoughtful and decisive action to radically restructure our fleet to address stores that are underperforming or do not represent the best of Gap brand. Teri will get into more detail, but looking ahead, we intend to close approximately 50% of our specialty stores.
The majority of the closures will be concentrated in North America, leaving us with a smaller but healthier specialty fleet. While there's work to do on the remaining fleet, including continuing to reduce square footage and bringing stores to brand standards, we're confident these closures will play an important role in revitalizing the brand. After the closures, we expect to see significant improvement in channel mix with our profitable online and outlet businesses representing approximately two-thirds of the business, and specialty the other third down from about half today. As I mentioned last quarter, our market research strongly supports the view that Gap remains a relevant brand with strong emotional equities. As challenging as 2018 was, logo sales, which to me are an indication of the equity of the brand, were up 11% globally.
To me, this is a clear sign of the relevance of the brand, and even more importantly, the strong emotional connection with and pride in a brand like Gap. It's clear the potential for future growth and penetration is there. We just need to give our customers the quality, fit, and style they want. To address those issues, we've been focusing on improving the product engine of the business on three fronts. Process improvement. As you know, we're adopting best practices from across the company while driving a culture of continuous improvement. Talent and structure, super important and critical to me. Neil's been in the building now for about six months, and he's been investing in the right talent and structure for Gap brand. Clear lines of accountability for our channels and regions, dedicated teams to give North American specialty and outlet.
We recently announced the appointment of Alegra O'Hare as chief marketing officer, formerly with Adidas. Alegra is a marketing innovator with extensive experience leading a major brand through a creative turnaround and frankly, a major brand through a revitalization, and we're thrilled to have her skills and her perspective on board. Lastly, category strategy. Denim is the core of Gap brand, and we are and we will be leading with denim. We recognize the competition in the market for denim, The market is large and the market is attractive and is the essence of Gap brand. The world we live in is divisive. This really gets to the core of Gap brand's equities and the heart of the brand. We believe and our customers tell us there's something really special about what Gap brand can do to bridge the gap.
By leveraging the strengths of our iconic brand to offer products and an experience that celebrates individuality, drives inclusion, and brings us together. We have our work cut out for us, this we acknowledge, We know what we need to do to win, and we are committed to restructuring the fleet and revitalizing Gap brand to unlock shareholder value and drive profitable growth. As we've already outlined in this call, there are many opportunities to drive profitable growth in our amazing brands. I intend to continue to pursue those tirelessly and aggressively, both to strengthen the results of Gap Inc. through 2019 and to set both NewCo and Old Navy up for success as independent companies. This is somewhat of a historic moment for the company, one where we begin to chart the course in our 50th year for the next 50 years.
We're creating two compelling companies that will have the ability to drive growth and value for customers, employees, shareholders, for many years to come. We have a lot of work to do before the separation. We're just beginning the detailed planning to support the execution, and I will not allow this to distract us from delivering on the current business so that our brands enter their next phase healthy, strong, and poised for growth. With that, Teri, I'll turn it over to you.
Thanks, Art, and good afternoon, everyone. In the interest of time, I'll be quite brief in my comments to leave time for Q&A, of which I suspect there are a few. Let me start with some additional information on the separation announcement. We expect that the separation will be effected through a spin-off to Gap Inc. shareholders that is intended to generally be tax-free for U.S. federal income tax purposes. Once the separation is complete, Gap Inc. shareholders will receive a pro-rata distribution of the shares of NewCo and Old Navy stock. The ratio of shares that will be distributed will be determined prior to the actual separation.
We currently expect the transaction to be completed in 2020, subject to certain conditions, including final approval by Gap Inc.'s board of directors, receipt of a tax opinion from counsel, the filing and effectiveness of a registration statement with the U.S. Securities and Exchange Commission, and certain other customary conditions. After the separation, NewCo and Old Navy are expected to be appropriately capitalized with sufficient liquidity to support both planned operating and investment plans, as well as capital allocation philosophies. I'm sure you'll have a number of questions that we are not prepared to answer definitively at this point. As we move through the process towards separation, we're committed to full and transparent disclosure to ensure a complete understanding of the transaction and its implications.
This is an important and transformational step for Gap Inc., one that affects our employees, our investors, partners, vendors, other stakeholders, and one that we certainly haven't taken lightly. It has become increasingly clear that our balanced growth strategy, while successful in building necessary capabilities in areas like supply chain and digital capability that are important to a scaled operating platform, no longer effectively supports the diverging needs of Old Navy versus our traditional specialty brands. Now is the right time for us to take the next step on our journey to both ensure the competitiveness of our brands and to deliver shareholder value. Next, let me just share a bit more detail regarding the Gap specialty fleet rationalization we announced today. The Gap brand, as Art mentioned, is an important component of both Gap Inc.
The proposed NewCo portfolio, and this is an important step to improve the profitability of the specialty channel. We started the year 2018 with 725 global specialty stores, excluding China, which continues to be a growth market for us. Between the 68 specialty stores that we closed this year and the 230 additional specialty closures that we announced today, this represents closure of nearly half the fleet, and there will be additional natural expirations and closures beyond 2020. To identify the stores for closure, we focused on those that were not delivering appropriate levels of contribution, were in the wrong locations, or otherwise were not a strategic fit in the fleet. Our objective is to ensure the remaining fleet is located and sized appropriately and can generate sufficient returns to warrant the investment to remain brand appropriate and provide a positive customer experience.
To accomplish these closures, we're balancing the need to move aggressively but economically. There are approximately 150 closures that will take place as leases naturally expire over the next two years. In that same time frame, we also are actively pursuing more rapid closures of about 75 and up to maybe 100 stores that do not meet our criteria for retention. We expect the stores with the most significant losses will be closed by the end of fiscal year 2019. In total, we expect these decisions to result in annualized pre-tax savings of about $90 million. It's important to note that we expect an annualized sales loss of about $625 million from the closure of these stores, and we estimate restructuring costs of about $250 million-$300 million, with the majority expected to be cash expenditures.
Through this work, we will have a smaller, healthier base of stores that play an important role in the omni experiences our customers demand. In addition, we'll continue to focus on growth in our online channel, which we expect to evolve to over 40% of our business as we restructure the specialty fleet. We believe Gap brand will be well positioned to compete effectively with an omni model that offers locations, formats, and experiences that serve our customers' shifting shopping patterns. Let me now briefly summarize our fourth quarter and full-year results. While 2018 presented some challenges, we're pleased to have delivered fiscal year earnings per share within the original guidance we set at the beginning of the year.
As a reminder, both fourth quarter and full-year results are negatively impacted by the loss of the 53rd week, which amounted to about $0.06 of EPS for the year and $0.16 for the fourth quarter. Additionally, our reported 2018 results include the presentation changes from the adoption of the new rev rec standards, the impact of which is presented on our website. To the details. The net sales for the quarter were $4.6 billion, with comp sales down 1%. For the full year, net sales were $16.6 billion, up slightly over last year when excluding the presentation changes from the adoption of the new rev rec standards. Comp sales for the year were flat compared with a positive 3% last year. At Old Navy, Q4 comp sales were flat against last year's 9%.
For the year, Old Navy's comp sales were up 3% as we continue to grow share. As Art mentioned, while the Old Navy brand remains fundamentally strong, the fourth quarter was disappointing, particularly in stores. Our online trends remain very strong, with double-digit increases in traffic and conversion during the quarter. That said, in both channels, there certainly were macro factors at work, but we also missed opportunities around both newness in product and effectiveness of commercial plans. We've hindsight some of the execution misses that are within our control to incorporate learnings into next year's plan. The leadership team is also diving in to better understand and quickly course correct some product softness we continue to see around women's wovens and dresses. At Gap, the Q4 comp sales were down 5% against a flat comp last year.
As expected, a more balanced assortment helps drive an improvement in margin trends versus last quarter. At Banana Republic, Q4 comp sales were down 1% against a positive 1% comp last year. The Q4 comp results reflect the team's continued focus on reducing promotional levels, which delivered margin expansion in the quarter but negatively impacted traffic during the competitive holiday season. We continue to be pleased with the brand's progress and look forward to the team continuing to refine and build upon strategies that have driven improvement in recent performance. Athleta delivered another good quarter on top of last year's remarkable trends, resulting in a two-year comp of nearly 30% positive. While Athleta's performance remains strong, we also have a little room to do better there.
Lastly, our online channel had another strong year, exceeding our goal with over $3.6 billion in sales, representing a mid-teens growth rate over last year. Moving to gross margin. On a reported basis, Q4 gross margin was 35.6%. $123 million or about 140 basis points of expansion was driven by the presentation changes from rev rec adoption. Excluding that impact, the fourth quarter gross margin declined 260 basis points, driven by the merch margin decline of 150 basis points and 110 basis points of rent and occupancy deleverage resulting from the loss of the 53rd week. Merch margin deleverage was primarily driven by Old Navy and Gap. With the strength of our online business during the quarter, we did experience some deleverage related to shipping expense. As I mentioned last quarter, we continue to have opportunities to optimize our shipping costs going forward.
Deleverage in rent and occupancy was primarily driven by the loss of the 53rd week. For the full year on a reported basis, gross margin was 38.1%, $443 million, or about 130 basis points of expansion was driven by the presentation changes from rev rec. Excluding that impact, fiscal 2018 gross margin declined 150 basis points, driven by a merch margin decline of 140 basis points and 10 basis points of rent and occupancy deleverage. On SG&A. On a reported basis, fourth quarter total operating expenses were $1.3 billion. The presentation changes from rev rec resulted in a $123 million increase in operating expenses and accounted for 170 basis points of operating expense deleverage. Excluding that impact, fourth quarter SG&A as a percentage of sales leveraged 270 basis points. This leverage in the quarter was largely driven by a decrease in bonus payments.
In the face of a challenging holiday performance and in line with our priority of driving a performance culture, we made the difficult but appropriate and necessary decision to decrease our bonus payout for the year. For the full year, total operating expenses were $5 billion. The presentation changes from rev rec resulted in a $443 million increase in operating expenses and accounted for 160 basis points of operating expense deleverage. Excluding that impact, full year SG&A as a percentage of sales leveraged 100 basis points, exceeding our previous guidance and underscoring both our commitment to delivering results in a disciplined manner and executing against our productivity initiatives. I'm very pleased to report that we exceeded our internal productivity goal by identifying and actioning against about $300 million of productivity savings this year.
As a reminder, prior to 2018, we had been deleveraging SG&A by about 170 basis points as we ramped up investments. With the help of our productivity efforts, we were able to increase our investment in technology and digital capabilities while also leveraging SG&A. During the fourth quarter, we finalized our provisional amounts related to the enactment of the TCJA, resulting in a fourth quarter effective rate of 24.4% and a fiscal 2018 effective tax rate of 24.1%. Turning to earnings, our fourth quarter 2018 earnings per share were $0.72 compared with reported earnings per share of $0.52 last year and adjusted earnings per share of $0.61, excluding the net impact of tax reform in 2017.
Full year 2018 earnings per share, including the benefits of a lower tax rate, were $2.59, compared with reported earnings per share of $2.14 last year, and adjusted earnings per share of $2.13, excluding the net impact related to tax reform in 2017 and the second quarter gain from insurance proceeds related to fixed assets. Our fiscal 2018 free cash flow was $676 million, compared with $715 million last year, which included $66 million of insurance proceeds related to property and equipment. We ended the quarter with $1.4 billion of cash equivalents, and restricted cash, as well as $288 million of short-term investments. Regarding capital and store count, fiscal 2018 capital expenditures were $705 million, below our previous guidance of $750 million, as we reduced capital expenditures in response to more challenging operating performance. Now moving to 2019.
On a reported basis, we expect earnings per share to be in the range of $2.11 to $2.26. Excluding costs associated with our restructuring plans, we expect earnings per share to be in the range of $2.40 to $2.55. The guidance range does not incorporate any costs associated with preparing for and executing the separation we announced today. We'll provide visibility to those as the plans develop and as the costs are incurred. As I mentioned, we made the difficult but necessary decision to reduce bonus payout. As we look to 2019, we expect reinvestments in our bonus plan that will better reflect a performance culture, aligning employee and shareholder interests while enabling us to attract and incent talent that is motivated to fuel our path forward. As we reset our bonus payout and lap the minimal payout this year, this may cause our expense to deleverage next year.
With that in mind, let me take you through some expectations for the first half. We do expect the first half to be more challenging. As has been widely published, February has been unseasonably cool. The historically cold start to the year has impacted all of our businesses, particularly Old Navy, which tends to be the most weather sensitive. While we're seeing double-digit comps in seasonal cold weather products such as denim, fleece, sweaters, we're also seeing softness across spring seasonal categories. Secondly, as I previously mentioned, the Old Navy leadership team is diagnosing some of the product acceptance softness around women's wovens and dresses, which we expect to improve in the back half. Our margin for the first half will be more challenged. In addition to the reasons just mentioned, the Gap brand continues to work through its brand revitalization and fleet restructuring.
As a result, we expect an improvement in second half comp and margin trends for Gap brand compared to the first half of the year. Based on this, we currently expect adjusted first half earnings per share to decrease relative to EPS for the same period last year. We currently expect a high teens % decrease. Regarding capital expenditures, we expect fiscal 2019 capital expenditures of about $750 million, which includes about $100 million of expansion costs related to one of our headquarters buildings in a buildup of our Ohio distribution center. Additionally, at the start of the year, we entered into a transaction to purchase our Old Navy headquarters building in anticipation of deferring the gain on sale of another building. The net cash outflow of the exchange is expected to be approximately $100 million-$150 million.
Regarding company-operated stores, including closures related to the Gap brand fleet restructuring, we expect to close about 50 company-operated stores, net of openings and repositionings. Openings will continue to be focused on Old Navy and Athleta. Our cash priorities have not changed. We are maintaining our current dividend rate, which currently provides a 4% yield. Given the restructuring efforts this year and the spend related to the purchase of the Old Navy headquarters and expansion of our Ohio DC, we intend to reduce our share repurchase levels in 2019. Our current thinking is to repurchase at least sufficient shares to cover the dilution from our option exercises or approximately $50 million per quarter. A few other relevant metrics. We currently expect fiscal 2019 comp sales to be flat to up slightly.
We currently do not expect a meaningful impact from foreign exchange to EPS in 2019, We expect a full year effective tax rate of about 26%. In fiscal 2019, we'll be adopting the new FASB lease accounting standard. The adoption is not expected to have a significant impact on our income statement, It will result in a substantial gross up on our balance sheet to recognize a lease liability and right of use asset for our leases. We're applying the standard prospectively in Q1 with a cumulative adjustment to retained earnings.
Just to close out, this is an exciting time as we position our brands to once again play a leadership role in reinventing the retail experience. For the upcoming year, we have two priorities, to continue to strengthen the performance of our brands with improved execution, and to prepare for the separation that will create two new standalone public companies that are uniquely positioned to win with customers and for shareholders. With that, we'll open it up to questions.
Thank you. Ladies and gentlemen, if you'd like to ask a question at this time, please press *1 on your telephone keypad. If you're on a speakerphone, please make sure that your mute function is turned off to allow your signal to reach our equipment. As a reminder, please limit your questions to one per participant. Once again, that's *1 for questions.
Yeah, no, that works.
Our first question will come from Randal Konik with Jefferies.
Yeah, thanks a lot. Hi, guys. Congratulations on the strategic direction. I think it's a great move by the company. I guess, Art or Teri, I wanted to ask, last time we got disclosure around margins by division, Old Navy was around the mid-teens mark. Obviously, the weather's going to impact that a little bit because of markdowns, et cetera. But I was just curious, just because people will be interested on the call here to get some sense of how to value Old Navy properly now that it's being split off. Do you see Old Navy as more of that kind of stable mid-teens type of operating margin business? Just curious on your thoughts there, how we should be thinking about that over time, given it's such a very stable type business model.
Second, as it relates to Gap division, you gave some great color last quarter that showed the various almost profit differences, margin differences between Gap specialty versus Gap outlet versus Gap online. Any kind of update to that and how we should be thinking about how the store closures of the Gap specialty side help to get to a normalized profit margin rate for the entire Gap division? Because I think that would be helpful to people as well, to how we should be thinking about what could Gap divisional segment margins look like going forward on a normalized basis once these stores are closed. Thanks, guys.
Sure. Thanks, Randy. You will, over time, get a great deal of transparency on both of the questions you asked. We will, of course, as we move forward towards the separation, have audited financial statements for Old Navy that will have a great deal of detail, and the same for NewCo. The way we see Old Navy is having tremendous growth prospects, both in terms of the top-line growth levers that Art mentioned, but also in terms of margin expansion over time. There's no question that in 2018, Old Navy margins did take a bit of a hit, particularly from the fourth quarter trends that we talked about today. It's just such a big part of the year that it's difficult to recover from that.
As we often do, because Old Navy is such a units business, the most responsible thing for us to do when traffic slows is to move through that inventory, take the necessary markdowns and the margin impact, and move forward so that we can continue to start clean. We saw those effects, but that is not what we believe is the long-term trajectory of the brand. Very much see Old Navy as having growth opportunity on both the top and the bottom line going forward. With respect to Gap, we talked about the magnitude of the impact of the closures in specialty as we look forward in terms of their contribution to the total company. Obviously, dramatically changing the complexion of the specialty channel and changing the mix of the business across the channels for the Gap brand.
We're not going to get into specific margin rates for the Gap brand or the specific channels other than to say that as we continue to drive forward with not just the fleet restructuring, but with the overall brand revitalization, we see, again, opportunity for tremendous margin progress there over time. We'll certainly continue to paint that picture with the additional specifics necessary to understand the progress and timeline as we move through and prepare for the separation.
Understood. Thank you.
Our next question will come from Dana Telsey with Telsey Advisory Group.
Good afternoon, everyone. Congratulations on moving forward to extract greater value. Art and Teri, as you think about the puts and takes of separating the businesses, we've talked in the past about supply chain manufacturing systems. How do you think about separate businesses, and they're still big, but what expense changes do you envision from having separate businesses? Thank you.
Thanks, Dana. It's Art, and I'll let, obviously, Teri chime in on this one as well. You put your finger on a big part of the work that we've been doing because the benefit of scale and size is a real benefit. To your point, these are still going to be, frankly, substantially larger than the average apparel company. We feel in a number of places, we're far enough down the scale curve that we can actually hold on to that and continue to move forward. We have done some work on looking at what the potential dis-synergies would be. We're continuing to work on our technology stack and some opportunities that we have there. We're certainly doing the work at the back end from a supply chain standpoint.
I guess I would point out here, and we'll talk more about this, I'm sure, but probably what really got me there, frankly, and why I want to move with urgency on this, and I'm so committed to the belief that this is the path forward. Is that there has been an accelerating divergence between the businesses, with the path for Old Navy and the path for the other businesses. That's also true on the back end with our vendors, where there's more alignment with Old Navy and less overlap with the other brands. The other brands overlap each other, but overlap Old Navy less. The other side of it is, I continue to believe, and I know Teri feels the same way, that we are a long way from done with the productivity opportunity in the company.
We've made progress, in my mind, not enough progress and not progress fast enough. I am very acutely aware and focused on the fact that a catalytic event like this can help us potentially accelerate that. I'm not going to give you specifics right now. I know you'd really like those. We'll continue to work those. I'll just reiterate Teri's commitment in her remarks, which is, there are a lot of questions we can't answer right now. We are quite confident that we have done the work to get us to this point, informing the fact that we believe this is a very significant and important step, and it does unlock significant value creation potential.
As we continue to do the work and learn things, we're going to be as transparent as we possibly can to really show you what these two new companies look like and what the puts and takes are associated with this. We're confident it's the right thing to do. Absolutely confident.
Thank you.
Our next question will come from Mark Altschwager with Baird.
Good afternoon, thanks. Art, I don't know if you'll be able to answer this at this point, but what strategies do you have in mind for Gap brand that you think will be better executed as a standalone company versus part of Old Navy? Do you see major changes on tap to the makeup of the assortment, the target customer, the pricing architecture? I guess, big picture, where do you see Gap's sweet spot in the next chapter of specialty retail?
Well, the first thing we've done, obviously, is with this step on store closures, is to pretty radically remix the channel exposure. That's important. The remixing of the channel exposure is something that every retailer that has been dominant in the higher end of the specialty apparel segment is going to need to do. I frankly see Gap leading the way in informing some of the things we need to do. We are going to close some stores inside Banana Republic. Overall, Banana has a much healthier fleet, but we are going to take this opportunity to close some stores that we don't think in the same way have attractive economics or are right for the brand. We've been pretty purposeful and intentional about, frankly, not building Athleta as a business of the past, but rather a business of the future.
It's less about the specifics of Gap brand than the divergence between the needs and opportunities in Old Navy and the needs of the specialty brands. That divergence is, fleet. The specialty brands have more alike in their fleets than not. They both have outlet businesses. Athleta does not. They have an international footprint, Old Navy less so. Then technology options as well. A simple example would be is that Old Navy's use and need for a mobile POS solution is quite different because of the in-store service model than an Athleta or Banana Republic.
Part of what got me here, frankly, and why I really have a lot of energy about this is I found myself in the process of allocating capital and OpEx for investment decisions, increasingly negotiating compromises in the portfolio that frankly were the least bad solution versus highly optimized for the two different business models. I'm a big believer that least bad solutions aren't the best way to win. Therefore, a lot of this is just getting that focus, that focus around investments, that focus around alignment of incentives, the purity of what these two businesses need to do. It's going to make the work a lot easier and a lot faster as well. Then there are just a couple points of alignment, which is I am big on the sustainability thing.
It's not that Old Navy isn't there as well, but I think we can get there really fast with NewCo, and we know that matters to our customers. I think we're going to see it matter to our customers at an accelerating rate. That's kind of a gift with purchase, if you will, but it is an important one for me. I don't know, Teri, if you want to say anything more. No?
All said. I think, to echo the focus point, more and more often over the past year or so, in particular, we have found ourselves having to debate internally what's right for Old Navy versus what's right for one of the other brands. Often, particularly you think about the needs of Old Navy versus an Athleta, whether that's web investments or data analytics investments or technology tools that as Art mentioned, more and more often, you are coming to quite different answers for Old Navy versus the other specialty brands. Then, as Art said, you're forced with suboptimal choices.
This feels like an absolutely right way to set Old Navy up to continue to exploit its growth opportunities unencumbered by suboptimal compromises with the other brands and vice versa for the NewCo brands to really be able to continue to focus on reinventing retail and being leaders in their spaces.
Thank you.
Next, we'll take a question from Adrienne Yih with Wolfe Research.
Good afternoon. Teri, this is a question on the store closures. The 230, how are they distributed globally, and how many are flagships, if any? Then from the perspective of, I think you said 150 of them are going to come off of natural lease expirations or lease actions. The $250 million-$300 million of cash, is that just for the remaining $80 million? If you can give us any color on that would be very helpful. Thank you.
Sure. The 230 stores are global, but they are largely located in the U.S., that is where the majority of them are. Yes, there are flags included in that number. Art mentioned this in the earlier calls. We've really challenged the old-fashioned notion of what a flag should be, how big it should be, and how much you're willing to invest in negative contribution for a flag. We have been very selective in retaining a certain number of flags that are, we believe, necessary to drive customer engagement and customer acquisition in key geographies, but very thoughtful about how we want those to appear and how many of those we need. You're right that the 150 that I cited will be the natural expirations, which leaves us, call it 80 million-ish, or 80 stores not 80 million stores.
Those 80 stores are largely what's making up the restructuring costs. There are things beyond closures included in there. You have some severance.
Inventory issues.
That is largely related to those 80 or so stores. Part of the reason for the number is they tend to be longer lease terms, and they tend to be the flags. There is an additional expense, but we very much have looked at the projected future losses associated with those leases and come up with what we think is an economic way to deal with it.
Just in terms of inventory buys for this year for Gap, do they contemplate, say, half of them? Are they at the end of this fiscal year? Are they weighted toward the Q1 of each of those years?
Yeah. The closures are Sorry.
No, go ahead.
Yep. They are weighted toward the end of 2019, and we are planning our inventory appropriately to minimize the write-offs that would come with closure. Obviously, we're pretty aggressive. Unfortunately, we've been doing this for a while. We know how to close Gap specialty stores and minimize the inventory impact.
Yeah.
This is a bit larger scale. We're planning for it.
I'm not concerned about an inventory overhang that's unplanned here.
Perfect. Great. Great luck with the new strategy.
Thank you.
Ladies and gentlemen, as a reminder, that is star one if you'd like to ask a question. Please limit yourself to one question per participant. Our question will come from Matthew Boss with JPMorgan.
Great. Thanks. At the Gap brand, maybe Art, what categories do you see as fixable by spring versus areas you see taking more time? Similarly, should we expect negative same-store sales at the Old Navy concept in the front half of the year? Maybe just the timeframe you see necessary to re-stabilize that concept.
Teri and I are both looking at each other, wondering where that came from.
Yeah, I wouldn't have chosen those words, Matt.
Yeah.
Maybe we could say, I think we're not going to give you Old Navy comp guidance for the quarters.
Nope.
Certainly, we didn't mean to imply that there is some tremendous overhang in Old Navy. Quite the opposite. There are a lot of categories in Old Navy that are doing very well. We have the weather, which is a factor for sure. You've seen that in a lot of companies. It's something we're dealing with, and we'll work through. Then some, what I would characterize as relatively minor product opportunities that we're going to work through in the first half.
Yeah. In no way, shape, or form, I'll just say it again, do I view Old Navy as sick in any way, shape, or form. Brand health is good. We're retooling our marketing on the right schedule, which is what we do every period to refresh that.
Still growing share.
Yep. Still growing share. Impressive tier stack. I would love to have done better in a holiday. I think we have a pretty good handle on what we should have done to do better, but I was going to say it's not sick. I'm not even sure it's a little cold, quite honestly. I've said for a long time that we're in a business where not every quarter is going to be perfect, and this quarter wasn't perfect. That is way different than there being any fundamental issue with the business model, the health of the brand, the product offering, the capabilities on the team, all of that stuff. I'm quite confident. Quite honestly, I wouldn't have gone down this path if I felt like we had a repair job on our hands right now. I don't feel that way in any way, shape, or form.
That's great. Then just at the Gap brand.
You said fixed. As we know, fixed is a relative thing. I'm quite confident in what we're seeing. We're seeing key category improvement period over period. We brought Pam Wallack in now a few months ago. Pam and I worked together on the last significant successful turnaround of Gap brand. Denim's at the core of the brand, and there's a lot of attention focused there. We've made significant progress on the knits business, both on reducing the number of CCs and styles and putting more depth behind the knits, as well as improving the quality. To me, there's core categories that Gap has to stand for.
It has to stand for denim. As we're getting into spring, then into summer and the fall, we're absolutely on top of the high-rise trend, the super high-rise trend, the change in leg shape silhouette with a straight, with a cigarette, et cetera. Then bringing in a place where we haven't, which is a little bit more wash range and some more novelty, which has been working. We've just been modestly invested in those areas. I'm exceedingly pleased with what I've seen in men's development season over season. Then kids and baby continues to be a very solid, strong business for us. It's really about women's in those key categories, and denim and knits have been too, with fleece on top of that. We're in a fleece moment. We're investing bigger in fleece as we get into spring, summer, and fall.
It should be a place where Gap should be able to dominate and really own that, and we're putting the investment behind it to make it happen. Again, I've called a turn before, and I've eaten my words. I'm not calling a turn again. What I am looking for is period-over-period improvement, and I'm quite confident and comfortable with what I'm seeing.
Great color. Thanks.
Next, we'll take a question from Paul Lejuez with Citi Research.
Thanks. Hey, guys. Art, can you give us a ballpark dysenergy range that factored into the equation that helped you determine that the separation made sense? I'm also curious about the website. All brands operate on the same platform. Is the plan for Old Navy to no longer be linked to the other brands online? I'm curious what kind of crossover shopping you have between Old Navy and the other brands online. Thanks.
Yeah. I'm not going to give you the dysenergy numbers right now, frankly, because the really relevant number here is going to be what's the net. As you can imagine, in something as material as this, we've been working this with a very able group inside the company, but it's been a small group. We believe we've had the right people inside the tent, as I said before, to make sure that we were stage-gating this and not going to get hung up on a structure issue or a cost issue or a tax issue or something like that. We are confident that, number 1, it's the right thing to do, and number 2, we can get it done. We have a lot of work to do on both really getting into the substance of the dysenergies and then the offset of the dysenergies.
Teri and I go back and forth on this, but we both have, I would say, very aggressive objectives when it comes to minimizing the dysenergies and getting the maximum out of accelerated SG&A productivity. From that standpoint. On the website, to be determined, quite honestly, how we shake that all around. We do have some overlap. With Gap overlap, Old Navy the most. Banana and Athleta, by far the least. Hill City and Intermix certainly the least. I'm not ruling anything out here. Obviously, the world is filled with a number of people attempting to stand up third-party marketplaces right now, third-party digital marketplaces. I have one right here in this company.
I'm sure Sonia is going to want to, as are the executives in NewCo, going to want to preserve as much economic value as possible. We figure that one out. That is a to be determined also, but I wouldn't jump to conclusions.
Thanks. How about on the distribution center side? How many distribution centers are shared between Old Navy and the other brands?
Again, we're doing the work. We feel that the assets actually, as physical units, map pretty well to the brands. Scale really is pretty much inside the four walls. All those facilities are operating at a highly efficient level of productivity. We really don't see the distribution centers as being shared organs. We think it's going to be pretty clean when it comes to mapping to the brands.
Thank you. Goodbye.
Yep.
Alexandra Walvis from Goldman Sachs has our next question.
Hey there. Thanks so much for taking the question here. Two questions from me. The first one was, as you went through this process, what other structural approaches you considered for this group of businesses, and I suppose why this one came out top. Second question is on Old Navy. You mentioned in the prepared comments that you think that this brand has an under-penetrated store base. Where do you think that that store base can get to in the long term? Thank you.
Yeah. I'm sorry. Teri and I were talking very quietly. What the first question again was? Sorry.
Yeah, the first question is you've laid out this plan for the two businesses. I'm just wondering what other options-
Oh, yeah. Right
considered for the business.
Yeah. You can have confidence that we definitively boiled the ocean in looking at all the combinations and permutations here. We felt we wanted to be exhaustive, and we felt we owed it to the board and the employees and our shareholders to look at those. We really looked across the whole thing. We settled on this largely due to business logic at the end of the day, and then obviously how to manage the dysenergies at the same time. I hope what this indicates, without attempting in any way, shape, or form to preview more, is that, as we've said before, we are focused on value creation and have no sort of emotional attachment to a particular combination of these businesses.
We believe this is the best way, at this point in time, to position both of these companies to create more value and more value consistently. We did look at whether or not, as an example, Athleta should be in a different structure or something like that. We feel quite confident that these specialty businesses can significantly benefit by being bundled together right now with a much leaner operating model, where they can move faster and also have focused investment priorities that really meet their needs. The same with Old Navy.
Yeah. I would just add to that, you can imagine when you take a significant step like this, the homework that you do, and just to emphasize Art's point of the range of options. We obviously looked at what do we think we can deliver by staying together and continuing to drive the balanced growth strategy with as much focus and the productivity efforts that are a part of that, all the way to the other end of the spectrum of just sell off each of the brands for what you can get from them. We wouldn't want anyone to think that we just said, "Oh, well, Old Navy's gonna be great on a standalone basis," which we definitely believe, and therefore, by default, we have NewCo. Not that at all.
Not that at all.
It was an intentional choice of how best to position each of the brands in a way that can create value. We really do believe the combination and the unique portfolio that's created by bringing these brands together.
Minimize the synergies.
Gives us the option
Maximize the productivity opportunity. On Old Navy stores, I'm not gonna really put a number out there right now. There's gonna be ample opportunity to talk as we pull essentially the roadshow together for both of these businesses and tell the story. What we have been doing over the last couple of years, because I'm a big believer in this, is placing stores in what would've traditionally been non-traditional markets or locations for Old Navy to validate the strategy. These might be infill locations where, like in the San Francisco Bay Area, you look at the trading patterns and you realize that we're missing stores in key places where consumers are living their lives. We know that there is an opportunity in markets that are smaller than the markets that we've traditionally put stores in.
Especially when you look at those markets and you realize that those are often markets that were served by very traditional legacy retailers, often general merchandise retailers. When a Kmart closes stores or a Sears does, or a JCPenney, as was announced today, et cetera, those markets are oftentimes increasingly underserved. We've found great success with Old Navy in some of those smaller markets. The rents are oftentimes de minimis. The customers are super loyal. Many customers in those markets, because remember, we have a significant percentage of cash consumers at Old Navy. They actually don't have access to the brand through the digital expression of the brand. What's really on our minds is here we have the number two apparel brand in the United States and a significant percentage of the population that doesn't have access to the brand.
We think that's a real winning combination.
Thank you.
Our next question will come from Lorraine Hutchinson with Bank of America.
Thank you. I just wanted to follow up on Old Navy. If you feel like you've fully diagnosed the problem, because I think there were a few fashion misses in 3Q as well. If you think that that is fixed for spring, how quickly could you get that margin back on track at Old Navy specifically?
Yeah, there are always gonna be a few fashion misses. If you're gonna hold, I don't mean you specifically, but if we're gonna be held to the standard of perfection, that's a tough standard. There's a reason they call it fashion, and there's a reason they call it trend, and there are always gonna be some of those. If I go back and I compare to Q4 of 2015, when Old Navy just definitively snatched defeat from the jaws of victory in Q4, we had fashion misses. We were over-assorted. We had a bow wave of inventory that we were pushing forward from the port backups, et cetera. That was a mess, and it took us two quarters to get out from under that mess, really, Q4, and then we started to see the business turn as we got into Q2. That was a mess.
I will say this. Again, I'm not gonna predict the business turn. If I look at the business right now, and I walked it with the team just a week ago, and we looked at our product, I believe a little bit of warm weather would see a significant uptick in the business. A lot of the categories that are in there right now would start to fly out the door. This is not a wreck and redo by any stretch of the imagination. Again, I'm super solid about the business and about the health of the brand and about the product that we have in the box.
Yeah, as we said, there were a number of factors as we've done the hindsighting to make sure that we're well-positioned. Certainly, as we start the first quarter, weather is probably number one. The marketing refresh that Art mentioned is gonna be able to help us drive some traffic. Then, these product fixes in these couple of categories are likely to be more second half benefit than first half. Again, you say get the margin back on track. Old Navy has probably an industry-leading margin and certainly a portfolio-leading margin. We feel very good about the overall health, but we actually think it can do better.
Thank you.
Our last question will come from Oliver Chen with Cowen and Company.
Hi. Regarding the separation, what are your thoughts in terms of the data piece and the digital side with both speed to the consumer and the data scientists that you're employing across the organization and also supply chain, just curious on how that will manifest in the separation, because there were benefits that you had, and you also kind of had a customer through different parts of his or her life. Would love your thoughts there. I think you've helped articulate this but why now in terms of the separation? Thank you.
The data piece, again, I've talked about this. I'm sort of interested in this because I'm not sure we were getting a little bit of benefit. We were getting a lot of benefit as we talked about our strategy, so I hope we don't get a lot of penalty as we talk about the fact that we're separating. That all said, we've looked very carefully at the data assets, and we believe we have a relevant data lake for both organizations that allows us to continue down the path of everything we're doing. Quite honestly, the use of the data, again, this is an element of the divergence of the two businesses. The use of the data we see as having differential benefits in the specialty businesses than in the Old Navy business, whether it's personalization, whether it's marketing, whether it's predictive analytics to inform the buying process.
In no way, shape, or form do I believe that we have anything other than a significant opportunity that was the same as what it was, and we continue to pursue it. We do have customer overlap, and that's something that we're going to manage. The file will be a property we think of both companies. That's something we need to sort out. It's been a healthy and growing file. Again, there are different ways of working through this, marketplace solutions and that kind of thing. It's an issue, we're aware of it. We're focused on it. Again, as we know more, we'll certainly come back and talk about what the implications are. There was a second question then. I was focused on the first. Or was there? What's that?
The second question was just-
Yeah. Why now?
Why now?
Why now? I think as we've talked to. Sorry, go ahead. Why now?
No, that's all.
Yeah.
Exactly. Thank you.
Yeah. Why now is, I think, very straightforward. It may not be the answer that you're expecting. Why now is that we've done this work, as I've mentioned several times, on an ongoing basis for as long as I've been in the company, where we've looked at the portfolio and the parts of the company and where there are other ways of operating the company that we believed led to better business outcomes. Why now was, frankly, that we became convinced with the divergence of the business models and the needs of each business, the investment requirements of the business, and our ability to manage the dysenergies and get productivity that it was the right thing to do. I believe very strongly that when you come to that point beyond a reasonable probability of doubt, then you move and you move quickly with urgency and with responsibility.
That's where we are right now. Why now was, I believe absolutely that it's the right thing to do. I'm energized and excited about both of these companies. The most painful thing to me was having to choose between the two because I love Old Navy and have an incredible affinity for its business model and the purity of what it does and the growth opportunity in front of it. I'm also super excited about, frankly, the gift, the opportunity and imperative to reinvent specialty apparel retailing because we all know it needs to happen, and I believe we are and we can continue to lead the way at an accelerating rate to monetize these brands in a different business model and surprise a lot of people.
Thank you. Best regards.
Thank you. That does conclude our conference.
Have a great day.
Thank you. Once again, that does conclude our conference for today. Thank you. You may now disconnect.