Good morning, everyone, and welcome to Lowe's Companies fourth quarter 2013 Earnings Conference Call. This call is being recorded. Please note, if you pressed star one to enter the question queue prior to the start of today’s call, your signal did not register. You will need to press star one again to enter the queue. Also, supplemental reference slides are available on Lowe's Investor Relations website within the investor packet. While management will not be speaking directly to the slides, these slides are meant to facilitate your review of the company’s results and to be used as a reference document following the call. During this call, management will be using certain non-GAAP financial measures. The supplemental reference slides include information about these measures and a reconciliation to the most directly comparable GAAP financial measures.
Statements made during this call will include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Management’s expectations and opinions reflected in those statements are subject to risks, and the company can give no assurance that they will prove to be correct. Those risks are described in the company’s earnings release and in its filings with the Securities and Exchange Commission. Hosting today’s conference will be Mr. Robert Niblock, Chairman, President, and Chief Executive Officer, Mr. Greg Bridgeford, Chief Customer Officer, and Mr. Bob Hull, Chief Financial Officer. I will now turn the program over to Mr. Niblock for opening remarks. Please go ahead, sir.
Good morning, and thanks for your interest in Lowe's. We delivered comparable sales growth of 3.9% for the quarter, with positive comps in 10 of our 12 product categories and a continued balance of ticket and transaction growth. Our pro services business continued to perform well. We achieved this growth despite a holiday season where the retail sector experienced softer sales than anticipated. Through continued use of our enhanced sales and operations planning process, we balanced softer sales of seasonal gift and holiday decorations with solid performance in core categories for interior refresh projects. We continue to see strength in recovery markets, with particular strength in California, Arizona, and Florida, where the housing recovery is well underway.
In fact, even with pressure exerted by extreme weather late in the quarter in the northern and central areas of the country, we recorded positive comps in all regions except for the region most directly impacted by Superstorm Sandy recovery activity last year. I’m also pleased with our performance in Canada, where the team has delivered double-digit comps local currency for the third consecutive quarter. Gross margin expanded 40 basis points in the quarter, driven by a number of factors that Bob will discuss. We delivered earnings per share of $0.29 for the quarter, which included approximately $0.02 of charges related to long-life asset impairments. For the year, we delivered comparable sales growth of 4.8%, our strongest annual comp since 2005. Earnings per share were $2.14, a 26.6% increase over fiscal 2012.
Delivering on our commitment to return excess cash to shareholders, in the quarter, we repurchased $958 million of stock and paid $189 million in dividends. For the year, we repurchased $3.7 billion of stock and repaid $733 million in dividends. Looking at the landscape for 2014, economic forecasts suggest moderately accelerating growth. Stronger job and income growth should create a more favorable environment for consumer spending, which, coupled with the lagged benefit of the housing recovery, should generate continued growth in the home improvement industry. While credit conditions remain tight relative to the housing boom years, conditions are improving and household finances continue to strengthen, which should also contribute to stronger growth in 2014.
Also supporting increased home improvement market growth is positive progression in consumers’ views around personal finances and home values that we saw in our fourth quarter Consumer Sentiment Survey. Homeowners continue to believe the value of their home is increasing and report that they are less likely to decrease spending. With consumers more willing to invest in their homes, the job and income growth forecasted for 2014 should provide the wherewithal for continued home improvement spending. In 2014, we will continue to capitalize on opportunities within an improving economy, and we’ll build on the momentum established in 2013 as we further optimize our business model. We have substantially completed our initiatives to enhance retail relevance, including value improvement, product differentiation in our store labor investment, and we will operationalize and refine these initiatives in 2014.
Our top-line performance improved this year as a result of our focus on cross-functional collaboration and consistent execution along with our strategic initiatives, which allowed us to more fully capitalize on market demand. Now we are focused on improving our profitability, even while investing in key capabilities to drive sales growth. Over the longer term, we remain committed to satisfying customers’ needs whenever and wherever they choose to engage with us and to differentiating with better customer experiences than any other home improvement provider. Determined to be a customer-centered omnichannel retailer, we’ve been investing in infrastructure, both systems and processes. Our focus is on transforming our current multichannel offering in store, online, including mobile technology, in-home, and by phone to an omnichannel experience with our brand.
Through enhanced customer service tools, we expect to improve our associates' ability to sell seamlessly across channels, to introduce new project management tools, and to expand fulfillment capabilities beyond our buy online, pickup in-store, or partial fulfillment of online orders, both of which we do today. We will cultivate personal and simple connections with customers over and above what we've accomplished to date with MyLowe's. These new capabilities are projected to be in market in 2015. We will differentiate Lowe's by delivering better customer experiences. In order to help customers visualize their home improvement projects, we will offer a cohesive group of products that provide relevant, occasion-based solutions, and we'll present them in an inspiring manner. Greg will discuss further how we will begin building customer experience design capabilities in 2014. The commitments we've made to improve for customers and shareholders require unrelenting determination.
Completing the transformation we've undertaken is not like flipping a switch. It's more gradual and deliberate, like turning up the dial as we add new capabilities. I want to thank our employees for their dedication and hard work toward this long-term commitment. The momentum created by our retail relevance initiatives, our strengthening execution, and our keen focus on productivity and flow-through give us confidence in our business outlook for 2014. Bob will share those details in a few minutes. Thanks again for your interest. With that, let me turn the call over to Greg.
Thanks, Robert, good morning, everyone. We continue to drive balanced performance in the quarter with strong execution and further momentum from our initiatives. We offset a soft holiday gift-giving environment by assisting customers in preparing their home for guests and cleaning and organizing after the holidays. For instance, many customers were looking to replace their older appliances. Using our enhanced sales and operations planning process, we tightly coordinated advertising, promotions, and inventory. As a result, we drew customers to Lowe's, and we met their needs through a broad assortment of innovative appliances, which, combined with our service advantages of next-day delivery and haul away and in-house facilitation of service calls, provides the best in customer service and simplicity.
We also drove strong sales of fashion fixtures, both by making incandescent bulbs available to customers working to beat the government deadline and by providing compelling new fashion plumbing products and sets for customers who were refreshing their bathrooms. We know that winter weather can be unpredictable, we were ready to respond quickly to the demand for items needed to cope with the January storms across many markets in the northern and central areas of the country. Customers needed snow blowers, space heaters, heating fuel, snow shovels, and ice melt, as well as pipe fittings to replace those that burst from the extreme cold. Working with our vendor partners, we drove strong performance in these products using our distribution network to quickly and efficiently move them to where they were needed most.
Our performance in the quarter is also a testament to the improved line designs and inventory depth resulting from value improvement. I'm pleased to share that at the end of the quarter, we had completely finished the first round of value improvement line reviews and substantially all of the associated resets. We'll continue to conduct line reviews in the normal course of business, the annual volume of resets will be lower going forward. Examples of resets completed in the fourth quarter include core products like pliers and wrenches, decor products such as bathroom vanities and pedestal sinks, and seasonal products such as house and patio plants. Value improvement is now fully operationalized. This means that the improved line review and product reset processes are woven into our everyday business and are being used at an appropriate cadence for each of our nearly 400 product lines.
Even so, we expect the initial round of Value Improvement resets to further contribute to our profitability in 2014 as we obtain a full year of benefits from resets completed over the course of 2013. We're now better positioned to meet customers' product needs and drive better inventory productivity. We are also pleased that we modestly leveraged payroll expense in the quarter. We have made the Store Labor Investment more productive by refining our allocation of these hours by store and by selling department. In the quarter, we increased sales per hour by approximately 2%. As we lap the introduction of the Store Labor Investment in the first quarter, we expect to obtain even greater leverage, which will contribute to greater 2014 operating profit. The Store Labor Investment and Value Improvement are two of our initiatives designed to enhance retail relevance.
Our third is Product Differentiation, which is intended to drive excitement in our stores through better display techniques, including our revised endcap strategy and revamped promotional spaces. Product Differentiation has been reset in 1,400 stores to date and will be rolled to the remaining U.S. home improvement stores in the first half of 2014. In addition to operationalizing our most recent initiatives, in 2014, we will focus on driving more of our revenue growth to the bottom line through expense control and disciplined execution of our plans. We will also focus on three priorities to drive further top-line growth. The first two aim to capitalize on opportunities within an improving economy. First, we'll use our enhanced sales and operations planning process to address micro-seasons by market. Second, we will improve our product and service offering for the pro customer.
Our third priority will be to build Customer Experience Design capabilities. Through our sales and operations planning process, we have addressed an opportunity to improve seasonal planning, including the cadence of product introductions, promotions, and staffing. While we've always planned and executed these seasons in our stores, previous planning was completed function by function and then reconciled to minimize conflicts. Now the process starts earlier and is anchored on the customer mindset for the season. The process more thoroughly considers detailed input from all functions to determine resource allocation, and it enables Lowe's to provide a consistent message and experience across all selling channels, stores, lowes.com, contact centers, and in-home selling. We also have an opportunity to better capitalize on the pro market, which is growing faster than the consumer market. We'll do this by enhancing our product and service offering with this important customer.
While pros shop across the store, the penetration of sales to pro customers is highest within the traditional building and maintenance categories, including lumber and building materials, millwork, rough plumbing and electrical, and tools and hardware. We've grouped those categories under the leadership of a General Merchandise Manager who is focused on ensuring we have the types of products and brands that pros demand. Of course, winning the pros business also requires great service to make doing business with us as quick and convenient as possible.
We continue to ensure we reach out to pros through multiple channels, whether in-store, where we have dedicated specialists to answer questions and dedicated loaders to help them get back to the job quickly, or at the pros place of business, where our account executives help regional maintenance, repair, and operations customers order and replenish products across multiple stores, or through the national account representatives who assist customers doing business with Lowe's across the country. In the second quarter, we will relaunch lowesforpros.com, which will provide a dedicated platform for pro customers to purchase online from Lowe's. Lowe's for Pros will also allow pros to access contract pricing, develop requisition lists, and view purchase history. Lowe's for Pros will be enabled for convenient mobile access. We also have an opportunity to more broadly enhance the customer experience.
Customers already give us credit for a better customer experience, we are strengthening that advantage. We're developing a process to coordinate the elements of great occasion-based customer experiences. To clarify, I'd like to define occasion. Customers don't simply shop for products. They shop to repair something, to replace something, to refresh a room, or to complete a major remodel. These are occasions, we have the opportunity to build experience around these occasions that will inspire customer devotion, differentiate Lowe's in the marketplace, and ultimately lead to superior business results. To do so, our customer experience design team is getting under the hood with customers, understanding how they think about home improvement projects, from planning to shopping and buying to using and enjoying. Based on those insights, designing an ideal experience with all channels in mind. That experience must meet three critical criteria.
First, it must be desirable to our target customer. Second, it must be feasible, in other words, must fit within our organization's competencies. Third, it must be viable, something that we can deliver in a profitable and sustainable way. In 2014, we will begin building these customer experience design capabilities. We will also introduce a number of changes to our stores and website that will become a stage for future experiences. We'll invest in experiences that we expect to drive market share growth and solid return for investors. We expect 2014 reset expenses to be approximately flat to 2013, as declining expenses associated with line reviews are offset by increased customer experience design resets. As Robert said, we continue to turn up the dial of our transformation.
Even as we focus on optimizing our business model, driving profitability, and capitalizing on market opportunities within an improving economy, we are investing in customer experience and omni-channel capabilities to drive future sales growth. Thank you for your interest in Lowe's, I'll now turn the call over to Bob.
Thanks, Greg, and good morning, everyone. Sales for the fourth quarter were $11.7 billion, which represents a 5.6% increase over last year's fourth quarter, but was approximately $100 million below our expectations as the result of the extreme January weather Robert mentioned. Total transaction count increased by 4.4%, and total average ticket increased 1.1% to $63.08. As discussed last quarter, the Orchard Supply smaller format neighborhood hardware stores are located in densely populated markets and offer a product selection focused on paint, repair, and backyard categories. As a result, Orchard stores have more transactions per square foot, but fewer per store and a lower average ticket than a traditional Lowe's store. While Orchard aided total company sales by approximately 100 basis points and added roughly 260 basis points to our transaction growth, it negatively impacted average ticket by almost 150 basis points.
The Orchard stores are considered non-comp, but will be included in our comp sales calculation after the anniversary of the acquisition in the third quarter of 2014. Comp sales were 3.9% for the quarter. As you heard from Greg, further momentum from our initiatives and improving execution drove balanced performance in the quarter. Comp average ticket increased 2.4%, and comp transactions increased 1.4%. Looking at monthly trends, comps were 3.3% in November, 6.3% in December, and 1.4% in January. For the year, total sales were $53.4 billion, an increase of 5.7%, driven by a comp sales increase of 4.8%. The Orchard acquisition and new stores. For 2013, comp average ticket increased 3.2%, and comp transactions increased 1.6%. Gross margin for the quarter was 34.67% of sales, an increase of 40 basis points over last year's fourth quarter. Value improvement helped gross margin by approximately 40 basis points in the quarter.
Sales mix and lower inventory shrink aided gross margin, but these items were essentially offset by markdowns necessary to clear seasonal product and our proprietary credit value proposition. For the year, gross margin of 34.59% represents an increase of 29 basis points over fiscal 2012. SG&A for Q4 was 26.12% of sales, which deleveraged 69 basis points. The SG&A deleverage was driven by a variety of factors. In the quarter, we incurred $32 million in expense for asset impairments. This compares to $8 million for asset impairments and discontinued projects last year, resulting in 20 basis points of expense deleverage for the quarter. Risk insurance deleveraged approximately 10 basis points due to favorable adjustments experienced last year that didn't repeat this year. Property tax expense deleveraged approximately 10 basis points due to an increase in property valuations and cycling a favorable adjustment from last year.
The strengthening U.S. dollar caused losses in market values of forward cash positions and forward contracts, causing almost 10 basis points of deleverage. Building and site repair, reset, and proprietary credit expenses each deleveraged about five basis points in the quarter. For the year, SG&A was 24.08% of sales and leveraged 16 basis points versus 2012. Depreciation expense was $370 million for the quarter, which was 3.17% of sales and leveraged 56 basis points. The leverage was driven by the increase in sales as well as assets becoming fully depreciated. Earnings before interest and taxes for the quarter were $627 million, which represents a 27 basis point increase to 5.38%. EBIT was about $15 million below our expectations, driven by lower sales and the impairment expense. We're pleased with our efforts to manage expenses to mitigate these two items.
For the year, EBIT of 7.77% represents an increase of 72 basis points over 2012. Interest expense at $128 million for the quarter deleveraged 11 basis points as a percentage of sales. The increase in interest was attributable to the $1.4 billion increase in total debt relative to last year. Pre-tax earnings for the quarter were 4.28% of sales. The effective tax rate for Q4 was 38.7%, which was consistent with our expectations. The higher rate this quarter relative to the 36.7% last year was driven by expiring tax provisions, which impacted year-over-year earnings growth by approximately $10 million. For the year, the effective tax rate was 37.8%, compared to 37.6% for 2012. Q4 net earnings of $306 million increased 6.3% versus last year. Earnings per share of $0.29 for the quarter were up 11.5% to last year.
The asset impairment expense resulted in an EPS drag of approximately $0.02 for the quarter. For fiscal 2013, earnings per share of $2.14 were up 26.6% versus 2012. Now to a few items on the balance sheet, starting with assets. Cash and cash equivalents at the end of the quarter was $391 million. Inventory at $9.1 billion was up $527 million or 6% over last year. Approximately 30% of the increase was driven by Orchard Supply and the remainder to support demand. Inventory turnover, calculated by taking the trailing four quarters' cost of sales divided by average inventory for the last five quarters, was 3.74 times, which was flat to last year. Asset turnover determined using the trailing four quarters' sales divided by average assets for the last five quarters increased 12 basis points to 1.59 times. Moving on to the liabilities section of the balance sheet.
We ended the quarter with $386 million in commercial paper outstanding. Accounts payable at $5 billion was up nearly 8% to last year. The increase in accounts payable relates to the timing of purchases. At the end of the quarter, lease-adjusted debt to EBITDA was 2.23 times. Return on invested capital, measured using the trailing four quarters' earnings plus tax-adjusted interest divided by average debt and equity for the last five quarters, increased 217 basis points for the quarter to 11.5%. Now looking at the statement of cash flows. For the year, cash flows from operations were $4.1 billion. Cash used for capital expenditures was $940 million, resulting in free cash flow of almost $3.2 billion, which was a 24% increase over 2012. During the quarter, we repurchased 19.9 million shares for $958 million through the open market.
In the quarter, we received approximately 1.6 million shares as part of the final settlement associated with the accelerated share repurchase program executed in Q3. For the year, we repurchased almost 87 million shares for a total of $3.7 billion. I'm pleased to announce that our board has approved an incremental $5 billion share repurchase authorization. With $1.3 billion remaining on the prior authorization, we had total share repurchase authorization of $6.3 billion at year-end with no expiration date. Looking ahead, I'd like to address several of the items detailed in Lowe's business outlook. As Robert noted, the economic forecast suggests modestly accelerating growth in home improvement industry in 2014. We are optimistic about our improving execution, but with a recent slowdown in both housing activity and jobs growth, we've taken a cautious approach to our 2014 outlook.
For the year, we expect a total sales increase of approximately 5%, driven by a comp sales increase of 4% and the opening of approximately 15 big box stores and five Orchard Supply locations. We expect to have our highest comp in Q1. This is an important quarter for home improvement and the easiest compare to last year. In addition, we expect the first half comp to be modestly higher than the second half of the year. We are anticipating an EBIT increase of approximately 65 basis points. As we've discussed in the past, 20 basis points of EBIT expansion per point of comp above 1% is a good rule of thumb for the year. However, there might be some choppiness quarter to quarter. Let me offer two items that will put some pressure on the flow-through for the first quarter.
In Q1 last year, we had a negative comp and reduced bonus accruals. This year, we plan to accrue to target levels, resulting in deleverage of 20 basis points in Q1 while leveraging roughly 20 basis points for the year. We will experience risk insurance deleverage in the first quarter as we cycle favorable adjustments from Q1 last year. This item is expected to deleverage 20 basis points in the first quarter, but only 10 basis points for the year. We expect EBIT improvement will come from both gross margin expansion and SG&A leverage. Our initial focus during our transformation was on market growth. While market growth is still a priority, we are also focused on flow-through. The effective tax rate is expected to be 38.1%. The higher rate is driven by the expiration of tax provisions at the end of calendar 2013.
The higher rate impacts earnings per share by almost $0.01 per share. For the year, we expect earnings per share of approximately $2.60, which represents an increase of 21.5% over 2013. Our 2014 outlook includes approximately $35 million of incremental expenses associated with the Affordable Care Act, or about $0.02 per share. We are forecasting cash flows from operations to be approximately $4.1 billion. Our capital plan for 2014 is approximately $1.2 billion. This results in an estimated free cash flow of $2.9 billion for 2014. We expect to issue incremental debt during the year as we manage to the 2.25 times lease-adjusted debt to EBITDA target. Our guidance assumes approximately $3.4 billion in share repurchases for 2014, spread evenly across the four quarters. Regina, we are now ready for questions.
To ask a question, press *1 on your telephone keypad. To withdraw your question, press the # key. In order to allow questions from as many individuals as possible, please limit yourself to one question and one follow-up. Our first question will come from the line of Gregory Melich with ISI Group.
Hi, thanks. I wanted to ask strategically on the store expansion, the 15 big boxes, where are they going? Why add Orchard Supply Hardware? What do you see there, and how are you thinking of using them?
Greg, this is Robert. On the Orchard Supply Hardware, I think we got about five of them we're planning for this year. There's a lot of focus on remodeling the existing 72 stores that we purchased. As you know, those stores had not had a lot of investment put in them a number of years, and we are seeing a nice lift in the remodeled stores. That's a big focus. I think we got about 10 remodels or so that they'll be able to accomplish this year. We are continuing any new stores for Orchard are really focused on dense urban metro areas that would have some clear air from a big box so that you can really focus on being a community store and go to market with the key categories that they focus on.
Beyond that, on the other 15 stores, we've got about six in the U.S., four in Canada, and about five down in Mexico.
Okay, great. On SG&A, I think, Bob, you mentioned the proprietary credit only hurt SG&A by five basis points. Did your credit penetration decline? What was behind that? In terms of the outlook, any color you could give on that test of additional labor you did last year, whether you expect to do more of that or how the traction is on that?
Sure, Greg. I'll take the credit question and let Rick speak to you about plans for labor productivity in 2014. Credit penetration in the fourth quarter was 26.5%, which is a 160-basis point increase relative to the comparable quarter last year. As we think about the credit deleverage, which really, we had some favorable developments in loan loss reserves in fourth quarter last year. We had a little bit less favorable performance this year, creating some expense pressure, which drove the five or so basis points of deleverage from a credit perspective.
Okay, Greg, this is Rick. Regarding the labor investment, we made the decision at the end of Q3 to move the test into a permanent part of our staffing model and completed that session this past year. We were very pleased with what we saw as
Our employees learned more about the store. We're able to get them into departments and get them trained. We saw greater productivity from that, which ultimately led to an improvement in close rate of 80 basis points in Q3 and Q4. We were very pleased with the results, and we do not foresee any incremental investment required or any additional tests necessary. We're very comfortable with the investment we made, and we'll continue to drive greater leverage and productivity through 2014 with it.
That's great. Good luck, guys.
Thanks, Greg.
Thanks, Greg.
Your next question will come from the line of Laura Champine with Canaccord.
Good morning. Thanks for taking my question. Your close rate performance was impressive. How do you measure that?
Laura, a couple different ways. Of late, we've been using satellite imagery. We take pictures of parking lots throughout the course of the year. We match that up with actual transaction counts in stores. Of late, we've been actually using some technology that involves traffic counters in the stores, which gives us close rate by day, by hour, which is going to further allow Rick and the team to optimize labor, going forward. We've tested both methodologies for the same stores and got similar results. We're pretty comfortable with the methodology. It allows us to forecast and see actual improvement in close rates.
Great. Thank you.
Thank you.
Your next question will come from the line of Michael Lasser with UBS.
Good morning. Thanks a lot for taking my question. I wanted to dig in a little bit on some of the investment spending you're going to do this year. Last year, you underperformed the benchmark of 20 basis points of leverage for every 1% of comp above and beyond that one, and due in part to some of the investment spending. I guess the expectation was there may be a little bit of catch-up this year. It sounds like you're going to perform in line with your rule of thumb. At what point do you start to see the leverage, some of those investments pull back and the flow-through really start to hit the P&L? Or do you have to continually invest in order to maintain that market share?
Michael, the first part, the rule of thumb, if you take the 4.8% comp, subtract one, that gives you 3.8 times 20 would suggest 76 basis points of EBIT expansion. We had 72. We modestly missed the target. Remember, we guide off of GAAP and our target is based off GAAP. There are some non-operating fluctuations year-to-year, but it is what it is. I would suggest we're fairly much on our rule of thumb for 2013. Greg, you want to talk about investments and experiences relative to reset?
Sure. As Bob was describing, right now, Michael, we're going forward and cycling down the massive amount of reset activity that we had through value improvement, which is obviously going to allow for more flow-through. We are in the process of testing and piloting some customer experience work within the stores that we think is very important for now, for the foreseeable future. There'll be more of a balance of the total spend when you look at the resets, remerchandising associated with customer experience, and the decline in the large amount of resets that for the first round of value improvements that we've seen over the last two years. It somewhat balances out when you look at all the reset and remerchandising spend per store.
Okay. The follow-up question is on the $3.4 billion in share purchases that you're expecting this year. That's a little bit below what you've done for the last few years. What's influencing that part of the outlook? Thanks.
Yeah. We've talked about a little cautious outlook coming into 2014. As a result, our comp outlook of 4% is below what we would have intimated at the analyst conference in December of 2012 for 2014. If you think about 2013, our initial comp outlook was 3.5%. We delivered 4.8%. That's roughly $650 million higher versus the expected comp plan. In addition, our EBIT was about $175 million higher than planned, which is about a 26% flow-through rate. If the market opportunity is there, we're going to capitalize on the opportunity, and we're going to deliver enhanced profitability.
Okay. Thank you very much.
Thank you, Michael.
Bye.
Your next question will come from the line of Brian Nagel with Oppenheimer.
Hi, good morning. Congratulations on a nice quarter.
Thanks, Brian.
I wanted to ask a question. This will be a quick one, just on the weather. You mentioned the weather. A lot of retailers talked about the weather, is there a simple way we should think about what impact the weather had upon that comp and what the comp would have been had you not seen the weather? Then as a follow-up to that, what about gross margins? Was weather a positive or negative for the gross margin in the quarter? Thanks.
The $100 million that I referenced is approximately 100 basis points to comp, Brian. Would have taken the 3.9% to approximately 4.9%. Then as it relates to gross margin, I mentioned mix had a modest positive impact based on the mix of products sold. Slight favorable impact on gross margin rate.
Okay. I don't know if the weather's actually turned in any parts of the country yet. I'm sitting in Nashville, and it's still pretty cold here. Are there markets where you've seen the weather start to turn and maybe any indication what you're seeing in sales in those markets so far?
Yeah. Brian, this is Robert. Obviously, that was an extreme weather, as I mentioned in my comments. Bob gave you the impact that we thought it had on the fourth quarter. In those parts of the country where we've seen the weather improve or where we haven't been as impacted by the extreme weather, we've been pleased with the comp performance we're delivering.
Okay, thanks a lot.
Thanks, Brian.
Your next question will come from the line of Aram Rubinson with Wolfe Research.
Hi, thanks. Thanks for taking my question. Two quick things, if it's okay. One, I'm still trying to make sure I understand this customer experience. It sounds great, but can you guys walk us through a for instance or two to make sure that it clicks in my mind? I had a follow-up.
Sure, Aram. This is Greg. I'd be happy to. When you go back to the question that Michael talked about a minute ago, with investment spend. Some of the programs that we are testing right now have to do with going deep into customer research and see what's important for customers and make sure that we can start to build an experience that hit the attributes that they're looking for, both from all phases of a project, all the way from inspiration to planning, to getting started, to getting supplies, all the way through enjoyment. I mentioned to you, a couple of years ago that we devoted six consumer research analysts from our research team to the merchants to begin this process a couple of years ago.
For instance, going on right now, and we're probably about halfway through this reset, we've looked at the fashion bath area, and it was a challenge for customers to try to pull together a bath refresh project. They don't go behind the wall in a refresh, but they potentially change out faucets, vanity tops, mirrors, lighting, a lot of details on this side of the wall of the bathroom. What they told us that they wanted was they wanted to visualize the results of this project. They struggled to bring style and finishes together and look across the entire array of fixtures and accessories. They want to understand what this looks like in end use, but they also wanted to touch and feel the projects, the different products, and they wanted styles that met their taste. What we did was we literally created pods.
These are 8-foot to 16-foot pods to bring these different styles and finishes together in these categories: faucets, bath hardware, bath lighting, mirrors, wall surfaces, and even countertops. In these pods, we brought the height down. Literally all these products would be within reach of the customer, which was an important aspect of the shop for them. With the work we've been doing through the Value Improvement Program and the cluster work that we've been using, we are able to localize those assortments. When they go into the store that's in their market, those styles and those finishes, even things like a 4-inch center spread or an 8-inch center spread for a faucet, will be more relevant to that market than before we entered into this process.
We're trying to bring all those elements together that reflect the needs that they told us that provided them value and inspired them in a bath refresh project. This is baby steps in a process that we're engaging in. We're piloting, we're learning from some of these first few projects, but you'll see more of it as we move into the latter part of 2014 and certainly in 2015.
Greg, that was such a helpful response. I think I'll spare you my second question and pass on the queue. Thank you.
Thanks, Aram.
Your next question will come from the line of Seth Basham with Wedbush.
Good morning. I wanted to follow up on that regarding the customer experience design, that was a really helpful response, I agree. If you could help us understand a little bit in terms of the cadence of investment and then the expected benefit in 2015, that would be helpful. I have a follow-up line.
These are a rotating series of programs. In 2014, you should expect that we'll do a lot of piloting as we learn what's working within these different tests. We'll be a trial in probably five or six categories, it'll be stretched out through the year, so we won't begin to see the payoff until 2015 in virtually all of these different projects. The bath refresh, we might see a payoff in the latter part of 2014, I'd say for the other pilots that we're doing, we'll see returns begin in 2015. When you think about the returns, in some cases, it's going to come back to us in different ways. For example, if we do an outdoor living reset and we accessorize product with what we call the anchor product of a project. For example, accessorize a complete patio set.
One of the goals there would be to sell the set with the accessories at full price prior to the end of the season. That has significant financial implications in that category. That's different from the timing and the type of project that you're engaged in if you're doing a bath refresh. In that case, it might be able to create that entire look of product and to be able to offer installation services and literally be able to offer the complete project installed for customers.
There's different financial components that will be part of the outcome, because we're trying to build these experiences around the attributes that customers are saying, "These are gaps or pain points in my current experience." I said earlier that as we approach these customer experience design, we have to make sure that we have the capabilities to offer these attributes to customers and meet them. We also need to make sure that these produce the financial results that are sustainable. We start with the customer. We look at the potential to recreate that experience. We look at the attributes that we're going to offer, make sure they fit our capabilities, and make sure we have a clear understanding of the financial outcome. It can be very different based on the occasions that we're trying to serve to customers through experience design.
Patrick-
That's really-
Just to tie back to Greg's comments, part of your question, remember, because he talked about the amount of investment we're making on in-store resets as we're rolling off all of the line review value improvement resets, that he said the amount of reset activity would be fairly similar year to year, last year to this year, because some of the customer experience resets that Greg talked about that we'll be investing in.
That's really helpful. Just to follow up, these investments play right into the increase we're seeing in big-ticket comps relative to small-ticket comps. Can you give us those metrics for the fourth quarter and tell us how you expect them to play out in 2014 and 2015?
In the fourth quarter, the tickets above 500 were 8.9% comps. Tickets below 50 were 1.2%, and the middle, the 50 to 500, was 2.2%. As we think about the 4% comp in 2014, about two-thirds of that will be driven by ticket, one-third by increase in transactions. We do expect to see continued performance in the above 500 category.
Great. Thank you.
Your next question will come from the line of Keith Hughes with SunTrust.
Thank you. Just to dig in on your last answer on the 8.9% on the greater than 500 ticket. Within the categories, were there any ones that stood out there to help drive that number?
The biggest one in the fourth quarter was outdoor power equipment. We also had strength, which is snow throwers, largely. Appliances and fashion fixtures, those were the three categories that propelled the big ticket growth in the fourth quarter. Keith, also, flooring was a strong category. This is Greg. It always tells you a lot about the weather when your top-selling subcategory is snow throwers. We hit historical highs in sales of snow throwers.
I'm sure you have in places where you normally don't hit historical highs. One follow-up question. You had mentioned about more installed sales. Can you elaborate that a little more? Are there certain categories you're going to be pushing more on that or any detail would be helpful.
Keith, this is Rick. As we think about installed sales, we continue to see strength across all the major drivers of our programs this past year. As Greg mentioned, flooring performed extremely well, and we continue to see growth in that category as customers look to update flooring and to new styles and new trends. The other components of that, Keith, that we have invested in over the past couple of years have been our in-home selling models. As we talk about our strategy to be able to meet customers anytime and where they like, we realized that in-home was a major component of that. We now have our project sales exterior specialists in all stores, in all markets across the country. We also have our interior specialist programs, which we had significant tests for the past couple of years in two regions and some other geographical areas.
We're continuing to roll that out in 2014. We will grow that into five additional regions in this upcoming year.
Okay. Thank you.
Your next question will come from the line of Kate McShane with Citi Research.
Thank you. Good morning.
Good morning.
My question is on gross margins. I'm just wondering how you are thinking about managing this going forward. Will you continue to push the gross margin higher? If so, will that be reinvested or flow through?
Kate, if you think about our outlook back from the analyst conference in December of 2012, we talked about a third of the EBITDA improvement coming from gross margin, which is about 90 basis points. In 2011 and 2012, our gross margin fell roughly 84 basis points. Really, we're just talking about recovering back to 2010 levels. Once we do that, we don't expect significant margin expansion on an annual basis after that. It's more of a maintenance mode.
I think, Kate, this is Greg. I would also say that the work we do in sales and operations planning, I think, tries to create that proper balance between driving transaction, driving ticket, and in doing so, we try to drive basket build so that the outgoing gross margin is something that is accretive for us.
It's a good mix that we've been getting better and better, I think, at over the last 18 months since we've instituted this process of
Making sure that what we direct customers to through our advertising and through our in-store merchandising creates the gross margin outcome that we want as we drive the entire basket of attachments and anchor items.
Okay, thank you.
Your next question will come from the line of Mike Baker with Deutsche Bank.
Thanks. Two questions. Since you keep referencing that December 2012 outlook, I think at that outlook, you talked about a 9.7% operating margin. Even with the 65 basis points that you talk about in 2014, you'll be a ways away from that. Can we still expect 9.7% by 2015, which would imply a pretty big jump in 2015 versus 2014?
Mike, as we think about the rule of thumb of 20 basis points of unit expansion for point of comp, hopefully, we'll see strength in 2014 and be able to over-deliver both the sales and EBIT plan in 2014, which would suggest a much lesser increase required in 2015. Simple math, if you take a look at the rule of thumb, that would just suggest 20 basis points per point of comp above one, a five and a half comp in 2014 and 2015 gets you there. However, if there's a more modest comp and there's an opportunity to further focus on expense productivity, there might be another way to get there.
We do have line of sight to drive market growth and enhance profitability, whether that's through line design and building baskets, as Greg described, or as Rick talked about, further optimizing the labor investment we've already made in our stores. We're really focused on that.
Okay, thanks. That was my longer-term question. Now the short-term one. First quarter is guided above 4%. Is that what you're seeing in February, or is it more of a function of March it was, I think, last March was down 10%, very easy comparison coming. Again, of course, April was a tough comparison. Where are you, I guess, relative to that higher than 4% plan for the first quarter?
We did have a negative comp in the first quarter last year. The first two weeks of February were tough. Trends have improved significantly since then, and we are very comfortable with our outlook for the first quarter and for the year.
Okay, thank you.
Thank you.
Your next question will come from the line of Scot Ciccarelli with RBC Capital Markets.
Hey, guys. Can you provide any more color in terms of what you're seeing on the pro or contractor front? Frankly, I don't know how granular you can get, but what kind of impact do you expect as you start to expand the services and products for the pros, as you previously referenced?
Okay. I'll take the first part of that, then I'll let Greg jump in on the categories and products. Scot, we have been very pleased. As you know, we've been focused on the pro extensively for now for about the past 18 months and looking at how we went to market and the opportunities or gaps that we saw that we needed to close to continue to gain share and be more relevant with the pro. We've completely redesigned our operating model regarding the pro this past year, which really took place in January, and how we went to market from a service perspective with the pro. Greg referenced that this morning as we talked about our in-store specialists meeting the needs within the local market.
We also redefined our account-based specialists in the market to really go after the larger MRO accounts and contractors within the market to give us the ability to meet them on their job sites or in their place of business. Also, we established our national accounts team, which focuses on those pros who deal with us across many states and many stores and make it much more simpler for them to shop with us. The other components of that we've really took and really made sure that we continue to evaluate was the value proposition. As you know, the pro receives 5% value discount on anything on proprietary credit. That continues to resonate well with the pro, as well as our quote-to-close program on very large orders.
Also the value that our Contractor Pack program provides, which is really purchasing bulk quantities within the store. We think we've really addressed that with looking at how we went to market from a service standpoint, also providing great value every day to the pro. Quite frankly, we're extremely excited about the relaunch of Lowe's for Pros, which will happen late Q1, early Q2 this year, which provides them much greater access to product as well as to purchase history and purchase information. Greg, I don't know if you want to talk a little bit about that for us.
Thanks, Rick. I think Rick really described very well our ability to deliver, in a sense, the delivery system against expectations for the pro. The key that I want to talk about is what do we have to deliver? What's the content? If you go back in the last two years, we spent a significant amount of value improvement, process improvements on looking at the categories that are extremely relevant and have a high penetration of pro sales, whether that's hardware tools, rough plumbing, rough electrical, power tool accessories, handheld power, hand tools, building materials. We've tried to make sure that as you know, we've also tried to make sure, so we get our cost structure right, try to make sure from an inventory standpoint that we had the proper inventory. We've worked hard.
We've been very overt about what we've been doing with inventory, specifically focused on the categories.
Earlier in 2013, we said we need even a greater focus on this. We subdivided merchandising. When Mike Jones came in, one of the first things he did within three months was subdivide the merchandising divisions and put a heavy focus on what we call the building and maintenance categories with a new GMM. That's provided the kind of longer-term strategy and shorter-term tactics that we think we need to meet the needs of the pro and to address all the attributes that's important for them. We've got a very heavy focus on it right now. What's the proper offering and for this discrete type of pro customer for this segment, whether it's an MRO customer, whether it's an R&R customer, and are we meeting those needs? We're using research.
We're going back to the basic approach with experience design, even in building and maintenance and saying, "Okay, what are the experience attributes that are important for these sub-segments?" Armed with that, we're building longer-term strategies to be important for that customer and shorter-term tactics that we think can optimize this great category, this great business. One of the best businesses at Lowe's, and one that we have a long history. When Rick and I joined Lowe's, sales to pros were 60% in terms of our sales mix. We both are dedicated to seeing relevance in this category.
Excellent. Thanks a lot, guys.
Virginia, we got time for one more question.
Our final question will come from the line of Peter Benedict with Robert W. Baird.
Hey, guys. A couple questions here. First, a week or so ago, you guys outlined your spring seasonal hiring plans. I think you said like 25,000 associates this year. That was down pretty materially from last year. Just could you give us some color as to what drove the decrease?
Sure, Peter, this is Rick. As it relates to the announcement from last year, keep in mind some of the changes that we implemented last year. The weekday team that we hired was a component of that announcement last year of the 40,000 hires that we announced last year versus the 25,000 hires this year. As I said earlier, those positions moved from temporary or seasonal into regular part-time positions throughout the year. When you look at that, we were able to maintain a much higher base of level of employees this year compared to the previous year, which frankly helps us from a training perspective and onboarding perspective. We were able to carry those employees throughout the year, versus having to go so heavily into the spring hiring process.
We were able to continue to manage our full-time, part-time mix to give us much greater flexibility, and help us manage payroll during Q4, especially in the latter half when the weather really turned bad. Gave us ability to use that flexibility to continue to leverage payroll, but also maintain our existing employee base. We were carrying many more employees through the winter, and then the addition of the weekday teams also helped us to be able to pull that number down.
Got it. That makes sense. Then just two quick ones for Bob. Bob, you mentioned that the reset expense for 2014 will be flat, relative with 2013. Can you remind us, and I apologize if you mentioned this already, how much reset expense was incurred in 2013? Then, on the depreciation line, obviously D&A was down around 10% in the fourth quarter on a year-over-year basis. Can you help us understand what your outlook for 2014 assumes in terms of D&A on the income statement? Thank you.
Yes. Depreciation should be flattish from a dollar perspective, 2014 versus 2013, which should drive some modest leverage as a % of sales. As we think about the reset expenses, we haven't broken out the specific aspect of resets. We've talked about maintaining our stores, giving them the updates they need, whether that's the physical property or the updates to the products based on the customer experience that Greg described. That kind of embedded in our operating model going forward is basically part of maintenance CapEx, if you will.
Okay, great. Thanks, guys.
Thanks, Peter, and thanks for your continued interest in Lowe's. We look forward to speaking with you again when we report our first quarter 2014 results on Wednesday, May 21st. Have a great day.
Ladies and gentlemen, this does conclude today's conference call. Thank you all for joining, and you may now disconnect.