Ladies and gentlemen, please standby. We're about to begin. Welcome to this Williams Sonoma Incorporated Third Quarter 2015 Earnings Conference Call. At this time, all participants are in a listen only mode. We will conduct a question and answer session after the presentation.
This call is being recorded. I would now like to turn the call over to Ms. Gabrielle Rabinovich, Vice President of Investor Relations to discuss non GAAP financial measures and forward looking statements. Please go ahead.
Thank you, Shannon. Good afternoon. This call should be considered in conjunction with the press release that we issued earlier today. This call may contain non GAAP financial measures that exclude the impact of unusual business events. A reconciliation of these non GAAP financial measures to the most directly comparable GAAP financial measures and our explanation of why these non GAAP financial measures are useful are discussed in our release.
This call also contains forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, which address the financial condition, results of operations, business initiatives, trends, guidance, growth plans and prospects of the company in 2015 and beyond and are subject to risks and uncertainties that could cause actual results to differ materially from such forward looking statements. Please refer to the company's current press releases and SEC filings, including the most recent 10 ks and 10 Q for more information on these risks and uncertainties. The company undertakes no obligation to update or revise any forward looking statements to reflect events or circumstances that may arise after the date of this call. I will now turn the conference call over to Laura Alber, our President and Chief Executive Officer, to discuss our Q3 fiscal 2015 results.
Thank you, Gabrielle. Good afternoon, and thank you all for joining us today. On the call with me are Julie Whalen, our Chief Financial Officer and Pat Conley, our Chief Strategy and Business Officer. We're pleased to be discussing our Q3 results today. These results speak to the power of our brands and our ability to execute our customer focused strategy.
We delivered total net revenue growth of 8% and EPS growth of 13%. Looking ahead, while the retail landscape and consumer demand has been more volatile, we believe our balanced portfolio of differentiated brands and strong multichannel platform positions us for ongoing market share gains. And we are confident we will deliver strong performance by focusing on what we do best, bringing innovative, functional and beautiful products to market, delivering exceptional customer service, developing our brands and managing our business to ensure we create sustainable value for our shareholders. Over the past few years, we've articulated our vision to double the revenue of our business by growing domestically and through global expansion. We have a very deliberate approach to building brands and we are always investing for the long term.
Over the past several years, we have incubated new concepts and entered new markets and these initiatives are now contributing to our results. Our portfolio approach gives us a competitive advantage. We are not limited to a single look and our range of tasteful aesthetics allows us to address a broad market. In our home version brands from Williams Sonoma Home to Pottery Barn, West Elm and our developing Rejuvenation brand, we present a carefully edited range of aesthetics that stand for quality, good taste and product innovation that addresses the lifestyles and life stages of today's consumer. We are pursuing distinct strategies to grow each of our brands and we are relentlessly focused on our customers and on improving our execution.
Everything we do is through this lens. It determines our strategy and it guides our priorities. In house at our San Francisco and Brooklyn studios, we design innovative, inspiring, high quality products at a great value that reflects the way our customers live and entertain. Our products are developed with design, quality and consciousness of our focus and we deeply believe that supply chain integrity and transparency is good business. Our customers continue to want a more engaging shopping experience and a deeper and more authentic connection with the brands to which they are loyal.
Our customers also want a more integrated and frictionless shopping experience since the purchase path is easy and intuitive, whether they're shopping in store, online via mobile, tablet or desktop or at home with the In the Q3, we made significant progress as it relates to these initiatives. We have started the rollout of our next generation customer order visibility tool, which allows us to have improved visibility as products move through our supply chain from the manufacturer to the regional distribution hubs. The rollout on this project will continue through 2016. We also recently launched improvements to our demand planning systems. We believe that this is a critical component for us to improve our in stock levels, decrease transportation costs and improve customer service by improving local market in stock position.
We're excited to update you on the results of this program in future quarters. In e commerce, we have advanced our ability to serve targeted content to customers on our website. We are more relevant, timely and engaging as a result. When we personalize content, we see measurable and material conversion lifts. Our custom built platform provides us unique advantages that we will continue to leverage with new and more robust campaigns in the quarters to come.
We believe we are in the early stages and will continue to build on this foundation to drive incremental results. In on-site search, we are deploying a big data solution that leverages machine learning to better tune our search results. The initial results are very encouraging and we look forward to updating you as we roll out the technology to all of our brands. We're also continuously finding ways to make our sites quicker, more functional, more easily navigated and more intuitive, especially as it relates to mobile. Providing a richer and more integrated shopping experience is a long term priority and we believe technology is essential to enabling an outstanding customer experience.
Heading into the holidays, we believe we are well positioned with exciting new product launches and gift collections. Across all of our brands, we believe we have a strong holiday lineup and we have refined our peak season execution plans from our store operations to our marketing cadence to our supply chain. In store, we are focused on executing the fundamentals flawlessly and delivering outstanding customer service to make holiday shopping easy and efficient. In supply chain, we have implemented new processes and organized high volume areas in our distribution complex to efficiently fulfill peak e commerce volumes. And this will be our 11th year partnering with St.
Jude Children's Research Hospital on the thanks and giving campaign. Over the past 10 years, we have raised more than $30,000,000 to help St. Jude continue leading the way the world treats and defeats childhood cancer and other life threatening diseases. All of our brands are involved in this important cause. In summary, we are ready for the holidays.
I would now like to update you on the global expansion of our brands, another significant long term growth driver. During the Q3, our international operations grew 46.5% and were meaningful contributors to our success. In our franchise operations, 8 stores were opened in Mexico City in the Q3 by our partner, Liverpool, a world class retail operator in Mexico. The initial response has been outstanding. And by year end, we expect there'll be 14 stores open and we are excited about the total potential in the region.
We're also continuing to see exceptional results with our partner, MHL Shaya. Our company owned retail and e commerce operations are also delivering strong growth in Australia and in the United Kingdom. We're gaining experience in these markets and we're doing a better job sorting to local tastes and preferences. We're also beginning to leverage our cost structure. In addition, I'd like to update you on our first shop in shop partnership with John Lewis in London.
In September, we opened a West Elm boutique in the John Lewis store on Oxford Street. Sales have exceeded expectations and have also driven increased traffic and sales to our West Elm London store and website. We have more than 9,000,000 media and social impressions in our 1st week. We'll be expanding this relationship with John Lewis in 2016, and we believe that there is significant potential for this type of partnership model across Europe and other areas of the world. We are aggressively pursuing franchise and shop in shop opportunities around the world and expect to announce more of these partnerships in various formats in the future.
Now I'd like to discuss the Pottery Barn brand. In the Q3, Pottery Barn comparable brand revenues increased 2% on top of 7% in 2014. We had strong growth where we offered newness and we saw strength across our living room, upholstery and home furnishings offerings. However, we did see some softness in other categories. We recognize that the Pottery Barn brand could be more impacted by the current retail environment and we are relentless in our focus on the things in our control.
And it is clear to us that we win when we deliver product category dominance and innovation. Pottery Barn has a unique positioning in marketplace as the premier specialty casual home furnishings retailer. We deliver quality products, exceptional value and outstanding service. But like any successful brand, innovation and continuous improvement is key. And there are 3 areas where we are hyper focused.
1st, product innovation. We have identified specific product initiatives to drive innovation. 2nd, marketing. We also believe that there is a greater potential to market the authentic story of our products and why they are higher quality and a better value than our competition. Lastly, customer experience.
All of the work that we have been doing in our supply chain will benefit Pottery Barn. We know that if we deliver the best experience in home delivery, this will further set us apart from the competition. As we head into the holidays, we believe our compelling seasonal product lineup in conjunction
with a more strategic
marketing calendar will enable us to drive performance in the Q4 in Pottery Barn. We also have the opportunity to deliver better service because we have better in stock position. Now I'd like to discuss Pottery Barn Kids. In the Q3, Pottery Barn Kids delivered 4.7% comparable brand revenue growth. Strength in our furniture business and an outstanding back school season drove this performance.
And we executed a successful Halloween strategy that contributed to our results in the quarter. Our focus on product innovation and newness in addition to competitive marketing calendar helped fuel our Q3 business. In the quarter, we launched our holiday assortments and we believe we have a strong lineup for the holiday season. We're featuring dream rooms with whimsical beds like our new Millennium Falcon Star Wars bed, complete with bedding and decor, and we have delivered new and innovative gifts for babies, toddlers and kids, as well as an expanded playroom offering. Our gifts the unique design and lasting quality for which Pottery Barn Kids stands, and we will be the destination for kid friendly holiday decorating from stockings to ornaments, tabletop, trimmings and decor.
As we turn our focus to 2016, we're excited about the momentum building with our collaboration strategies. In January, our exclusive nursery collaboration with celebrity stylists and fashion designers, Emily Curran and Merritt Elliott, launches with a fresh look for the brand that speaks to the millennial mom. And earlier this week, we're also thrilled to announce our collaboration with Monique Louillier, one of the fashion industry's preeminent designers. Launched in the Q1, the collaboration includes furniture, decorative accessories and textiles. It captures her sophisticated and glamorous design aesthetic and is inspired by her experience as a mother and a designer.
Moving to Pottery Barn Teen. In the Q3, comparable brand revenue for Pottery Barn Teen declined 0.9%. Strength in our furniture business and decorative accessory categories was offset by weakness in our textile business. Our high quality furniture offering delivered solid results for the brand. Softer trends in bedding, which we discussed in our Q2 earnings call, persisted throughout the quarter.
The moment we saw this weakness, we moved quickly to strengthen our product pipeline and improve our marketing. As we move into the holiday season, we shift into gift giving and we are excited about our proprietary and innovative gifting assortment, including our 4th quarter product collaborations. We are launching online in December and in store in January, an exclusive collection of decorative accessories and textiles with lifestyle blogger, Meg de Angelis, Known as Maybaby on YouTube, Meg Deangelis is one of YouTube's rising stars with close to 4,000,000 YouTube subscribers and more than 500,000 followers on Twitter. Each piece in the collection embodies Meg's mission to empower and build confidence, which is brought to life through vibrant colors and playful prints. Our limited edition Peanuts inspired collection celebrating Charles M.
Schulz, the 65th anniversary of the Peanuts comic strip and the release of the Peanuts movie on November 6 is also a highlight of our seasonal offering. In addition, our standout gifts this year include media chairs that are compatible with gaming consoles and incorporate a Bluetooth audio system as well as the perfect bedroom seating options for teens. In addition to product innovation and quality, we are evolving PBteen to reflect the way teens live and interact, recognizing them for who they are and supporting them and their uniqueness. We'll speak to teens in a smart and empowering way that is authentic and inspire them with fresh decorating ideas and aspirational environments. We look forward to sharing our progress with you in the coming quarters.
Next, I'd like to discuss Williams Sonoma. For the Q3, the Williams Sonoma brand delivered 1.2% comparable brand revenue growth with outperformance in cookware, electric, cutlery and our growing Williams Sonoma home business. Proprietary and exclusive launches as well as key vendor product introductions drove success in the quarter. Strong introductions in electrics more than offset weaker than expected performance in our early autumn food assortment. We also saw great results in our proprietary entertaining and tabletop collections, which continue to become a more significant percentage of our mix.
In Q3, we continue to see strong results both online and in store in Williams Sonoma Home. A key initiative was to broaden the assortment in our best performing looks and it's working. We're also pleased with the ongoing rollout of Williams Sonoma Home at retail. Williams Sonoma Home offers chic and timeless designs of highest quality. It's carving out a unique position in the marketplace with luxurious materials, sleek silhouettes and a fearless use of print, pattern and color.
Our success is indicative that this brand has a lot of room for growth both online, at retail and with the trade community. In addition, on October 2, we celebrated Chuck Williams' 100th birthday. To celebrate this milestone, Williams Sonoma unveiled a limited edition collection of Chuck's favorite products featuring his signature as well as a new cookbook, Cooking at Home that honors his legacy. The Q3 also marks Williams Sonoma's 4th fundraising campaign benefiting Sheriff's Strength's No Kid Hungry program. Williams Sonoma raised more than $650,000 during the campaign.
Fundraising efforts included customer donations both in store and online, store events, limited edition products such as the incredibly popular celebrity design spatulas and corporate fundraising. Heading into the holiday season, we believe we are well positioned to deliver in the Q4. In addition, we have new marketing strategies we believe will be effective and we have a strong seasonal lineup of gifts and we are ready to execute. Today, I wanted to take a little more time talking about West Elm. The West Elm brand continues to deliver exceptional results.
Comparable brand revenue increased by 15.7% on top of 17.4% last year, marking 23 consecutive quarters of double digit comparable brand revenue growth. In the Q3, we successfully opened 6 company owned West Elm stores, 2 franchise stores were opened in Mexico and we opened the West Elm Shop in Shoppe store in London. By the end of the year, West Elm will have opened 18 new company stores and 4 new franchise locations across the globe, bringing our total global company store count to 87 and our total franchise count to 9. West Elm's success is firmly rooted in a deep understanding of what millennial and millennial minded customers feel is important in their purchasing decisions. West Elm is connecting with this customer like no other home furnishings brand.
And at the same time, West Elm continues to appeal to a broad demographic and psychographic customer base. The brand is also uniquely positioned with customers who are attracted to West Elm's aesthetic, relationship driven community initiatives and authentic commitment to conscious business practices. Human connections still matter in the digital age and at West Elm, we are successfully laying our world class
customer insights with
our innovative high touch shopkeeper program, balancing the science and art in retail. Data science will continue to provide invaluable insights on customer behavior and buying trends. But by empowering our store managers to run their stores like small businesses and forge deep community connections through our West Elm Local program, we're essentially running the brand as a collection of unique small retailers linked with a powerful data and technology of a global enterprise. We have successfully reengineered our allocation strategy with tools that allow our store managers to handpick and create assortments that are reflective of their community and the customers where their stores are located. We are one of the 1st major brands to host in retail pop up shops, starting with Etsy back in 2010.
We continue to host a regular cadence of events, workshops, classes, meetups and community driven activities in all of our stores. And as other retailers announced the introduction of local assortments into their stores, we are celebrating our network of more than 500 makers and building a pipeline for supporting our partners through expanded collaborations and manufacturing relationships. Our stores are running community based Facebook pages and Instagram accounts. And part of the reason West Elm has had such a strong and authentic social media presence is that we've known all along that social media is not a data driven platform. By definition, social is characteristic of living things, not machines.
So while our store social accounts allow for segmented and local marketing communication, we remain focused on building our social communities as a platform for human interaction to connect our customers. In social, many of our customers choose to talk about West Elm because we reflect their values, Building on our commitment to conscious business practices and impact sourcing, in the Q3, we announced a new Clinton Global Initiative commitment to action in partnership with Fairtrade USA, taking fair trade from farm to factory. As an early adopter of the Fair Trade Factory program, West Elm joined Fair Trade USA and 20 other partners to improve working conditions and enable sustainable livelihoods for factory workers. Specifically, West Elm committed to certify as fair trade more than 20% of the brand's assortment by 2017 and 40% by 2019. West Elm's investments include supporting certification of more than 10 new factories contributing over $1,000,000 in premiums that will improve the lives of over 10,000 workers during the course of the commitment.
These are big goals, but we're confident we can reach them. And our hope is that our leadership in the market will compel other retailers to improve working conditions and wages for artisans and factory workers around the world. Overall, we remain highly confident that the unique relationship that West Elm has with its customers will propel the brand's growth in our core business and into new areas of business around the world. I would now like to discuss the results of our 2 developing brands, Rejuvenation and Mark and Graham. Both of these brands are delivering strong performance and contributed to our Q3 results.
Rejuvenation delivered a very strong and profitable Q3. As Rejuvenation's transformation into a lifestyle brand, continues, we have seen solid performance across both our emerging categories in addition to our core lighting and hardware businesses. In the Q3, we saw a great response to the comprehensive introduction of our Northwest Modern assortment, an aesthetic inspired by modern design and the lushness of the Pacific Northwest. And throughout the balance of the year, we are layering new product launches on top of this successful foundation. Our marketing continues to be effective and profitable, and we've seen new customer growth accelerate across our consumer, trade and contract segments.
We opened our 6th door in October at Pomp City Market in Atlanta, in addition to expanding our trade presence in the region and see this location as the hub of our large and expanding base of sales in the Southeast. We believe that REJUVENATION has a very exciting road ahead and we look forward to keeping you updated on the progress in this brand. Rejuvenation has the potential to be a significant multichannel lifestyle brand and a meaningful contributor to future growth. Finally, I would like to discuss Mark and Graham. We're pleased with the development of Mark and Graham, which continues to see great sales momentum and profitability resulting from successful new product introductions and improved operations.
In the Q3, our personal accessories and home decor categories drove brand performance. We've also introduced new personalization techniques and expanded monogramming options across our assortment. In addition, our refined marketing approach has led to more productive email and catalog marketing. This holiday season, we're excited about our preppy chic assortment of thoughtful gifts. Our collection is inspired by rustic cabin style with plaid blankets and pillows, fairisle knits, faux fur accessories and totes and travel gear.
In January, I'll kick off a year of celebrations with new tabletop and personal accessory introductions in fresh color palettes. I would now like to turn the call over to Julie to review our financial results in detail.
Thank you, Laura, and good afternoon, everyone. We are pleased with the results we are reporting today. During the quarter, we delivered revenue growth of 8% and earnings growth of 13%, further demonstrating the power of our portfolio of high performing brands and our multi channel approach as well as the continued success of our long term growth initiatives. In the Q3, net revenues exceeded our expectations, increasing 7.8 percent to $1,232,000,000 with comparable brand revenues increasing 4.5% on top of 8.7% last year. Revenue growth in the quarter once again far exceeded growth in the furniture and home furnishings industry.
Net revenues in our e commerce channel grew 7% or 22.7 percent on a 2 year basis to $628,000,000 and represented 51% of net revenues with growth primarily resulting from the continued strength we are seeing in the West Elm brand. Net revenues in our retail channel grew 8.6 percent to $604,000,000 which reflects the momentum we are seeing from our long term growth initiatives, particularly in our international operations and West Elm. Excluding the growth of our international operations, our retail channel grew 4.3%. During the quarter, across both channels, our international operations saw revenue growth point 5 percent reaching $80,000,000 and West Elm drove revenue growth of over 22.8%, including comparable brand revenue growth of 15.7%. Gross margin for the 3rd quarter was 36.6% versus 30 7.7% last year with pure merchandise margins only slightly down to last year and remaining essentially flat year to date.
The year over year gross margin decline reflects lower selling margins, particularly associated with higher franchise revenues, which are dilutive to gross margins but accretive to operating margins, as well as higher shipping and fulfillment related costs, partially offset by occupancy costs, which leveraged 60 basis points to 12.9 percent of net revenues or $159,000,000 As mentioned on our last call, this quarter we expected to incur higher shipping and fulfillment related costs associated with out of market shipping and multiple deliveries on a single order to improve our customer service levels, while we rebalanced our inventory between our regional distribution centers. SG and A improved 100 basis points in the Q3 to 27.6 percent versus 28.6 percent in 2014. The improvement in SG and A was primarily driven by advertising efficiencies, the leverage of employment primarily related to higher franchise revenues as well as the leverage of general expenses. In the Q3, total company operating margin was 9% versus 9.2% in 2014. By channel, the operating margin in the e commerce channel was 21.9% versus 23.3% in 2014, primarily driven by higher shipping and fulfillment related costs, partially offset by advertising efficiencies.
And in the retail channel, the operating margin was 8.1% versus 9% last year, primarily driven by lower selling margins from higher franchise revenues and higher shipping and fulfillment related costs, partially offset by occupancy and employment leverage. Corporate unallocated expenses leveraged 100 basis points, primarily due to lower general expenses and the leverage of employment and occupancy costs. Our 3rd quarter tax rate decreased from 37.9% to 36.1%, reflecting the favorable resolution of income tax matters within the quarter and our higher year over year earnings from international operations. These results drove a 13% increase in 3rd quarter earnings per share to 0 point $7 season. In addition, year to date, we have returned nearly $300,000,000 in cash to our shareholders, of which $103,000,000 was in the Q3, consisting of $71,000,000 in stock repurchases and $32,000,000 in dividends.
Merchandise inventories increased 12.5 percent to $1,100,000,000 at the end of the 3rd quarter, which includes a year over year increase of inventory on hand and available for sale of 10.7%. Entering our peak selling season, we believe our inventory levels position us well to execute our holiday plans. I would now like to discuss our 4th quarter and fiscal 2015 guidance. We expect to deliver another year of strong results for our shareholders. For the Q4, we expect to grow net revenues to a range of $1,575,000,000 to $1,630,000,000 with comparable brand revenue growth in the range of 2% to 5%.
We expect our 4th quarter operating margin to be relatively in line with last year and we are guiding our earnings per share to be in the range of $1.53 to $1.62 For the full year, we have raised the low end of our revenue and earnings guidance. All other guidance remains the same. As such, we now expect to grow net revenues to a range of $4,965,000,000 to $5,020,000,000 and we now expect to grow diluted earnings per share to a range of $3.36 to 3 point $4.5 The guidance we are providing today does not contemplate any material changes in the retail landscape or the broader economy. In summary, as we head into this holiday selling season, we believe we are well positioned to deliver for our customers and our shareholders. Our competitive advantages, including our portfolio of brands and our multi channel business model position us for success.
In addition, the continued momentum in our strategic growth initiatives gives us further confidence in our longer term ability to more than double our revenues and deliver sustainable profitable growth. I would now like to open the call for questions. But before that, I would like to wish all of you a very happy holiday.
Thank And our first question comes from Daniel Hofkin with William Blair.
Hi, good afternoon. Just a couple of questions regarding the environment, maybe to the degree that you're able to kind of parsing out your the overall consumer spending pattern versus competitive factors either brick and mortar or online versus areas where you feel like maybe the execution could have been a little bit better. You talked about some areas within Pottery Barn. I'd be interested as it relates to Pottery Barn and the Williams Sonoma brands in particular, kind of how you would divide up the performance again around just the overall consumer landscape, competition and your own performance and opportunities to improve that? And then I just had one quick follow-up.
Thanks.
Sure. Thanks, Danielle. It's Laura. I have to tell you, I'm optimistic about the holiday season. Yes, we've seen some retrenching this fall and retailers and even some really good retailers have given some mixed reports out there.
But there's also a lot of good news out there too. And we know that, our customers love their homes and the holiday season is a time to decorate, entertain and also to be generous with gifts for your family and friends. And I believe that consumers will shop at retailers who they trust and who have compelling products and in store experiences. And I think as you go to the stores, whether you go to a mall or a great street, we're going to be top of the list in terms of destination. It's really hard, I think, to resist going into our stores during the holiday season.
They are in my opinion holiday wonderlands. Our 1st Halloween Sonoma stores are I think part of people's holiday shopping tradition with their amazing taste and aromas and wonderful gifting assortments this year. And Pottery Barn has incredible decorating and beautiful, trees on display, in their stores right now and inspiring tablescapes. For Pottery Barn Kids and Teen, I can't help but think that those great nostalgic gifts assortments will give our customers a great alternative to electronics. And West Elm has its distinctive and chic entertaining and gift giving options at a great value.
The other thing that makes us different is that small things, but across all of our brands, we have free gift wrap in store. And we're ready to offer that high touch 1 on 1 service that people are looking for. I believe our online experience and service offer there is equally compelling. We spent so much time looking at our gift assortments and the gift experience online and also personalizing that digital experience based on our consumers' preferences. So in summary, we're always looking for things we can do better.
We have been preparing all year for this holiday season and we're excited and ready to serve our customers.
Okay, great. And then thinking about looking out over the I know you haven't given guidance for next year, but hearing you guys talk about some of the additional investments on a number of fronts. If you think about next year, does it make sense to think about sort of maybe a lesser rate of operating margin expansion relative to what maybe a typical year might be at this early stage?
Yes. Dan, this is Julie. Obviously, you're right. We have not given guidance for 2016. We're not prepared to do that today.
But what we are excited about is investing in the future and our future growth. And I think today's results is a great demonstration of some of
the things we've been investing
in that have actually come to life like our international growth.
Okay. Thanks. Best of luck in the holiday quarter.
Thanks, Dan.
Next question comes from Peter Benedict with Robert Baird.
Hey, guys. I guess first, just Julie, how are
you thinking about capital allocation these days? Specifically, I'm curious kind of your view of buybacks and how opportunistic you're willing to get when the stock is down?
Our approach for capital allocation has not changed. We're going to continue to be balanced. And 1st and foremost, invest in the business, because that's clearly where we get the biggest return and then with excess cash, share it between buybacks and dividends. And so our approach to that has not changed regardless.
Okay. And then one quick follow-up. Just on the Q4 tax rate, it looks like it's implied north of 40% Year to date, you've been more like 36%, 37%. Is that international playing a bigger role there? Or are there other factors that we should be thinking about in terms of taxes for the Q4?
Thank you.
Sure. Look, our quarterly tax rate, it's always subject to variation. In the prior quarters, including this one, we did have some favorable tax resolutions. And we also had, which is fantastic, some higher than expected earnings from our international operations, which has a double benefit of lowering our taxes. But going forward, given the size of our Q4 business and our expected mix of earnings in Q4, we looked at the sensitivities and believe that this time our tax guidance is appropriate.
Of course, it's possible on the year we could end up with a lower tax rate, but it's really still early in our largest quarter to make that call. But the good news is we do expect and have seen that over time, our tax rate will decrease as our international business becomes larger and more profitable.
Terrific. Thanks so much.
Next question comes from David Magee with SunTrust.
Yes. Hi, good afternoon.
Hi.
Hi. Can you just talk a little bit more about the inventories and did meet your plan at quarter end? And what's your expectation would be at year
end? Yes. So our inventories, as we said on the call, grew about 12.5%. We feel good about the in stock position at 10.7%. Of course, there's always pockets of under and overstocks, but we believe this level of inventory on hand leaves us well positioned for the holiday selling season.
I think we have to remember that from a guidance perspective, we don't necessarily guide inventory levels, except to say that we're focused on maintaining in stock inventory levels to ensure great customer service. And we think we're well positioned for the holiday season as we enter the New Year. So we feel good about the inventory.
Okay. And then just a quick follow-up. In the overseas sales international business, are you seeing gross margins that are comparable to domestic above or below? Just sort of curious there.
We haven't provided or disclosed that. If you're referencing what I was alluding to in the script, that's associated with our franchise revenues. And our franchise revenues, obviously, the details of our deals are confidential and competitive. But what I can say is that franchise sales have a different revenue model than a regular customer sale. And depending on the deal structure, these transactions can be dilutive to gross margin, but accretive to operating margin.
So the higher the franchise revenues in any given quarter, they put more pressure on the gross margin, but I would not make that conclusion per se with company owned stores, but we haven't disclosed that.
Okay, great. Thank you, Julie.
Yes. Next question comes from Chris Horvers with JPMorgan.
Thanks. Good evening. So following up on the first question and thinking about the wider comp guide for the Q4, 2% to 5% historically more of like a 3% to 5%, 4% to 6% kind of range. Have you seen change in the momentum in the business? What's behind the wider guide for the Q4?
Was there a change in trend that you're seeing at the end of the quarter that you're trying to put into the guidance and basically any thoughts there?
Okay. Hi, Chris. I'll take it. It's Julie. I think what's important to remember is that this quarter is always so difficult to read.
Our revenue guidance reflects our best estimate, 2.5 weeks into the largest quarter that we have, and it reflects our possible range of outcomes across all of our brands. It's also important to remember that the Williams Sonoma brand becomes a larger piece of the mix this quarter than in other quarters and historically has had lower comps than our Pure Home Furnishings brand. So the other thing is that we've had great revenue contribution from our international businesses. And as we head into our peak season, our international business is expected to take on less importance relative to our domestic business. So that plus with the customer always seeming to shop later and later each time for the holiday, the business is hard to read 2 and half weeks into the quarter.
So we felt that it was prudent to hold our guidance on the year and this is how the comps played out.
All right. So holding the guidance for the year, it was so the 2% to 5% fell out of that equation based on what you did year to date?
Absolutely.
Okay. And then was the gross margin performance relative to your own expectations for the quarter in line with where you thought it was going to be? And was there any hangover from the returns and damages side that you saw in the Q2? Thanks.
Yes. From the shipping and fulfillment related cost side, it is where we thought it would be. The part that's a little bit of a surprise is the higher franchise revenues, which is a great surprise to have, which as I mentioned puts unfortunately is dilutive to the gross margin, but it's accretive to the op margin. So optically, it looks worse on the gross margin line, but everything else was within our expectations.
And we'll go ahead and move to our next question from Matthew Kessler with Goldman Sachs.
Thanks a lot and good afternoon. My first question relates to the impact of the international business in Q4. Julie, you alluded to the notion that it would be smaller in the 4th quarter than in the other quarters, but it was 3 percentage points in Q. The delta between total and comp store sales, which I presume is or total and comp around sales, which I presume is largely international was over 3 percentage points in Q3, it was over 2 percentage points in Q2. It's very, very small, less than 1% in the guidance.
When you look at the difference between your guided total sales growth and the 2% to 5% comp brand growth. So is it really going to be that small during the Q4? Or is there room for that number to move around a bit?
Well, I mean, that's what our expectations are today. Also in Q3, the new West Elm stores contributed to that delta between the comp and the revenue growth. But obviously, we'd love to see that not be the case. But given the size of Q4, it's likely that the outperformance on the international revenue side will not be as pronounced relative to the comp.
And then if you think about the impact of the international business getting bigger within the mix on the gross margin rate and on the SG and A dollars, Can you give us a sense of how much of that dynamic I understand that's accretive to earnings, but how much of that dynamic would have impacted margin rate within the various factors that moved it around in Q3?
Yes. I mean, we haven't quantified the exact basis points of how much of the gross margin was associated with the higher franchise revenues. I, however, did list it first, and so we do put things in order. So you can tell it's very material. Also, when you look at the SG and A, there has been occupancy and employment leverage and a leverage across the board.
Specifically, even in the retail channel, you see it materially from the other side of the franchise equation because basically, you have the hit to gross margin and you have essentially no SG and A. So the profit drops to the op margin.
So presumably the reason the presumably if international revenues are smaller in Q4 that could be a reason for gross margin to be down less?
Presumably, yes.
Got it. Thank you so
much. Next question comes from Greg Melich with Evercore ISI.
Hi, thanks. I wanted to follow-up on gross margin as well, but understand the shipping costs a little bit more and sort of where we are in that transition. I know that it was a pressure last quarter. Was it greater this quarter? And if you look at it, I imagine that's showing up in the e commerce business with the continued decline in margin there.
So just talking through just maybe, is that still a profit center for you shipping? And where are we now in that curve as the market changes?
Okay. We are not disclosing the incremental shipping and fulfillment related costs except to say, similar to what I said in the math, that it's one of the main drivers of our lower gross margins, the second thing I listed. And we did indicate in our call last time that we'd expect this would continue into the back half of the year. It did continue as we expected. And we expect that it will continue into Q4.
It's important that we're incurring these out of market shipping and multiple deliveries on a single order to ensure high customer service levels and especially throughout the holidays, we think it's important to continue to do that. Longer term, once we have completed the regionalization of our distribution centers and we have implemented necessary technology, which includes inventory tools that will allow us to better forecast our inventory flow and space capacity requirements by DC brand and channel as well as future system enhancements that will give us better customer order order visibility. We will see a reduction in our supply chain costs. But even more importantly on this point, we believe further developing our supply chain today to be more agile and adaptable will enhance our sustainable competitive advantage. So it's going to put an even greater distance between us and our competition and enable us to provide the best customer service experience in our industry, and we are excited about the future.
And you mentioned, I think, repositioning inventory as part of the cost that. Is that unusually elevated right now because of what you are doing? Or is that sort of should we expect that to be an ongoing thing while we build this out?
Yes. So I think it's important to think about the higher levels of inventory required to be sufficiently in stock regionally. This is a competitive advantage. Longer term, it not only obviously minimizes being out of stock, but it lowers our delivery costs and improves our delivery times to the customer. Our primary objective has been to be in stock to serve the customer.
And so we've been increasing inventory levels from a position that we thought was negatively impacting sales. And we also want to get our merchandise, particularly our larger items, to our customers more quickly. And so we're accomplishing this through regional distribution. Over the immediate term, this increases our inventory levels. But longer term, once we have implemented the necessary demand planning tools that I mentioned, we'll be more effective at inventory allocation between the distribution centers, allowing our inventory levels to moderate over time.
Right. That's great. Thanks a lot. Good luck.
Thanks. Next question comes from Neely Tamingo with Piper Jaffray.
Great. Thank you. This is Kayla Wesser on for Neely today. My first question is the amount of newness in the catalog for core Williams Sonoma appears to have really stepped up as we begin getting ready for the holiday season here. Just wondering if you could speak to whether this strategy is helping you acquire new customers or reengaging lapsed customers?
Thank you for the question. We have been really focused on our product pipeline. In the last call, I mentioned that we're going to have a lot of new introductions in Q3 and we did and they're working. And we have, what I think is a very exciting holiday assortment, combination of great entertaining and also gift giving ideas and across a wide range of categories where I think our customers have grown to love us for the nostalgic candies that we sell, but also always want to see the new things that we have. And we've seen strength both in our proprietary product, but also in our branded products.
And we've developed incredible relationships
with a lot of these key brands and really
are the place
a lot of these key brands and really are the place that people want to buy gifts for in the holidays. And so we have equal optimism around branded as we do around proprietary products for this holiday season.
Thanks. And then a follow-up on Pottery Barn Teen. You mentioned some weakness in textiles in Q2 and Q3. And I know that it shifts more gift giving in Q4. Just wondering though, as we think about your bedding and textiles business, have you do you feel like you've identified the issues and fixed them?
Or is there still some more room for improvement in holiday and even into Q2 and Q1 and beyond?
I always think there's more room for improvement in everything. We're very self critical. The assortments that we have coming, I think are gorgeous and really differentiated. There's a lot of people watching what we do and getting into these business and that competition makes us better and makes us differentiate. And also our there's not a lot of people that have our supply chain.
We're vertical, so we can get better costs and our scale allows us to deliver better value, cost quality relationship. And so as we look at next year, we see some clear opportunities, highly competitive. So I don't want to go through the details of such, but we see some clear opportunities quarter to quarter for p18.
Great. Thanks.
We have time for one last question from Christina Fernandez, Telsey Advisory Group.
Hi, good evening. I wanted to ask about the customer satisfaction scores, particularly at Pottery Barn. I know those had deteriorated a little bit last quarter just given the inventory issues. Have you seen that improve? And also how much do you think that weighted on the Pottery Barn comp this quarter?
It's a great question. Thank you for that. Yes, customer service is our primary objective and our goal is to build a capability that delivers the most convenient and damage free experience in the furniture industry. And over the past 3 years, our Pottery Barn furniture sales have grown tremendously. We're going to deliver a ton of furniture into our customers' homes this year.
We've always done this better than most, but we see opportunity to take our capability to the next level, much like we did in e commerce 5
years ago. And so we've been investing,
as we've talked about, to advance our delivery platform beyond the current state of the art. Every customer piece of feedback that we get, we not only fix with the customer, but we root cause it and learn from it and make sure that we're not we don't have a bigger opportunity. And customers are very demanding and they are going to continue to expect more. And that is why we're making this such a focus because we believe we have the opportunity to totally disrupt the furniture business with our world class delivery.
And then a follow-up. As far as promotions, you talked about the merchandise margin being, slightly down versus last year, but fulfillment cost being higher. And I know a lot of it is related to the inventory issues, but how much did free shipping promotions were a factor this quarter?
It wasn't a factor at It's not an issue from more free ship or lower shipping income levels. It's 100% due to higher shipping costs from our decision to provide the best level of customer service by shipping out of market and having multiple deliveries on a single order.
Thank you and good luck this quarter.
Thank you. And
that does conclude our question and answer session for today. I'll now turn the conference back over to Ms. Elber for any additional or closing remarks.
Thank you all for joining us today and we really appreciate your time and your continued support and we look forward to speaking with you again in March. Happy holidays everyone.
Thank you. And that does conclude our conference call for today. We thank you for your participation. You may now disconnect.