Good day, welcome to the Williams-Sonoma third quarter earnings release conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to Gabrielle Rabinovitch. Please go ahead.
Thank you, Kevin. Good afternoon. This call should be considered in conjunction with the press release that we issued earlier today. Our earnings press release and this call may contain non-GAAP financial measures that exclude the impact of unusual business events. A reconciliation of any of these non-GAAP financial measures to the most directly comparable GAAP financial measures, our explanation of why these non-GAAP financial measures may be 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, prospects of the company in 2014 and beyond, 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-K 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 third quarter fiscal 2014 results.
Thank you, Gabrielle. Good afternoon, thank you all for joining us today. On the call with me today are Julie Whalen, our Chief Financial Officer, Pat Connolly, our Chief Strategy and Business Development Officer. We're pleased to be discussing our third quarter with you. Solid performance across our brands allowed us to deliver these results with revenue growth of 8.7%, operating margin expansion, earnings per share growth of 17.2%. These achievements reflect our product leadership, lifestyle merchandising, iconic brands, strong execution. We also believe that this third quarter further demonstrates that our multi-channel model, with more than 51% of revenue now coming from the e-commerce channel, represents a distinct competitive advantage. We continue to focus on serving our customers investing for sustainable long-term growth.
This holiday season, we believe we have a strong lineup of beautiful gifts, entertaining and decorating collections across all of our brands. Most importantly, we are ready to provide the best service to our customers with the launch of some new functionality and programs we'll be discussing this afternoon. Since the beginning of the year, we've been preparing our supply chain for the holiday peak season with operation consolidation projects and material handling improvements in our distribution centers. We have worked diligently on upgrading our distribution and delivery networks so that we are able to meet and exceed our customers' expectations. Our supply chain is a competitive differentiator. We continue to make investments to increase agility and flexibility, allow for greater throughput, and reduce delivery times. Our new Dallas distribution center, opened in May, is allowing us to add capacity and shorten delivery times during peak.
The productivity of the Dallas facility has exceeded our expectations. In addition, we are enabling next-day service on all but large cube orders. Sutter Street, our manufacturing division, is also growing to support our customers' demand for handcrafted, high-quality, made-to-order upholstered furniture. We'll be adding approximately 500 full-time positions for skilled craftspeople and distribution support personnel in our facilities in the U.S. We plan to fill the new positions by early 2015. We believe we have one of the largest personalization capabilities in the country, offering our customers many unique personalization techniques. To meet our increasing demand, we've increased our overall capacity with the addition of a new material handling system. We've also added some great new items to our assortment. We believe a personalized gift at the holidays is one of the best gifts you can give.
In addition to investing in our supply chain infrastructure to improve service levels, our technology investments are centered on enhancing the customer experience. We believe these innovations will drive traffic and increase customer engagement and loyalty. The integration of convenient mobile functionality is important. This fall, we introduced a Where's My Order interface for customers on smartphones. Recently, we also improved our customer order visibility online. We are extending the functionality of our on-site search and product recommendation features, optimizing them for gift-giving this holiday season. I'd now like to take a moment to discuss our community engagement this holiday season. Our corporate mission is to enhance our customers' lives at home. This mission guides not only our business decisions but our giving and community strategy. Our commitment to making a difference comes to life through a number of initiatives that reflect the passion of our associates.
One key holiday effort has been on behalf of St. Jude Children's Research Hospital, which is leading the way the world understands, treats, and defeats childhood cancer and other life-threatening diseases. Williams-Sonoma, Inc. is celebrating its 10-year milestone of participating in the St. Jude Thanks and Giving holiday campaign. Since 2005, our customers and associates have helped raise more than $26 million to help St. Jude provide cutting-edge treatment and pursue visionary research. This year, all of our brands are participating in the Thanks and Giving campaign, offering products especially designed for the St. Jude program. We donate a portion of the purchase price of each of these items directly to St. Jude Children's Research Hospital. Starting this week, running as long as our supplies last, our customers can support St. Jude anywhere they shop.
I would like to update you on the progress we have made across key initiatives to expand the reach of our brands globally, launch new businesses, and grow our existing brands. We believe that successful execution of these strategies will deliver sustainable profitable growth and increase shareholder value over the long term. I'd like to start with global. We remain optimistic that global expansion will be a significant growth driver. In the third quarter, we made progress on several global expansion initiatives. We announced a franchise agreement with Distribuidora Liverpool, Mexico's leading department store chain, and expect the first stores to open in 2015. Liverpool's market expertise and extensive supply chain will allow us to deliver the same high quality of service that we provide in the United States and around the world.
For those of you unfamiliar with Liverpool, I'd like to provide a brief overview of its business so you can fully appreciate the strategic rationale. Liverpool has been in business since 1847, has 100 department stores across 56 cities, and five duty-free stores in Mexico. Liverpool's real estate division operates 24 shopping centers and welcomes more than 100 million shoppers every year. Liverpool is the largest non-bank credit card issuer in Mexico. We're very excited about this development and look forward to providing updates as we hit our milestones. We also opened four new company-owned stores in Australia in suburban Sydney in August. Just yesterday, we opened four new company-owned stores in Melbourne. We now have 13 stores in Australia and believe that we are developing strong brand awareness that will allow us to scale this business effectively. We're also excited about the newest brands in our portfolio.
In Rejuvenation, we are seeing nice momentum. Performance has been driven by the introduction of new categories, an updated aesthetic reflecting a differentiated point of view, and a greater range of price points to bring new customers to the brand. We've already launched more than three times as many SKUs in 2014 as we did in 2013. Our new collections, in conjunction with refinements to our marketing strategy, have resulted in higher levels of brand engagement. This fall, we're also excited about our new design collaborations that feature handcrafted lighting, ceramics, and accessories. Each product combines the designer's aesthetics with Rejuvenation's high-quality industrial look to serve as a perfect gift during the holidays. These artisanal partnerships extend Rejuvenation's commitment to fostering local makers and supporting products made in the United States. In addition to seeing good growth online, we are seeing strong comp store growth in our four locations.
As we refine our retail model and produce sustainable results, we believe there may be additional growth opportunities for Rejuvenation, including opening more stores. We're excited to be opening our fifth store next month in Palo Alto, California. The design of this location is a new prototype, and as a result, this store's productivity will be another key indicator for Rejuvenation's potential. Mark and Graham recently celebrated its two-year anniversary. We continue to see strong sales growth, and the brand's exclusive assortment of high-quality, unique gifts continues to grow. Mark and Graham incorporates great design, exclusive typography, and state-of-the-art technology. It truly represents next-generation personalization. For the holiday season, we've introduced luxurious and accessible gift ideas across personal accessories and housewares. In addition, a key differentiator is our complimentary gift wrap. This signature gift wrap is beautifully constructed and mirrors the modern sensibility and clean design of the brand.
This fall, we also piloted our trunk show program in Mark and Graham, a new marketing channel for us, which is driving incremental sales and building brand awareness. We are excited about the opportunities this brand continues to identify. I would like to discuss our larger brands in more detail. I'm going to start with the Williams Sonoma brand. In the third quarter, comparable brand revenue increased 4.3% on top of 1.4% last year. The Williams Sonoma brand has now posted five consecutive quarters of comparable brand revenue growth, and the third quarter brand comp is the highest Q3 comp since 2005. We're pleased with the progress of the Williams Sonoma brand year to date. In the third quarter, we saw solid performance across tools, cutlery, entertaining, and tabletop. Proprietary and exclusive product introductions also contributed to the Williams Sonoma brand's success.
The Williams-Sonoma Home business also continued to deliver strong results with a broader assortment and notable performance in furniture and textiles. Also in the third quarter, we were proud to reopen our original Williams Sonoma store in Sonoma, California, on October 2nd, which was our founder, Chuck Williams' 99th birthday. This historic store, design center, and cooking school, at the site of the original Williams Sonoma store and our founder's former residence, is a landmark. The store captures the character of the location's earlier era, exhibiting many of the iconic kitchenwares originally sold. The store also celebrates Chuck's spirit of discovery by offering our latest and most popular products. Williams Sonoma is ready for the fourth quarter with inspiring and unique products and experiences and the highest level of customer service.
To begin with, in the fourth quarter, Williams Sonoma is proud to be the exclusive bookseller for the Ina Garten 'Make It Ahead' book tour. The author of eight best-selling cookbooks and host of the Food Network's "Barefoot Contessa: Back to Basics" show, winner of both Emmy and James Beard awards, is celebrating the release of her eagerly anticipated ninth book, "Make It Ahead: A Barefoot Contessa Cookbook." We couldn't be more pleased to be hosting these exclusive events with her and offering our customers the chance to purchase a much-coveted signed copy of this cookbook. Copies of the book "Make It Ahead" are also available for purchase in all Williams Sonoma stores and online at williamssonoma.com. Williams Sonoma continues to make great chef partnerships and celebrate their success across the industry. This holiday season, we are offering our customers high-quality, innovative products for entertaining and decorating.
We're also featuring stunning seasonal gift ideas at great values. We are introducing layers of newness across electric cookware and tools, and I'm most excited about our holiday foods, in particular, our new Williams Sonoma sweet tins and our expanded peppermint bark collection. We also have broadened our savory offerings to include time-saving seasonings, starters, and mixes that make preparing a holiday meal easy. We believe that a great customer experience will be key to success this holiday season. We've invested in training and online customer order visibility so that this holiday season we will reach the highest level of service in the industry. We are thrilled to be offering Williams Sonoma Express in all Williams Sonoma stores this holiday after piloting a successful program last year. Williams Sonoma Express allows the customer to call ahead to our stores.
We'll ring it, wrap it, and have it ready for you for pickup. This service enables an exceptionally convenient customer experience and will drive customer loyalty. We're so excited to be offering this value-added service. Now, I would like to discuss the Pottery Barn brand. In the third quarter, Pottery Barn comparable brand revenues increased 7% on top of 8.4% last year. Performance was driven by strength across our proprietary upholstery collections made in our Sutter Street facilities and unique bedroom furniture collections. Our seasonal tabletop and decorative accessory businesses improved sequentially relative to the second quarter as our customers responded to our new color palette and in-house designed patterns and prints we featured this fall. This fall, we also launched our Curiosities collection with unique and innovative decorative accessories for every room of the house.
In the third quarter, we saw our online business, which is the broadest expression of our brand, accelerate by delivering our product expansion strategy across numerous categories, aesthetics, and price points. We continue to perfect and expand our store customer services, including our free interior design and installation services in the comforts of our customers' homes, which we believe are competitive advantage. As we enter the fourth quarter, we are committed to helping our customers get ready for the holidays. Our mission is to help make our customers' houses into their dream homes. From setting the table to stocking the bar to decorating the mantel, we will help our customers get ready for guests, parties, and special occasions. We're particularly excited about our nostalgic and coastal holiday stories.
We're also featuring a broader assortment of gifts and gift services, with gifts ranging from cozy robes to glitter, mercury, and unique ornaments. We're ready for our customers this holiday season. Our gift concierge program will help our customers find perfect presents for everyone on their list. In their homes and in our stores, our teams will help every detail to make shopping and decorating for the holidays personal, easy, and fun. This holiday, for the fifth year in a row, Pottery Barn will offer products through our Give a Little campaign that will give back to 24 homeless shelters operating across North America. Our campaign helps provide the critical funding needed to keep those homeless shelters operating on a daily basis. Now, I would like to discuss Pottery Barn Kids. For the third quarter, Pottery Barn Kids' comparable brand revenues increased 8.6% on top of 3.9% last year.
Our nursery and furniture businesses were especially strong in the third quarter. The nursery has been a key area of strategic growth in Kids. We've expanded our offerings to reach a broader audience through aesthetics, diversification, and increased custom upholstery options. Our free interior design services have also fueled the growth of our nursery business as we help expecting and new parents decorate that very special room for the very first time. We had an excellent back-to-school season featuring printed and personalizable backpacks and waste-free lunch solutions, plus an expanded assortment of desks and accessories for toddlers to school-aged kids. Our seasonal businesses continue to be a key area of growth and innovation, starting with Halloween and continuing into our holiday offering in the fourth quarter. This holiday season, our assortment celebrates things kids love.
From decorating to gift-giving, we are helping our customers share traditions and celebrations with family and friends. We're bringing the season to life by creating a festive home that delights with beautifully crafted gifts, handmade ornaments, and personalized stockings. We're also focused on making the holiday gift-giving season easy with enhanced store services and inspired gift vignettes. In PBteen, comparable brand revenues increased 11.7% on top of last year's 16.7% growth. The PBteen business delivered solid results across furniture, textiles, and decorative accessories. Our collaboration strategy for PBteen continues to pay dividends by opening doors and attracting new customers to the brand. Our newest collaboration is with the Junk Gypsies, a two-sister design team from Round Top, Texas, who have a one-hour show on the Great American Country channel. Junk Gypsies dedicated an entire episode in their season to the collaboration with PBteen.
In the third quarter, we are pleased to see significant improvements in our inventory position relative to the supply outage we experienced earlier in the year. This holiday season, PBteen will be offering teens an expanded selection of innovative gifts as well as new furniture, textiles, and decorative accessories to create the ultimate teen lounge and sleepover space. We have broadened our gift collections across decorative and personal accessories with a focus on beauty, jewelry, fur, and sleepovers. We're also introducing new lounge and game chair seating. Technology-enabled gifts continue to be an important theme as well. We're featuring gifting options at accessible opening price points, in addition to a selection of wow gifts that include pool and foosball tables. We're also excited that we opened a new store in our backyard, Mill Valley, California.
It opened a few weeks ago. The store is allowing us to refine our retail model in PBteen and accelerate our mission to be local, relevant, and social. Finally, this past quarter, across all Pottery Barn brands, including Pottery Barn Kids and PBteen, we launched a strategy to engage not only with our customers in a more relevant way, but also with media and influencers around key seasons such as back to school and Halloween. Our goal is to be the destination for decorating, entertaining, and gift-giving for all seasonal holidays. In turn, create a groundswell of social sharing. We focused our efforts in three places. First, high-touch events with media influencers and celebrities. Second, product seeding through our influencer program. Third, two-way social sharing, compelling our customers to further share our content. Next, I'd like to discuss West Elm.
We're pleased with our West Elm results, which continue to demonstrate that West Elm has significant growth ahead. We believe our strong performance relates directly to our key differentiating initiatives of choice, community, and consciousness. In the third quarter, comparable brand revenue increased by 17.4% on top of 22.2% last year. Growth continued to be broad-based across categories. In the third quarter, West Elm successfully opened nine new stores in Oklahoma City, Kansas City, Tulsa, Pittsburgh, Birmingham, Michigan, El Paso, Washington, D.C., Alpharetta, Georgia, and at Chatswood Chase in Sydney, Australia. Targeted public relations outreach and social activations resulted in more than 100 million media and social impressions around the new stores. In October, the brand launched the Best of LOCAL assortment, bringing some of the most popular products and makers from regionally specific store assortments to a national customer on westelm.com.
Yesterday, West Elm announced and celebrated the winner of the West Elm LOCAL Small Business Grant, Tennessee-based Little Seed Farm, which makes organic soap and skincare from goat's milk and herbs, and won the public voting with support from a campaign that invited their social fans to vote for goats. West Elm currently offers local assortments in 24 stores with plans to roll assortments out to all stores next year. This holiday season, West Elm is offering a strong assortment of decor, entertaining, and gifts for the home. Much of the brand's assortment of trim and decor is handcrafted, including felt and knit ornaments from Nepal. In tabletop, West Elm introduced a collection of dinnerware and accessories with FEED Projects that benefit Americans in need.
We continue to build on what is working, and this can be seen in our popular Mid-Century collection, which has grown beyond the bedroom to include dining, office, and storage. In late December, West Elm will introduce a collaboration with Kate Spade Saturday. Designed to embody the playful, easygoing style, and spontaneous weekend spirit Kate Spade Saturday is known for, this collection includes furniture, bedding, rugs, and home accessories to brighten up every room of the house. It will be available in all of our U.S. and Canadian stores and supported with cross-channel marketing events and social activations. West Elm is also focused on expanding choices for customers beyond residential homes. The brand recently launched West Elm Contract at the Boutique Design New York Trade Show. West Elm Contract is a capsule collection of contract-grade furniture and accessories created with hotels, co-working spaces, offices, and cafes in mind.
The collection includes some of West Elm's most popular designs, re-engineered with style, strength, and soul for high-traffic use and commercial-grade requirements. Finally, in the consciousness-focused area, West Elm celebrated the graduation of the first class of students in the West Elm-sponsored literacy program at Caribbean Craft in Haiti. This six-month program taught basic reading and writing skills to 35 artisans who make West Elm's popular papier-mâché products. West Elm is looking into opportunities for additional literacy programs in Haiti and the Philippines. West Elm's commitment to choice, community, and consciousness continue to differentiate the brand from its competition, and we remain confident in this brand's ability to be a billion-dollar-plus business. I would now like to turn the call over to Julie to review our financial results in detail.
Thank you, Laura. Good afternoon, everyone. We are pleased with the results we are reporting today. With top-line revenue growth of 9% and bottom-line EPS growth of 17%, including 40 basis points of operating margin expansion, we believe these results demonstrate the power of our multi-channel business and our ability to successfully execute against our initiatives. Our performance year to date gives us confidence in our ability to deliver sustained long-term growth. In the third quarter, net revenues exceeded our expectations, increasing 8.7% to $1.143 billion, with comparable brand revenues increasing 8.7% on top of 8.2% in the third quarter of 2013. Net revenues in our e-commerce channel have once again generated double-digit growth, growing 14.7% to $587 million and represented 51.3% of total company net revenues for the quarter, a 260-basis-point increase over last year. In the retail channel, net revenues grew 3.1% to $556 million.
Gross margin for the third quarter was 37.7% versus 38.6% last year. With occupancy costs as a percentage of net revenues flat year-over-year at 13.5% of net revenues for $154 million, the 90 basis point decrease was primarily driven by lower selling margins in the e-commerce channel. Selling margins in the retail channel were essentially flat year-over-year, and sequentially, total company merchandise margins improved. Our disciplined approach to marketing effectiveness continues to result in productivity gains. We are relentless about acquiring new customers profitably and increasing the lifetime value of our customers. Our strategic levers, again, provided us with the flexibility to offer more value to our customers and at the same time drive operating margin expansion. In the third quarter, we offset our reduced selling margins within gross margin with greater advertising efficiency within SG&A.
SG&A in the third quarter improved 120 basis points to 28.6% versus 29.8% in 2013. The improvement in SG&A was primarily driven by advertising efficiency, as well as lower general expenses and the leverage of employment costs. Strong operational execution and financial discipline drove these improvements. This resulted in an operating margin for the third quarter of 2014 that was 9.2%, 40 basis points higher than the operating margin of the third quarter of 2013. Higher revenues in the e-commerce channel, which consistently operates at a much higher margin, drove this operating margin expansion. By channel, the operating margin in the e-commerce channel in the third quarter of 2014 was 23.3% versus 22.9% in the third quarter of 2013.
In the retail channel, the operating margin was 9% versus 9.1% in 2013, and in corporate unallocated, operating expenses as a rate represented 7.2% of net revenues versus 7% of net revenues in 2013. In the e-commerce channel, the 40 basis points of operating margin expansion was driven by advertising efficiency and the leverage of both employment costs and general expenses. In the retail channel, the 10 basis points of operating margin deleverage was primarily driven by occupancy and employment cost deleverage related to our global initiatives and 17 new store openings in the quarter. This was partially offset by lower general expenses resulting from strong financial and operational discipline. In corporate unallocated, the 20 basis points of deleverage was primarily related to higher occupancy costs associated with incremental investments in our IT infrastructure to support our strategic long-term growth initiatives.
This was also partially offset by lower general expenses from strong expense control. This top-line revenue and bottom-line operating margin outperformance drove a 17.2% increase in our third quarter 2014 diluted earnings per share, resulting in earnings that were $0.68 per share versus $0.58 per share last year. Moving to the balance sheet. Cash at the end of the quarter was $108 million. Given the seasonality of our business, our cash levels reach their lowest point at this time of the year as we fund our business ahead of the holiday selling season. In addition, year-to-date, we have returned $290 million in cash to our shareholders, consisting of $195 million in share repurchases and $95 million in dividends. Merchandise inventories at the end of the third quarter of 2014 increased 9% to $980 million from $899 million at the end of the third quarter of 2013.
Strong inventory execution has resulted in inventory levels that are now back in line with revenue growth. Inventory optimization is strategic. We are always focused on both improving our in-stock position and reducing our overstock, and we continue to make progress against these initiatives. We believe we are well-positioned as we enter this holiday season. I would now like to discuss our fourth quarter and fiscal year 2014 guidance. We expect to deliver another year of record results for our shareholders and remain on track to deliver our three-year outlook. For the fourth quarter of 2014, we expect to grow net revenues to a range of $1.525 billion-$1.575 billion, with comparable brand revenue growth in the range of 4%-6%.
We expect our fourth quarter operating margin to be relatively in line with last year, and we are guiding diluted earnings per share to be in the range of $1.42-$1.50. For the full year, as a result of our Q3 outperformance, we are raising our guidance. We now expect to grow net revenues to a range of $4.68 billion-$4.73 billion, with comparable brand revenue growth in the range of 5%-7%. We expect our operating margin to be in the range of 10.2%-10.4%, and we are increasing our fiscal year 2014 diluted earnings per share to now be in the range of $3.11-$3.19. All other financial guidance within the press release remains unchanged from the previous guidance. Our capital allocation guidance also remains unchanged.
In order to support our long-term strategic growth initiatives, we are on track to make annual capital investments in the business in the range of $200 million-$220 million this year, and we remain committed to returning cash to our shareholders by paying dividends and repurchasing shares under our existing share repurchase authorization. In support of this ongoing commitment, we are also pleased to announce the successful amendment of our unsecured revolving line of credit, which increases the facility to $500 million and extends the maturity date to November 2019. In light of the growth of our business, our efficient use of cash, and our long-term commitments, we believe increasing and extending our line of credit today is appropriate. In closing, we are very pleased with our strong results and operational execution. We believe we are well-positioned for this holiday season and beyond.
With the customer at the center of everything we do, we are confident in our competitive advantages, including our great brands with our innovative products and outstanding service, as well as our multi-channel platform with more than 50% of our business coming from e-commerce. These advantages, plus our many opportunities for growth and our commitment to financial discipline, continue to allow us to remain confident in our ability to deliver sustainable, long-term, 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 holidays, and we look forward to helping you and your family shop this holiday season. Thank you.
If you would like to ask a question, please signal by pressing star one on your telephone keypad. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Once again, press star one if you would like to ask a question. We will take our first question from Daniel Hofkin with William Blair & Company.
Good afternoon. Can you hear me?
Yes, we can.
Yes, Daniel.
Hi, Dan.
Hi. Nice results. Just quick question first on the guidance for the fourth quarter. If my math is right, it looks like pretty similar revenue guidance as what was implied before, but maybe a little bit moderated on the EPS side. Just wondering, is that correct? If so, what are the factors behind that? Then I just had a follow-up question on the Williams Sonoma brand itself and where you think you are in the nine-inning game, both in terms of merchandising and in terms of upping your service level game.
Okay, great. I'll take the first part, Dan. We feel great about our Q3 and year-to-date results, obviously the guidance we have now provided for Q4 and fifth year, which will put us at another record year of revenue and earnings. It's still early in the quarter, this is one of our biggest quarters, you have to remember that. For Q4, another thing to remember is that our guidance is up against a tough year-over-year compare. Yet at the high end of our range for comp brand revenue, we're guiding a 6 comp on top of a 10 last year. For EPS, we're guiding a 9% growth after absorbing all of our investments.
On the year, we are guiding comp brand revenue growth at the high end to be almost seven on top of nine last year, we raised our EPS guidance. We think this guidance is strong. Really, we are focused on the long-term growth of our company on our way to doubling our revenues over time, this guidance is consistent with our three-year outlook.
Thanks, Laura. To your question on Williams Sonoma, we're very pleased with the performance that the Williams Sonoma brand has posted year to date. A couple of years ago, we outlined the plan for you to reimagine the brand, bringing in more proprietary, exclusive, and innovative products, making the retail stores more exciting. We've made a lot of progress across both of those. We've also continued to invest in our online capabilities in the Williams Sonoma brand. We spent a lot of time on the on-site search and reorganizing the site so that it is easily shoppable both on a desktop and also mobily. We're seeing great results from all that. In terms of innings, we continue to see a lot of opportunity, honestly. We're pleased with what we've seen, but we have a lot more work to do.
We see this as one of the preeminent iconic brands out there, and we believe that it can have a much bigger presence globally than it has today, and that also there's new categories that we can expand into in the future.
Great. Nice results again. Best of luck.
Thank you.
Thank you.
We'll go next to Chris Horvers with J.P. Morgan. Please go ahead.
Thanks. Good evening.
Good evening.
Hi, Chris.
I think there's a lot of debate out there about the promotional environment. Can you talk about what you're seeing online and in the mall and how that's evolving as we head into the holidays? Also, we're getting closer to Thanksgiving, so any thoughts you could share on what you're seeing around the Williams-Sonoma brand would be really great. Thanks.
Sure. There's no question the holiday season will be even more competitive than last year. I also believe e-commerce will set new sales records. With over 50% of our revenue in e-commerce, I believe we have a competitive advantage. Our marketing drives traffic to all of our channels, and our in-store experience and services give our customers the confidence to order online. Another competitive advantage that we have is our innovative proprietary products. The holidays are a time when a customer wants to give a gift from a great brand, and I believe we are really well-positioned with all of our brands this holiday season.
Okay. It doesn't sound like you're necessarily worried directionally about how the promotional environment's setting up in November and into Thanksgiving and Christmas.
When we say we're going to be competitive this holiday, it's far more than just price. We believe that our in-store and our online services will continue to lead the industry and that our proprietary product line is outstanding. We've also worked all year, and you've heard me say this, to ensure that our offers are compelling. We believe that combination continues to allow us to gain market share.
Understood. Then just one quick last one. Can you talk about the in-stock levels at Pottery Barn and Pottery Barn Kids and how that's improved over the quarter and how much do you think it still would catch up on? Thanks.
We feel really good about our inventory levels. As we said on the call, strong inventory execution resulted in inventory levels that are now back in line with revenue growth. We are focused on inventory optimization and on both improving our in-stock position as well as reducing our overstocks, we continue to make progress against these initiatives. We feel very good about the level of inventory. If you're referencing a particular part of our team from last time, obviously we had that outage back in Q2, we are predominantly back in with that inventory as of this point.
Thank you. As a reminder, we'd like to ask everyone to please limit your questions to one initial question. Again, please limit yourselves to one question. Although you may re-queue after your question is done by pressing star one. We'll take our next question from Greg Melich with Evercore ISI.
Hi, I wanted to talk a little bit more about the inventory, particularly the gross margin dynamic and customer service. It sounds like we're normal now. How do you guys think about inventory turns or days on hand as a more normal level? Have you made any adjustments for the port slowdowns? When will we start to see the benefit of the inventory changes showing up in gross margins?
Hi, Greg. This is Julie. I'll take that. As I was just saying before, we feel really good about our inventory levels. Obviously, there's always a delicate relationship between service levels and inventory. Especially the more that our sales are coming from the e-commerce channel, the more important it is to be in stock. We feel really good that we are back now in line with revenue growth. We have strong inventory disciplines in place across the company, and we believe we are well-positioned as we enter the holiday season with the right level of inventory to support the business and guidance we are providing today. The bigger concern is obviously if this West Coast port slowdown continues or deteriorates. We do have strategies in place to help mitigate the potential impact.
Of course, our teams have been watching this slowdown and planning for it since before the labor contract actually even expired. Although we are 100% confident in our team's ability to navigate this to help minimize its impact on our inventory, we are hopeful that there'll be a solution soon because given the volume of goods that pass through the West Coast ports longer term, this isn't good for anybody. From a margin perspective and some of our long-term initiatives, the gross margin, you'll start to see some of those benefits as we enter 2015. Some of those benefits, I think, you're referring to is the insourcing of our foreign agents. That was completed mid of second quarter, and all of that gets costed into the inventory and sold through starting really in 2015. You'll start to see some benefit there.
The regionalization of our distribution centers, you'll start to see the full benefit of that as we enter 2015. With that said, obviously being competitive from a promotion standpoint is important. If that's what the customer wants, then the difference between us and other retailers is we're able to offset that with advertising efficiency within SG&A like we did in this quarter and still have 40 basis points of operating margin expansion.
We'll go next to Matt Fassler with Goldman Sachs.
Thanks so much, and good afternoon.
Hi, Matt.
I want to focus, if I could, on the selling margin in e-commerce. Can you talk about the degree to which that related to merchandising, pricing, and promotions, and how much of it related to shipping?
Sure. As we said in our prepared remarks that the decrease in gross margin was primarily driven by lower selling margin in the e-commerce channel, and not in the retail channel. That was essentially flat. We did say that sequentially, the merchandise margins improved. There is a lot of things that are going on in gross margin. As you guys know, I try to make it as least complicated as possible and probably in the end, make it more complicated. This quarter in particular, we incurred some incremental costs to support our increased upholstery volumes, the ramping up of our Dallas distribution center, as well as other costs ahead of the holiday selling season. For example, to support our growing personalization business, all of which put additional pressure on the Q3 selling margins.
Bottom line, even though these margins were down year-over-year, we were able to still deliver the 40 basis points of operating margin expansion.
It was more some of those one-off factors than any change in the backdrop shipping or pricing-wise?
Yes.
Thank you.
We'll go next to Jessica Mace with Nomura Securities. Please go ahead.
Hi, good afternoon. Congrats on the nice quarter.
Thank you.
It seems like it's another example of you being able to flex the gross margin SG&A to deliver operating margin, as you said. My question is on kind of going forward, where we can expect to see further SG&A savings, especially in light of some of the investments and ramped up services that you've talked about.
From an SG&A standpoint, I think you've probably seen every quarter that we've been able to leverage year-over-year. We don't expect that to change anytime soon. Obviously, the biggest factor that allows us to leverage is the advertising efficiency. What we consistently say is that every quarter we make the call whether to spend that next dollar in advertising or to spend it from a promotion standpoint. Unfortunately, they just hit different lines. Depending on where the promotional activity is, and what is happening in the market from a competitive standpoint, you'll continue to see that SG&A leverage. Also, the more that we drive our revenues, which is consistently happening to the e-commerce channel, you'll see a lot of our costs continue to leverage. I don't expect that to change anytime soon.
We'll go next to Neely Tanimura with Piper Jaffray.
Great. Good afternoon. Congrats on the quarter. Congrats to Laura on the Fortune Businessperson of the Year list. That was fantastic.
Thank you, Neely.
Yeah. Question here on West Elm new store growth trajectory. At what point do we start to think about maybe doubling the store growth? Admittedly, we get it that the e-commerce sales are very important, obviously store growth also grows e-commerce.
I think if we recall back to the early days of PB, it's right about now when I think PB was starting to maybe open 2x the amount of doors that West Elm's been opening. Could you help us think through that timeline? Just a real quick housekeeping question for you, Julie. e-commerce, the name change, totally agree with the decision. Were there any financial statement reclassifications or organizational changes behind that name, or was it just simply renaming it on the P&L? Thanks.
Go ahead, Julie.
Okay. I'll take that last question there. No, you shouldn't read anything more into that. The reality is, e-commerce has been over 90% of that channel for a while now. We finally just made the decision to rename it. Nothing else has changed.
Okay. In terms of West Elm growth, we're really pleased with what we're seeing in the new stores. As you heard the list, we've opened in some different types of markets, all those stores give us confidence in our future plans for West Elm. We're looking for great stores and great centers that make sense. We could possibly open more, but we aren't looking to have a race on this, because sometimes you have to wait to get the best real estate. We also really want to make sure that we really understand the multi-store market dynamic. In every one of our brands, we've seen and learned different things when we open second and third stores in the market.
We're just hitting that part of the growth cycle now, and we're really optimistic with what we're seeing about the future of this brand, our retail expansion strategy, and also our ability to really build the business online. I think you also heard me talk about other legs of growth for West Elm today that we really think are exciting, including the contract furniture.
Thank you. That's for sure.
We'll go next to Michael Lasser with UBS. Please go ahead.
Good evening. Thanks a lot for taking my question. Are consumers responding to any different types of promotions that you're finding more successful than before? Take a broad-based 20%, 25% off versus a more targeted promotion on a select item. Is that driving incremental success?
It's interesting. I'd say the thing that I'm really noticing is that people have been ready for Christmas earlier this year. We've seen really nice response to our gifts already. I think it's proprietary, innovative products first. You want to give a wonderful, thoughtful gift to people. It's great if you can get a great price on it. Customers are pretty smart. They shop around, they know where the price sits, and it's a very efficient market. I don't think it's any trick per se other than high quality, innovative, proprietary product priced fairly.
My follow-up question is along those lines. Where do you think is the minimum level of catalog distribution, and how far do you think you are from reaching that point?
It's different by brand. We test versions, page count, sizes. It's very complicated, and you're always finding new opportunities. We're so lucky to have such a developed house file and a lot of different data points to draw from. It's really, I think, a competitive advantage of ours.
Awesome. Thank you so much. Good luck with the holiday.
Thank you.
Thank you.
Our next question will come from Seth Sigman with Credit Suisse. Please go ahead.
Okay. Thanks very much. I was wondering if you could give a little bit more color on the international business and specifically some of the investments you've been making in Australia, how those stores are performing, and when we should expect to see some of the leverage from those investments show up.
Sure. It's Laura. We're really early on our journey overseas. I was just in Australia and got to see our beautiful stores, and you'd be so proud about how they're executing over there. Of course, like anything else, you need to build scale. We're really focused on getting these stores open well, getting the right services, and getting the right inventory in line for our customers over there because there are different selling periods. Selling patterns, I'm sorry, and selling periods that we need to adjust for. We're pleased with the amount of business that's coming online and how when we open a new store, we see the online business also grow in that market.
Okay, thanks. Just one quick follow-up on a separate topic. Last quarter, you discussed some fashion issues that may have impacted you. Can you discuss what changed and whether you feel like you're fully through that at this point, or is there still a tailwind ahead?
I think what you're referring to is in Pottery Barn, I mentioned that I thought that the color palette could have been brighter and more fun for the summer season, fall is a very different time period, you move quickly out of that. While the pillows aren't a huge percent of our business, they're sort of the window dressing on all of our sofas. We tend to be very self-critical and always looking for merchandising improvements and operational improvements. As you heard me say, we saw a much stronger response to the fashion textiles this fall.
Thanks very much.
Thanks.
We'll take our next question from Simeon Gutman with Morgan Stanley.
Thanks, and congratulations on the quarter, and happy holidays.
Yes, you too.
I have a couple questions. I'll ask them upfront so I don't get that cut off. First, Williams-Sonoma was so strong in terms of growth. I don't think you'll answer, but I'm gonna ask. Can you talk to the traffic in the store versus the business online? The second question, a follow-up on the expense leverage, given how solid it was. It looks like the point per comp or the leverage per point in comp, the flow-through was even better than previous quarters. I think you'd agree. Beyond the leverage that you're getting from the comp, it actually looks like something is getting better in either how the costs are controlled, et cetera. Julie, just to clarify, did you say that fourth quarter EBIT margin should be in line with last year's margin?
Relatively in line, yes.
Okay.
Okay. I'll take the SG&A one first. I think, yes, we are getting better leverage than you probably have seen, but that's a function of several different things. As I mentioned, it's expense control, but it's also the fact that we're very efficient with the advertising, that'll ebb and flow depending on the quarter and what our operational decisions are by quarter.
In terms of retail traffic, we don't have traffic counters in our stores. We have a big outreach program in each of our stores. We're actually building that to a larger extent right now in Williams-Sonoma. It's something we started in Pottery Barn within home design services, and we see a similar opportunity where we can go to your house and redo your kitchen. We're just getting going on that. Traffic is, of course, really important to us in the malls. We are really encouraging the mall owners to really do things to drive traffic, but we're also making traffic happen in our stores with all of our great smells and decorating classes and, of course, reaching out to our customers and pulling them in and going into their own homes.
In terms of the interplay between e-commerce and our stores, we really believe that when you go have a great experience in one of our stores, you're going to be more confident shopping online. That's something that people who don't have stores don't have the same advantage, particularly during the gift-giving time of year, where you want to be sure that you're really buying that thoughtful gift for the people on your list.
Okay. Thank you.
Our final question today will come from David Magee with SunTrust.
David Magee.
Hi, it's David Magee. Good afternoon. Congrats on a good quarter.
Hi, David. Thanks.
Thank you, David.
I just wanted to ask about the comment that you all made earlier about the promotional environment for the holidays you think might be more intense than last year. It just sort of strikes me that given your customer demographic who's had, I would think, a pretty decent year, I'm surprised that would be the case. Is it just sort of a mindset that we have to deal with? This is sort of the new new or is there some sort of a new competitive dynamic at play?
No, I don't think there's any change. I think this is somewhat sort of the new new. There's no question that this holiday season will be competitive. We prepare for this all year long. We're ready online and in our stores and in every one of our brands. We have an outstanding assortment of gifts, and we're in it to win it and gain market share. Because of our e-commerce scale and our knowledge of our retail customers, we can deliver highly relevant offers digitally or through email that are highly impactful. We believe we are well-positioned for this holiday season to continue to provide our customers what they need for the gift-giving season to outperform our competition and to continue to take market share. We don't believe anything has changed.
Thank you.
At this time, I'd like to turn the conference back over to your presenters for any additional and/or closing remarks.
Thank you all for joining us today, and we really appreciate your support. I want to echo what Julie said, which is thank you for shopping with us this holiday season. We hope to provide you and your family and friends outstanding service.
Ladies and gentlemen, this does conclude today's conference. We thank you for your participation