Good day, and 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 Rabinovich. 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 measures to the most directly comparable GAAP financial measures and 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 conditions, results of operations, business initiatives, trends, guidance, growth plans and prospects of the company in 2014 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 2014 results. Thank you, Gabrielle.
Good afternoon and thank you all for joining us today.
On the call with me today are Julie Whelan, our Chief Financial Officer and Pat Conley, our Chief Strategy and Business Development Officer. We're pleased to be discussing our Q3 with you. Solid performance across our brands allowed us to deliver these results with revenue growth of 8.7%, operating margin expansion and earnings per share growth of 17.2%. These achievements reflect our product leadership, lifestyle merchandising, iconic brands and strong execution. We also believe that this Q3 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 and 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. And 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 operations, consolidation projects and material handling improvements in our distribution centers. We have worked diligently on upgrading our distribution and delivery networks that we're able to meet and exceed our customers' expectations.
Our supply chain is a competitive differentiator and
and 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 United States. 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 and this fall we introduced a Where is My Order interface for customers on smartphones. Recently, we also improved our customer order visibility online and 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 and 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. And one key holiday effort has been on behalf of St. Jude's Research Hospital, which is the leading 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. And since 2,005, our customers and associates have helped raise more than $26,000,000 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. And starting this week and running as long as our supplies last, our customers can support St.
Jude anywhere they shop. Now 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 increased 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 Q3, 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 18/47, has 100 stores across 56 cities and 5 duty free stores in Mexico.
Liverpool's real estate division operates 24 shopping centers and welcomes more than 100,000,000 shoppers every year. And 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 4 new company owned stores in Australia in suburban Sydney in August. And just yesterday, we opened 4 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 3 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 holiday. 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 4 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 5th 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 potential. Mark and Graham recently celebrated its 2 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. And for the holiday season, we've introduced luxurious and accessible gift ideas across personal accessories and housewares. In addition, key differentiator is our complementary 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. Now I would like to discuss our larger brands in more detail. I'm going to start with the Williams Sonoma brand. In the Q3, comparable brand revenue increased 4.3% on top of 1.4% last year.
The Williams Sonoma brand has now posted 5 consecutive quarters of comparable brand revenue growth and the 3rd quarter brand comp is the highest Q3 comp since 2,005. We're pleased with the progress of the Williams Sonoma brand year to date. In the Q3, we saw solid performance across tools, cutlery, entertaining and tabletop. Proprietary exclusive product introductions also contributed to the Williams Sonoma's brand 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 Q3, we were proud to reopen our original Williams Sonoma store in Sonoma, California on October 2, 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 Q4 with inspiring and unique products and experiences and the highest level of customer service.
To begin with, in the Q4, Williams Sonoma is proud to be the exclusive bookseller for the Ina Garten Make It Ahead book tour. The author of 8 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 our eagerly anticipated 9th 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 this book, Make It Ahead are also available for purchase in all Williams Sonoma stores and online at williamsonoma.com. Williams Sonoma continues to make great chef partnerships and celebrates 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 value. 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. Finally, 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 this holiday season we will reach the highest level of service in the industry. We are thrilled to be offering Williams Sonoma Xpress in all Williams Sonoma stores this holiday after piloting a successful program last year. Williams Sonoma Xpress allows the customer to call ahead to our stores, we'll bring it, wrap it and have it ready for you for pickup. This service enables an exceptionally convenient customer experience and will drive customer loyalty and we're so excited to be offering this value added service. Now I would like to discuss the Pottery Barn brand.
In the Q3, 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 Q2 as our customers responded to our new color palette and in house design 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 Q3, 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.
And 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 Q4, we are committed to helping our customers get ready for the holidays. Our mission is to help make our customers' houses into their dream home. From setting the table to stocking the bar to decorating the mantle, we will help our customers get ready for guests, parties and special occasions. And 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 and 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. And this holiday for the 1st 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 Q3, 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 Q3. The nursery has been a key area of strategic growth in kids and we've expanded our offering 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 age 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 Q4. 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 PB Teen business delivered solid results across furniture, textiles and decorative accessories. Our collaboration strategy for PB Teen continues to pay dividends by opening doors and attracting new customers to the brand.
Our newest collaboration is with the Junk Gypsies, a 2 sister design team from Round Top, Texas who have a 1 hour show on the Great American Country Channel. Junk Gypsies dedicated an entire episode in their seasons for the collaboration with PBteen. Also in the Q3, 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, PB Teen 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 sleepover And we're also introducing new lounge and game chair seating.
Technology enabled gifts continue to be 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 foodball tables. We're also excited that we opened a new store in our backyard Mill Valley, California. It opened a few weeks ago and the store is allowing us to refine our retail model
in PB Teen
and accelerate our mission
to be local, relevant and social.
Finally, this past quarter across all Pottery Barn brands including Pottery Barn Kids and PB Teen, 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 and in turn create a groundswell of social sharing. We focused our efforts in 3 places. 1st, high touch events with media influencers and celebrities 2nd, product seeding through our influencer program and 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 Q3, comparable brand revenue increased by 17.4% on top of 22.2% last year. Growth continued to be broad based across categories. And in the Q3, West Elm successfully opened 9 new stores in Oklahoma City, Kansas City, Tulsa, Pittsburgh, Birmingham, Michigan, El Paso, Washington, D.
C, Alpharetta, Georgia and at Chastway Chase in Sydney, Australia. Targeted public relations outreach and social activations resulted in more than 100,000,000 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. And 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 and in tabletop West Elm and choose a collection of dinnerware and accessories with feed projects that benefits 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. And in late December, West Elm introduced 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 and it will be available in all of our U.
S. And Canadian stores and supported with cross channel marketing events and social activation. 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 capital 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 reengineered with style, strength and soul for high traffic use and commercial grade requirements. And finally, in the consciousness focus area, West Elm celebrated the graduation of the 1st class of students in the West Elm sponsored literacy program at Caribbean Craft in Haiti. This 6 month program taught basic reading and writing skills to 35 artisans who make West Elm's popular paper mache 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 $1,000,000,000 plus business.
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, 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 Q3, net revenues exceeded our expectations, increasing 8.7 percent to $1,143,000,000 with comparable brand revenues increasing 8.7% on top of 8.2% in the Q3 of 2013.
Net revenues in our e commerce channel have once again generated double digit growth, growing 14.7 percent to $587,000,000 and represented 51.3 percent of total company net revenues for the quarter, a 2 60 basis point increase over last year. And in the retail channel, net revenues grew 3.1 percent to $556,000,000 Gross margin for the Q3 was 37.7 percent versus 38.6% last year, with occupancy costs as a percentage of net revenues flat year over year at 13.5% of net revenues or $154,000,000 The 90 basis point 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. 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 Q3, we offset our reduced selling margins within gross margin with greater advertising efficiency within SG and A. SG and A in the Q3 improved 120 basis points to 28.6 percent versus 29.8% in 2013. The improvement in SG and 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 the Q3 of 2014 that was 9.2%, 40 basis points higher than the operating margin of Q3 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 Q3 of 2014 was 23.3% versus 22.9% in the Q3 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 percent 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 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 drove a 17.2% increase in our Q3 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 $108,000,000 Given the seasonality of our business, our cash levels reached 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 $290,000,000 in cash to our shareholders, consisting of $195,000,000 in share repurchases and $95,000,000 in dividends. Merchandise inventories at the end of the Q3 of 2014 increased 9% to $980,000,000 from $899,000,000 at the end of the Q3 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 Q4 fiscal year 2014 guidance. We expect to deliver another year of record results for our shareholders and remain on track to deliver our 3 year outlook.
For the Q4 of 2014, we expect to grow net revenues to a range of $1,525,000,000 to 1.575 $1,000,000,000 with comparable brand revenue growth in the range of 4% to 6%. We expect our 4th 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 to 1 point $5.0 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 $4,680,000,000 to 4,730,000,000 dollars with comparable brand revenue growth in the range of 5% to 7%. We expect our operating margin to be in the range of 10.2% to 10.4% and we are increasing our fiscal year 2014 diluted earnings per share to now be in the range of $3.11 to $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 $200,000,000 to 220,000,000 dollars 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 $500,000,000 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 commitment, 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.
And we'll take our first question from Daniel Hofkin with William Blair and Company.
Good afternoon. Can you hear me?
Yes, we can. Hi, Daniel. Hi, Daniel.
Hi. Nice results. Just quick question, first on the guidance for the Q4. 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?
And if so, what are the factors behind that? And then I just had a follow-up question on kind of the Williams Sonoma brand itself and where you think you are in the 9 inning game both in terms of merchandising and in terms of kind of upping your service level game?
Great. I'll take the first part, Dan. We feel great about our Q3 and year to date results and obviously the guidance we have now provided for Q4 and fiscal year, which will put us at another record year of revenue and earnings, but it's still early in the quarter and this is one of our biggest quarters. So you have to remember that. And for Q4, another thing to remember is that our guidance is up against a tough year over year compare, and 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.
And for EPS, we're guiding 9% growth after absorbing all of our investments. And on the year, we are guiding comp brand revenue growth at the high end to be almost 7% on top of 9% last year, and we raised our EPS guidance. So we think this guidance is strong. And really, we are focused on the long term growth of our company on our way to doubling our revenues over time, and this guidance is consistent with our 3 year outlook.
It's 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 more proprietary, exclusive and innovative products and making the retail stores more exciting. And we've made a lot of progress across both of those. We've also continued to invest in our online capabilities in the William Soma brand, 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 mobile.
And 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 and 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 then also there's new categories that we can expand into in the future.
We'll go next to Chris Horvers with JPMorgan. Please go ahead. Thanks. Good evening.
Good evening. Hi, Chris.
Can you talk about the 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? And also, you'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. But I also believe e commerce will set new sales records. And 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 product and the holidays are time when the 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. So it doesn't sound like you're necessarily worried directionally about how the promotional environment is 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 And we believe that combination continues to allow us to gain market share.
Understood. And then just one quick last one. Can you talk about the in stock levels at Pottery Barn and Pottery Barn Teen and how that's improved over the quarter and how much you think it still would catch up on? Thanks.
So 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 and 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 and we are predominantly back in with that inventory as of this point.
Thank you. 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 slowdown? And when will we start to see the benefit of the inventory changes showing up in gross margin?
Hi, Greg. This is Julie. I'll take that. So as I was just saying before, we feel really good about our inventory levels. Obviously, there is 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, but 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. And of course, our teams have been watching the slowdown and planning for it since before the labor contract actually even expired. And 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 will 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.
And some of those benefits, I think, you're referring to is the in sourcing of our foreign agents. That was completed mid of Q2 and all of that gets costed into the inventory and sold through starting really in 2015. So you'll start to see some benefit there. And then the regionalization of our distribution centers, you'll start to see the full benefit of that as enter 2015. But with that said, obviously, being competitive from a promotion standpoint is important.
And 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 and A like we did in this quarter and still have 40 basis points of operating margin expansion.
We'll go next to Matthew Fessler with Goldman Sachs.
Thanks so much and good afternoon.
Hi, Matthew.
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 it was the decrease in gross margin was primarily driven by lower selling margin in the e commerce channel and not in the retail channel, it was essentially flat. But we did say that sequentially the merchandise margins improved. There's 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.
But this quarter in particular, we incurred some incremental costs 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. But 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.
So 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 and congrats on the nice quarter.
Thank you.
It seems like it's another example of you being able to flex the gross margin SG and A to deliver operating margin as you said. And my question is on kind of going forward where we can expect to see further SG and A savings, especially in light of some of the investments and ramped up services that you've talked about?
From an SG and A standpoint, I think you've probably seen every quarter that we've been able to leverage year over year and we don't expect that to change anytime soon. Obviously, the biggest factor that allows us to leverage is the advertising efficiency. And so 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. And unfortunately, they just hit different lines. And so 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 and 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 Nealey Taminka with Piper Jaffray.
Great. Good afternoon. Congrats on the quarter and congrats to Laura on the Fortune Business Person of the Year list. That was fantastic. Thank you, Nealey.
Yes. So question here on West Elm, new store growth trajectory. At what point do we start to think about maybe doubling the store growth? I mean, admittedly, we get it that the e commerce sales are very, very important, but obviously store growth also grows e commerce. And 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 like 2x the amount of doors that West Elm has been opening.
So could you help us think through that timeline? And 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 rename it on the P and L?
Thanks.
Go ahead, Sheila.
Okay. So I'll take that last question there. No, there's you shouldn't read anything more into that. I mean, the reality is e commerce has been over 90% of that channel for a while now. We've 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 and all those stores give us confidence in our future plans for West Elm. And we're looking for great stores and great centers that make sense. And 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.
And 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 2nd and third stores in the market. So 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 it.
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? So take a kind of a broad based 20%, 25% off versus a more targeted promotion on a select item? And 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 and we've seen really nice response to our gifts already. And 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.
But customers are pretty smart. They shop around. They know where the price fits and it's a very efficient market. So I don't think it's any trip per se other than high quality innovative proprietary product priced fairly.
And 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? And how far do you think you are from reaching that point?
Yes, it's different by brand and we test versions, page count, sizes, 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. And of course like anything else you need to build scale.
So 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. And 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 and fall is a very different time period. So you move quickly out of that and while the pillows aren't a huge percent of our business, they're sort of the window dressing on all of our sofas. And so we tend to be very self critical and always looking for merchandising improvements and operational improvements. And as you heard me say, we saw a much stronger response to the fashion textiles this fall.
Thanks very much.
Thanks. And we'll take our next question from Simeon Gutman with Morgan Stanley.
Thanks and congratulations on the quarter and happy holidays. I have a couple of 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 going to ask.
Can you talk to the traffic in the store versus the business online? And then 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. So 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, etcetera.
And Julie, just to clarify, did you say that 4th quarter EBIT margin should be in line with last year's margin?
Relatively in line, yes.
Okay.
Okay. So
I'll take you want me to take I'll take the SG and A one first. So 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. And so that will 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. And 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. And we're just getting going on that.
So traffic is of course really important to us in the mall and 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 then 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 one of our stores, you're going to be more confident shopping online. And 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.
And our final question today will come from David Magee with SunTrust.
Hey, Miggy.
Yes. Hi. It's David Magee. Good afternoon and congrats on a good quarter.
Hi, David. Thanks.
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. And 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 that would be the case. Is it just sort of a mindset that we have to deal with this as 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 every one of our brands.
We have an outstanding assortment of gifts and we're in it to win it and gain market share. And because of our e commerce scale and our knowledge of our retail customers, we can deliver highly relevant offers digitally or through e mail that are highly impactful. So 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. Competition and to continue to take market share. We don't believe anything has changed.
Thank you.
And at
this time, I'd like to turn the conference back over to your presenters for any additional and or closing remarks.
Well, thank you all for joining us today and we really appreciate your support. And 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.