The Gap, Inc.

Good afternoon, ladies and gentlemen. My name is Abby, and I will be your conference operator today. I would like to welcome everyone to the GAAP, Inc. First Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. For those analysts who wish to participate in the question and answer session after the presentation, you may now press star 1 to enter the question and answer queue. As a reminder, please limit your questions to one per participant. If anyone should require assistance during the call, please press the star key followed by the zero key on your touchtone phone. I would now like to introduce your host, Cameron McLaughlin, Head of Investor Relations.

Cameron McLaughlin Good afternoon, everyone. Welcome to Gap Inc.' 's first quarter fiscal 2023 earnings conference call. Before we begin, I'd like to remind you that the information made available on this conference call contains forward-looking statements that are subject to risks that could cause our actual results to be materially different. For information on factors that could cause our actual results to differ materially from any forward-looking statements, as well as a description and reconciliation of any financial measures not consistent with generally accepted accounting principles, please refer to the cautionary statements contained in our latest earnings release. the risk factors described in the company's annual report on Form 10-K filed with the Securities and Exchange Commission on March 14th, 2023, and any subsequent filings with the Securities and Exchange Commission, all of which are available on gabbank.com. These forward-looking statements are based on information as of today, May 25th, 2023, and we assume no obligation to publicly update or revise our forward-looking statements. Joining me on the call today our Interim Chief Executive Officer, Bobby Martin, and Chief Financial Officer, Katrina O'Connell. With that, I'll turn the call over to Bobby.

Thank you, Cameron, and good afternoon, everyone. Thanks for joining us today. Consistent with what you've heard from us over the last few quarters, we continue to take the necessary actions to drive critical change at Gap Inc. to further improve the trajectory of our business and to get us back on a path toward delivering consistent results. We are improving near-term execution and requiring a much deeper and integrated focus on the customer to unleash each brand's potential. Also, simplifying our operating structure and model, reducing costs, improving speed of decision-making, and unlocking our creative muscle, and modernizing our core capabilities that have been on Gap Think's roadmap for far too long. I understand that we have surfaced these issues before and what I would say is simply, this work has been derailed for far too long and it is imperative that we get after it in earnest. The need for change is permeating the organization and I am very pleased that our teams are embracing the work and behaviors needed to get us there. The leadership team is committed to getting the work done and have put structure, process, and leadership accountability in place to ensure that we do. Now let me give you a little more specific insight to the actions that we have been taking. First, we took immediate action to improve our near-term execution and brand performance. We have moved quickly and effectively at clearing excess inventory, improving assortment, particularly at Old Navy and Gap, resulting in share gains in both Lemons and Baby and Q1. The company delivered over 600 basis points of adjusted operating margin expansion compared to last year, driven by significantly improved gross margin from a reduction of excess of air freight expense and improved promotional activity as well as adjusted SG&A leverage. And our balance sheet is stronger. We ended the first quarter with nearly 40% more cash than last year. almost 30% less inventory than last year, and we paid off 100 million of our outstanding ABL balance just last week, while also continuing to deliver an attractive quarterly dividend to our shareholders. Now let me speak to each of our brands. Starting with Old Navy, comparable sales were down 1%. Old Navy's momentum continued into the first quarter with market share gains driven by strength in women's as well as a reversal of trend in the baby business that was offset by softness in active and kids. The Old Baby team under IO Barbato's leadership remained focused on stabilizing the core and elevating execution, which contributed to improved margins resulting from its leaner inventory position and balanced assortments. Styles with a clear fashion point of view and diversified end use, like woven tops and pants, performed well, giving customers the option to go from casual to dressed up, thanks to outfitting cues focused on versatility. The team also continues to lean into its responsive capabilities in order to place inventory buys more efficiently and remain flexible to chase into demand or pivot if the customer needs shifts. On Gap Brand, comparable sales were up 1%, driven by continued strength in women's, a modest improvement in baby, and offset by weakness in kids and active. Gap Brand's focus on amplifying its icons is truly resonating, as the team focuses on reintroducing the most modern versions of its iconic styles. This shows up as updating styles like our women's silver faux leather jeans, an on-trend take on our classic cheeky straight denim offering. And I'm encouraged by product improvement in other categories as well, including denim, woven tops, and dresses, which showed up with increased versatility. The team uses responsive levers to chase into best-selling women's denim, like the baby boot and high-rise stride, as well as trending woven tops further driving growth in these categories. Moving to Banana Republic. Comparable sales were down 8% on top of an outsized positive 27% comp last year. While still early on its journey, Banana Republic continues to make progress, establishing itself as a premium lifestyle brand and is resonating with our customers. This March, it unveiled Be Our Home with a curated collection of rugs, bedding, decor, and more. all capitalizing on the BR customer's appreciation for great style, design, and quality, and leveraging the deep home lifestyle talent and expertise of the Banana Republic leadership team. We look forward to more expanded collection in the future. And finally, Atlanta, which posted comparable sales of negative 13%, which were below planned for the quarter. As we discussed last quarter, Athleta's near-term performance was negatively impacted by continued product acceptance challenges, including color, print, and pattern misses, and from straying too far from its performance DNA. Delivering the best product for our customers is the highest priority, and while the team is focused on making improvements to the assortment, we know it will take time for those changes to fully take hold. While we continue our search for a new leader for Atlanta, we are leveraging the great talent currently at the brand, including our new chief creative officer, Julia Leach, as well as some of our best merchandising and product talent from across our portfolio of brands. Collectively, they are leaning in and making improvements where we can, including better presentation of the product that is working and elevating our marketing and creative expression. And across Gap Inc. We are still watching the channel shifts closely. While online sales were down single digits in Q1, they are up close to 40% from pre-pandemic levels in Q1 of 2019. As the consumer continues to shift back to stores, we remain focused on delivering the optimal Omni experience for our customers across all brands and all channels. Second, We've made significant change to our organizational structure and are actively improving our operating model to unlock creative muscle, heighten accountability, and empower talent by removing bureaucracy, complexity, and outdated processes while also reducing cost. These changes are pivotal in restoring our strengths and priority around design, innovation, style, and trend. We flattened the organization by reducing layers from 12 to 8 and increasing the average span of control from two people to four, still with the intent of getting to five or better, informed by best-in-class benchmarks. All of this to address execution inefficiency and improve decision-making quality and speed. Each of our brands now have consistent structures built around our product, our customer, and our creative excellence with clear roadmaps and mandates. We believe this work will ultimately show up in improvements in our sales and margin performance over the long term, and again, most importantly, in creative and product execution. Fundamental shifts included combining merchandising and inventory management under one leader to oversee the end-to-end process fueled by consumer insights. bringing channels together under the commerce and experience lead to drive omnithinking in the end-to-end consumer experience, and splitting marketing leadership into two roles, one focused on creative and brand identity, and one focused on execution and analytics. And we have also centralized G&A functions that were previously embedded in the brands to create efficiencies and better leverage the scale and expertise of our portfolio. These changes result in eliminating approximately 1,800 positions, and when combined with our earlier actions last fall, reflect approximately 25% of our headquarter roles, a significant contributor to nearly $550 million in estimated annualized savings on a cumulative basis. I know we all can understand these decisions are always very, very difficult to make, especially when saying goodbye to team members that we care about. Beyond these organizational changes, the bigger payback will come when we show up as a more informed, faster, and more creative company, delivering brand and cultural relevance to our customers. We have organized not just to improve the cost structure of this company, but with an eye toward best-in-class industry standards and setting ourselves up to deliver long-term results. To be clear, this is not a one-and-done cost-cutting exercise. We are after a mindset and cultural shift that will be part of our evolution as we go forward. The teams are now in place and in consistent pursuit of efficiency. We will continue to look at additional opportunities to rationalize our technology and marketing investments and exploring ways to further optimize our cost structure long-term. More to come as the team gets in deeper into this work. Thirdly, we are modernizing our capabilities to build a healthier company at the core and ultimately change the trajectory of our business. Through these improved capabilities, we are focused on key product and market functions, including reestablishing core merchandising processes and pricing architectures, amplifying and leveraging customer insights and analytics, and leaning in further to our vendor partners in our product development processes as we further elevate our responsive capabilities. Lastly, to bring leadership, structure, and accountability to ensure we drive this work to completion, we have put a transformation office in place under the GAP Inc. leadership team, and we've engaged external consulting partners to even further drive rigor, processes, and day-to-day disciplines to support the team through this period of significant change. We have also aligned a significant portion of our incentive compensation this year to the achievement and completion of our cost transformation efforts. Our leaders and our teams are committed to this change, and I'm proud of the progress today. And finally, before I turn the call to Katrina, I want to address our CEO search and the comments made by our lead independent director, Mayo Shattuck, in our earnings press release today. When I took the role of interim CEO in July, I did not expect to still be speaking to you on our first quarter earnings call. But this only underscores how strongly the board is committed to appointing the right person as our next CEO, one who has passion, strong vision, and customer obsession that will take this company forward. We're deeply engaged toward the appointment and look forward to the time we will introduce you to the new CEO of Gap Inc. Let me move us on, but I hope this provided a bit more clarity around our commitment to shoring up the foundation of this company for the long term by lowering our cost structure, building a culture of creativity and empowerment, and reorienting our business toward the customer. These types of foundational changes paved the way for a future CEO to take over a business that is healthier, more productive, and ready to compete and win. And with that, Katrina, I'll pass it over to you.