Nordstrom, Inc.

Greetings and welcome to the Nordstrom First Quarter 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. We will begin with prepared remarks followed by a question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. If anyone should require operator assistance during the conference, please press star 0 on your telephone keypad. As a reminder, this conference is being recorded. At this time, I'll turn the call over to Heather Hollander, Head of Investor Relations for Nordstrom. Thank you. You may begin.

Good afternoon, and thank you for joining us. Before we begin, I want to mention that we'll be referring to slides which can be viewed in the Investor Relations section on nordstrom.com. Our discussion may include forward-looking statements, so please refer to the slide with our Safe Harbor language. Participating in today's call are Eric Nordstrom, Chief Executive Officer, Pete Nordstrom, President and Chief Brand Officer, and Ann Bramman, Chief Financial Officer, who will provide a business update and discuss the company's first quarter performance. And now, I'll turn the call over to Eric.

Good afternoon, and thank you for joining us today. Our first quarter results were marked by strong top-line growth and continued progress in our transformation. We know customers look to Nordstrom for the occasions that matter most to them. This quarter, we saw customers shopping for long-anticipated in-person occasions such as social events, travel, and return to office. Beyond occasions, customers also re-evaluated and refreshed their wardrobes. We are encouraged by this opportunity because it favors the core categories of our business and the core capabilities of our service model. We were well positioned to serve this demand and deliver an excellent customer experience, powered by our unique product offering, interconnected model, and strong commitment to customer service. Our integrated digital and physical assets continue to allow us to be nimble and enable us to quickly adapt to the channel shift in the quarter as customers increasingly chose to shop in store. We were staffed, well-stocked, and ready to serve customers as store traffic increased. And our dedicated employees delivered an experience that was clearly reflected in our store-level customer satisfaction scores. Putting the customer first is in our DNA, and our teams continue to exemplify that spirit this quarter. We've always believed that service and selling go together. That was reflected in our team's improved productivity with 75% more Nordstrom salespeople reaching the $1 million sales mark in 2021 versus 2019. We cannot be more proud, and we'd like to thank our outstanding team for their unwavering commitment to serving customers and delivering results. Turning to first quarter performance. Total sales increased 19% over the first quarter of 2021. Nordstrom Banner sales increased 23% over last year and exceeded pre-pandemic levels, an important milestone. Nordstrom Banner gross merchandise value, or GMV, increased 25% for the first quarter versus the prior year. As we saw a return to occasions and customers updating their wardrobes, we experienced broad-based growth across core categories and geographies. With customer traffic and activity returning in city centers, Nordstrom urban store sales collectively rebounded and reached pre-pandemic levels. In fact, the Nordstrom Manhattan flagship store had the highest year-over-year sales growth among our stores this quarter. For the Nordstrom banner, the southern U.S. continued to outperform the northern U.S. compared to pre-pandemic levels, but the spread tightened to three percentage points. Our team remains focused on building additional capabilities to better serve customers and drive shareholder value, with particular emphasis on three key areas, improving Nordstrom RAC performance, increasing profitability, and optimizing our supply chain and inventory flow. Starting with Nordstrom RAC. Sales grew 10% versus last year, driven by increased store traffic, improved conversion, and better in-stock levels. We also built momentum, with sales increasing as we moved through the quarter. By increasing our supply of premium brands and fine-tuning our assortment to better align with customer needs, we are achieving a better balance of price points at the RAC. As we've said before, 90% of the top brands at Nordstrom are sold at Nordstrom Rack, and we believe our work to improve the availability of those brands will fuel Rack's growth. And we're pleased with the results of our More Reasons to Rack campaign, which drove improved brand awareness, affinity, and traffic. As we move through the year, we expect to see continued benefits from our multi-layered plan to both expand our offerings of the most coveted brands we carry, as well as source from new vendors, and increase our use of pack-and-hold inventory to ensure we have the right selection that our customers want. By improving inventory levels, optimizing our assortment, and driving brand awareness and traffic, we are confident that we will profitably grow our rack business throughout the remainder of the year. Turning to profitability, while we drove improvements in both merchandise margin and SG&A this quarter, we are focused on plans to deliver incremental improvements and elevated flow through as we move through the rest of the year. Within SG&A, we expect that the supply chain optimization workstreams underway will enhance the customer experience, drive top line growth, and produce efficiencies in labor and fulfillment, which will compound as we move through the year. Pete will take you through our progress to date and plans to drive additional merchandise margin and supply chain improvement in a moment. In addition to the three focus areas that I've outlined, winning in our most important markets and advancing our digital capabilities are key strategic priorities for us, and we continue to make progress in these areas. Starting with winning in our most important markets, our market strategy helps us engage with customers through better service and greater access to product, no matter how they choose to shop. By leveraging a strong store fleet and linking our omni-channel capabilities at the market level, we deliver a level of convenience and connection that our customers enjoy. Throughout our market strategy rollout, we've seen the power of offering additional pickup options. Customers clearly value our interconnected model, with order pickup comprising 10% of Nordstrom.com demand this quarter. an increase of 200 basis points versus the prior year. In Q2, we'll continue to scale our market strategy by expanding next day order pickup capabilities to over 60 additional rack stores in our top 20 markets. Customers utilizing in-store pickup have higher engagement and spend three and a half times more than customers who don't utilize the service. Buy online, pick up in store also remains our most profitable customer journey and one of our highest satisfaction customer experiences. Our styling program also continues to be a powerful engagement driver as we deliver convenience and build deeper customer connections through our closer to you strategy. As we position our styling program for further growth, We are sunsetting Trunk Club and redirecting our resources to the services that our customers tell us they value most. I want to be clear. This move reflects our belief and commitment to styling, and we are dedicated to growing and investing in these services. We have a range of styling services from low-touch outfit inspiration through our digital channels to a high touch and personalized relationship with a stylist, all of which achieve high customer satisfaction scores. We are directing our investment towards these programs to ensure that we are well positioned to serve customer needs and drive growth. Customers spend seven times more and report higher levels of satisfaction when engaging with a stylist, either in-store or online. While we still see the highest number of customers engage with our in-person styling, we are seeing rapid growth within our digital services. We continue to leverage data science and advance our digital tools, including virtual style boards, to empower our stylists with highly relevant recommendations for their customers. With more customers returning to stores this quarter, digital sales were flat versus the first quarter of 2021. Digital remains an important part of the business with 39% penetration and digital capabilities are an important part of our in-store experience. We'll continue to leverage our digital platforms to deliver personalization at scale, especially as we connect with customers through our upcoming anniversary sale in the second quarter. We're excited about our plans for the year and the progress we're making on our transformation. Investments in our market strategy and digital assets put us in a strong position to capitalize on favorable market opportunities as events and overall demand continue to recover. Beyond top line growth, we've made progress improving merchandise margin and driving SG&A efficiency, and we have specific work streams in place to drive incremental improvement in the second half of the year. We have line of sight to achieving the financial targets outlined at our 2021 investor event and remain committed to shareholder value creation. We look forward to sharing our continued progress in the quarters ahead. With that, I'll turn it over to Pete.

Thanks, Eric, and good afternoon, everyone. I'll start by talking about our category performance this quarter, then give you an update on our work to increase gross margin, improve supply chain and inventory flow, and evolve our merchandising model. Starting with the category performance. We were excited to see customers shopping for events and updating their closets this quarter, and we were ready to serve them with the best product and selection across the brands that matter most to them. Men's apparel was our strongest category this quarter. More broadly, both men's and women's apparel had double-digit growth over last year and sales that exceeded pre-pandemic levels. Strength in men's and women's apparel was driven especially by suiting and dresses. While we always strive for balance across all relevant categories, it is true that event and occasion-based categories are important to our customers and represent a significant portion of our business. We also offer differentiated services such as styling and alterations that help customers to feel good and look their best as they prepare for important occasions. The apparel demand we saw this quarter goes beyond occasions though. We also saw robust demand for wardrobe refreshes, especially for the spring and summer seasons. Shoes had a strong double-digit growth with increased demand across formal, casual, and athletic styles. Our designer offering across all categories continued to perform very well, also posting strong double-digit growth and sales significantly above pre-pandemic levels. Turning now to our initiatives. We put the customer at the center of everything we do, and our strategic initiatives in merchandising and supply chain are designed to optimize the customer experience, resulting in increased profitability. This quarter, we continued our progress in improving our merchandise margins. Our team used advanced analytics to better understand customer needs, find opportunities to improve our assortment and presentation, and optimize markdowns. We also increased average retail prices without seeing a negative impact on transaction volumes. We're very encouraged by our Q1 results and the additional opportunities we've identified for the rest of the year. To provide the most relevant curated assortment for our customers, we're also using analytics and consumer insights as part of our category work to improve decision making around our assortment and allocation of inventory. Beyond merchandising capabilities, we're also working on our supply chain and inventory flow. We recognize the critical strategic and operational importance of supply chain, especially amid the broader supply chain challenges facing our industry. As a result, we identified opportunities across our network to improve efficiencies and capabilities, which ultimately improves our service to customers. We have four initiatives in flight. First, improving the consistency and predictability of unit flow through our network. Second, increasing productivity in our distribution and fulfillment centers. Third, accelerating delivery speed. And finally, expanding the market level selection for in-store shopping as well as same-day and next-day pickup. We believe these actions will improve the customer experience, increase sell-through, reduce markdowns, and drive expense savings. While we still have work to do, we are encouraged by early results and we expect to see more significant benefits in the second half of this year. We also continue to evolve our merchandising model to improve customers' choices while increasing relevance. Alternative partnership models represented 12% of Nordstrom Banner GMV this quarter as we continue to provide newness and selection by partnering with brands in new ways beyond the legacy wholesale model. We're also excited about our new brand launches. In the second quarter, we are launching Allbirds, a compelling fashion-forward, sustainable shoe brand. Nordstrom will be one of Allbirds' few key retail partners. Beginning June 1st, we will offer men's and women's styles in select stores with plans to launch on Nordstrom.com later this summer. And we've also expanded our ASOS partnership, opening a new store at The Grove in Los Angeles last Friday. specifically designed to engage young adult customers. This is the first ASOS co-branded physical retail location and our first representation of a full ASOS in-person shopping experience. We had a great customer response to the launch, and we are excited for the opportunity ahead with this partnership. We are expanding our choice count to grow wallet share with both existing and new customers. We enter Q2 with record high choice count, and we'll continue to use our category management process and enhanced analytics to offer more choices while increasing relevance. As we look ahead to the second quarter, we are excited to serve our customers at our anniversary sale and believe that they will benefit from the timing of the event as they return to events and update their wardrobes. As always, our anniversary sale rewards and engages our loyal customers with brand new product from the best brands at reduced prices for a limited time. To deliver an even more compelling and profitable event, each year we look to make continuous improvement using data science and consumer insights to identify the most successful components of past events and identify new opportunities for the upcoming year. For example, We're leveraging advanced analytics to inform the right depth and breadth of offers to drive profitable sales for this year's event. We have also put considerable effort into tracking anniversary product and pulling forward receipts, which we expect will result in an improved inventory flow and allocation, better sell-through, and an enhanced customer experience. With this year's anniversary sale, we're focusing on new and highly coveted brands, bringing back in-store events and launching a new digital catalog. We are excited about our approach to anniversary and the opportunity for us to provide a unique experience for our loyal customers while introducing new customers to Nordstrom. In closing, with the work underway, we are confident in our ability to transform our business, deliver an even better customer experience, and improve our efficiency and productivity. I'll now turn it over to Ann to discuss our financial results.

Thank you, Pete. I'd like to begin with a review of our results, then take you through our outlook for the remainder of the year. Earnings for the first quarter were $0.13 per diluted share. After excluding a gain on the sale of our interest in a corporate office building, the and an impairment charge related to a trunk club property, adjusted EPS was a loss of $0.06. Our first quarter earnings were negatively impacted by $0.05 per share due to discrete tax expenses, primarily related to stock-based compensation, which we do not expect to impact our full-year projected rate of 27%. Overall, net sales increased 19% in the first quarter. Nordstrom banner sales increased 23%, while GMV increased 25%, with both exceeding pre-pandemic levels. Nordstrom rack sales increased 10% in the first quarter, driven by increased store traffic, improved conversion, and better in-stock levels. Digital sales were flat compared to the first quarter of 2021, as customers increasingly chose to shop in-store. As contemplated in our guidance, we took retail price increases this quarter in response to inflationary pressure and higher MSRP prices from our vendors. At Nordstrom Rack, through our strategic pricing actions, we raised prices on items with the lowest elasticities. Across both banners, we saw minimum unit impact from these pricing actions. This quarter, our sales growth was supported by pricing actions, favorable mix shift, and transaction growth. At this point, we have not seen inflationary cost pressures adversely impact customer spending, which we believe is due to the higher income profile and resiliency of our customer base. This quarter, both customer counts and spend per customer increased versus the prior year. Gross profit as a percentage of net sales increased 190 basis points, primarily due to leverage on buying and occupancy costs and improved merchandise margins largely driven by favorable pricing impacts and lower markdown rates. Ending inventory increased 24% with approximately one quarter of the inventory increase due to pull forward of anniversary sale receipts. As Pete indicated, we have taken steps to improve our tracking of anniversary product and receive inventory earlier, which we expect will improve flow and sell through. As a result, we believe we are well positioned for our upcoming anniversary sale. Total SG&A as a percentage of net sales decreased 320 basis points in the first quarter, primarily due to leverage on higher sales. However, we continue to see pressure in labor and fulfillment, and we've been working since last year to deliver offsets through our supply chain optimization initiatives. We expect that benefits from supply chain optimization will build as we move through the year. EBIT margin was 2.1% of sales for the first quarter. After excluding the gain on the sale of our interest in a corporate office building and the trunk club impairment charge, adjusted EBIT margin was 0.9%. We continue to strengthen our financial position, ending the first quarter with $1.3 billion in available liquidity, including $484 million in cash and the full $800 million available on a revolving line of credit. This month, we entered into a new $800 million revolving credit agreement, replacing the previous agreement that was scheduled to expire in September 2023. The new agreement is another milestone in improving our capital structure post-pandemic, providing additional flexibility as we go forward. Now turning to our updated outlook for fiscal 2022, I'd like to begin by describing the macroeconomic backdrop contemplated in our outlook. We continue to be encouraged by the momentum in our business as customers update their wardrobe and prepare for long awaited occasions. To date, we haven't seen an adverse impact on customer spending from inflationary pressures, which we suspect is due to the higher income profile of our customer base. We continue to see macro-related cost pressure in labor and fulfillment, which we factored into our guidance, along with offsetting benefits from our supply chain optimization initiatives. At the same time, we continue to consider macroeconomic headwinds, including the potential of more pronounced inflation impacts and supply chain disruption, both to our customer as well as to our margins. Taking all these factors into consideration, we are updating our 2022 guidance to reflect our first quarter top-line performance, which exceeded our expectations, while holding assumptions for the second quarter and the rest of the year consistent with our previous guidance. For fiscal year 2022, we now expect revenue growth of 6% to 8% versus 2021. We continue to expect adjusted EBIT margin of approximately 5.6% to 6% for the full year. Our forecast assumes that year over year improvement in both gross profit margin and SG&A leverage will be significant contributors to 2022 adjusted EBIT margin. Improvements in both gross profit margin and SG&A will be driven by leverage on higher sales, especially in the first half of the year, and benefits from our strategic initiatives, which will build throughout the year. All said, we expect similar levels of adjusted EBIT margin improvement between the first and second halves of the year compared to 2021. Our effective tax rate is expected to be approximately 27% for the fiscal year. We now expect adjusted EPS of $3.20 to $3.50. Our outlook excludes the impact of any share repurchases. I'd also like to provide some additional detail on our forecast for the second quarter. We anticipate that second quarter revenue growth will be approximately half that of the first quarter. Our projections include the impact of one week of our anniversary sales shifting into the second quarter, which adds approximately 200 basis points of revenue growth to the quarter. We expect that our second quarter EBIT margin will approach 2019 levels and that our tax rate will be roughly in line with our full year rate of 27%. Shifting to capital allocation, our first priority is investment in the business to better serve our customers and support long-term growth. We're planning capital expenditures at normalized levels of 3 to 4 percent, primarily to support supply chain and technology capabilities. Our second priority is reducing our leverage. We are committed to an investment-grade credit rating and remain on track to decrease our leverage ratio to approximately 2.5 times by the end of 2022. Our third priority is returning cash to shareholders. This quarter, we resumed our quarterly cash dividend and last week our board of directors declared a quarterly cash dividend of 19 cents per share. Our board also authorized a new $500 million share repurchase program. We plan to take a measured approach to share repurchases this year, aligning with our cash flow and market conditions. In closing, we are very pleased to see the momentum in our business and customers reengaging with our core categories. We made the right investments to prepare for this shift, and we are well prepared to serve our customers in the moments that matter most to them. We are very excited about the momentum in our business and our plans to deliver shareholder value over the long term. With that, I'll turn it over to Heather for Q&A.

Thank you, Anne. Before we get started with Q&A, we ask that participants limit their responses to one question and one follow-up. We'll now move to the Q&A session.

At this time, we'll be conducting a question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handsets before pressing the star keys. Our first question comes from the line of Oliver Chen with Cowan. You may proceed with your question.

Hi, there. This is Katie on for Oliver Chen. Thanks so much for taking our question. We would just love to know more about sort of how you're seeing the sales and cost environment. Obviously, labor and fulfillment, cost inflation, But just sort of as gross margin or on the sales side, if you're seeing sales equal to that of 2019 levels, but gross margin SG&A are sort of below those, sort of could you bridge the gap there? Sort of what needs to happen in order to get gross margin back to the 2019 level? Thank you.

Hi, Kay. I'll start off talking a little bit about this from a financial perspective, and then if Pete and Eric want to chime in from a more macro, they're more than welcome to. As we talked about for Q1, we knew we were coming in heavier in inventory and needed to work through some of that with the markdown component to it. So when we compare some of our margin against Q1 of 19. I would say the two biggest factors for us are, one, clearing through the markdowns that we've had, and we've gotten ourselves in a really good situation. We have a little bit of pockets in Q2 to address, but really, coming out of Q1, we're very – we've worked through a lot – we've worked through the majority of our inventory. I feel really good about where our inventory situation is. And the second is, I think as everyone's seen, is inbound freight costs, driving some of the cost of the product coming in on the gross margin component to it. I would just say stepping back and looking at our business in general, we are really pleased with our customer resiliency and the demand on what we offer. What we see from a sales perspective is that people are coming back, they're shopping for formal locations, they're returning to office, and there's a wide range of categories and styles to update their wardrobes that really were serving the customers well. We were prepared for this and ready for this, and I think the customers are really responding to that from a sales perspective. As we've also talked about, we, like everyone else, have seen some inflationary pressures from labor and supply chain costs. We started seeing that last fall. It's contemplated in our guidance, and we started working early to try to address some productivity and offsets to that throughout the year, which you're seeing in our guide.

Thank you very much.

Our next question comes from the line of Omar Saad with Evacor ISI. You may proceed with your question.

Good afternoon. Really nice quarter. Thanks for taking my question. I'd love for you guys to dive in a little bit deeper on RAC. It's been a little bit of a laggard among your segments the last several quarters, the flow of inventory, the access to some of the better inventories. maybe some merchandising opportunities. Can you give us an update where we stand on RAC? It sounds like the business maybe got a little bit better, roughly around the same area, but are you seeing that flow of inventory, the quality of the inventory improve, especially as people start, I think you mentioned, refreshing the wardrobes and bringing in new fashions?

Great. Omar, I think Eric's going to address that question for you.

Yeah, thanks for the question, Omar. We're pleased with our RAC results. Our plan going into the year and really going back to last year was to, as we communicated, have sequential improvement quarter after quarter, and Q1 did achieve that. As we've talked about, we've identified clear areas of focus for us and are making progress. I would say we're still in the early innings on these initiatives, but more specifically, a big one, which I think you touch on in your question, is the content of our inventory of really getting to what is the secret sauce for our rack business is coveted brands at great prices. And those brands were harder to get. We relied on those last year, which drove our average price down more than we think was good for business, really what customers were looking for. That's starting to come back. Not back all the way, but a much better position and getting the mix of brands that we want that's helping with our price points. Another piece I just commented, it affects RAC, it affects our Nordstrom banner, too, as you look at Q1. You know, last year we talked and certainly felt we were experiencing headwinds of the pandemic, both category-wise, what we have, and geography of having more More stores in more urban type areas, densely populated areas where there's an office component. A lot of those headwinds have turned to tailwinds in Q1. And RAC participates in that as well. As customers are out more and care more about looking their best as they leave the home more, we benefit from that. And our category mix is set up really well for that. That is a big part of the RAC business. The other piece we've talked about in RAC is addressing traffic. Our traffic did increase over the quarter. We also saw improved conversion, better in-stock levels, and encouragingly, our momentum built throughout the quarter, each month being a little better than the previous month. Lastly, I would just point out We felt we were hurt last year from some access to inventory and not having a pack-and-hold inventory to lean upon. We've been building that double to triple the size we had pre-pandemic, and we feel good about that. There's still a lot of bumpiness out there in supply chain. We're certainly not immune to that. So having that pack-and-hold inventory, we feel good about.

Thanks, Eric.

Our next question comes from the line of Chuck Grom with Gordon Haskett. You may proceed with your question.

Hey, thanks very much. Just one quick one for me on the wrap. I guess how would you guys handicap the mix today of premium brands versus where you want them to be in terms of editing the assortment versus pre-COVID levels?

I'm sorry, Chuck, I didn't get the first part of your question. Chuck, can you repeat the question?

Yeah, sorry. Could you guys handicap the mix today of premium brands versus where do you want that to be in terms of adding the assortment over time?

Yeah, I've talked to our merchandisers on it. the number, and this isn't a precise number, but it's about 80% they felt they were back. So coming back most of the way, but not quite all the way back of having the access to these premium brands. So we still think there's some room to go there and we've seen that continue to improve.

Our next question comes from the line of Simeon Sego with BMO Capital Markets. You may proceed with your question.

Thanks. Hey, good afternoon, everyone. Congrats on the Merge Margin Expansion. What was the ASP growth this quarter? And then maybe, Anne, just can you quantify what you're planning for Merge Margin in the second quarter, in the full year, embedded within the guide? And then just lastly, as it grows, can you just quantify the margin benefit you receive from the growth in alternative partnerships? Thank you.

Yeah, so on the ASP component, I would just say in general, our top line increased by the vast majority was both category mix as well as ASP improvements, both in RAC and in the Nordstrom banner. And we also said transaction growth as well. So when we combine all this together, those were really the big three drivers for both banners. for the growth in Q1. As far as the margin components, you know, in the guidance that we gave, what we really talked about for Q2 was that there's a 200 basis point swing compared to last year for pulling another week of anniversary sale in the quarter. And then it's roughly the same, you know, flow through, and we expect second quarter EBIT margin to start approaching 2019 levels. And then in general, when we look at growth profit margin and SG&A leverage for the year, the way we're really thinking about this is that both our supply chain initiatives and our growth profit margin initiatives are going on around our merchandise margins. those are really driving the improvements. And what we see is the leverage on higher sales, especially in the first half of the year, and then the benefits from our strategic initiatives building throughout the year, but really being more impactful in the second half of the year. And so when we think about the adjusted EBIT margin improvement, it's really similar levels of improvement between the first and second halves compared to 2021.

Great, thank you. And then just, so how does the flow-through work on the alternative partnerships, I assume, as that grows? Is that a benefit?

Yeah, so the GMV, and we talked about that, that was a big driver for us as well in the quarter. It really, we have multiple different relationships, as you can imagine. But at the end of the day, the way we think about this is that it helps our return on invested capital. It's a better choice for the customers, a higher selection choice for we call contribution margin. Some of it hits in revenue, some of it hits in the contribution margin, but at the end of the day, we're looking at the return on the contribution margin.

Great. Thanks a lot. Best of luck for the rest of the year.

Thank you. Our next question comes from the line of Michael Bonetti with Credit Suisse. You may proceed with your question.

Hey, thanks for all the detail here today. Anne, could you help us understand how much excess freight impacted the first quarter and maybe what you baked into the guidance for the first half versus the second half on freight, and when do you see that improving?

Yeah, so we haven't given particulars for each specific line items. What we did, and I will refer you back to our guidance as far as how we're thinking about the improvements in our freight costs and as well as our supply chain productivity initiatives that are going on, We, you know, as I mentioned, we did bake in what we saw going on from both a labor and a supply chain cost inflationary headwind starting last fall. And what we did was we just assumed, you know, we worked that through for this year as well. But we started early on trying to identify offsets and productivity. And so, you know, we continue to see that impact coming through the year as well. As far as the – What we're seeing coming through on cost pressures, a lot of it's already contemplated in our guide. And I would just encourage you to think about the trends that we saw from last fall, and we assume those continued this year from an inflationary perspective.

If I could ask a follow-up. As we try to look at the shape of the business and compare the business coming out of COVID to pre-COVID 2019, I think we're getting to the second half being about 71% to 72% of the total EBIT for the year. And I think in 2019 it was a little lower at 64%. And I'm just eyeballing the anniversary sale dates. I think there's a little anniversary sale in the back half in 2019. But in general, is this becoming a more second-half weighted business if we try to normalize for that change in anniversary sale versus pre-COVID?

No, I think, you know, what we talked about was we're seeing improvement in our EBIT rates pretty consistent from first half and second half. And so, yeah, anniversary sales certainly shifts things around between half one, half two. But in general, we're not seeing a huge shift in the curve, in particular in the business. It's just, again, anniversary kind of swings us a little bit. But we're, you know, the way we've given the guidance is that the EBIT rate improvements is pretty similar half one, half two.

Okay. Thanks a lot.

Our next question comes from the line of Jay Sol with UBS. You may proceed with your question.

Great. Thanks so much. I know you just addressed this, but I just wondered if you'd clarify the statement on the gross margin that's implied in the guidance for Q2. Because it looks like the implied even margin guide for Q2 is about 50 to 75 basis points lower than what was previously implied. So I'm just wondering if the gross margin is driving the decrease and what you are embedding for gross margin in Q2. Thank you.

Yeah, Jay, so we're not going to give specific line item guidance, but what I can say in general is that we're expecting both the SG&A improvement from a leverage perspective, as well as seeing some of the initiatives coming through from our productivity, as well as the gross margin piece. And just to remind you, we do have anniversary sale coming in as well. in the second quarter. And so, you know, when we think about the Q2 guide, what we really have been trying to do is talk about the top line piece, which we say is about half the same growth rate as Q1, and then the second quarter EBIT margin will approach 2019 levels. So we're not getting specific line-ups, but I think that gives you enough to go on.

Got it. That's helpful. Thank you so much.

Our next question comes from the line of Brian Callen with Bank of America. You may proceed with your question.

Brian, you may proceed with your question.

Our next question comes from the line of Tracy Cogan with Citigroup. You may proceed with your question.

Thank you guys. I think last quarter you talked about having too much inventory and I think you said a little while ago that you were able to work through most of it. I was just curious. if you were able to do that at a better rate than you expected, because you did note that your markdown levels were favorable to last year. And I don't know if it's just favorable to last year or if it was favorable to what you had expected going in. And then secondly, I just wanted to ask about the digital sales performance at the full price versus the off-price business. Thanks.

Yeah, so from a Markdown perspective, and I'll let Pete weigh in on this as well, but from a Markdown perspective, it was about what we thought it would be for the quarter. We did have favorability, and it was a little bit better than last year. We were able to move through a little bit better on the rate from last year as well. On the digital component, we don't typically break that out by banner. What I will say is for the quarter, it was about 39% penetration. We expect... this you know to continue to we expect to see stores continue to to be a bigger growth driver for us this year and that's what we anticipated but digital in general is a very important part of our business and quite frankly we're pretty agnostic how a customer shops just as long as it's a great experience for them great thank you and we have time for one more question our last question comes from the line of

Carla Casella with JP Morgan. You may proceed with your question.

Hi. I have a question about on the shipping as well. So what percentage of your goods are coming in through that port of LA and have you made any adjustments for the potential for a strike in July?

Yeah, so we, as you can imagine, we have our own product that comes in multiple ports, but our vendors ship to us, and so we've been working with them. We're quite pleased in adjusting for anniversary receipts. We've received more anniversary receipts this year than we have in years past. So we feel like we're in very good shape to be ready for the anniversary sale. And then in general, it is, you know, we certainly, from a RAC perspective, have opportunities. We receive goods from multiple areas. And so, you know, certainly we watch this very closely, but we are, you know, we're making sure that we've got all the anniversary product available.

Okay. And I just want to follow up. You mentioned that some of your urban stores are back to pre-pandemic levels. I'm assuming there's still some upside from tourism returning. Can you give a sense for what percentage of your sales today are tourism and where do you think they should be longer term?

I don't have that number right now. I would say the urban stores, there's a mix in there. And really, we define that category by stores that have real concentration of offices in the area. But to your tourism question, there's a pretty wide range of tourism. I would say we still have a number of downtowns that rely more on tourism. That's still a ways to go to get to 19 levels. And there's some big stores for us. So just as we called out our Manhattan flagship, there's good momentum there. We're encouraged. But even Manhattan, a lot of you are there. While there's certainly more tourism than there was six months ago, it's still got some room to get back to normal, especially the international tourism. So we see some upside there for our urban stores.

Okay, great.

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