Kohl's Corporation

Good morning. My name is Audra and I will be your conference operator today. At this time, I would like to welcome everyone to the Coles Corporation Q4 2022 earnings conference call. Today's conference is being recorded. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press the star key followed by the number one on your telephone keypad. If you would like to withdraw your question, press star one again. At this time, I'd like to turn the conference over to Mark Rupp, Senior Vice President of IR. Please go ahead.

Thank you. Certain statements made on this call, including projected financial results and the company's future initiatives, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Coles intends forward-looking terminology, such as believes, expects, may, will, should, anticipates, plans, or similar expressions to identify forward-looking statements. Such statements are subject to certain risks and uncertainties, which could cause COLE's actual results to differ materially from those projected in such forward-looking statements. Such risks and uncertainties include but are not limited to those that are described in item 1A in COLE's most recent annual report on Form 10-K, and item 1A of part two of the company's quarterly report on Form 10-Q for the first quarter of fiscal 22, and as may be supplemented from time to time in COLE's other filings with the SEC, all of which are expressly incorporated here and by reference. Forward-looking statements relate to the date initially made and Kohl's undertakes no obligation to update them. In addition, during this call, we will make reference to non-GAAP financial measures. Information necessary to reconcile these non-GAAP financial measures can be found in the investor presentation filed as an exhibit to our Form 8-K filed with the SEC, and it's available on the company's investor relations website. Please note that this call will be recorded. However, replays of this call will not be updated. So if you're listening to a replay of this call, it is possible that the information discussed is no longer current and Kohl's undertakes no obligation to update such information. With me this morning are Tom Kingsbury, our CEO, and Jill Tim, our CFO. I will now turn the call over to Tom. Thank you, Mark.

Thanks to all for joining us this morning. I want to start by saying that I'm excited to be leading Kohl's during this pivotal time. Kohl's is a solid company. We have a substantial opportunity to make a difference in the retail landscape. As you will hear today, we have a solid foundation and a highly motivated team with a set of priorities to drive Kohl's sales and earnings growth. During the past three months, I have had the opportunity to assess our go-to-market strategies, our operational capabilities and processes, and our organizational structure. I have also visited a number of our stores across the country and engaged with many of our brand partners. It is clear to me that Kohl's fills an important need in the market, offering highly relevant products at a great value to millions of customers in conveniently located stores across the U.S. and online. We are making great strides in beauty through our Sephora partnership. However, we have lost some ground in other key categories. Candidly, I know we can do better. To reach our full potential, we will refine our strategy and reestablish merchandise disciplines with a customer-centered focus across the organization. This will sharpen our positioning with customers, allow us to capitalize on new opportunities, and drive greater efficiency. Our efforts have already begun. We took a number of proactive measures in the fourth quarter to clear our inventories, and we will seek to maintain the discipline by planning inventory down mid single digits percent going forward. We also implemented several growth initiatives in Q4 that will begin to benefit our results in 2023 and structure the organization to run more efficiently. One of the early messages I shared with our leadership team was that we must simplify how we work to drive efficiency. which in turn will allow for greater time to be spent on executing and driving our strategy. In late January, we realigned parts of the merchandising and marketing departments with the objective of driving efficiency in our operations. This included consolidating the number of general merchandise managers to four from seven, a structure that we had prior to the pandemic, as well as transitioning planning and allocation to report directly to me. And more recently, I am pleased with the appointment of two key executive leadership positions. Yesterday, we announced the hiring of Dave Elves as our new President and Chief Operating Officer. Dave is a 30-year retail veteran and will lead our enterprise operations, including our nearly 1,200 stores global supply chain and distribution center network, real estate portfolio, among other functions. In addition, we appointed Nick Jones as our new Chief Merchandising and Digital Officer. Nick has great experience across many of our categories, including apparel, home and gifting, and will be instrumental in leading our merchandising strategy and functions. Both Dave and Nick will join us in the coming weeks and I look forward to our partnership. Through these important actions, I am confident that we have the right plans, organizational structure and team in place to drive improved, more consistent sales and earnings performance over the long term. That said, I want to be realistic in setting expectations. The full impact of our efforts will take some time. It won't happen overnight. And we must acknowledge that we are implementing these actions in a challenging macroeconomic backdrop. As Jill will discuss in more detail, our actions against this backdrop form the basis of our prudent guidance for 2023. With that context, I will now discuss our path to improve performance, and the key priorities that will guide our forward action. We are focused on four overarching priorities in 2023 that will drive overall sales and profitability. They are enhance the customer experience, accelerate and simplify our value strategies, manage inventory and expenses with discipline, and strengthen the balance sheet. Successful execution across these priorities will unlock considerable long-term shareholder value. Let me walk you through each of these priorities discussing the actions and intended outcomes we are driving towards. The first priority is enhancing the customer experience. It is imperative that we continue to provide the best experience for our customers when they shop at our stores and online. We are focused on ensuring that our customers are finding the product assortment they are looking for tailored to the way they shop. Our partnership with Sephora is an excellent example of how we are enhancing the customer experience. Nearly 8 million of our customers purchased beauty products at Sephora at Kohl's last year, and this will continue to grow in the coming years as we further expand our store presence. In the fourth quarter, our total beauty sales increased 90%. We achieved high single digits percent comparable beauty sales growth in the 200 Sephora shops that opened in 2021, and better than expected sales in the 400 shops opened in 2022. We also continue to see strong digital sales growth. Our Q4 performance in many ways cemented our positioning as a major player in the beauty industry based on our notable market share gains. I want to commend the team for successfully capitalizing on the holiday selling period. We drove value through our expansion and gift sets, merchandise both in the shop and in aisle, with fragrance being a key category. I am confident that we can build on this momentum in the months and years to come. I recently met with Sephora leadership, and what I can tell you is that one, we both are pleased with the partnership we've built and what has been accomplished in such a short period, and two, we both see immense opportunities to continue to drive sales and profitability in the future. This summer, we'll open another 250 Sephora shops, bringing our total to more than 850 stores featuring the standard 2,500 square foot space. In addition, we're opening 50 smaller formats Sephora shops by the end of this year with a plan to roll out to the remainder of the chain by 2025. Moving beyond beauty, let me now touch on efforts we have underway in our product and merchandising. As it relates to our product assortment, we remain highly committed to the active business supporting our key brands, though we'll recenter our focus on our customers' needs by capitalizing on multiple lifestyles. We will rebalance portions of our assortment to capture our customers' return to more normal purchasing behavior for their wardrobes. Additionally, we'll add more offerings across casual and career wear, including, for example, further expanding our women's dress business following last year's success. We also see clear, tangible opportunities in other categories in which we are under-penetrated. Home and gifting are two areas that our customers expect more from us. I believe Kohl's can increase its penetration in areas like home decor and become a destination for gifting. To capitalize on this, we are rethinking how we source portions of our assortment, recognizing that we can find great values, increase our speed, and broaden our offerings by going into the domestic marketplace regularly. I now want to highlight the importance of our stores. We have an incredibly strong physical presence across the U.S. They continue to represent nearly 70% of our annual sales and are critically important to how we engage with our customers. I have worked with our real estate team in reviewing our portfolio and remain very comfortable that our stores are healthy. Frankly though, We have to do a better job of driving greater in-store productivity. And I am confident that we can. In the fourth quarter, some of our early efforts began to bear fruit. Looking ahead, we are rethinking how we merchandise stores to deliver a better experience for customers to drive greater frequency of visits and capture more share of their wallet. Let me share a few early examples of actions we are taking in areas that simply weren't up to standard. In early December, we moved our gifting assortment to the front of the store from the back to better capitalize on peak holiday traffic. This proved highly effective, resulting in sell-throughs significantly higher than the prior year. We will also showcase more products, including home and gifting, near the front of the store to inspire our customers as well as feature more impulse products, which is a largely untapped opportunity for Kohl's. In addition to our stores, we are also highly committed to our digital business, which represents over 30% of our sales. Two of our key digital growth initiatives include expanding Kohl's Marketplace and Kohl's Media Network. Kohl's Marketplace is broadening our product offering online to capture incremental sales opportunities. And Kohl's Media Network is leveraging our digital platform and site traffic to partner with more of our key brands and capture more advertising dollars. As you just heard, we have a lot of initiatives and actions underway to enhance the customer experience. This will be a continuous focus of ours. The retail industry is ever evolving. and we must ensure that our positioning consistently meets the needs of our customers. Now, let me transition to our second priority, which is accelerating and simplifying our value strategies. In today's inflationary environment, it is very important that Kohl's stands for value, both in our pricing and in our messaging. We provide great value to our customers through Kohl's Cash, our Rewards Loyalty Program, and our Kohl's card. That said, we know that our promotional strategy at times can be a disadvantage to Kohl's when compared to our competitors' price-focused strategies. We have made progress over the past couple of years in our pricing and promotional optimization efforts. We will build on this progress in 2023, accelerating our efforts to reduce our reliance on general promotions. We will test everyday value pricing with a small percentage of our product assortment and if successful, grow it appropriately in subsequent years. We fully recognize the sensitivities around pricing with our customers and will approach this with great measure and flexibility. A part of this will enhance consistency in our marketing messaging to improve the customer experience, drive increased customer engagement, and make our pricing less complex. When we stand for something with greater clarity and value, our customers do respond. This is evident in the customer response we have experienced in recent weeks related to our clearance effort. Another way we will enhance the value we are providing our customers is through our industry-leading loyalty program. In 2023, we'll broaden the reach of our credit opportunity through the launch of a Cole brand card with Capital One. We already have a strong private label Cole's credit card, so recognize that today's younger customers want greater flexibility in their payment options. Let me now turn to our third priority for 2023, which is managing inventory and expenses with discipline. As I mentioned earlier, We took proactive actions during the fourth quarter to clear out excess inventory and slow selling goods. This is best seen through our inventory progression over the past few quarters. Inventory was up 48% year over year at the end of Q2, up 34% at the end of Q3, and up just 4% at year end, despite a tougher sales environment. Inventory is now generally back in line with our sales performance when compared to 2019. We took markdowns following Christmas, which benefited our sales performance in the quarter. Q4 comparable sales of down 6.6% improved through the quarter with November down low double digits percent, December down mid single digits percent, followed by up high single digit percent, in January with a positive trend continuing into February. Jill will discuss the related impact to margin in more detail in a moment. But it was important that we took these actions in Q4 to best position the company for 2023. During the past three months, I have spent a significant amount of time focused on merchandising, including establishing stronger inventory control processes. We are putting a spotlight on fresh receipts and on driving turnover. We will operate so that we have plenty of room to chase receipts, enabling better management of receipt flow. As part of this, we are committing to planning inventory down mid single digits percent going forward. We'll also adjust how we mark our goods getting rid of excess inventory or slow selling items on a more even flow throughout the year, instead of waiting until the end of a season. In terms of spring 2023, we feel good about our Q1 inventory position with a steady flow of transitional receipts that arrived during January and February. And considering there are still a lot of macro headwinds for Q2, we have left even greater liquidity in our open to buy with lots of room to chase. I am optimistic that through our new inventory control processes, we will be able to increase our sales productivity and inventory efficiency. Now let me address our focus on expense management. This has been a core strength of Kohl's over time, but given the ongoing inflationary environment, it must be an even greater priority for the organization. In 2022, our SG&A expense ratio drifted higher on lower sales, increased strategic investments, and wage inflation. Growing sales is paramount to easing the expense pressure. However, we must proactively capitalize on other opportunities, such as increasing self-service capabilities in our stores, driving improved marketing efficiency and reducing spend across all areas of the company. And lastly, our fourth priority for 2023 is strengthening our balance sheet. Our focus remains on returning our balance sheet to its historical strength after a challenging 2022. Our long-term objective remains to manage our business at 2.5 times leverage. In January, we replaced and upsized our revolver to a $1.5 billion secured facility, which enhanced our liquidity and flexibility. This was the right move given the ongoing macro uncertainty in the actions we are taking to drive coal sales and earnings growth. While we were only partially utilized at the end of the year, we will increase our borrowings in the first quarter to fund working capital and the recently completed retirement of our February 2023 bond maturities. However, we will work our revolver balance down throughout the year with no borrowings planned at year end. Jill will discuss our other capital allocation priorities in more detail, including our commitment to the dividend, which represents a healthy yield at the current share price. So to summarize, enhancing the customer experience, accelerating and simplifying our value strategies, managing inventory and expense with discipline, and strengthening the balance sheet are four overarching priorities for 2023. And the broader Kohl's organization is aligned and focused on executing against each of them. Now let me frame up how we are thinking about 2023 in the context of the priorities and actions I just discussed, as well as the anticipated soft consumer demand outlook. We are prudently planning the year with sales down two to 4% in our operating margin and earnings pressured largely as a result. I want to be realistic in setting expectations. The benefits from our actions will take time, However, I am confident that successful execution against our priorities will produce the intended improvement in sales and earnings growth over the long term. While 2023 may be viewed as a transitional year, it is our objective to show progressive improvement against our priorities and actions as we move through the year. We look forward to providing updates on future quarterly calls. In closing, I want to reiterate that Kohl's has a solid foundation in place. I am excited to lead this company and see immense opportunity to unlock value. I want to thank our loyal associates for serving our customers every day. I will now turn over the call to Jill to discuss our fourth quarter results and 2023 outlook. Jill?