Scaling back costs and discounts paid off for Ralph Lauren in its second quarter. The fashion brand and retailer posted $1.99 per share in adjusted earnings, a 4.7% increase from Q2 2016 and a performance that bested the Zacks consensus estimate of $1.90. Ralph Lauren’s net revenue in the quarter fell 8.6% (9% currency neutral) to $1.66 billion, according to a company press release. But that, too, beat the Zacks forecast, which was for $1.65 billion, and fell in line with the company's guidance.
North American revenue fell 16% to $877 million in Q2, as customer demand sagged and the brand retreated from department stores and slowed promotions. Same-store sales in North America fell 9% (on a constant currency basis), including a 6% decline in brick-and-mortar stores and an 18% decrease in e-commerce. The drop was primarily due to lower traffic and a planned reduction in discounts, the company said.
Gross profit in the quarter was $996 million, excluding restructuring-related and other charges. Gross margin was 59.9%, 300 basis points above the prior-year’s adjusted margin. Reduced discounts and cheaper product costs drove the profit increase, as well as favorable geographic and channel mix shifts, according to Ralph Lauren. (Foreign currency also helped gross margin, by 10 basis points, in Q2.)
Sales declines are inevitable when an apparel brand scales back distribution to the extent that Ralph Lauren has done in department stores, and as shoppers accustomed to regular discounts balk at higher prices.
The declines could continue, considering the extent of the pullback. The brand is down 20% to 25% points of distribution in department stores, CEO Patrice Louvet told analysts on Thursday. CFO Jane Nielsen said that's also true to some extent for off-price stores, according to a transcript from Seeking Alpha. "Our pullback in the off-price channel drove lower penetration within our North America wholesale business," Nielsen said. "This will continue through the remainder of the year."
But Louvet suggested that the worst may be mostly over, saying, "if you use a baseball analogy, which is very topical this morning, I'd say probably seventh inning when it comes to quality of distribution."
The shifts point to a turnaround strategy that appears to be taking hold. "As much as this quarter brings the usual dose of negative sales growth, there is finally a faint light at the end of Ralph Lauren's long tunnel of reinvention," GlobalData Retail Managing Director Neil Saunders said in a note.
At some point, however, the brand will have to go beyond channel moves and tackle other fundamentals. "While the turnaround plan is delivering a bottom-line improvement, the impact on the top line is less obvious," Saunders said. "Reengineering the distribution strategy is all very well, but is it enough to reinvigorate Ralph Lauren? In our view, it is not; it has to be accompanied by a host of other initiatives to refocus product and connect more effectively with new customer segments, especially younger shoppers."
Yet a product strategy is emerging, Saunders noted, pointing to new limited edition lines that "stimulate interest and urgency, while at the same time avoiding ubiquity." Still, the brand continues to corral a host of sub-brands and collections that aren’t differentiated enough to appeal to different market segments. The effect is "a confused mass of product that is vaguely referred to as 'Ralph Lauren,'" Saunders said.
While Louvet, who took over in May and is tasked with executing the brand's "Way Forward" turnaround plan, didn't address that specifically, he did say that the company is taking care to balance its reputation for classic style with the need for freshness. "So we're not going to be jerked around by all the fashion trends out there in the market and lose kind of the fundamental what this brand stands for and the timelessness of it," he said Thursday.
To help boost top-line sales, the company is also looking to a significant expansion in China — where during the quarter the brand launched storefronts on Alibaba's T-mall and JD.com — and to a lesser extent in Europe. But the tie-ups with the two Chinese marketplaces doesn't mean there are any plans to similarly partner up with Amazon, Louvet told analysts.