Nordstrom, Inc. $JWN Q3 2022 Earnings Call

Thank you, Heather, and good afternoon everyone. Thank you for joining us today. For the third quarter, we delivered results in line with our expectations with quarterly net sales of $3.4 billion, a loss per share of 13 cents, and adjusted earnings per share of 20 cents. As we discussed while reporting our second quarter results, we saw customer demand begin to soften in late June, mostly in Nordstrom Rack. Across both banners, the softening trend was more significant in customer segments with the lowest income profiles, while we saw greater resilience in the higher income cohorts. As customer trends shifted, we took action to manage through the short-term macroeconomic uncertainty and position our business for success. This included managing expenses to align with sales expectations, including clearing through excess inventory to exit the year with healthy inventory levels and mix. These actions prepared us well for the third quarter as macroeconomic pressures impacted all customer segments, with outsized impact in the lowest income groups. Additionally, sales decelerated in late October and early November, particularly in geographies with unseasonably warm weather. In the last two weeks, however, sales trends have improved. Our teams have executed well in a challenging environment this quarter and continued to advance our Closer to You strategy. Given ongoing inflationary pressures and supply chain and fulfillment, we are particularly pleased that we decreased our variable supply chain costs this quarter. Our supply chain optimization work streams drove efficiency and lowered the per unit cost of moving product through our system while also delivering an improved customer experience and faster order fulfillment. We're also on track with our plans to clear through excess inventory and optimize our product mix. Net sales decreased 3% versus last year, which includes a negative impact of approximately 200 basis points from one week of the Anniversary Sale shifting into the second quarter. Nordstrom banner sales and gross merchandise value each decreased 3% versus last year. The timing shift of the Anniversary Sale had a negative impact on Nordstrom banner net sales of approximately 300 basis points in the third quarter. Customers continued to refresh their wardrobes and shop for occasions such as social events, travel, work, and holidays, which drove demand for our core categories and services. Consistent with the second quarter, items with lower AUR underperformed higher AUR items. Customers continue to respond very positively to newness and fashion in our seasonal assortment. Turning now to our strategic initiatives, our team remains focused on improving Rack performance, increasing profitability, and optimizing our supply chain and inventory flow. We're making progress on these initiatives and we expect them to benefit our top line and bottom line performance in the fourth quarter of this year, in 2023, and beyond. While we take actions to address a shifting consumer backdrop, we are also building capabilities to better serve customers and deliver increased profitability as we focus on improving Nordstrom Rack performance, winning in our most important markets, and leveraging our digital capabilities. Starting with Nordstrom Rack, sales declined 2% versus last year as we continue to see softening demand, especially within our lower income customer groups. We remain focused on delivering profitable growth while improving the customer experience. To that end, this quarter we made the decision to reduce Rack store-based order fulfillment and raise the minimum order amount to receive free ship-to-store delivery on Rack.com. These actions reduced our order cancellations, simplified Rack operations, and improved profitability, but negatively impacted top-line growth at the Rack by approximately 200 basis points. We continue to focus on increasing our supply of premium brands at Rack, improving our assortment, and growing brand awareness to fuel future growth. Premium brands are a differentiator for the Rack, and we are dedicated to having great brands at great prices at each of our locations. The linkage to the Nordstrom banner gives Nordstrom Rack unique access to premium brands that are not broadly available in the off-price space. For example, 90% of the top brands at Nordstrom are sold at Nordstrom Rack. This quarter, sales of our top 100 brands at the Rack increased 9%, which underscores the growth opportunity from increasing our supply of premium brands. We are also continuing to shift away from the lower price point items that have not resonated with Rack customers. We expect to clear through this inventory by the end of the fiscal year, which opens more space and buying capacity for premium brands. With the work underway, we expect to optimize Rack product mix by mid-2023. We believe that improving our assortment and increasing penetration of top brands will differentiate the Rack experience for customers and drive profitable sales growth. Next, our market capabilities help us engage with customers by delivering convenience, connection, and greater access to product no matter how they choose to shop. Customers clearly value our interconnected model with a strong store fleet, two unique banners, and omni-channel capabilities linked at the market level. Order pickup represented 12% of nordstrom.com demand this quarter, an increase of 200 basis points versus last year. We are also leveraging our digital capabilities to extend our unmatched one-to-one store experience to a digital world. Our goal is to personalize the digital experience with discovery supported by a broad product assortment, convenience powered by our market strategy, and connection through people and experiences. We are evolving digital discovery and driving higher engagement with enhanced content, a refreshed shopping experience that includes redesigned product pages, and smarter product search capabilities. We're also improving the digital purchase journey with better imagery and product descriptions to help customers make more informed purchase decisions and minimize returns. Total digital sales declined 16% this quarter, which includes a negative impact of approximately 300 basis points from the Anniversary Sale shift. Additionally, reducing store-based fulfillment for Rack.com orders and sunsetting Trunk Club negatively impacted digital sales by approximately 700 basis points, with the change to Rack.com store fulfillment accounting for the majority of the impact. Our digital sales were also affected by channel shift as customers returned to pre-pandemic shopping behavior and increasingly chose to shop in-store. This quarter, digital sales represented 34% of total sales. Before I turn it over to Pete, we'd like to thank our employees, customers, and partners for helping kids start off the school year on the right foot. For the 12th year, we partnered with Nike and Shoes That Fit to donate more than 40,000 pairs of brand new shoes to kids in need for back to school. This program leverages our heritage of service and engages our teams and customers to make a difference in their communities. We're very proud of the incredible support our team and customers put behind this important cause. In closing, though there is continued macro uncertainty, we are pleased with the actions we've taken to prepare for this environment and the progress we've made in improving our agility. The capabilities we've built with our Closer to You strategy, digital assets, and supply chain optimization prepare us to manage short-term pressures. With our strong balance sheet and cash position, we also have the flexibility to respond to shifting demand. We are navigating short-term headwinds while also continuing to build capabilities to better serve our customers, drive profitable growth, and increase shareholder value. We are focused on remaining nimble to navigate this environment and look forward to realizing additional benefits in the fourth quarter and into 2023. I'll now turn the call over to Pete.

As we announced last month, Ann Braman will be stepping down from her role as CFO on December 2nd. We'd like to take a moment to recognize Ann for her dedication to our customers, our employees, our shareholders, and our values. She made significant contributions to our business over the last five years, including helping to successfully guide the company through the pandemic, sponsoring multiple strategic initiatives to improve profitability, and elevating the finance organization. So Ann, we thank you for your partnership and leadership. We wish you all the best in your next step.

Let me take the Rack. Hi, Matthew, this is Erik. For the Rack, a couple things we'd emphasize. We do continue to see traction in our strategies. It's the third quarter in a row of sequential improvement versus pre-pandemic, and really since we've focused on our North Star of great brands at great prices. As we called out, we had some actions, most notably stopping store fulfillment for Rack.com orders, that hit our top line but made it a more profitable business and a better customer experience. So overall, our business is about flat if you back that out, and we continue to see traction from these best brands. Last quarter, our top 100 brands in the Rack grew 9%, and we continue to see growth there. As for the timing, there are two things that we have to address to get the timing right. One is certainly getting access and ordering a greater percentage of our inventory in these great brands, and that is happening. The second piece, as we talked about coming out of last quarter, is clearing through the less productive inventory we have. The Rack is part of our total ecosystem, and we came out of Q2 as we revised our guidance. We saw that it would take through half to clear out and open up the inventory dollars to get us in the balance that we want going forward. So for the Rack, we need to certainly get more of these great brands in, but we also have to, for the rest of Q4, clear out the inventory that hasn't been as productive, and that sets us up well for 2023 to have continued improvement. Best of luck in holiday.

Sure, I'll take a start with the Rack. As we talked about coming out of Q2, we did see a pullback in our customer cohorts that are lower income segments. For us, that is most pronounced in our Rack business, and we certainly see signs of customers being under strain from economic conditions. We've seen evidence of some pullback across all customer cohorts, but most pronounced in the lower income customer cohorts, and that hits us more in the Rack business. So there are some macro issues, but internally, I'd pull you back to getting our mix right. We're very confident in how and why customers respond strongly to the Rack and why they choose us. Getting that mix right, we have some cleanup to do still here in Q4, but we see that entering 2023 in a real healthy and clean inventory position where we'll get the mix that we want.

Yeah, thanks for the question, Kimberly. Let me start with some broader context, and then Michael can get specific with the questions. There's certainly a lot of uncertainty out there. Macroeconomic conditions and customer behavior are moving rapidly, and we feel really well prepared for that uncertainty. I take you back to our last quarter call. We started to see a little softness at the end of June, and we made the call pretty early, in hindsight, to take what we thought were the prudent steps, in particular reducing inventory, managing our expenses, and overall improving our agility to navigate these uncertain times. Those actions have served us well. We really feel good about our execution through Q3 of that plan. We exceeded our plan last quarter, and probably more importantly, it sets us up well for the uncertainty going forward. We're not just starting now of looking at the volatile economic times out there and making adjustments. These adjustments were put in place at the end of last quarter and have served us well through Q3 and have prepared us as well going forward.

Yeah, let me start. I was going to jump in there. On the contribution margin between online and stores for the Nordstrom banner, they remain pretty darn close. I guess I'd call out two variables just to shed a little more light on it. Certainly, there's been increased expenses in supply chain, particularly transportation, that hits the digital business a little more, but offsetting that is our digital business has been leveraging really well as we grow sales there. There's a big fixed cost base there that gives us a lot of leverage as we add sales. So overall, really pleased with our online profitability at nordstrom.com. For Nordstrom stores, that model has a lot of variable expense to it, which allows us to manage it well as sales trend up or down. The other thing I'd call out is that we're not at parity at Rack.com and Rack stores. In particular, I go back to our decisions last quarter to stop doing store fulfillment in Rack stores for Rack.com. There are really two reasons for that, and these are two things that are our North Stars. We ask ourselves all the time: one, how do we provide a great customer experience, and two, how do we get profitable growth? Store fulfillment at our Rack stores was not providing the level of customer experience that we hold ourselves to. We had higher cancellation rates there because it's a little more difficult finding the product in a treasure hunt environment in stores. But secondly, kind of to your contribution margin point, the economics get tougher with the lower price points we have in the Rack versus our Nordstrom banner, so it didn't meet our standards of profitable growth. So I use that as an example of there are levers that we are actively pulling to address contribution margin in our off-price digital business.

On the store fulfillment in Rack, I mean, certainly we would revisit that. Just to be clear, there were two actions we took last quarter. One was doing store fulfillment for Rack.com orders, and the other was raising the threshold for free shipping to a Rack store for Rack.com orders. The store fulfillment is the bigger impact of those two. But that threshold is something we've consistently looked at, and again, we look at the business model there and we look at the customer experience. So we have a lot of initiatives underway to continue to improve the inventory accuracy that we have, which helps with the customer experience side by reducing our cancellation. So we do think that will get better going forward. And then the costs for the supply chain costs of moving that product around, there's obviously a lot of external factors there, but there's plenty of internal levers for us to pull. Last quarter is a good example. I feel really good about our supply chain performance this last quarter and the traction we're getting on some initiatives. So it's a long way of answering your question that yes, we would revisit that as conditions change.

Hi Dana, it's Erik. We started announcing some more Rack openings. As we've mentioned before, we think there's an opportunity for new stores in the Rack banner. Our Rack stores are profitable, and the ROI opportunities are really compelling for the off-price space. Convenience store locations is even more important than in the Nordstrom banner space. We know that if you get outside of about a 20-minute drive to a Rack store, we start to lose customers. You've seen a lot of the leading off-price players add a lot of store count over the last handful of years, and that has helped drive their growth. One thing we know is that when we share a location, we share a parking lot with other off-price competitors, in the vast majority of cases we have the highest sales per square foot. So we share a parking lot, more often than not customers choose us. So given our store count compared to what else is out there, some competitors, we think there's a lot of attractive opportunities to add some stores.