Aug 24, 2017
Executives
Brian Logan - VP, IR Fran Horowitz - CEO Joanne Crevoiserat - COO and CFO
Analysts
Tiffany Kanaga - Deutsche Bank Kate Fitzsimons - RBC Capital Markets Mark Altschwager - Robert W. Baird Stephen Albert - Bank of America Merrill Lynch Doug Drummond - Wolfe Research Susan Anderson - FBR Capital Markets & Co.
Marni Shapiro - The Retail Tracker Trevor Lamb - BMO Capital Markets Dylan Carden - William Blair & Company Lauren Cassel - Morgan Stanley
Operator
Good day and welcome to the Abercrombie & Fitch Second Quarter Fiscal Year 2017 Earnings Call. Today’s conference is being recorded.
[Operator Instructions] At this time, I’d like to turn the conference over to Brian Logan. Mr.
Logan, please go ahead.
Brian Logan
Thank you. Good morning, and welcome to our second quarter earnings call.
Earlier this morning, we released our second quarter sales and earnings, income statement, balance sheet, store opening and closing summary and an updated financial history. Please feel free to reference these materials, which are available on our Web site.
Also available on our Web site is an investor presentation, which we will be referring to in our comments during this call. Today’s earnings call has been recorded and a replay maybe accessed through the internet at abercrombie.com under the Investor Section.
Joining me today are Fran Horowitz, Chief Executive Officer; and Joanne Crevoiserat, Chief Operating Officer and Chief Financial Officer. After our prepared remarks, we will be available to take your questions and we ask you to please limit yourself to one question, so that we can speak to as many callers as possible.
Before we begin, I remind you that any forward-looking statements we may make today are subject to our Safe Harbor statement found in the SEC filings. In addition, we will be referring to certain adjusted non-GAAP financial measures during the call.
Additional details and a reconciliation of GAAP to non-GAAP financial measures are included in the release issued earlier this morning. With that, I turn the call over to Fran.
Fran Horowitz
Thanks, Brian. Good morning everyone, and thanks for joining us.
We are encouraged by our results for the second quarter with overall net sales close to flat and another sequential quarter of improvement in comp sales. Hollister, our largest brand is performing strongly even in a tough environment, and we continue to show improvement at Abercrombie & Fitch which is on track.
We have a highly experienced and talented team, and we are benefiting from that depth of experience. We are making clear progress with the continued aggressive execution of our business plan, but we are only partly through our revitalization journey as a company, the areas we are focusing our time and investments are yielding the improvements we expect to see.
We maintain a steadfast focus on staying close to the customer and are providing a unique engaging customer experience across all touch points. In addition to our ongoing advances in digital engagement in store, we’ve made strategic investments to build depth behind our core items in a more focused and balanced assortment, ensuring we have sufficient depth of products in style, color, and size to meet customers’ need.
We’ve also strengthened product presentation and display. This has all made easier for customers to locate popular core items, enhancing their overall store experience.
The key related metrics we track such as brand health sources, our voice of the customer data, and Net Promoter scores are trending upwards and reinforce our confidence in our strategy. Hollister capitalized on momentum it has been building over the last few quarters to deliver a 5% increase in comp sales and a 6% increase in total net sales.
Hollister continues to leverage high levels of customer engagements to drive growth across all touch points. It demonstrates how our customers respond when product, brand voice, and brand experience are aligned.
At Abercrombie, we were encouraged by our progress, as we continue to apply learning from Hollister. As we made changes to the assortment, we saw sequential improvements throughout the quarter and broad-based improvements across genders.
The fundamental changes we have made around assortment architecture and spanning processes have taken hold and are resulting in more focused and balanced assortments. During the second quarter, we worked through the rich visual [ph] details of those assortment architecture issues we previously identified, and as expected there was some impact that weighed on gross margin.
It is still a challenging environment and a highly promotional one, and our growth in cost control initiatives and investment plans anticipate that reality. They’re designed to ensure we have the appropriate resources to execute against our strategic plans, but remain in nimble and able to adapt to and capitalize on opportunities, and weather challenges in a retail environment that continues to evolve rapidly.
Our ongoing learning from our growth initiatives, test programs, and customer insights data continues to inform our people, processes, and products. We are adapting and executing better and faster, ensuring more distant delivery of the right product at the right time with the right brand voice and through the right brand experience.
We believe our long-term success remains dependent on our ability to inspire our customers, innovate throughout our business, and develop leaders. That remains our focus and we are continuing to make progress against those strategic guideposts.
During the quarter, we extended our loyalty program to almost 9 million members across the brand. We continued to grow our emerging categories such as Swim and Gilly Hicks.
We are rolling out new omni capabilities internationally and additional prototype stores in the U.S., and we expanded our relationship with Tmall, with all our brands now on the platform. Turning to the individual brand performance.
At Hollister, we had a great quarter with high customer engagements, increased traffic to stores, and higher conversion rates. We have continued our strategy of distorting our focus, inventory, and marketing investments on the core categories customers know and love us for, as well as the emerging categories of Swim and Intimates.
We are seeing that strategy pay off. In denim, we had another record quarter's performance in both genders.
Guys performance in tops, bottoms, and logos was also extremely strong. It is clear to us we are taking market share in Guys.
On the growth side, we saw aggressive growth in both Swim and Intimates with Gilly Hicks continuing to draw new customers to the Hollister brand. Our strength in inventory management allows us to react to what we were learning from our customers, swiftly and effectively.
Based on customer learnings, we were able to react to several million units during the quarter, which has positioned us well for the third quarter. Club Cali continues to be a strong customer engaging channel and source of insights for us.
With 6.6 million members at quarter’s end, we are having significant and useful body of data at our most active customers to help us better understand how we can further engage them. We already know our club members spend more and more often than non-members.
Member exclusive events are also effective and proving to be strong drivers of customer acquisition. With regards to physical aspect of our stores, we remain highly focused on optimizing productivity in our stores fleet.
The remodels we undertook in the past quarter are all demonstrating the productivity improvement we anticipated with clear benefits from opening up the store front and making the environment lighter and easier to shop. Our marketing efforts for Hollister is focused on brand engagement in media that we know resonates with our target audience, namely music, mobile video, and gaming.
We held a branded series of Summer Solstice concert in collaboration with award-winning artist Charlie Puth. We’ve partnered with DreamWorks' AwesomenessTV and commissioned This is Summer Series, which incorporates multiple experiential touch points, including music, concert, and opportunities for comprehensive yet unintrusive [ph] products placement, and following the strong engagement metrics we saw from our first game.
We recently launched our second retro 16 bit video game designed for mobile devices and also accessible through Snapchat. It is already tracking ahead of our last game in terms of average time spent playing the game.
These marketing activities are all that are tapping into our customer discovery process. By being present in their natural digital environment and providing an opportunity to engage with the brand outside of a transactional relationship, we are positioning our brand to be top of mind pre-purchase.
Turning to Abercrombie, we continue to execute on our brand revitalization plan with important progress in key areas. As I mentioned earlier, we have worked through the assortment architecture issues resulting in a more focused and balanced assortment at Abercrombie and Abercrombie Kids.
The strategy of narrowing a number of SKUs and a focus on investing in depth in our top 30 items is delivering. We saw improvement from last quarter across all categories in men's with tops improving the most.
And in women's we saw strength in the layering, graphic jeans and dresses from last quarter. We continue to focus on leveraging our ability to chase as we harness our customers' insights, which further hones our read-and-react capabilities.
During the quarter, we were able to chase effectively at scale across both men's and women's in response to customer demand and trends in the business. The A&F Club membership base continue to grow at a healthy clip with more than 2.3 million members by the end of the quarter and growing strongly every week.
As of Hollister, we're seeing members spending more and more often than non-members and we are learning a great deal from the high-level of engagement with customers through this program. With regard to stores, we’ve continued with our prototype store rollout with stores on downsized footprint opened at Somerset Collection in Troy, Michigan and Lenox Square in Atlanta, Georgia and most recently at Tyson's Corner in Virginia and Fashion Square in Scottsdale, Arizona.
Tomorrow morning we are opening in Century City in LA marking a return to the area in the newly renovated mall. We’ve seen strong engagement at early days of these new stores, we’ve seen improved productivity, up small store footprint we expected and the impact of some specialized store associate training we are piloting in our prototype.
Physical stores remain an important part of the channel mix and the right strategy requires nuance beyond simply shuttering stores. I’m confident we have the flexibility to assess and take appropriate action to ensure that our fleet of physical stores methodically optimized the brand experience, customer engagement, and productivity.
Joanne will speak more to our plans and our perspective as we continue to assess best means to optimize our store fleet in the coming months. We’ve spoken about the need to meet our customers whenever wherever and however they choose to engage with our brand and how that guys are focused on investment and partnering choices.
On the wholesale front, we are pleased with our performance to date and continue to learn with our new partners such as Zalora and Zalando. These partnerships allow us to expand brand reach to substantial audience without having to invest in significant additional physical infrastructure.
Continuing on the topic of brand reach, we also work with franchise partners with deep retail expertise to help steward our brands in certain growth market. That includes partners such as Majid Al Futtaim Fashion in the Middle East, who is opening our first store in Saudi Arabia in September with A&F and Abercrombie Kids franchise in the Red Sea Mall, in Jeddah.
In another growth market China we were excited last month to launch Abercrombie & Fitch and Abercrombie Kids on Alibaba's Tmall platform. Hollister has been on Tmall for three years now.
We were able to use our success and insight to that experience and our relationship with Tmall to prepare effectively for this important rollout. I was in Shanghai last month for a launch event with our partners and I was struck by their excitement and support as well as their customers both on the Tmall platform and in the Shanghai store, we held our post launch event.
These first day on the platforms far exceeded our expectations, we achieved the number one ranked mentor on a platform on launch day by sales and it has confirmed our belief there is a sizable opportunity here and an enduring affinity for our brands. Moving to the cross brand products we made, as you know, we were early to invest in building our direct-to-consumer infrastructure and we continue to make progress.
For the second quarter DTC accounted for 24% of sales, up from 23% last year. And we’ve also continue to see exceptionally strong gains in mobile with more than two-thirds of our DTC traffic coming from mobile devices.
This speaks the investments we've made here driven by our understanding of the need to harness mobile devices for product discovery as well as a purchase platform. A growing number of customers are active in multiple platform and migrate between them and between online and physical.
Our investment in Omni solutions have enabled customers to shop seamlessly across channels. We have found our true Omni customers to be our most valuable ones.
We are focused on ensuring we can be there for them whenever, wherever, and however they want to engage with us. A good example of this migration is our tuck in purchased online and pick up in store capability that continues to show strong growth and deliver attachment purchases.
On the marketing front, we focus on improvement in the execution of our basic marketing activities with a weighting in the first half of the year on Hollister as we work on sharpening the Abercrombie & Fitch brand positioning and purpose. We’ve recently completed a strategic combination and reorganization of our marketing and DTC organization.
As part of that process, we’ve consolidated our research and feedback capabilities to develop a single view of the customer, enhancing our ability to stay close to our customers and anticipate, read and react to their needs. With these changes, we expect more focus in informed marketing will help emphasize the impact of important work done and investment we’ve made in omni product and stores through the course of this year.
Overall, I am encouraged by the progress that we’ve made across the brand. We had a clear strategic plan.
We continue to pursue aggressively and we are seeing the results. In a still challenging and promotion of retail environment, we are making meaningful improvements to our business and showing progress across a range of financial and non-financial metrics.
We continue to run a tight ship in the financial management perspective, affording us the flexibility we need and maintaining a balanced focus between dealing with short-term realities and driving towards our long-term ambition. I remain confident in our strategic direction and in our team's ability to execute on our plans.
And with that, I hand it over to Joanne.
Joanne Crevoiserat
Thanks, Fran, and good morning everyone. As Fran mentioned, our second quarter results reflected clear progress across all brands with a continued aggressive execution of our strategic plan.
We delivered our third consecutive quarter of sequential comp sales improvement, resulting in overall net sales down less than 1% versus last year. We are tightly managing the business in a difficult environment, driving expense leverage while still supporting those initiatives that are driving comp line improvement.
We maintain a strong balance sheet providing us with the stability and resources to execute against our strategic plan, invest in our business and make the necessary investments to accelerate our brands performance in this rapidly evolving retail landscape. I will briefly cover our second quarter results, then update our full-year outlook.
Starting with the second quarter results, net sales were $779 million, down slightly from $783 million last year, but up slightly on a constant currency basis with FX adversely impacting sales by approximately $5 million. Comp sales for the quarter were down 1% with improvement from last quarter delivered across both brands in both geographies.
Global traffic trends continue to improve from last quarter, particularly in our physical stores which included solid year-over-year growth in U.S Hollister stores. As shown on Page 6 of our investor presentation by geography, comp sales for the quarter were flat in the U.S and down 1% in international markets.
By brand, comp sales for the quarter were up 5% for Hollister and down 7% for Abercrombie. Hollister continues to build momentum delivering positive comp sales in both geographies and channels and demonstrate how strong customer engagement drives growth across all touch points.
Abercrombie also showed progress with comp sales improving from last quarter across both geographies. Our direct-to-consumer business delivered another quarter of growth in both the U.S and international markets.
For the quarter, DTC grew to 24% of total sales compared to 23% of total sales last year. This is an area where we invested early and heavily over a number of years and our focus is now on scaling and leveraging investments already made.
With robust omni-channel functionality already in the U.K., U.S., and Canada, we're looking forward to introducing those capabilities to customers in international markets and building off a strong foundation. As Fran shared, our most valuable customer in our true Omni customer and it is vital that we remain able to anticipate and meeting their evolving needs.
I will now recap the rest of our results for the quarter compared to last year on an adjusted non-GAAP basis. Excluded from our second quarter results this year, were pre-tax asset impairment charges of $6 million primarily related to international A&F stores compared to net pre-tax benefit of $6 million last year as detailed on Page 5 of the investor presentation.
Gross margin for the quarter was 59.1%, 160 basis points lower than last year on a constant currency basis primarily due to lower average unit retail due in large part of our working through the tail of the assortment issues previously identified and in an environment that remain highly promotional. With better balance in our assortment going forward, strengthening foreign currencies and improved product acceptance across brands, we expect average unit retail trends to improve as we move through the balance of the year.
Moving to expense, we are well on track to deliver against our targeted net expense reduction of at least 3% versus last year. Expense management during the second quarter reflected that progress as stores and distribution expense decreased $14 million and marketing, general and administrative expense decreased $2 million from last year.
As a result of these efforts we drove 200 basis points of leverage during the quarter, while still supporting ongoing strategic investments in marketing and in direct-to-consumer and omni-channel capabilities. With a culture of continuous improvements firmly embedded throughout the organization, we continue to pursue operating efficiencies in our model.
Adjusted operating loss for the quarter was $15 million compared to $17 million last year. Year-over-year changes in foreign currency exchange rate did not have a meaningful impact on adjusted operating loss for the quarter.
The adjusted effective tax rate for the quarter was 47%, reflecting a catch up adjustment related to a change in the estimated full-year core tax rate to the mid 30s, which remains highly sensitive at lower levels of full-year pre-tax earnings. Adjusted net loss per diluted share was $0.16compared to $0.25 last year.
Turning to the balance sheet, we ended the quarter with $422 million in cash and $268 million in gross borrowings outstanding, resulting in a net cash position of $154 million this year compared to $162 million last year. We ended the quarter with total inventory up 4% compared to last year's second quarter, reflecting investments in core and basic categories where we are seeing nice return.
Overall inventories are current, well-balanced and intentionally positioned to drive the business and meet customer demands during the fall season. Looking ahead, we expect inventory levels to be up mid single digits at the end of the third quarter compared to last year with continued strategic investments in key categories for the holiday season.
Details of our store activity for the quarter are included on Page 10 of the investor presentation. At the end of the quarter, we operated 703 stores in the U.S and 188 stores across Canada, Europe, Asia and the Middle East.
Turning to our outlook for the full-year. We expect comp sales to be approximately flat driven by flat to slightly positive comp sales in the second half of the year.
Foreign currency is no longer expected to be a headwind as we move through the second half of the year. Based on current third-party consensus estimates, FX is now expected to result in a benefit of approximately $6 million for full-year sales and $3 million to operating income.
The gross profit rate for the full-year in expected to be down compared to last year's rate of 61%, but approximately flat in the second half compared to last year. We expect to benefit from lower average unit costs and expect that the average unit retail declines moderate as we move through the remainder of the year with better balance in our assortment, strengthening foreign currencies, and improved product acceptance across brands.
As I mentioned earlier, we are on track to deliver expected operating expense reduction of at least 3% from last year's adjusted non-GAAP operating expense of $2 billion, driving significant expense leverage while still investing in the business. For the second half of the year, the company expect the effective tax rate to be in the mid-30s.
On a full-year basis, we expect the effective tax rate to reflect the core tax rate in the mid 30s, which remains highly sensitive at lower levels of pre-tax earnings. Additionally, we expect the effective tax rate to reflect the full-year impact from discrete noncash income tax charges of approximately $11 million related to a change in share-based compensation accounting standards, the vast majority of which has been recognized to date.
Moving to capital allocation. Our first priority in allocating available capital is to invest in the business as we drive our brands through a critical period of transformation, develop and protect strongly differentiated brand offerings, enhance our channels for customer engagement and lay the foundations for sustainable long-term growth.
For 2017, we still expect capital expenditures to be approximately $100 million, focused on our ongoing program of driving improved fleet productivity and driving customer engagements for digital channels. These investments include approximately $70 million for store updates and new stores and approximately $20 million for the continued global rollout of our omni-channel and CRM capabilities, including our loyalty programs.
Our remaining priority is to return cash to shareholders through dividends and share repurchases. These priorities are evaluated with the Board quarterly, considering both liquidity and valuation factors.
Last week we announced that our Board of Directors approved the $0.20 quarterly dividend. As we've said in the past, we have a strong balance sheet and with our disciplined approach to managing capital and operating expense, we continue to expect to generate the cash necessary to invest in the business, meet our debt obligations and maintain the dividend.
Regarding our channel optimization program we’re focused on allocating our resources including the investments I mentioned a moment ago to better serve our customers wherever, whenever, and however they choose to shop. For the past several years we've been actively managing our channel mix and store fleet and making related investments to address changes in customer shopping preferences.
Since 2010, we’ve closed over 400 stores in the U.S., which represents more than a third of our U.S stores fleet and remodeled or downsized approximately 150 stores. Over that same period our investments in web and mobile experiences and omni-channel and CRM capabilities [technical difficulty] nearly $400 million.
In 2017, we expect to close approximately 60 stores in the U.S through natural lease expirations. While store closure have been and remains an important part of our strategy to improve overall fleet productivity, physical stores continue to play a vital role in customer engagement both as a physical gateway to the brand and also as a local hub for online engagement.
Hollister demonstrates how we can drive increased productivity across all touch points by leveraging strong customer engagement in stores. In 2017, we also expect to complete approximately 40 Hollister remodels.
About 10 of which will include a downsizing of an existing location and 7 new A&F prototype stores. 4 of which include a downsizing of an existing location.
In total, we expect to open 7 full priced stores and 2 outlet stores in 2017. Our remodels at Hollister and our prototypes at A&F are both showing that we’ve the ability to drive high productivity on smaller store footprint, adding to the growing set of tools available to help us improve store fleet productivity.
At our recent Bay Brook Hollister remodel in Friendswood, Texas, we’re now driving higher set sales on a small -- a far smaller footprint resulting in almost double the productivity. With about 50% of our U.S leases expiring by the end of 2018, our lease flexibility allows us to take more actions like this.
Moving forward, we will continue to methodically work through and assess our store fleet both on a four wall and broader regional basis to ensure we are taking the right longer-term actions for our customers and our business. It is clear that, Hollister, our largest brand is performing strongly even in a challenging environment and we are encouraged by the continued improvement at Abercrombie & Fitch.
We are now making quantifiable progress by successfully applying the learnings from Hollister to A&F. As we did in the first half of the year, we will continue to tightly manage the business positioning our resources behind our strategic priorities to drive both bottom line improvements, while funding top line growth initiatives.
This approach enables us to fund the necessary strategic investments in marketing DTC and stores enhancement as we continue to drive the turnaround of our brand in a volatile market and lay the foundations for sustainable long-term growth. I remain confident that we have the right plan and the right people to execute successfully against it.
Now I'll turn the call back to Fran for some closing remarks.
Fran Horowitz
Thank you, Joanne. As I said earlier, we are encouraged by the meaningful progress this past quarter, but we are far from satisfied.
We are still focused on continual improvement on the basic and delivering excellence in all aspects of our execution and all with a view to inspiring customers innovating to our business and developing our leaders to help drive our future success. Finally I want to say a word about the team we have in place here.
I can confidently say this is one of the most talented teams I’ve worked with. The depth of talent across the organization from our global supply chain operations to DTCs to consumer insight to store to real estate, every aspect helps keep us close to our customers and inspire, surprise and delight them.
The passion and commitment the whole team has shown and continue to demonstrate in a tough environment, its ability to maintain focus during this tough quarter has been an inspiration. Over the past months, as I’ve been in our stores in Arizona, New York, Texas and China to name, but a few, I’ve been energized by the excitement and passion my colleagues consistently show for the company.
The brand and the journey we are all on together. I remain confident in our strategic plan and our team's ability to execute on it.
I'd like to thank all our teams for their energy, passion, and dedication to continuing to move our brands forward. Now I'll turn the call back to Brian.
Brian Logan
Thanks, Fran. That concludes our prepared comments.
We will now be happy to take your questions. As a reminder please limit yourself to one question, so that we can speak to as many of you as possible.
Thank you.
Operator
[Operator Instructions] And our first question will come from Tiffany Kanaga with Deutsche Bank.
Tiffany Kanaga
Hi. Thanks so much for taking my question.
Would you give some color around the cadence of the quarter, especially how July fared, given positive commentary from your peers? And how your August trends compared to your second half guidance?
Fran Horowitz
Good morning, Tiffany. It’s Fran.
As we mentioned, we’re encouraged by the progress that we made in both brands. We don’t specifically comment on cadence within the quarter, but I will tell you that we had a strong performance throughout the quarter, specifically in A&F we did see sequential improvement throughout the quarter.
We saw that in actually both our men's and women's business, especially across our tops business. And we are encouraged by the progress that we continue to see.
And Tiffany, we don’t comment on current quarter performance. However, I would say that our outlook incorporates what we are seeing quarter to date.
Tiffany Kanaga
I wanted to also ask how much of the sequential improvement in gross margin in the second half do you anticipate to be driven by FX tailwinds versus moderating AUR declines and lower AUC?
Fran Horowitz
FX is definitely going to be an important part of the story as we mentioned in our prepared remarks. FX was a headwind in the front half of the year, and we expect it for the full-year to be a tailwind.
So definitely an improvement to AUR and to gross margin as we move through the back half, but we also expect improvements on our AUR trends to be driven by the improvement in the assortments that we're making and the better balance in our inventories and customer response to our improved assortments.
Tiffany Kanaga
Right. Thanks so much.
Fran Horowitz
It's about -- Tiffany the FX piece is about half roughly – it’s roughly about half the improvement we're expecting from the first half.
Tiffany Kanaga
Thanks again.
Fran Horowitz
You’re welcome.
Operator
And we will now go to Brian Tunick with Royal Bank of Canada.
Kate Fitzsimons
Yes, hi. This is Kate on.
Thanks for taking our question. Fran, I guess, I just wanted to talk a bit more about the A&F brand repositioning.
It sounds like you’re definitely pleased with some of the progress. If you could just talk about where you see the greater challenges as well as the opportunities for that brand in the next few quarters, that would be helpful.
And then, near-term as we are looking ahead to the back half, just any categories across both brands that you see greater opportunities with? Thank you.
Fran Horowitz
Sure. Good morning, Kate.
So, yes, we are pleased with our progress that we've made with A&F. As you know, we talked about before our revitalization journey for this brand starts a little bit later than our Hollister journey did.
But we had another quarter of continuing progress. We continue to apply the Hollister learning, and as I mentioned, we did see sequential improvements throughout the quarter.
This improvement was in both genders and in many, many categories, especially the top category for both genders we did see improvement. As we move into the back half of the year, we believe that the improvements that we’ve seen are on categories that play more importance in the back half of the year, and these improvements will continue to gain traction as we move through the back half.
Joanne Crevoiserat
And I would add to that Kate, we are applying the learnings from Hollister and we’ve got a process embedded, and the teams are executing well against it. We continue to expect to see reduced SKU count in more depth behind our big top 30 items, we're driving better presentations throughout the store.
We have a lot of things working for us in the back half, including the prototypes and the learnings from the prototypes, but also the A&F Club rollout again little later than Hollister, but with over 2 million members in the A&F club and growing strongly every week is an opportunity for us to continue to engage more customers and leverage that platform both to learn and respond and react in the back half, but also to leverage that as a platform to engage customers and drive them to our stores.
Kate Fitzsimons
Great. Best of luck for back to school.
Joanne Crevoiserat
Thank you.
Operator
And our next question comes from Mark Altschwager with Robert W. Baird.
Mark Altschwager
Great. Thanks.
Good morning and congrats on all the progress thus far.
Fran Horowitz
Thank you.
Mark Altschwager
I wanted to ask on the comp outlook. Would you expect to see sequential improvement at both brands in the back half of the year?
There is quite a divergence between Hollister and A&F in the back half of last year's just getting -- trying to get a better sense of your expectations there? And then separately, I wanted to follow-up on the A&F Club program, just given the brand repositioning, curious if there had been any insights regarding your customer demographic spending habits or anything that you really found surprising relative to your expectations?
Fran Horowitz
Okay, Mark. It’s Fran.
I will start with the first part of your question, as far as the comp outlook goes, as we mentioned, 2017 is approximately flat with the back half, but it’s up slightly. And we are anticipating to see still a promotional and challenging environment.
Continued strength in both brands, in Hollister as well as the continued improvement in Abercrombie. We have invested behind core items in both brands, we’ve made significant efforts in building big, bigger.
We talked a lot last year at the end of the year how we disappointed our consumer on size and color, because we -- we're not in position in many of our key items we feel that we really made sure that we had optimized these opportunities and feel well positioned as we head into the back half. Specifically on the A&F Club, the insights are early.
It's in the beginning stages of its club life, I guess, I would like to say it's a bit behind the Hollister club life, but we are seeing strong interaction from those consumers and learning, really reacting, and listening to those customer insights.
Mark Altschwager
Thanks for the color. Best of luck.
Operator
And we will now go to Stephen Albert with Bank of America Merrill Lynch.
Stephen Albert
Good morning. I was just curious if you could comment a little bit on the gap between comp and non-comp growth or total sales growth being pretty much the same.
There are no gap there. Online was up 4%, so that’s only contributing maybe a point, it's a quarter of your business, can you talk to closing 5% of your fleet, what type of sales recapture you’re seeing from those close stores?
What sort of contribution is wholesale to your top line?
Fran Horowitz
Yes. So you see hit on all the pieces I think, Stephen, the gap between comp and non-comp would reflect the difference in closed stores and likely a bit of our remodel cadence from last year as well.
So the net new stores and offsetting closed stores as well as some growth in our wholesale business as well would be contributing to a smaller gap there. In terms of sales recapture with close stores, that’s an opportunity for us.
We have historically seen fairly low recapture. It is fairly dependent on how close the proximity of another store in the market.
We do see the DTC business to be a bit sticky after we close the store, but we don’t see a lot of the brick-and-mortar sales migrating. That recapture has been relatively low again higher in places in markets where we have other stores.
But the efforts underway with our loyalty programs are intended to help us engage and keep those customers more engaged in our brands even after a store close. So more to come on that.
Operator
[Operator Instructions] We will now go to Adrienne Yih with Wolfe Research.
Doug Drummond
Good morning. This is Doug Drummond for Adrienne today.
As you accelerate store closures and see natural leases expire, are you starting to realize impact for benefits from better rent occupancy terms? In that vein, has there been any meaningful lowering of your required comp lever buying in occupancy expenses?
Thank you.
Fran Horowitz
Yes. Thanks for the question, Doug.
Our store -- we’ve been on a path -- store closure path for quite an extended period of time. I think we mentioned in our prepared comments we closed over 400 stores since 2010.
And it is an effort to right size our store fleet and what is an evolving retail environment where consumer shopping preferences are changing. We do see the store as a very important part of the story as we move forward and we're investing back into our stores to ensure that we're delivering the right experience at store level both with our omni-channel investments, but also with our new prototypes and remodels where we are providing a much better shopping experience in many cases on lower square footage.
So the flexibility that we have in our lease portfolio is providing us with an opportunity to address those issues and it's not just about store closures, that also includes negotiating with our landlords on lower rents or also downsize opportunities in certain malls or relocations within malls. So we’ve a number of tools in our toolkit available to us to help drive productivity and at the end of the day expect productivity that's really driving the leverage and rent.
And we were pleased to see in the second quarter that we did deliver leverage on store occupancy for the quarter and we continue to value the flexibility that we have in our lease portfolio to make those decisions as we move forward.
Doug Drummond
Great. Thanks for the color.
Best of luck.
Operator
And our next question comes from Susan Anderson with FBR Capital Markets.
Susan Anderson
Hi. Good morning.
Nice to see the improvement. I guess, I wanted to maybe drill down a little bit on the expense side.
How should we think about kind of ability to continue to adjust your cost structure? Is there kind of more room to reel in expenses going forward?
And then just really quick on the promotional front. So it sounds like you guys are not really expecting anything to change in the back half in terms of the promotional environment.
Is that what I should assume as contemplated in the guidance? Thanks.
Joanne Crevoiserat
Yes. I will kick it off Susan on the cost management.
We’ve had a long track record of success in taking cost out of the business and we have a strong culture of cost management now embedded in the company. We set a pretty high target this year at trying to drive about $100 million of growth expense out of the business, and we are on track to deliver against that target.
We continue to expect to drive at least a 3% reduction in OpEx for the year. That has afforded us the opportunity to also invest back into the business.
So as we think about our cost structure we're thinking about it both from where we can drive efficiency and continue to drive efficiency, but also where we need to invest to continue to position our brands for the long-term and we have made investments back in marketing and we have made investments in DTC and in-store and the store experience and in associate training to help drive the top line, well at the same time driving efficiency overall in our model. And I think the second quarter results speak nicely to the progress we've made and I’m very proud of the team's ability to deliver against those objectives that we said.
But we showed leverage in basically every line item in operating expense this quarter.
Fran Horowitz
I will take the second part of that question. Susan, its Fran.
We had …
Susan Anderson
Hi.
Fran Horowitz
Hi. We had a very solid execution in a very tough environment for the second quarter, evidenced by both improvement in A&F and a really strong performance in Hollister.
So as mentioned, we do expect to see our gross margin down in 2017 overall and approximately flat in the back half. The promotional environment will continue, we -- as we expect, but we also believe that we are positioned for better execution than last year.
We are expecting lower AUC and a moderation in our AUR decline. The moderation really be supported through better assortment balance.
As Joanne mentioned, strengthening of the dollar and an improved product acceptance. So we worked through the tail and we feel like the assortments, we feel we are well positioned in the back half.
Susan Anderson
Great. That’s helpful.
Thank you guys. Good luck next quarter.
Fran Horowitz
Thank you.
Operator
And we will now hear from Marni Shapiro with The Retail Tracker.
Marni Shapiro
Hey, guys. Congratulations.
Nice -- very nice improvement. I just have two quick questions.
I wanted to clarify the specific traffic at Hollister in the stores was up and I’m curious if this was through across regions and if it was driven by anything quantifiable like a drop of a new product assortment or the weather. And then if you could just remind us was Gilly Hicks out in the stores last back to school and holiday and what are the plans I guess for this year versus last year?
Fran Horowitz
Sure. Good morning, Marni.
Its Fran.
Marni Shapiro
Okay.
Fran Horowitz
First question regarding traffic, we did see an improvement to our overall U.S traffic to our Hollister stores throughout the quarter and conversion as well. We really believe that the reason driving that traffic is our strong engagement with the customer, when we get our products and our voice and our engagement aligned, we get a nice reaction from the consumer and with all the work that we're doing through our marketing efforts, we really believe is what drove that traffic.
Your second question regarding Gilly, we had small quantities of Gilly out there in the back half of the year, but the true launch, the global launch was at the beginning of 2017.
Marni Shapiro
Okay. Thanks, guys.
Best of luck for the back half.
Fran Horowitz
Thank you.
Operator
And our next question comes from John Morris with BMO Markets.
Trevor Lamb
Hi. This is Trevor Lamb on for John Morris.
Thank you for taking our question. Pertaining to the store remodels, I was wondering for the stores that have been opened now for over a year, have they sustained traffic levels, also are they seeing an increase in new customer acquisition or customer retention?
Any color on that would be helpful. Thank you.
Fran Horowitz
Hi, Trevor. Yes, the remodels that we’ve done in the Hollister store have shown very sustainable improvement.
Those -- the improvement and we've been on this path for a couple of years now and those stores that we’ve touched have maintained their improvement as we move forward and we’re excited to see even as we reach further into the fleet even our latest remodel stores in Hollister have been performing and driving nice returns. In terms of customer retention, we are seeing much stronger customer engagement overall.
In fact, in all brands we're seeing -- we're building higher new to file customers, so that we're growing new customer store brands in the retention rate of our customers across all brands is improving.
John Morris
Great. And then on e-commerce business, I was wondering if you guys could get some color on the performance differences between A&F and Hollister?
And if it is similar to what you’re seeing at stores? Thanks.
Fran Horowitz
Yes, we have -- we're pleased with our e-com performance. We continue to leverage that channel.
Our penetration overall in the e-commerce business is strong. We have 24% of very high penetration of digital business, and increasingly strong customer engagement on our omni-channel functionality that’s -- we're rolling out.
By brand, the performance has been strong in both brands and we continue to expect to leverage this platform, our customer base is increasingly using digital as a way to engage with our brands, both prepurchase and for purchase activity, we continue to invest in our capabilities here, not only in our omni-channel capabilities which we are rolling out to international markets for in the balance of the year, but we're also investing in our mobile platforms. We mentioned in our comments that over two thirds of our traffic is now coming through mobile devices and we are engaging our customers not only with our digital transactional information, but we are engaging our customers with our marketing efforts in the digital environment with very innovative marketing techniques that engage the customer prepurchase as they’re in the discovery process and that had aided our ability to drive the digital business and then the investments we are making in that experience are driving strong double-digit conversion across the brands.
John Morris
Thanks. Good luck.
Nice quarter.
Fran Horowitz
Thank you.
Operator
And we will now hear from Dylan Carden with William Blair.
Dylan Carden
Yes, hi. Thank you very much.
On the new A&F prototype, is there an opportunity here over the next two years if you think about your lease negotiations to accelerate that roll-out, particularly as landlords increase their TI allowances? Is that something that you are finding sort of more receptiveness to?
Fran Horowitz
Hi. Good morning, Dylan.
Its Fran. We are excited about our new prototype.
It's the first prototype that we’ve launched in 15 years. It's early stages though, what we’ve learned from our prototypes I’ve been -- actually have the opportunity to visit many of them and engage with our consumer is that they’re really responding to the light, the changing rooms of technology, our associate engagement.
So we’ve lots in learning. Its early in its life, and we’re going to continue to learn from those and we will get back to you later in the year as we have more learnings on our rollout plan.
Joanne Crevoiserat
I will say, Dylan, that we're excited by our new prototype. It is a fresh new look in the malls and our landlords or excited by it as well, and are excited to have us roll that out and we -- we partnered very closely with our landlords and we will work with them as we develop our further rollout plan.
Dylan Carden
Awesome. Thank you.
Operator
And our next question will come from Kimberly Greenberger with Morgan Stanley.
Lauren Cassel
Great. Thanks.
This is Lauren Cassel on for Kimberly. I just want to ask about inventory.
I think this is the first quarters increased in almost three years. Could you maybe talk about units versus AUC and then increases by brand as well please?
Thank you.
Fran Horowitz
Hi, Lauren. Its Fran.
We believe actually our inventory has been a catalyst for the improvements that we've seen in both brands throughout the second quarter and we believe that we are actually well positioned as we head into the back half of the year. We really disappointed our customer last year, not being in position in size and color in many of our key items as we made it through the back half.
So we’ve made very strategic investments to build depth behind our core items. For example, in Abercrombie men's we have built some very [technical difficulty] of wall in our box underwear and T shirt program that is beginning to show lots of strength.
We’ve strengthened presentation such as what I just mentioned has really enhanced our overall store experience, but we are current -- our inventories are current, they are well balanced and they’re really positioned to drive business. We are ready to compete in the back half.
And Lauren on your question on units versus costs, they’re about -- they’re aligned. They are very close.
Lauren Cassel
Great. Thanks.
Operator
And ladies and gentlemen, that concludes our question-and-answer session for today. I will now turn the call back over to Fran Horowitz for closing remarks.
Fran Horowitz
Thank you. To reiterate, we are encouraged by our progress with another great quarter Hollister and continued improvement at Abercrombie & Fitch.
We continue to make quantifiable progress by successfully applying learning from Hollister to A&F. We will continue to tightly manage business, positioning our resources behind our strategic priorities to drive both bottom line improvements, while funding top line growth initiatives and keeping us close to our customers.
I remain confident, we have the right plan and the right people to execute successfully against it. Thank you for joining us.
Operator
And that concludes your call for today. Thank you for your participation.
You may now disconnect.