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Nordstrom Inc (NYSE:JWN)
Q2 2019 Earnings Call
Aug 21, 2019, 4:45 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Greetings and welcome to the Nordstrom's Second Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. We'll begin with prepared remarks, followed by a question-and-answer session.

[Operator Instructions]

As a reminder, this conference is being recorded. At this time, I'll turn the call over to Trina Schurman, Director of Investor Relations for Nordstrom. You may begin.

Trina Schurman -- Director of Investor Relations

Good afternoon and thank you for joining us. Today's earnings call will last 45 minutes and will include 30 minutes for your questions.

Before we begin, I want to mention that we'll be referring to slides, which can be viewed by going to the Investor Relations section at nordstrom.com. Our discussion may include forward-looking statements, so please refer to the slide showing our safe harbor language.

Participating in today's call are Erik Nordstrom, Co-President; and Anne Bramman, Chief Financial Officer, who will discuss the Company's second quarter performance and outlook for 2019. Joining during the Q&A session will be Pete, Nordstrom's Co-President.

With that, I'll turn the call over to Erik.

Erik B. Nordstrom -- Co-President

Thank you for joining us today.

In the second quarter, we delivered strong bottom line results, demonstrating our inventory and expense execution. We exited the quarter with inventory levels in a favorable position and made significant strides in productivity. We are implementing key learnings from the quarter to drive our top line and deliver bottom line results. In the second quarter, sales were down 5.1%, which was around the low end of our expectations. Full-Price decreased 6.5% and Off-Price decreased 1.9%. We anticipated first quarter trends to continue. However, we had a slow start to the second quarter and softer results in both Full-Price and Off-Price.

Last quarter, we emphasized our top-line focus related to loyalty, digital marketing and merchandising. We've seen good outcomes from our efforts, including improvement in Nordstrom note redemptions. From a merchandise perspective, we're improving our in-stock levels and addressing a gap between our opening and higher price points. We ended the quarter in a strong inventory position, giving us the ability to better align our assortment in the second half of the year.

Now, I'd like to provide insight into two drivers of our business performance. Our Full-Price Anniversary Sale and our Off-Price business. Starting with the Anniversary, this is a unique event, featuring new arrivals at reduced prices for a limited time. Our Anniversary strategy focused on three objectives: Increasing customer satisfaction, driving sales and improving the economics of the event.

We're seeing early indications that our event resonated well with customers. That said, with planned Anniversary consistent with current trends, the sales were softer than expected. Based on customer feedback, we curated our Anniversary assortment to highlight their favorite brands, which drove higher sell-through of Anniversary product, relative to last year. We expect this to benefit merchandise margins in the third quarter and we'll have a complete assessment of our overall anniversary results at that time. While we increased depth in top brands, the event has become even more concentrated around key items. We did not have enough depth in key items and we are actively addressing this in the second half, particularly with our top gift ideas for the holidays.

During Anniversary, we improved our operational metrics around satisfaction scores, delivery times in key markets and site performance. This includes initial survey feedback from our top loyalty customers, who value the enhanced benefits such as earlier access to merchandise. We also leveraged our digital and physical assets through buy online, pick up in store, which increases customer engagement and is one of our most profitable transaction. During Anniversary, sales from order pickup more than doubled over last year, with nearly half coming from customers using this service for the first time. Customers, who engage through order pickup, tend to double their overall spend.

Turning to Off-Price. We are pleased with our profitability results. However, sales fell short of our expectations. Earlier this year, we made changes to improve our bottom line, which included reducing less profitable flash events. Because these events help drive meaningful traffic toward Nordstrom Rack and HauteLook sites, we are increasing the number of high-quality flash events in the second half. We are also accelerating our marketing efforts to drive traffic such as the upcoming launch of our Nordstrom Rack television brand campaign.

The Off-Price business ended the quarter in a strong inventory position, improving turns across all merchandise divisions. As we head into the second half, we are being opportunistic in the marketplace with plans to accelerate forward receipts. In this dynamic retail environment, we are evolving our business to create a seamless shopping journey. Historically, we know that more than a third of customers, who placed an online order will have visited a store to help inform that purchase, and half of our customers, who make a purchase in our store will have first spent time on one of our digital properties.

Our local market strategy leverages our physical and digital assets to provide greater access to merchandise selection with faster delivery and at a lower cost to us. This strategy focuses on gaining market share in our most important markets by leveraging inventory and increasing customer engagement through the services, we offer. Our business is highly concentrated in our top markets, with the Top 10 accounting for 60% of our sales. This year, we scaled our local market strategy in Los Angeles, our largest market.

We're seeing compelling results and predictive metrics for customer engagement and inventory efficiencies. We're seeing higher customer engagement and spend at our Nordstrom Local neighborhood service hubs. Customer spent 2.5 times more on average; these service hubs account for 30% of order pickup; and alterations increased by more than 10%. In addition, product returns are coming in eight-days faster, driving greater inventory efficiencies.

To leverage inventory across the broader LA market, we began offering customers up to seven times more selection that's available next day. This contributed to sales from order pickup, nearly tripling in July. We are pleased with our results in LA and our accelerating key elements of our local market strategy in more of our top markets.

Our next milestone is expanding our presence in New York City, currently our largest market for online sales. This fall, we will significantly expand our presence with the opening of our flagship store and two Nordstrom Local. We anticipate that the combination of our physical and digital assets will drive a meaningful sales lift in this important market. We will also leverage our seven locations in New York City in[Phonetic] Nordstrom Rack and Trunk Club locations to take care of our customers through services such as returns, order pickup and alterations.

In closing, we're focused on driving our top- and bottom-line results and we're well-positioned for the second half. Nordstrom has managed through many cycles and we will continue to evolve our business to better serve customers on their terms, no matter how they choose to shop.

I'll now turn it over to Anne to provide additional color on our financial performance and outlook.

Anne L. Bramman -- Chief Financial Officer

Thanks, Erik.

Our second quarter earnings demonstrated our continued inventory and expense discipline. We were in a strong position to rebalance our merchandise assortment with customer demand across price points and key items. We also made significant progress in bending the expense curve, mitigating our sales shortfall. Second quarter sales reflected consistent traffic trends, while conversion was softer relative to the first quarter. Heading into the second half, we continue to take aggressive actions, related to royalty, digital marketing and merchandise. Our progress in the second quarter and plans for the second half give us confidence in our ability to turn around our current trend.

Beginning with loyalty, we continue to grow the program with 12 million active customers, increasing 12% over last year and making up 64% of second quarter sales. We have addressed the execution related to Nordstrom note and redemptions are in line with expectations. Enrollments are up over last year, and importantly, we saw a significant improvement in customer satisfaction scores during the quarter.

With respect to digital marketing, we increased our level of investment in Full-Price and have further plans to accelerate Off-Price. For example, in the first half, we had a 25% year-over-year reduction of flash events and planned to get back to prior year levels with high-quality events. And third, in merchandising, we made initial investments in women's apparel to address the gap in our assortment from a price point perspective. We are encouraged by the sell-through performance and we're accelerating plans for the second half.

In addition, we're applying our Anniversary learnings to increase depth of key items. Specifically, for the holiday, we're amplifying our gift assortment across categories and increasing the mix of more accessible price points. For the second quarter, our gross profit rate decreased 50 basis points from last year, due to occupancy de-leverage. Q2 merchandise margin rate, relative to last year, improved sequentially from Q1 and markdown levels were consistent with our expectations. We ended the quarter in a solid inventory position, reflecting two consecutive quarters of a positive spread sale. Expense performance well-exceeded our expectations.

Our SG&A rate in Q2 increased modestly by 26 basis points, reflecting fixed cost deleverage on lower sales volumes. SG&A expense was down 4% compared to the previous year. This was primarily due to our expense savings, in addition to performance-related adjustments. Today, we have delivered expense savings of $100 million, tracking ahead of our annual plans about $150 million to $200 million.

Our efficiency initiatives include realignment of our support structure in stores, end-to-end process improvements in supply chain and technology, and lower discretionary spend. These initiatives represent permanent reductions to our cost structure, that position us well for strong EBIT run through. During the second quarter, we also managed various[Phonetic] expenses well in a tougher sales environment and maintained flat overhead expenses.

Expenses related to digital capability, marketing, technology and supply chain were relatively flat to last year. Our Q2 EBIT margin of 5.7%, de-leveraged by 47 basis points over last year, a meaningful improvement from Q1. EBIT for our generational investments met our expectations.

Moving to the full-year, we lowered the top end of our prior outlook for revised EPS range of $3.25 to $3.30. We expect a sales decline of approximately 2% for the year versus the prior outlook range between a 2% increase to flat growth. The impact of tariffs has not been incorporated into our outlook. But we believe, it will be relatively immaterial for the year.

Now, I'd like to provide color on our assumptions for the second half. Sales are expected to be flat at the midpoint, reflecting roughly a 400 basis point improvement from the first half. This incorporates four sales drivers, all of which are weighted equally. First, our merchandise plans include rebalancing our assortment, increasing depth of key items and accelerating opportunistic buys for Off-Price.

Second, we are accelerating our marketing efforts, including our Nordstrom Rack television brand campaign and additional flash events in Off-Price, while continuing digital marketing investments in Full-Price. Third, we will lap last year's Nordy Club launch with respect to Nordstrom notes, with most of the impact in the fourth quarter. And fourth, sales from the New York flagship, opening on October 24th, will primarily benefit the fourth quarter.

For the third quarter, we expect sales to improve modestly from the first half. We expect gross profit rate expansion from improved sell-through at the Anniversary product. We also expect our SG&A rate to de-leverage from fixed costs, which includes pre-open expenses for New York flagship. Third quarter EBIT margin is expected to be relatively flat, when excluding last year's estimated credit-related charge. For the fourth quarter, we expect the New York City flagship openings to contribute sales in the fourth quarter as well as occupancy deleverage.

Taking a step back, our framework to drive shareholder value remains consistent: gain market share, improve profitability and returns and maintain a disciplined capital allocation approach. We're focused on driving the top line, leveraging inventory and bending the expense curve. Over time, we expect our generational investments to further scale and contribute to improved profitability and return on invested capital.

We have a strong balance sheet and maintain a consistent approach to capital allocation. As we exit this year's heavy investment cycle, we expect moderating capex and accelerating free cash flow beyond 2019. Capex levels are expected to moderate from 6% this year to 3% to 4% of sales, and appropriate level to fund our strategic objective. In terms of the long-term financial targets, we shared a year ago, we're focused on delivering on our current year expectations and intend to revisit those targets after we finish the year.

In closing, our priorities are to drive our top line, improve profitability and execute key strategies to enhance the customer experience.

I will now turn over to Trina for Q&A.

Trina Schurman -- Director of Investor Relations

Thank you, Anne.

Before we get started with Q&A, we would appreciate if you can limit to one question to allow everyone a chance to ask a question. Also, as a reminder, the Company does not plan to comment on market rumors or speculations. We will now move to the Q&A session.

Questions and Answers:

Operator

Thank you.

[Operator Instructions]

Our first question comes from Edward Yruma with KeyBanc Capital Markets. Please proceed.

Edward Yruma -- KeyBanc Capital Markets -- Analyst

Hey, good afternoon. Thanks for taking the question, and thanks for all the insight at Anniversary.

I know you indicated that your strategy of kind of deeper in brands with the customer level seemed to have worked. But just try to help us understand a little bit some of the conversion issues, you experienced? And you obviously indicated that the pre-sale did well or at least the customers responded to it. So, I guess, just kind of what did the consumer not like about Anniversary that contributed to the soft top line? Thank you.

Erik B. Nordstrom -- Co-President

This is Erik. Yes, we did go into the event full narrower and deeper on brands. We edited out some of the long tail of our brands and went deeper into our customers' favorite brands. That being said, we didn't go far enough. We simply ran out off our top items. And also, we have a long history with Anniversary sale. There was a change this year in customer behavior. Certainly, we always see a highly disproportionate amount of demand on our top items. What was different this year was how deep that disproportionate amount was.

We saw more demand on our top items than we've seen previously, and we simply ran out faster of our top items than we had planned. So, we're encouraged that I think our buyers did a great job of picking the right items and putting the dollars in the best items. We just should have, could have done a better job of going deeper on those those top items.

In her reply[Phonetic], Anne brought up the early access portion. As we mentioned, we got a lot of good customer feedback on the changes, we've made this year. But again, I think what could we have done better? We could have had deeper positions on our top items.

Edward Yruma -- KeyBanc Capital Markets -- Analyst

Great. Thanks so much.

Operator

Thank you. Our next question comes from Omar Saad with Evercore. Please proceed.

Omar Saad -- Evercore -- Analyst

Thanks for taking my question. I wanted to follow up on a lot of the detail and commentary you made on the Los Angeles market local. Maybe, you can elaborate, what it is about this experience you're seeing because your loyal customer who gets free shipping and returns, go into the store, order online, pick it up in the store and how do we make sense of that in an e-commerce shipping world?

And then, what are the inventory implications on the other side, at least within the Los Angeles market and maybe at least theoretically thinking about it longer term as you expand this kind of strategies to other markets? Thanks.

Erik B. Nordstrom -- Co-President

Thanks, Omar. There's clearly -- being able to have a broad selection that customers, who're coming or accustomed to online, but being able to pick it up in stores resonates with lots and lots of customers. Just looking at a lot of retailers results, this last couple of weeks, seems to me there is a pretty common thread there of some successes in various categories of companies doing this. We've had both those[Phonetic] capabilities for quite some time, we did make some changes, and most impactfully in Los Angeles, we greatly increased the selection that customers have in doing a buy online, pickup in store for next day. Specifically, we're able to leverage the entire market's inventory that we have in stores, and what the customer choose where they want to pick it up. We're able to move around that inventory very efficiently between our stores and the market, get it there quickly and customers love it. Our customer satisfaction scores on that service are among the highest, we have of anything we do.

And you mentioned inventory implications of that. Part of our local market strategy is getting to a different level of inventory efficiency, in particular, having the capabilities of holding back inventory and allocating it as needed to -- be it to stores or be it to customers' home. We haven't done that yet. We're still working on that. We've done some testing. We're getting in position to do that, but we certainly think that that's the next step of Nordstrom Local is getting even bigger selection to customers, having fewer out of stocks. And for us, reaching another level of inventory efficiency.

Omar Saad -- Evercore -- Analyst

Thank you.

Operator

Thank you.

Our next question comes from Oliver Chen with Cowen & Company. Please proceed.

Oliver Chen -- Cowen & Company -- Analyst

Hi. Thank you.

Regarding the product opportunity ahead and thinking about rebalancing in key items and the investments you need to make, is it very different on the Full-Price side versus Rack, and as you do approach holiday, a key topic is value as well as for e-commerce and sustainability, would love your thoughts.

Peter E. Nordstrom -- Co-President

Yes. This is Pete. I think for us, just being more thoughtful and purposeful about how price impacts really our offering. And it's particularly clear in holiday, we've been able to get some objective information about how customers purchase gifts and the prices that they're really looking for from us. And we're going to be much more purposeful at having the proper amount of inventory, and first of all, in the gift classifications that makes sense, but also with prices that working for us. We're really more than $50 to $150 or $200 top dollar kinds of price points. So, we have a pretty broad range of prices that we have to offer and it doesn't serve those, who want to start to have a democratic approach across every category that we're in. We do need to step back and figure out where to invest the money to be a better gift destination for customers that I can just tell you, in our experience of being around visits[Phonetic], it feels like the most purposeful attempt for us to prove into being a gift destination. So, we think we've learned a lot. And as Erik mentioned, Anniversary, I think was helpful -- kind of understanding depth of key items. So, we feel good about our chance to have a good holiday as a result of that.

And as you talk about price and what happens in Off-Price and Full-Price, the version of that that's applicable in both places, and we're trying to be thoughtful and surgical about how we're doing it. So, I just think it puts extra focus on our ability to be good editors and curators, something we've been able to approach with some more objective information. We have a better days than we've ever had before. So again, I think from our point of view, it feels like a less opinion-based thing and it's much more purposeful around objective information.

Oliver Chen -- Cowen & Company -- Analyst

Okay, great.

And would love your thoughts on e-commerce and Nordstrom's been really ahead of the curve with what customers want. And I know you have an innovative partnership with Rent the Runway.

Erik B. Nordstrom -- Co-President

Yes, well, thematically, it's abundantly clear that the whole sustainability subject is really important to lots of customers, and so it's important us. And I think that our e-commercing plays right into that. And there's a bunch of things that we're working on, that we're really not in a position to fill you in on right now because a lot of things were slight[Phonetic], but I think it's fair to assume that -- as a major theme for our merchandising strategy is that, that is right at the heart of a lot of it. And It gives us a great opportunity to work collaboratively with our brand partners to figure out how to satisfy customers better on that score.

Oliver Chen -- Cowen & Company -- Analyst

Thank you. Best regards.

Erik B. Nordstrom -- Co-President

Thank you.

Operator

Thank you. Our next question comes from Jay Sole with UBS. Please proceed.

Jay Sole -- UBS -- Analyst

Great. Thanks so much.

Erik, I appreciate your comments on the Anniversary sale. If you take a step back, and maybe just help us understand, sales for the Company were down 4.3% in the first half. If you could pick out maybe two or three real big picture things or explain why the sales growth rate has slowed down so much from where it was historically going back five years or 10 years, that would be really helpful? Thank you.

Erik B. Nordstrom -- Co-President

Sure. Well, first I'd start with, what we talked about in our first quarter. We identified three areas, loyalty program, digital marketing and the balance of our merchandise assortment. We made good progress on the first two, the loyalty program and digital marketing. We saw, in general, good traffic across our properties. As we talked about in the first quarterm the merchandise assortment takes longer. We have also had buyers in place, and around that we have opportunities in the balance of our price points, and we have opportunities in being in-stock in these top items that we've been talking about. We've seen some encouraging signs there. That rebalancing is under way, but we expected that to have more traction in the third quarter and the fourth quarter than we did in the second quarter.

Jay Sole -- UBS -- Analyst

Do you feel like that the Company, organizationally it's the right structure and what you feel like is the key to sort of driving traffic back into the stores, I mean, driving that store sales growth rate back to a higher level?

Erik B. Nordstrom -- Co-President

Well, as you know, we've been working on our local market strategy for a couple of years now and that is progressing. We started last year in LA, really do a lot of testing with customers, a lot of listening on how we can connect our digital and physical assets to better serve customers. This year, it's really been about scaling it in LA. We started with our four stores in LA. We've now expanded, in particular, that buy online, pickup in store, greater selection for next day delivery across 16 stores in Los Angeles' Orange County as well as

our three local stores. And we're seeing really tremendous traction on that service, in particular.

But stepping back, it's looking at our physical assets as points of engagement as much as they are points of sale. We really don't care where the sale gets strong enough, and we continue to learn that those physical assets that's when leveraged, really our customers want make a tremendous difference. We've talked about buy online pickup in store, we know that customers, who use that service spend double those that don't use it. Quite a restart on operations before, operations [Indecipherable] -- something that can't be done digitally. And it's something we're really good at. We're the large employer of tailors in North America. I think we have the best tailors that are out there. And we know that customers are engaged to our alterations area, their spend triples. When a customer engages with a stylist, their spend goes up 5x. So, that engagement is really what we're looking for, be it with services, be it across channels. We know the more engagement we get with customers, the better it is. And through our local market strategy in particular, we feel really good that we've got some ways to leverage these physical assets that really resonate with customers.

Jay Sole -- UBS -- Analyst

Got it, Okay, thank you so much.

Operator

Thank you. Our next question comes from Alexandra Walvis, with Goldman Sachs. Please proceed.

Alexandra Walvis -- Goldman Sachs -- Analyst

Good evening. Thanks so much for taking my question.

I had a question clarifying the guidance. You hopefully break down what the fore-drivers of the four point improvement in comps into the back half likely to be. I was wondering if you could clarify whether the sales from the new New York flagship would all be coming in the fourth quarter, given the opening day.

And then, I've a follow-up question there, I think that implies some pretty strong sales per square foot in that new store. Can you talk about the level of confidence there and perhaps, expectations on the P&L implications of that specifically? Thank you.

Anne L. Bramman -- Chief Financial Officer

Hi, Alexandra. I am going to start with the clarification on the guidance piece to it. So, as you mentioned, the store does open on October 24. S,o there will be a very, I mean, tiny amount in Q3. And I would say, significant majority of what you would see would be in Q4, which probably explain the guidance on this. And as far as, again, I hope we're looking at New York, and I think Erik and Pete can weigh in on this, provide some more color on this. That we've really seen this as a -- what we're opening this for beneficially[Phonetic] entering a market. And I think, when Erik went through his slides and we had the slide talking about the seven point in Manhattan that we're servicing customers, we're really approaching this as not only opening the tower, but our local leveraging our other touch points between Trunk Club and Rack, as well as enhancements in our online with our customers as well.

Erik B. Nordstrom -- Co-President

Yes, I would just add on to that. We think it's really important that with opening of the tower that we have these other assets and services coming online around the same time. So, we've announced that we'll be opening two Nordstrom Local service hubs, one in the Upper East Side, one in the village. And we're also able to execute and deliver the most popular services our customers have at -- we've seen in Los Angeles in our Local, which is being able to give returns, online returns in particular, order pickup and alternations at our two Rack locations in Manhattan as well as Trunk Club Clubhouse. So, we will have seven locations on Manhattan to be able to take care of customers and there's really a synergy between those assets. The inventory we have there, the people we have there, services we're able to provide. And we've had a lot of proof points in Los Angeles, we're set up well to leverage that for New York, but I would to reiterate Anne's point, we had that one slide in my section that showed the map of the seven locations, I'd really emphasize that we are opening a market, we have assets, physical and services that we're excited to bring to the city customer.

Alexandra Walvis -- Goldman Sachs -- Analyst

Great. Thank you.

Operator

Thank you.

Our next question comes from Paul Trussell with Deutsche Bank. Please proceed.

Paul Trussell -- Deutsche Bank -- Analyst

Good afternoon.

On margins, I mean SG&A dollars were nicely managed. Could you highlight some of the areas of savings? And do you now expect to deliver above the original $150 million to $200 million of savings you originally outlined? And also on gross margins, can you just talk about the puts and takes please, both in regards to what you experienced in the second quarter, but also your level of confidence in terms of expected expansion in the third quarter? Thank you.

Anne L. Bramman -- Chief Financial Officer

Hi, Paul. So let me take the SG&A piece. As we talked about, we have three particular drivers driving our SG&A, one is realigning our support structure and costs for the store, the second one is really driving end-to-end productivity initiatives to supply chain and technology. And I would say to a lesser degree, it's more discretionary spending across the board. And I would say that's a small piece of all the things that we've been doing. So, those are the three levers, we've been pulling and working through. And as you mentioned, we are ahead of our plan. So, when you look at our overall guidance for the year, we basically -- typically we had in Q2, attempt our plan for the second half and bend the beat we had. So, we are exceeding what we originally had thought in Q1. So, that's how you get to the reconciliation of the guidance.

On gross margin, as we mentioned, our merch margins were actually in line with our expectations as far as markdowns. The only thing we had was the leverage on our occupancy expenses within our sales volume. As we go through the rest of the year, we really didn't change any of our guidance assumptions on margin. As Erik have talked about how we thought about Anniversary sale as far as having better margins in the third quarter from the Anniversary product. That was the plan that we made and we're continuing to progress on that. So, again one thing that's changed on overall guidance was basically the top line.

Operator

Thank you.

Our next question comes from line of Mark Altschwager with Baird. Please proceed.

Mark Altschwager -- Robert W. Baird -- Analyst

Thanks and good afternoon. Nice job on the expense savings.

I was hoping you could dig a bit more into how the operating model is really changing at the store level and just really what you're doing differently. I think that's a big component of the cost savings that you've outlined. And I also think this is the first Anniversary sale period, since you've put some of these operational changes into place. So, just curious how that all played out during the higher-volume period and any key learnings as you move forward to the holiday? Thanks.

Erik B. Nordstrom -- Co-President

Thanks, Mark. Yes, the implications on operating model, especially on our store, are pretty profound. Our stores -- we're going to leverage the inventory we have in our stores to better serve customers, meaning the stores are increasingly becoming fulfillment centers as well as selling directly to customers. So, we have had changes in our models in our store there to do that. We need more people handling both online orders are being filled as well as returns coming back, and getting that inventory resellable as quickly as possible. That's gone really well, and in particular, over Anniversary was such a tense period of demand. We saw significant improvement in our fulfillment rates in our stores as well as the speed of delivery direct to customers in our key markets. So, we feel really good about that.

Mark Altschwager -- Robert W. Baird -- Analyst

Thanks.

And if I could just quickly follow up on a previous question. The implied sales guidance is quite a bit stronger for Q4 versus Q3. Is there anything beyond the Manhattan store coming online that's driving that difference? If you could just talk about some of the drivers there, that would be helpful.

Anne L. Bramman -- Chief Financial Officer

Yes. What we try to do is give you full-year and then give you the Q3 assumptions. And we talked about how we expect sales to moderate -- moderately getting better in Q3 and then some of the big drivers. -- the biggest outstanding driver was Q4. So, I would assume is that out of the four levers that we laid out, given your considering[Phonetic], you see some improvement, particularly as we go through the second half of the year.

Mark Altschwager -- Robert W. Baird -- Analyst

Thanks again.

Operator

Thank you.

Our next question comes from Dana Telsey with Telsey Advisory Group. Please proceed.

Dana Telsey -- Telsey Advisory Group -- Analyst

Good afternoon. Two quick things.

As you think of the women's apparel market and what you've been seeing there, did anything from the Anniversary sale informed you for what should be in the store or other brands or what's happening with some of the existing innovative brands that you have to expand or to contract and bring in others?

And lastly, what does success mean to you for the New York store? Are there any metrics around it that you can place? Thank you.

Peter E. Nordstrom -- Co-President

Hi Dana, it's Pete. We made some strides in women's apparel. That's not a lot that you can easily quantify at this point, but I think certainly creating a road map for the future for us to bend the curve there. As Erik mentioned, I think we did a good job of identifying the key items and brands and styles that customers are responding to. So, we've always had a pretty aggressive program on trying to identify and amplify emerging brands. I guess what I can tell you is changes -- the cycle on all that stuff is shorter than it's ever been. So, one of the things we need to do is identify new emerging brands and amplify them quickly. It isn't a matter of test and learn over a couple of years, a couple of stores in time. So, I guess what I could say just more broadly is that I think we have more confidence in our ability that will put on the gaps, when things are working well.

And the same holds true for perhaps some legacy brands that are declining. And we have some very big built up established businesses with some legacy brands, where it's going the wrong way. So, our teams have to be really good editors. They've got to be curious and they can't really use last year, so much as a guide. So, the other thing, I would say is thematically really understanding the way price impacts classifications and just getting sharper about that is helpful. So, it's been kind of a tough go for a while in women's apparel, but I think it's fair to say that we have optimism about our ability to make some improvements there, particularly starting at the back half of the year.

And then, the other question was about, I'm sorry, was it about New York specifically Dana?

Dana Telsey -- Telsey Advisory Group -- Analyst

Yes. How do you quantify success of the New York store, what would you be looking at in a year or how do you think of the New York store? What would make it in your mind as success? Did the volumes match Seattle or how do you think about it?

Erik B. Nordstrom -- Co-President

Yes. There's obviously a way of quantifying and we don't break out those numbers by the store. But, I think what Anne mentioned really is the way that we look at by market. And I think as we mentioned [Indecipherable] already is our largest online market. And we know when we have physical access to a market like that we grow our online business considerably as well, adding the stores and that sales in the physical stores as well. So, we'll probably have more to say about as that begin. But I think ultimately the way you guys should be keeping scoring it, it's looking for us to look at it in terms of a market.

I would say, though, if you're asking us, particularly in the near term, how we're going to view the success. I think it's really along the lines of can we deliver a great customer experience there and all the ways that I think customers would expect from Nordstrom entering the market. There's plenty of places to buy things in New York and if we're really successful that is because we do the little thing that are actually big thing. Just the way that we serve customers in a more relevant, a more convenient way, we've heard that theme a lot. And, we've got a good team of leaders that were ready to take that challenge on. So, no, I think we'll be getting a lot of indications about our [Indecipherable] successful there based on the reaction that we get from customers that we're going to step up and did deliver something that's --.

Dana Telsey -- Telsey Advisory Group -- Analyst

Thank you.

Operator

Thank you. Our next question comes from line of Matthew Boss with JP Morgan. Please proceed.

Matthew Boss -- JP Morgan -- Analyst

Great. Thanks.

So, at Off-Price, this was the weakest quarter on the top line, I think in five plus years. I guess what's driving the magnitude of the slowdown? What's the timeline to stabilize the concept? And any change in your view regarding the long-term size of the brick-and-mortar fleet for Rack?

Erik B. Nordstrom -- Co-President

Yes. I would merely point to those issues we've had across our Full-Price business, tying to Off-Price business as well, the loyalty, digital marketing and merchandise assortment. The loyalty is, as you mentioned, we had good progress over the quarter. So, we like the direction that were there. The digital marketing, we're a little further behind in Off-Price than we are in Full-Price. We do have still some traffic opportunities in Off-Price. We feel much better about that. In particular, what's unique about Off-Price, which we touched on our comments, is flash. We did a deep dive at the end of last year into our flash events. We had a number of flash events that were one categories that we don't carry in our stores and with the majority of our online returns coming back to our stores, that creates issues.

But number two, they were unprofitable events. So, we did a lot of editing at these flash events. The flip side is what's really a plus about the flash model is the traffic generation engagement mainly through email that we give our customers, who sign up these flash events is terrific and helps us not only on the flash site, but helps us on our Rack.com site as well. So, we felt the reduction in traffic from cutting back on those events. We started the last -- about last three weeks back on more of our normal cadence there of flash events and the key to there is not just quantity of flash events, it's the quality of flash events. And we feel really good about that.

So, feel good about flash events going forward that it's going to be differentiated than the first half. We feel good about the marketing that's going to be differentiated than the first half. The other point [Indecipherable] noticed here is the inventory position. I mean, we're sitting here midway through the year with lots of open to buy across our Company, but particularly in Off-Price. In Off-Price, the biggest driver Off-Price business is having great merchandise. Being opportunistic, especially in times like now that are tough for the industry, we're really excited about the position we're into to really pick up some compelling merchandise for our customers and get them into our Rack brand.

Matthew Boss -- JP Morgan -- Analyst

And quick-follow up. Any reason for the lack of share buyback this quarter and how best to think about capital allocation in the back half?

Anne L. Bramman -- Chief Financial Officer

Yes, Matt. So, we've always been really consistent about how we approach capital allocation and it's the first and foremost, we look at investing in the business. And we talked about this as a very heavy investment cycle year for us as we complete the payments and the investments we're making in New York. And as we exit out of the year, that capex investments are -- be coming on our more moderated environment than we have seen in the past [Indecipherable].

And then, the second piece to it is, of course, our dividend and also staying, we are very focused on investment grade. So, the way we look to share buyback in the past is we need excess cash for that. And so, that's kind of the priority of how we look at our capital allocations.

Matthew Boss -- JP Morgan -- Analyst

Thanks for the help.

Trina Schurman -- Director of Investor Relations

Okay. We'll now take one more question.

Operator

Thank you. Our last question comes from Chuck Grom with Gordon Hackett. Please proceed.

Chuck Grom -- Gordon Hackett -- Analyst

Thanks.

Just just a few housekeeping things. I guess, first on the third quarter guide, can you quantify how much gross margin expansion you're anticipating? Second would be on the second quarter, could you perhaps walk us through categories that either outperformed or underperformed?

And then third, on the note redemption issue, is there a way you can speak to how much it's improved and maybe quantify how much of the drag it was in the fourth quarter of last year, given that you're going to be cycling that. And I think that's part of your equation for an acceleration in sales, later this year. Thanks.

Anne L. Bramman -- Chief Financial Officer

Pete, do you want to take the assortment question.

Peter E. Nordstrom -- Co-President

Yes, sure. In the second quarter, we had pretty significant improvement in the beauty area. I think, we mentioned that before that we had some out of stock issues that at the beginning of the year hurt us. And so, we bent the curve there and beauty improved quite a bit. To me, it's been a consistent story for quite some time as our designer business across all categories positive. That continues to be a good growth opportunity for us. Our npg area did very well, our own product that showed some improvement. That's good to see.

And then lastly, I'd say that the lingerie and activewears in women's performed relatively better. The tougher areas for us is we had some slowdown in shoes. I think that represented a moment in time we shall see, but that was a bit of a dip from where it was that the shoes have been performing strongly.

Men's had some challenges. I would say the biggest driver there that we've noticed, and this is not a surprise to anyone, who falls in our industry[Phonetic], but the continued kind of casualisation of American that impacts the men's business quite a bit. And so, while we're still serving a lot of men and selling them things, the average price of what we're selling them oftentimes is less than it was when they were buying more suits and ties and things of that nature. So, there's adjustments we need to continue to make, but I think that those kind of represent the stronger performing categories relative to the future performance from last quarter.

Anne L. Bramman -- Chief Financial Officer

And as far as your question on margin, the guidance we gave is that we thought gross profit at the end of the year would have slight de-leverage really driven on -- de-leverage on occupancy, based on our sales volume. And so, when we talked about Q3, what we said was that we thought -- we thought merch margin would actually be an improvement year-over-year because of the Anniversary sell-through that we're expecting from how we plan Anniversary.

I mean, and just to remind you, Q4 will actually have the occupancies in New York City baked into it. I think, from that you can kind of bake into your model. As far as, the Nordstrom note, we gave that split roughly evenly for the second half. You can probably imagine if you are anniversarying this note redemptions and the time it takes for people to accumulate and redeem, the cumulative effect. So it's not going to be completely even across the two quarters. But for the second half, it's roughly 500 basis points[Phonetic].

Chuck Grom -- Gordon Hackett -- Analyst

Okay. Thank you again.

Trina Schurman -- Director of Investor Relations

Again, thank you for joining today's call. A replay along with a slide presentation and prepared remarks will be available for one year on our website. Thank you for your interest in Nordstrom.

Operator

[Operator Closing Remarks]

Duration: 50 minutes

Call participants:

Trina Schurman -- Director of Investor Relations

Erik B. Nordstrom -- Co-President

Anne L. Bramman -- Chief Financial Officer

Peter E. Nordstrom -- Co-President

Edward Yruma -- KeyBanc Capital Markets -- Analyst

Omar Saad -- Evercore -- Analyst

Oliver Chen -- Cowen & Company -- Analyst

Jay Sole -- UBS -- Analyst

Alexandra Walvis -- Goldman Sachs -- Analyst

Paul Trussell -- Deutsche Bank -- Analyst

Mark Altschwager -- Robert W. Baird -- Analyst

Dana Telsey -- Telsey Advisory Group -- Analyst

Matthew Boss -- JP Morgan -- Analyst

Chuck Grom -- Gordon Hackett -- Analyst

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