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Carter's Inc (NYSE:CRI)
Q2 2020 Earnings Call
Jul 24, 2020, 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, welcome to Carter's Second Quarter 2020 Earnings Conference Call.

On the call today are Mr. Michael Casey, Chairman and Chief Executive Officer; Mr. Richard Westenberger, Executive Vice President and Chief Financial Officer; Mr. Brian Lynch, President; and Mr. Sean McHugh, Vice President and Treasurer.

After today's prepared remarks, we will take questions as time allows. Carter's issued its second quarter 2020 earnings press release earlier this morning. A copy of the release and presentation materials for today's call have been posted on the Investor Relations section of the company's website at ir.carters.com.

Before we begin, let me remind you that statements made on this conference call and in the company's presentation materials about the company's outlook, plans and future performance are forward-looking statements. Actual results may differ materially from those projected. For a discussion of factors that could cause actual results to vary from those contained in the forward-looking statements, please refer to the company's most recent annual and quarterly reports filed with the Securities and Exchange Commission and the presentation materials posted on the company's website.

On this call, the company will reference various non-GAAP financial measurements. A reconciliation of these non-GAAP financial measurements to the GAAP financial measurements is provided in the company's earnings release and presentation materials. [Operator Instructions]

And now I'd like to turn the call over to Mr. Casey. Please begin, sir.

Michael D. Casey -- Chairman and Chief Executive Officer

Thanks very much. Good morning, everyone. Thank you for joining us on the call. Before we walk you through the presentation on our website, I'd like to share some thoughts on our business with you.

Our performance in the second quarter was meaningfully better than we expected. As you may recall for the safety of consumers and our employees we closed our stores in mid-March, and they remained closed for nearly 80% of the second quarter. Historically, our stores have provided the largest source of revenue to our business and from a market perspective in the United States nearly 80% of children's apparel was purchased in the stores last year, only 20% of children's apparel was bought online, thankfully following our store closures in March, we saw a surge in online demand for our brands. We also saw a significant demand for our exclusive brands with Target, Walmart and Amazon and other essential retailers that we're able to remain open.

In the second quarter, we improved our marketing strategy, which enabled better price realization and a higher gross profit margin. We reduced spending and inventories below prior year levels and significantly improved liquidity with a highly successful bond offering, the day after our previous update with you in May. So the pandemic has weighed on the growth we had planned this year, the impact to-date has been far less than we expected.

In terms of business trends, we saw the largest drop in sales and earnings in April. We returned to profitability in May with sales about 80% of last year. In June, our consolidated sales improved to about 90% of prior year sales and sales trends in July are consistent with June about 90% of last year. By the end of June over 90% of our stores in the United States and Canada together with most of our wholesale customer stores had reopened. Assuming no meaningful disruption from the recent spike in confirmed cases of the coronavirus, we expect sales and earnings in the balance of the year will gradually continue to improve relative to our second quarter performance. That said, our sales and earnings in the second half are not currently expected to achieve prior year levels. We'll share our thoughts on that outlook with you this morning.

From product perspective in the second quarter, online demand was robust across our baby sleepwear and playwear product offerings, products for all age ranges from a newborn to a 10-year-old child did well online. We saw the strongest demand for our sleepwear product offerings with children staying home from school and distance learning. Skip Hop's home and play time product offerings also sold well in the quarter with family spending more time at home together. We delayed the launch of our Little Baby Basics product offering typically times for May until late June to support store reopenings. This is the core of our baby product offerings in the best-selling newborn apparel in the United States that refreshed product offering is off to a good start.

In our playwear product offerings, casual dressing far outperformed fancier outfits, thankfully very high percentage of our product offering is focused on casual dressing. We also saw a good demand for our 4th of July product offerings, consumers were clearly looking for reasons to celebrate that summer holiday. Not surprisingly back to school outfitting is off to a very slow start, due to the delay in school reopenings. With stores closed for most of the quarter, we had a digital first mindset, which we believe made it easier for consumers to shop with us through our websites we highlighted tops, bottoms and accessories designed to be purchased together are made to match product offerings drove a disproportionately higher rate of sales and profitability.

We also previewed beautifully designed face masks for children we marketed the face masks as a pre-order opportunity to our best customers and nearly sold out within the first week. Face masks will continue to be a component of our product offerings for the foreseeable future. Since our last update our merchandising, design and sourcing teams have completed our spring 2021 product offerings, which will launch in the fourth quarter this year. Even travel restrictions, our sales team had its first virtual selling meeting with our wholesale customers using digital product images.

Our wholesale customers and retail teams responded very positively to this new product offering. We'll firm up the forecast for spring '21 later this year. Thankfully given a more favorable environment for input costs and excess manufacturing capacity in Asia, we're forecasting lower product cost for spring 2020.

In the first week of May, we began to reopen all of our stores in the United States. Our retail team did an excellent job preparing our stores for resumed operations, including bringing over 13,000 of our co-workers back to work. So traffic to our stores has not yet returned to pre-COVID levels, those who were visiting our stores came to buy. We saw a significant increase in conversion rates, units purchased per transaction and price realization driven by fewer and better promotions. Our marketing and retail teams focused on the benefits of enrolling in our rewarding moments and credit card programs. At the same time they thoughtfully walk back less effective promotions, which enabled better margins on our second quarter sales.

With substantially all of our stores now open, we are seeing a meaningful difference between our stores located in tourist locations and our other stores. Sales in our stores historically driven by tourists and international guests were down over 20% after reopening. By comparison in the post-opening period non-tourist store locations comped up 15% in the quarter.

Last year our tourist stores represented about 10% of the store chain and contributed nearly 20% of our store sales. Given the resurgence of the Coronavirus especially in Florida, Texas and California, we expect demand from international guests and tourists will continue to be under pressure through the balance of this year.

Thankfully more than half of the lost sales in the second quarter, due to the store closures was offset by a significant increase in e-commerce sales. In the second quarter, we saw triple-digit growth in online demand for our brands in eight of the 13-week period. Profitability on e-commerce sales more than tripled in the second quarter with fewer promotions needed given the strong online demand for our brands in a good inventory position.

Historically, international demand on our US websites had been robust. These international guests are big ticket buyers purchasing our high margin baby apparel. Online demand from domestic consumers increased over a 120% in the quarter. By comparison, online demand from international guests dropped 4% and contributed only 11% of total online sales in the quarter, compared to 22% last year.

The biggest decreases came from guests in Brazil and Argentina, two of our largest international markets, which have been significantly affected by the Coronavirus and currency devaluation. In recent years, we've invested in technology that enables our stores to fulfill online purchases, increasingly consumers prefer to pick up their online purchases in our stores. Many are now choosing our same day pick-up service.

As our stores reopened, we saw store fulfillment of our online purchases increased from 20% to 30% of our e-commerce transactions. The largest increase in our omni-channel sales came from shipping online purchases from our stores to the customer's home is relatively new capabilities provide a better experience for consumers in our margin accretive relative to shipping from our distribution center to their homes. By the end of August, we expect over 70% of our stores will be able to fulfill e-commerce orders.

To better serve consumers during the pandemic, we have also made curbside pickup available. To date, nearly 50% of consumers picking up their orders at our stores have opted for curbside service, which is also margin accretive relative to shipping to the home. Our omni-channel customers, those who shopped in stores and online are our highest value customers spending nearly 3 times, the amount of a single-channel customer on an annual basis.

Our speed of delivery of e-commerce orders from our distribution center, thankfully has returned to normal generally within four to five days. Delivery speeds were slower than desired earlier in the quarter, many online retailers had a similar experience. As online demand surge during the store closure period we carefully ramped up staffing in our distribution centers to ensure the safety of our employees. We're grateful for the dedication of all of our distribution center co-workers, many of whom have been supporting holiday level demand for our brands since the end of March. They have also helped us ensure a safe work environment for thousands of our employees.

Given a continued acceleration in online demand for our brands we have decided to exit more stores over the next five years, prior to the COVID experience we had planned to close more stores than we would open by 2024. In round numbers, we planned to open about 100 co-branded stores in densely populated areas over the next five years that continues to be our plan. We had also previously plan to close 115 stores mostly stand-alone brand stores and outlet stores in declining centers. Based on a reevaluation of our store portfolio, we now planned to close over 200 stores or about 25% of our stores in the United States by 2024.

Our average lease term is less than 2.5 years including early termination options. We planned to take advantage of those early kick-out provisions and exit more stores as leases expire. Our focus is on fewer, better and more profitable stores located closer to consumers that among other things enabled the same day pickup of online purchases.

In the next few years, we expect it will be a buyer's market for retail store locations, and we plan to pursue those better market opportunities. As some of our competitors and wholesale customers closed stores, we believe we will see a transfer benefit from those stores closures as well as ours. We continue to see about 20% of sales from stores that we close, transfer over to our other stores in adjacent markets. Those sales flow through at a very high margin given the fixed cost structure of our stores.

In the second quarter, we saw the second largest decrease in sales in our wholesale segment, due to store closures and related order cancellations. E-commerce demand in wholesale was up over 100% to last year, each of our top four wholesale customers saw triple-digit growth in online demand for our brands. In the second quarter, we were encouraged by certain retailers pulling forward orders previously placed on hold in March. For some of our largest customers, we have been in a chase mode, and we are possible, we're moving up the receipt of certain product offerings to service higher than planned demand.

Collectively, we expect to see continued growth with our exclusive brands in the balance of the year. Our exclusive brands are now expected to grow to about 50% of our wholesale sales this year, up from 40% last year. Other retailers, who suspended store operations in the second quarter are expected to curtail inventory commitments in the balance of the year. We believe there is a higher risk of additional store closures, due to the pandemic and shift to online demand. Anticipating those changes in demand, we reduced our planned inventory commitments for certain wholesale customers.

One of largest planned decreases in our wholesale sales and the balance of the year is with off-price retailers. Historically, we've seen better price realization and profitability moving excess inventory through our own stores. Accordingly, we plan to temporarily keep open certain stores that were scheduled to close this year to drive inventories lower at better levels of profitability.

International sales contributed about 9% of our total sales in the second quarter, down from 11% last year largely due to store closures in Canada and Mexico. The e-commerce component of our international business tripled in the quarter and its growth covered about a third of the lost store sales. The wholesale component of our international sales was also lower. We're encouraged by the higher demand, we're seeing from Walmart in Canada and from Amazon's launch of our Simple Joys brand in Europe.

Many of our other wholesale relationships are with several smaller retailers, representing our brands throughout the world. We expect sales to those retailers will be weighed down by the pandemic, stronger dollar and other local market challenges in the balance of the year.

With respect to our supply chain, we're seeing some delay in the receipt of product from Asia. Like Carter's, our suppliers are focused on keeping their employees healthy and safe, while they manufacture our products. We're also seeing some backup at the Asian West Coast ports, which is compounding late deliveries from some of our suppliers. The delay in shipments from Asia is the higher risk than normal in the balance of the year. Our supply chain team together with our channel leaders have done an excellent job reducing our exposure to excess inventories and related losses. Inventories were much lower than planned at the end of the second quarter and lower than last year. We expect inventory levels to run lower than 2019 for the balance of the year.

Among other things our supply chain team is now focused on supporting the acceleration in e-commerce demand through the year-end holidays. With the surge in demand we've seen since March, we believe we're better prepared heading into the holiday season this year.

In summary, we believe Carter's is weathering the disruption in the children's apparel market better than we had expected. We consider ourselves fortunate to own two of the most iconic brands in the young children's apparel. Our Carter's and OshKosh B'gosh brands have been enjoyed by multiple generations of consumers for the past 100 years. We own the largest share of the baby apparel sleepwear and playwear markets for young children. We focus on essential core products bought in multiple quantities on a frequent basis in those early years of a child's life.

Our average price points are less than $10 providing a great value to consumers in a weaker economic environment. We are the largest supplier of children's apparel to the largest retailers in North America. We are also the largest specialty retailer of young children's apparel, and our Carter's brand is the best-selling children's apparel brand online in the United States and Canada.

Together with the support of the largest retailers of young children's apparel, we expect the online sales of our brands to exceed $1 billion this year. The disruption caused by the Coronavirus is expected to weigh on the growth we had planned in the balance of the year. That said, we have thousands of dedicated employees on the front line everyday representing our brands and serving the needs of all families with young children.

I'm grateful to all of our employees for supporting Carter's through this significant disruption in their lives and livelihoods. With their support I believe Carter's will outperform the market through this pandemic, emerge stronger from it, and continue providing the very best value and experience in young children's apparel.

Richard will now walk you through the presentation on our website.

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

Thank you, Mike. Good morning, everyone. I'll begin on Page 2 of our materials with our GAAP income statement for the second quarter. We delivered a much stronger quarter than we had expected. Net sales were $515 million down 30% from last year. Reported operating income was $21 million down 68% and reported EPS was $0.19, compared to $0.97 a year ago.

Our second quarter reported results for 2020 and 2019 contain some unusual items, which we have detailed on Page 3. We have treated these items as non-GAAP adjustments to our reported results for greater comparability. And this year second quarter these items include COVID-19 related expenses, store lease impairments and organizational restructuring costs. Recall that in the first quarter we had additional meaningful charges related to goodwill and intangible asset impairments. My remarks today will speak to our results on an adjusted basis, which excludes these items.

Turning to Page 4 on our adjusted P&L for the second quarter. Again net sales were $515 million, down 30% from last year, due to lower sales across the business with the most significant sales declines occurring in our stores and in our wholesale channel due to COVID. As Mike said, a real bright spot in the quarter was exceptionally strong demand in e-commerce with triple-digit growth in both the US and in Canada. While gross profit was down because of the decline in sales, gross margin rate improved by 170 basis points driven by improved realized pricing and good progress in moving through our excess inventory.

Royalty income declined to $4 million from $10 million last year, due primarily to store closures in both the retail and wholesale channels. Royalty income was also down due to business model changes, including product category and sourcing.

We managed expenses well in the quarter. We're spending down about $70 million year-over-year. Spending was lower across most expense categories particularly store expenses given the closures in the quarter, as well as lower spending on distribution, freight and marketing. Operating expenses related to e-commerce such as fulfillment costs were up versus last year given the significant growth in sales in this channel.

Adjusted operating income was $41 million, compared to $64 million last year. We achieved an adjusted operating margin of 8%, which was down only 70 basis points, compared to 8.7% in the second quarter of last year. Below the line, interest expense was $15 million, up from $9 million last year due to higher borrowings on our revolving credit facility and new financing executed in the quarter.

Our average share count was 4% lower, compared to last year driven by share repurchases in 2019. As part of our liquidity improvement initiatives we suspended share repurchases in the first quarter. On the bottom line our adjusted earnings per share were $0.54, compared to $0.95 last year. Again these results were substantially better than we had expected.

Turning to Page 5 with some balance sheet and cash flow highlights. We ended the second quarter with a very strong balance sheet, which reflects in part our improved inventory position and working capital initiatives. Our total liquidity at the end of the quarter was substantial $1.5 billion in total. We had $1 billion of cash on hand and approximately $500 million in available borrowing capacity under our $750 million revolving credit facility.

Our Q2 accounts receivable balance declined 1%, compared to last year. We believe the quality of our receivables is high. Majority of the Q2 balance is comprised of receivables from retailers, whose operations have been less affected to-date by COVID-19. Quarter-end net inventory declined 4%, compared to last year, which was substantially better than we had previously forecasted. As discussed, our sales were higher than anticipated. We've also made good progress working through excess inventory.

In our last update, we told you we were tracking to about $110 million of inventory, we were planning on packing and holding for sale next year. Principally because of accelerated demand from some of our wholesale customers this balance is now approximately $70 million. We believe our inventory quality at the end of the second quarter is high with known issues appropriately reserved, given our improved inventory position, our reserves for inventory were approximately $10 million lower than at the end of the first quarter.

Based on our current outlook for the business and given the significant steps we took to reduce second half inventory commitments, we are planning that net inventories will be lower year-over-year at the end of both the third and the fourth quarters. Accounts payable were approximately $460 million at quarter end, compared to $233 million a year ago. This increase reflects the successful extension of payment terms and rent deferrals.

We received excellent support from our vendors and our landlords as we've managed through the extraordinary challenges presented by this pandemic. Long-term debt increased to approximately $1.2 billion up from approximately $600 million in last year's second quarter.

In May, we executed a very successful financing transaction raising $500 million in new senior notes. These notes carry a coupon of 5.5% and mature in 2025. Factoring in our significant cash position, our net debt was $232 million actually down, compared to the end of second quarter last year.

While our forecast did not indicate the need for incremental financing, we thought it was prudent, given the uncertainty surrounding the pandemic to take advantage of the opportunity to further bolster our liquidity. We saw excellent demand for our transaction and we achieved essentially an investment grade covenant package. We used the proceeds of the new notes to pay down a good portion of the outstanding balance on our revolver.

As we told you on our last update, we've received strong support from our bank group, which approved waivers of financial covenants under our revolver for the balance of 2020 and relaxed covenants for most of next year. Based on our current outlook we anticipate that we will have more than adequate liquidity to manage our operations and importantly we'll be able to continue to invest while our business and the broader marketplace begin to recover from COVID-19. First half operating cash flow was strong at nearly $240 million, up from $104 million last year as our working capital and liquidity initiatives have more than offset lower earnings.

Now moving to Page 7 with a summary of our segment results for the second quarter. As we've said, our consolidated sales were down about $220 million. This was actually just about the decline we posted in store sales, which was offset by over $100 million of growth in US e-commerce sales. Wholesale and international segment sales also declined in the quarter.

Consolidated profitability was down just over $20 million with a 70 basis point decline in our consolidated adjusted operating margin. We saw operating margin declines in the US retail and international segments and operating margin expansion in US wholesale, which I'll describe more fully in a moment. Corporate expenses were well managed during the quarter, down $8 million versus last year and unchanged at 3.6% of consolidated sales.

Turning to second quarter results for the US retail segment on Page 8. Total segment sales declined 25%, compared to last year reflecting the significant disruption from store closures in the second quarter. After closing all of our stores in mid-March for the safety of our customers and employees, we began to gradually reopen stores in early May. Re-openings accelerated in June and we ended Q2 with approximately 97% of our stores opened for business.

We saw good demand in stores once they reopened. After reopening stores collectively comped up 8% in the second quarter with strong conversion and higher transaction values more than offsetting declines in traffic. We had particularly good momentum later in the quarter with June retail comps up over 18%.

As we said e-commerce demand was very strong in the quarter with comparable sales increasing 101% over last year. During the quarter we saw significant acceleration in omni-channel activity including orders picked up by customers in store and orders shipped to consumer's homes from our stores.

US retail adjusted segment income is $33 million in the second quarter, compared to $50 million last year. This lower overall profitability was principally due to the store closures and expense deleverage. As Mike commented, we saw meaningful improvement in the profitability of e-commerce in the second quarter driven by the significant increase in sales, improved price realization, and expense leverage.

On Page 9, as our stores have reopened, we've been focused on providing the safest possible environment for our customers and employees. We're practicing good social distancing and have increased our cleaning protocols. Like most other major retailers, we've also adopted a masks for all approach in our stores.

On Page 10, we've been leveraging our existing and new omni-channel capabilities. In the second quarter, we fulfilled approximately 13% of online orders through our stores. This metric was as high as 30% at certain points during the quarter. The ability to leverage our stores provided a much needed capacity boost as we constrained activity in our principal e-commerce distribution center. We continue to see an increasing proportion of customers, who want to pickup their online orders the same day by visiting their local store. We've also begun to make curbside pickup available at our stores, which is obviously a great appeal given the current environment, this service is currently available on approximately 500 stores.

On Page 11, in recent months, we've all become familiar with the reality and the need to wear masks. Our design, merchandising, and supply chain teams have collaborated to develop a line of face masks for children. This work was performed on an extremely accelerated timeline and these products have become instant best sellers. We've received very favorable feedback from consumers particularly regarding fit, quality and value with a price point of $3.

On the next several Pages, we have updates on some of our recent marketing activities. Our marketing team has been working over time and finding new and innovative ways to connect more closely and in a more meaningful way with our customers. We leaned into brand building moments in our marketing during Q2 knowing that families were craving emotional connection, moments of joy and support especially in these troubled times.

We believe that the Carter's and OshKosh brands occupy a unique place in the hearts and minds of parents. This is a competitive advantage for our company and one which we intend to develop further throughout 2020 and beyond. As you'll see our efforts are focused on the digital space specifically creating virtual communities of families with the young children.

On Page 12, we've recapped our recent partnership with Kelly Clarkson, who joined us in hosting a virtual baby shower for moms whose showers were canceled, because of COVID. This was all part of our declaration of May as the month of mom. We also partnered with some other leading brands including Huggies, Kohl's and Johnson & Johnson to create an event, which resulted in 1.3 billion earned media impressions and which was featured on the Kelly Clarkson Show on July 14th.

On Page 13, we also leveraged the strength and heritage of the OshKosh brand in the second quarter. OshKosh has a long history of standing for fun and play. As we previewed with you on our last call, we held Camp OshKosh online from mid-June through early July. This was a virtual camp with a variety of different activities for kids. This event was another way to support families after distance learning for the school year ended and given that many in-person camps have been canceled around the country. This event also had a celebrity tie-in with actress Molly Sims serving as our host. Camp OshKosh drove incredible engagement from our fans and all of this events online content was created by our own employees working from home.

On Page 14, we wanted to highlight our company's response to the tragic event in Minnesota and the resulting social unrest we've seen across the nation in recent weeks. Our messaging here on social media emphasizes our support for diversity and inclusion and states our absolute commitment to fighting racism.

In recent weeks, we've also engaged our employees in a number of discussions reinforcing our commitment to diversity and inclusiveness as a company. These have been very positive and constructive conversations, which have reinforced our winning company culture and which have provided us with valuable insights as we seek to make our company even better.

On Page 15, June was pride month. Our social media postings celebrated pride and were consistent with our company's stated mission to serve the needs of all families with young children. And we also featured some beautiful product part of our pride inspired collections.

Now turning to Page 16, for a recap of US wholesale results for the second quarter. Net sales declined 34%, which reflects the fact that many of our wholesale customers closed their stores for much of the second quarter and canceled or delayed planned shipments from us. In Q2, we saw continued good demand for our exclusive brands sold by Amazon, Target, and Walmart. These retailers along with several other of our customers were able to keep their stores open during the pandemic. Much like in our own retail business, many of our wholesale customers saw strong demand in their online businesses in the second quarter, while their stores were closed.

We were able to support strong wholesale online demand for our products, which we've estimated grew over 100% in Q2. US wholesale adjusted segment income was $29 million in the second quarter, compared to $35 million a year ago. Segment margin was 19%, up 360 basis points, compared to 15.4% last year. This improvement was driven by lower inventory related charges as our current and projected excess inventory positions have improved and we had lower sales to off-price retailers.

Moving to Page 17 and second quarter results for our international segment. International net sales were $47 million, compared to $82 million in the second quarter of last year. Similar to the US, the decline in sales was due to store closures in Canada and Mexico and lower wholesale shipments both as a result of the worldwide pandemic. We saw good growth in online sales in both Canada and Mexico. E-commerce is a new business for us in Mexico and we've seen consumer demand in this channel ramp-up much more rapidly than we had anticipated.

The pace of store reopenings in Canada lagged the US somewhat. All Canadian stores have now reopened and we've seen a good rebound in store sales since reopening. Beyond our businesses in Canada and Mexico the rest of our international business largely relates to wholesale relationships around the world. Business with our multinational wholesale customers such as Walmart, Costco and Amazon has been good.

As in the US these retailers have been able to keep their businesses up and running around the world. The remainder of our business with our international partners has been under more pressure as these largely smaller retailers have been challenged by economic conditions in their individual markets including managing through the effects of a stronger US dollar. Our international segment posted a loss of $3 million in the second quarter, compared to income of $4 million last year largely due to the effects of the pandemic related store closures.

On Page 18, 2020 was intended to be another good year of investment in the business. When the extent of the potential disruption from COVID-19 became clear, we revisited our planned spending. We scaled back spending on some projects and deferred others entirely. Given the strength of our performance in the second quarter and our improved outlook for liquidity, we believe we have an opportunity to lean into our investment agenda a bit more than we had envisioned a few months ago.

We believe our ability to invest in the business is a competitive advantage with so many others having to cut back right now. Some of the key areas of investment are summarized on this page. They range from continuing to develop our marketing, e-commerce and omni-channel capabilities to accelerating work around further optimizing our cost structure and long-term distribution capacity.

And finally on Page 19, given the continued uncertainty surrounding the pandemic, we're not providing specific financial guidance this morning. It's important to remember that the second half has historically been the most significant part of the year in terms of overall sales and profit contribution. We expect that COVID-19 will continue to have a significant impact on our operations in the second half.

We expect it will be profitable in the third and fourth quarters albeit not at the same levels as last year. And we're monitoring a number of risks right now, most notably, we're watching trends in consumer traffic to our stores especially given the backdrop of increased COVID-19 cases around the country. We're also mindful of overall economic conditions, including unemployment and consumer confidence, which may fluctuate as we move through the second half of the year.

In the appendix of the presentation we have included information on our year-to-date performance and some other supplemental schedules, which we hope you will find helpful.

And with these remarks, we're ready to take your questions.

Questions and Answers:

Operator

Thank you. Ladies and gentlemen, at this time the floor is opened up for your questions. [Operator Instructions] Our first question comes from David Buckley with Bank of America.

David Buckley -- Bank of America Merrill Lynch -- Analyst

Good morning, guys. Thanks for taking my question. First off, how were sales with your exclusive brands in 2Q, compared to the rest of the wholesale channel? And then could you discuss in a little bit more detail the improved profitability in the wholesale channel during 2Q. How much was due to lower sales to off-price? And just how should we think about margins in the channel for the remainder of the year?

Michael D. Casey -- Chairman and Chief Executive Officer

Yes, as far as exclusive brands in Q2 our sales to exclusive branded customers were actually higher in Q2 than they were last year. So the remainder of the account base was obviously lower. Our Skip Hop products were comparable to last year. In terms of margin, we had good margin performance overall. There was also an inventory adjustment made, which positively impacted the margins.

David Buckley -- Bank of America Merrill Lynch -- Analyst

Okay. And then just, have you -- what have you seen in states with recent surge in virus cases. Have you seen a material drop-off in store performance in those states?

Michael D. Casey -- Chairman and Chief Executive Officer

Your connection isn't 100% clear, but your question in terms of are we seeing a drop-off in states where there has been a surge in the Coronavirus? Yes.

David Buckley -- Bank of America Merrill Lynch -- Analyst

Yes.

Michael D. Casey -- Chairman and Chief Executive Officer

No doubt about it.

David Buckley -- Bank of America Merrill Lynch -- Analyst

Okay, thank you.

Michael D. Casey -- Chairman and Chief Executive Officer

Thank you, David.

Operator

Thank you. Our next question comes from Paul Leju with Citi.

Kelly Crago -- Citigroup -- Analyst

Hi. This is Kelly on for Paul. Thanks for taking our question. Just want to dig in a little bit more about how you're thinking about the back half of the year. I mean, the 50% of your wholesale business with your largest customers. Are you planning that up in the back half of the year? And then when we think about the other 50% as a wholesale business just how much should we expect that to be down. And then just what are some of the other assumptions you're making about the back half of the year in order to have a profitable second half of the year? Thanks.

Michael D. Casey -- Chairman and Chief Executive Officer

I'd say collectively we're expecting growth with our exclusive brands in the balance of the year. Other wholesale customers, who had to close stores in the second quarter, we expect that they will be more conservative on their buys in the second half. We've been more conservative on buying inventory for them in the second half. So you should assume the other non-exclusive relationship, exclusive brand wholesale customers, the demand from that, we expect, will be lower in the second half. I won't comment on how much lower because it's -- there's a lot of year still ahead of us, but we're assuming in our models that demand from wholesale customers other than Target, Walmart and Amazon likely will be lower in the second half including off-price retailers.

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

Kelly to that I would add that we are expecting that the stores will continue to be under pressure. I think we've been appropriately conservative around assumptions around store traffic and comps in the stores. We've assumed continued good momentum in e-commerce. So we'll see -- we expect good growth in e-commerce sales. And then importantly we're planning for gross margin expansion year-over-year in the second half as we continue to make progress on pricing and working through our excess inventory. Those are probably the major building blocks.

Kelly Crago -- Citigroup -- Analyst

Got it. Thank you. And then just when we think about the product costs in spring. Do you expect to recognize the AUC benefit in spring next year? Or do you plan to reinvest in price to take share?

Michael D. Casey -- Chairman and Chief Executive Officer

Our expectations, the product cost for spring will be lower. We have no plans to lower prices in spring.

Kelly Crago -- Citigroup -- Analyst

Got it. Thank you.

Michael D. Casey -- Chairman and Chief Executive Officer

You're welcome.

Operator

Thank you. Our next question comes from Ike Boruchow with Wells Fargo.

Ike Boruchow -- Wells Fargo -- Analyst

Hey, good morning, everyone. Good performance in a tough market. Just a couple from me, I guess the July commentary of 90% of last year, so revenue down 10%. Is there some more color you guys could give us just maybe by channel. What exactly has transpired over the initial couple of weeks of July to get you to that 90% of last year volume overall?

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

I think I've shared, we've got a couple of days left in our fiscal month of July, and the good news is, we have a strong retail comp at this point, I think, we're up about 3%, three comp with a couple of days to go. Our online demand is -- continues to be strong double-digits, our store sales are down. As Mike said they've slowed where we've got some COVID hotspots and we've got think we bought 12 or 13 stores that we had to reclose based on COVID primarily in California, but at this point in time we've got three comp in July.

Ike Boruchow -- Wells Fargo -- Analyst

Got it. That's helpful. And then maybe for Mike or Richard. When you look out now to 2024, it's interesting, it's helpful to hear about the larger amount of store closings, so 115 to 200. I guess when you guys had given us your last longer-term view, by 2024, you were expecting e-com to reach about 42% of DTC sales. I imagine that mix is now forecasted to be higher given the ramp and closures, but could you now, kind of, give us more of an updated view on where e-com penetration could ultimately reach?

Michael D. Casey -- Chairman and Chief Executive Officer

Well we hit that -- we'll likely hit that 2024 number this year with the store closures, but my guess is, it will be -- when things settle down, my guess is that e-commerce penetration will be over 40%. There's still as I shared with you in the remarks last year about 80% of children's apparel was bought in stores. Only about 20% online. We love the accelerated growth in online, but when it comes to children's apparel, people love to go to the stores particularly our stores. It's all the things you need for a newborn to about a 10-year-old child. All the essentials -- essential core products in those early years of life.

So stores will continue to be important, but as we look at the next few years particularly we have a number of leases coming up for renewal and we have to make a decision. Do we reinvest for some portion of five to 10 years? Do we invest in capital expenditures, refresh all the point of sale. Or do we let those leases expire and search for better locations, better co-tenancy. And so over the next few years my guess is we'll probably close, probably some portion of the 80% or more of those 200 stores.

So as leases expired, the analysis we've done, there's no need to accelerate closures, but with the kick-out provisions, our average lease terms are less than 2.5 years. So we'll take advantage of those early exit options and we'll exit more stores than what we envisioned we would before the COVID experience, but with the acceleration in online demand for our brands and a more favorable real estate market going forward, we're inclined to exit some of our older store locations, ones that don't lend themselves to omni-channel services being able to pickup the product the same day after you've ordered it online and we'll search for better real estate opportunities.

Ike Boruchow -- Wells Fargo -- Analyst

Thanks, Mike.

Michael D. Casey -- Chairman and Chief Executive Officer

You're welcome.

Operator

Thank you. Our next question comes from Susan Anderson, B Riley.

Susan Anderson -- B. Riley FBR -- Analyst

Good morning. Thanks for taking my question. Nice job on the quarter. I was wondering how you're thinking about back-to-school, if schools do not reopen or maybe only reopen 50%. Maybe on the flip side though the day care is open, and that helps the non-school age children in your customer base. And then also I was kind of curious how big July normally is versus June. I'm assuming it must be bigger given that you start -- normally would start to see back-to-school pickup?

Brian J. Lynch -- President

Yes, back-to-school I would say, I think Mike commented that we're off to a little slower start as you'd expect, it's very early, but we're off to a slower start. Many of the schools if not most I think are going to go virtual. So that event where she -- where mom needs new clothes for that event as a pressing need is not there right now. So we'll see how it goes, we did cut our fall in back-to-school receipts. We also shifted out our product flows, because we had -- census was going to happen, and we shifted out our marketing we really haven't started our back-to-school marketing yet. I think it's in the next couple of weeks. We'll kick that in. So I think it's going to be a little slower.

Our actual back-to-school clothing and uniforms, it's a smaller business for us than our competitors. We're about a 50% of our businesses in baby. So it has less impact on us. But that said, I think, near-term there could be some impact on some of our playwear categories and in the OshKosh brand particularly. It's probably a situation where the demand is going to come more based on the weather changes than the actual back-to-school shopping event. And as -- if you remember in spring, when the weather turned, we saw a big surge in demand late May, June and even through July. So I think it's going to be more of a -- one, does the fall weather change you get cooler versus that impetus to run out and buy a bunch of back-to-school clothes sitting here in July and August.

Michael D. Casey -- Chairman and Chief Executive Officer

Yes, Susan, just as a reminder over 50% of our annual sales are in baby apparel. So all the everyday essentials bodysuits, wash cloths, towels, bibs, blankets. Sleepwear, huge part of our business. So that business we expect will continue to be in good demand. As Brian said back-to-school, particularly school uniforms is never a big part of our business, but as the weather turns just like it did earlier this year and just like we've seen over many, many years. When the weather turns, when people start to think about long sleeve, long pant outfitting, we typically see a surge in demand for our brands.

And let's say in recent years back-to-school for us has kind of been a diluted experience. It spreads over multiple weeks, if not months, but when the weather turns, we typically see a surge in demand. So when we update you again in October, we'll have full visibility to hopefully have -- better visibility to how we did when the weather turned.

Susan Anderson -- B. Riley FBR -- Analyst

Great, that's helpful. And then just on -- I guess market share in the quarter. Do you think that you guys gained in the quarter. I think a lot of smaller children's brands maybe had to have shut down in the quarter. And then we've seen obviously a lot of department stores shut some doors. So maybe their private label is not as prevalent, but do you think there's opportunity also looking forward to take some of that market share that's been taken out of the system?

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

So the latest data we have through the end of May suggests that we improved our market share positions through May. Again and not surprisingly because no one has, no one in young children's apparel has the relationship we have with the major retailers of young children's apparel. Walmart, Target, Amazon three of our largest customers. Kohl's one of our largest customers.

Even though Kohl's and Macy's closed their stores as we did in the second quarter. Those stores were purposed. They were shipping online purchases from their stores and the online demand from Kohl's, Macy's and others was robust. Even though they were closed, no one has those relationships like we do with the major retailers. So not surprising, we gained share. And to your point going forward my guess with more store closures, more of a shift to online customers and competitors exiting stores. We believe that's an opportunity for us to gain more share in the market.

Michael D. Casey -- Chairman and Chief Executive Officer

So the other thing I'd add that we've had a strong number one share in baby and in toddler and based on our age-up strategy, which we started to pursue about a year and a half ago for the first time, that last 12 months through May. We've gained and we now have the number one market share in the kids segment, the five to seven-year old child. So we're excited about that age-up strategy seems to be working well for us and we continue to increase the lifetime value of our customers on both a four and a seven-year basis.

Brian J. Lynch -- President

Great. That sounds good. Thanks so much guys. Good luck the rest of the year.

Michael D. Casey -- Chairman and Chief Executive Officer

Thank you very much.

Operator

Thank you. Our next question comes from John Morris with Davidson.

John Morris -- D.A. Davidson -- Analyst

Thanks. My congratulations in such a tough environment as well. E-commerce growth, as one would imagine, in this kind of an environment doing really well, but we think one of the really interesting things to track and try to get a read on is the new customer growth. And I'm wondering, if you can share with us, if you track that, if you have intelligence on it, if you can share with us the potential -- what you've seen with new customer growth on e-com through this period. I think that would be a really good way to underscore the strength of the brand. Do you have any metrics on that?

Michael D. Casey -- Chairman and Chief Executive Officer

Yes, I don't know, if we give specific metrics. I can tell you that since the stores closed, our online customers were up about 67% in the quarter. And of that, the two biggest changes were; number one, new customers, some new customers that did not shop with us before. And then also kind of the folks that only bought in stores before that shifted their spending to online. So we were happy with the performance I would say, I would concur with you, most importantly, the growth in new customers online was very encouraging.

John Morris -- D.A. Davidson -- Analyst

Okay, that's great. And my follow-up back on the gross margin strength, again, really impressive performance that it was actually up year-over-year. You've pointed to a couple of different factors here that have contributed to this price integrity, but you also mentioned the inventory adjustment. I'm just wondering, if you can bucket for me the different factors and somehow quantify the contribution or rank the contribution in terms of what has led to that gross margin strength in the quarter?

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

Sure, I'll try without being overly specific. So there are a lot of puts and takes in the gross margin line this quarter. I would say one of the big positives, is just the improvement in e-commerce margins. So that's a significant effect in the quarter. It's driven by the fact that we had higher realized pricing, a bit of a rationalization of the ineffective promotions that we perhaps had a year ago. That's probably the single biggest driver.

The next big positive would be the fact that our inventory position has improved. The fact that sales were so meaningfully above our forecast and the quality of our inventory has improved. We were able to move through a good portion of what we had reserved for. Those are the two big positive effects, I would say there is a reasonably significant negative mix effect. That's on the gross profit line, gross margin line as well. That's principally due to the fact that we had far less retail store sales, which are historically very high gross margin sales. We have a bigger mix of the exclusive brand sales in wholesale. Those are great operating margin sales, they are not as robust on the gross margin line. So I would say those are, John, the principal effects on gross margin for the quarter.

John Morris -- D.A. Davidson -- Analyst

Thanks, Richard. Thanks everybody. Good luck for back-to-school fall.

Michael D. Casey -- Chairman and Chief Executive Officer

Thank you.

Operator

Thank you. Our next question comes from Jim Chartier with Moness, Crespi & Hardt.

Jim Chartier -- Moness, Crespi & Hardt -- Analyst

Good morning. Thanks for taking my questions. Just following up on the gross margin question. Richard, given healthy inventory lower off-price sales, lower product costs. Any reason we shouldn't expect gross margin up in the back half of the year?

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

No, Jim. Right now we're planning gross margin expansion year-over-year in the second half.

Jim Chartier -- Moness, Crespi & Hardt -- Analyst

Great. And then could you just comment -- what you're seeing in sell-through at your wholesale customers, excluding Walmart and Target, since their stores have reopened?

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

I'd say it's been robust. I'd say for a number of them, they're chasing demand and wish we had more inventory to share with them. So we would say with the reopening similar experience that we had I think demand has been robust.

Jim Chartier -- Moness, Crespi & Hardt -- Analyst

Great. And then finally the transition to fall the last couple of years seems to have been a bit challenging. Some of it, I think, due to weather. But anything you guys have done from a product perspective to maybe improve your performance during the transition to the fall product? Thanks.

Michael D. Casey -- Chairman and Chief Executive Officer

Yes, I think, a couple of things. One, based on strategy, and one based on the COVID situation. We shifted our fall receipts out. We really felt that the last several years with the consumer buying trends and the heat that we brought in too much fall too early, it wasn't appropriate and the selling with soft. So we shifted fall receipt, we cut fall receipt and shifted them out. Our inventory -- our fall inventory in stores right now is down more than 50% from what it was last year.

So we've extended the life of spring, we have plenty of spring goods as you can imagine and they're selling really well. So we're really planning on selling, kind of, spring/summer mix through labor day this year and taking the pressure off having to sell traditionally fall weight goods in July and August. And I think that the fall product that we are going to bring in is more transitional in nature as we responded to the selling trends over the last few years. So we're optimistic that we'll do better. That said we did cut the inventories back and we're planning it conservatively and we'll see how the demand goes as we move through the fall season.

Jim Chartier -- Moness, Crespi & Hardt -- Analyst

Great. Thanks for the color.

Operator

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

Jay Sole -- UBS -- Analyst

Great. Thank you so much. I want to follow-up on the gross margin question. Richard, could you maybe just give us an idea what the difference in gross margin is between a retail store sale and e-commerce sale and what it was in Q2?

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

Well I would say historically there was a fairly significant delta, because the shipping cost to the consumer are reflected in the gross margin line, that was the case a year ago. That spread has narrowed significantly, because of the improvement in gross margin in the e-commerce business. So I would say they're relatively consistent for the second quarter of this year. In the past, there was a lot more daylight between the two.

Jay Sole -- UBS -- Analyst

So I guess with more of the omni-channel sales happening in Q2, buy online, ship-to-store. I assume that lowers the shipping costs which helps improve the gross margin. How do you project that going forward? I mean is the environment normalizes hopefully. Do you think people continue to use those options to fulfill their order? Or does it go back to regular shipping cost that maybe you saw last year?

Michael D. Casey -- Chairman and Chief Executive Officer

I think the trend was positive before COVID, it's accelerated because of COVID. I don't know whether it's our stores or restaurants, I think, people have gotten comfortable placing their orders online, swinging by and picking up what they need. So my guess is that trend will continue. Again we saw a surge in it and every quarter we'll update you on what we're seeing. But we're encouraging that because we want people to order online, swing by the store. It's margin accretive when they pickup the order in the store. And when they come to the store now that they're reopened, more often than not, they see something in the store that catches their eye and they increase the total purchase.

So this is why we've invested over the past few years to add these capabilities, including curbside. Curbside was accelerated that because of the COVID situation. Our retail team did an excellent job putting in new procedures to provide that experience for people, who might have a child or two sitting in the backseat instead of having them get out of the car seat and make their way into stores. They give us a call and we're happy to run the product out to the curb. So they can pickup what they need and go on their way.

Jay Sole -- UBS -- Analyst

Very interesting. Thanks, Mike.

Michael D. Casey -- Chairman and Chief Executive Officer

You're welcome.

Operator

Thank you. Our next question comes from Warren Cheng with Evercore ISI.

Warren Cheng -- Evercore ISI -- Analyst

Hey, good morning. I just wanted to follow -- ask a follow-up question on the BOPUS and curbside and ship-to-store capabilities and really ramped up in the last few months. So first how much did that factor into your decision to up that store closure plan from 115 to 200?

And second are there any metrics you can share your productivity or comps to give us an idea. Those stores that are giving a lot of BOPUS and curbside pickup? How much is it boosting the productivity of those stores?

Michael D. Casey -- Chairman and Chief Executive Officer

Yes. Well, I will tell you on the first, part of the analysis that we did, the stores that are being closed have a very low penetration of omni-channel sales. So whether they're an outlet store located 45 minutes away from where most people live, people are not inclined to swing buy and pickup the product. They'd soon have it shipped to their doors. So the omni-channel service capabilities that the acceleration of that did weigh into stores that we will close. Those that have low omni-channel penetration are more likely to be closed. And then the productivity and comps of where it's offered it's additive there's no question, it's additive.

Warren Cheng -- Evercore ISI -- Analyst

Okay, got it. Thank you. And just one clarification, you mentioned, it will be a buyer's market coming out of the pandemic for some of these real estate opportunities, but your new store plan was unchanged. Is that -- are those opportunities just not yet factored into the plan?

Michael D. Casey -- Chairman and Chief Executive Officer

Well it's early. At this point, I don't see any reason to take up the store opening plan. I think it's important for you to know, there will continue to be new opportunities for us to open stores. Consumers love shopping in our stores and in many cases where we're closing stores, it's because a newer better center has opened in an adjacent market with better co-tenancy, better access for consumers and many of these stores that we're closing are older stores and it's certainly not the same experience in a new store location. So for now the game plan is to continue to open stores thoughtfully over time. We actually slowed down the pace of store openings this year and just to see how the things settled in the post COVID environment.

Warren Cheng -- Evercore ISI -- Analyst

Thank you. Good luck.

Michael D. Casey -- Chairman and Chief Executive Officer

Thanks very much.

Operator

Thank you. Our final question will come from William Reuter with the Bank of America.

William Reuter -- Bank of America Merrill Lynch -- Analyst

Good morning. I just have two. The first is with regard to the accelerated store closures. Will this only be when leases expire? Or do you expect that some of these you may pay to get out of the leases. And I guess could this be a meaningful amount of money?

Michael D. Casey -- Chairman and Chief Executive Officer

It will be the former. It's when leases expire or there is a kick out option available to us. We've done the analysis, there's no need for us to accelerate store closures well in advance of the lease expiry date. We'll do it when the leases expire.

William Reuter -- Bank of America Merrill Lynch -- Analyst

Okay, that's good to hear. And then secondarily you were very cautious with regard to issuing debt this year to improve your liquidity, but things kind of seem OK. At what point would you consider share repurchases or other dividends etc, that would essentially reduce your liquidity?

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

Sure. Bill, I would say, first of all, we have a good portion of the year ahead of us. We have to see how the second half plays out. We do have some restrictions right now under our bank agreements that would prohibit us from distributing capital for dividends or share repurchases. If we're in such a great position as we get into next year and we have just loads of excess capital that's a discussion that we could pursue again with our bank partners and see if it would be prudent, but at the moment we are not envisioning it, that we would be distributing capital until we get into next year and have a better read on the business.

William Reuter -- Bank of America Merrill Lynch -- Analyst

Makes sense. All right. Thanks a lot.

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

Thank you, Bill.

Michael D. Casey -- Chairman and Chief Executive Officer

Thank you.

Operator

Thank you. I'd like to turn it back to Mr. Casey for closing comments.

Michael D. Casey -- Chairman and Chief Executive Officer

Thanks very much. Thank you all for joining us on the call this morning. We look forward to updating you again on our progress in October. Until then stay safe, best wishes to all of you and to your families. Good bye, everybody.

Duration: 61 minutes

Call participants:

Michael D. Casey -- Chairman and Chief Executive Officer

Richard F. Westenberger -- Executive Vice President and Chief Financial Officer

Brian J. Lynch -- President

David Buckley -- Bank of America Merrill Lynch -- Analyst

Kelly Crago -- Citigroup -- Analyst

Ike Boruchow -- Wells Fargo -- Analyst

Susan Anderson -- B. Riley FBR -- Analyst

John Morris -- D.A. Davidson -- Analyst

Jim Chartier -- Moness, Crespi & Hardt -- Analyst

Jay Sole -- UBS -- Analyst

Warren Cheng -- Evercore ISI -- Analyst

William Reuter -- Bank of America Merrill Lynch -- Analyst

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