Here are the highlights for shareholders.
1. Key brands are performing well
[O]ur active business increased almost 20% for the quarter, an acceleration of the year-to-date trend. Both apparel and footwear categories in active were strong, and this was driven by large increases in both Nike and Adidas as well as continued strong performance from Under Armour. We continue to gain market share in active. We expect a very strong holiday performance in both active apparel and footwear categories.
-- Chairman and CEO Kevin Mansell
As a clothing retailer, Kohl's is ultimately only as strong as the brands it offers in its stores. That's why it should come as great comfort to Kohl's investors that apparel from Nike (NYSE:NKE), Under Armour (NYSE:UA) (NYSE:UAA), and Adidas (NASDAQOTH:ADDYY) appears poised for a solid holiday shopping season.
It's been a brutal year for Under Armour. The once hard-charging sports apparel company's shares have been hammered as its growth has slowed in recent quarters. So Kohl's investors are likely breathing a sigh of relief that its partnership with Under Armour still appears to be off to a solid start. It's also reassuring that sales of Nike products have likewise been strong, especially with concerns growing that the sports apparel titan's recent deal to sell more of its goods on Amazon.com could dent sales of its products at traditional retail locations. Better still, Adidas adds another popular national brand and a third leg to Kohl's activewear business, which is further helping to drive sales in this key category.
2. Omnichannel initiatives are gaining steam
[W]e continue to make great progress in delivering a best-in-class omnichannel experience. Online generated demand sales grew 15% for the quarter, and we continued to grow the percentage of those online orders that are fulfilled by stores. Stores fulfilled 30% of the total units for the quarter with both [buy online, pickup in store] and Ship from Store growing significantly compared to last year.
The retailers that win in this new era will be the ones that successfully integrate their online and in-store operations into a seamless omnichannel shopping experience. Kohl's is working to strengthen its pickup-in-store and ship-from-store abilities to 1. drive traffic to its stores, 2. add an additional layer of convenience for its customers, and 3. improve the efficiency of its shipping and fulfillment operations. Kohl's hopes these efforts will help to boost its in-store sales and increase the profitability of its e-commerce business.
3. Yet these investments are coming at a cost
Our gross margin rate decreased 30 basis points for the quarter. The positive impacts of less clearance markdown levels were more than offset by higher shipping costs due to growth in our online business.
-- CFO Bruce Besanko
Kohl's e-commerce investments are weighing on its profits, with shipping costs in particular taking a toll on its margins. This is a necessary evil, however, as Kohl's has little choice but to offer convenient, low-cost shipping options if it is to compete successfully in the current retail arena, in which more and more sales are migrating online.
4. Leaner inventories equal greater cash flow
[O]ur standard-to-small store strategy continues to drive lower inventory levels and is resulting in improved profitability in over 300 of our stores. ... inventory per store at the end of the third quarter was down low single digits and is expected to be down mid-single digits at the end of the year. This is our seventh consecutive quarter of lower inventory per store. And on a two-year stack basis, our inventories are down in the low teens. More importantly, we still believe we have the ability for future multiyear contraction in our average inventory per store.
The more efficient Kohl's becomes at managing the inventory levels at its stores, the more valuable its business will be. This is because intelligent and efficient management of working capital helps to free up cash that can be used to create value for shareholders in other ways.
5. Capital returns
We repurchased 1 million shares of our stock during the quarter, bringing our year-to-date total to 7.3 million shares. ... [O]ur board declared a quarterly cash dividend of $0.55 per share. The dividend is payable on Dec. 20 to shareholders of record at the close of business on Dec. 6.
Kohl's is using its bountiful free cash flow to gobble up its own stock. This serves to reduce the number of its outstanding shares, and therefore tends to support its stock's price by boosting earnings per share. In addition, Kohl's $0.55 quarterly dividend payout equates to a hearty 4.9% annual yield at today's $45 stock price. These capital returns will likely be a significant portion of Kohl's investors' total returns in the years ahead.
John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Joe Tenebruso has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends AMZN, Nike, Under Armour (A Shares), and Under Armour (C Shares). The Motley Fool has a disclosure policy.