Columbia Sportswear Co

NASDAQ:COLM

Earnings Call Transcript 2019-Q1

[Operator]

Greetings, and welcome to Columbia Sportswear Company First Quarter Fiscal Year 2019 Financial Results Conference Call. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Andrew Burns, Director of Investor Relations. Thank you. You may begin.

[Andrew Burns, Director, IR & Competitive Intelligence]

Good afternoon, and thanks for joining us to discuss Columbia Sportswear Company's first quarter results and 2019 outlook. In addition to the earnings release, we furnished an 8-K containing a detailed CFO commentary explaining our results and the assumptions behind our 2019 outlook. The CFO commentary is available on our Investor Relations website, investor.columbia.com.

With me today on the call our President and Chief Executive Officer, Tim Boyle; Executive Vice President and Chief Operating Officer, Tom Cusick; Senior Vice President and Chief Financial Officer, Jim Swanson; and Executive Vice President and Chief Administrative Officer, Peter Bragdon. Peter is not available to join us today, so I will start off by covering the safe harbor reminder.

This conference call will contain forward-looking statements regarding Columbia's business opportunities and anticipated results of operation. Please bear in mind that forward-looking statements is subject to many risks and uncertainties and actual results may differ materially from what is projected. Many of these risks and uncertainties are described in Columbia's annual report on Form 10-K and subsequent filings with the SEC. Forward-looking statements in this conference call are based on our current expectations and beliefs, and we do not undertake any duty to update any of the forward-looking statements after the date of this conference call to conform the forward-looking statements to actual results or to changes in our expectations.

I'd also like to point out that during the call, we may reference certain non-GAAP financial measures, including non-GAAP results for 2018. For further information about non-GAAP financial measures and results, including a reconciliation of GAAP to non-GAAP measures and an explanation of management's rationale for referencing these non-GAAP measures, please refer to the supplemental financial information section and financial tables included in our first quarter 2019 earnings release. Following our prepared remarks, we will host a Q&A period during which we will limit each caller to two questions, so we can get to everyone by the end of the hour.

Now I'll turn the call over to Tim.

[Timothy Boyle, President, CEO & Director]

Thanks, Andrew. Welcome, everyone, and thanks for joining us this afternoon. Building on the momentum we generated through last year, 2019 is off to a fantastic start. In the first quarter, we generated record sales, gross margin, operating income, net income and earnings per diluted share that exceeded our expectations. Given this early success and the favorable advanced 2019 fall orders, we have the confidence to increase our full year revenue and earnings outlook.

Overall, we believe our brand-led, consumer-focused strategy is stealing market share gains, and we remain committed to investing in the business to drive sustainable long-term profitable growth. In the first quarter, sales increased 8% or 10%, excluding the effect of exchange rates. Earnings per diluted share increased 39% compared to non-GAAP first quarter 2018 results. Sales growth was led by the Columbia and SOREL brands, and we're encouraged to see anticipated Project CONNECT benefits materialize, hoping to fuel a 210 basis point of gross profit margin expansion in the quarter.

Regionally, U.S. sales grew 14% in the quarter, driven by mid-teens percent growth in DTC and low double-digit growth in wholesale, reflecting strong execution in brand momentum. Favorable winter weather helped our wholesale partners and DTC stores drive end-of-season fall product sales. We've also experienced excellent early sell-through of spring 2019 products. In our DTC business, brick-and-mortar store performance as well as mid-20% e-commerce growth exceeded our expectations.

For my review of international markets, I'll reference non-GAAP constant currency growth rates, which, we believe, best reflects underlying business trends. Sales outside of the U.S. grew 3% in the quarter, led by growth across Japan, Europe-direct, Korea and international distributors, while China and Canada sales declined. Japan's mid-teens growth in the quarter reflects the long-running success of the Columbia brand in that market. Japan's growth also benefited from the onetime impact related to a key customer business model change and a favorable shift in the timing of spring 2019 shipments. We expect Japan to grow mid-single digit percent for the year.

Europe-direct generated mid-single digit percent growth in the quarter with contributions from wholesale, new DTC doors and e-commerce growth. Europe-direct is positioned to grow mid-single digit percent for the full year.

We are pleased with our performance in the Korean market, generating low-double digit percent growth as the business continues to stabilize in a declining outdoor market. We are encouraged that our 2019 guidance for Korea calls for mid-single digit percent growth, which would represent our second consecutive year of growth in that market.

Our international distributor business was up low-double digit percent in the quarter, led by our EMEA distributors. Canada posted a 1% decline in the quarter, but remains on track to generate mid-single digit percent growth for the full year. China sales declined high single-digit percent as we experienced challenges across our wholesale channel that outweighed our DTC growth. To help reinvigorate growth, we're investing in our consumer experience with store fixture upgrades, full store renovations and enhanced in-store digital capabilities. As our new China GM, John Soh, immerses himself in the business, we look forward to sharing additional updates on our go-forward strategy. While we expect a mid-single digit percent decline in China net sales for 2019, we continue to believe China represents one of Columbia's largest regional growth opportunities.

Turning to margin performance. First quarter gross margin was up 210 basis points to 51.4%, driven by Project CONNECT benefits, higher full price product sales mix in our wholesale channels, favorable foreign currency hedge rates and higher DTC sales mix.

SG&A expenses grew 8% compared to last year's non-GAAP SG&A expenses, resulting in SG&A as a percent of sales of 38.5% compared to non-GAAP SG&A as a percent of sales of 38.3% in the prior year. The biggest drivers of SG&A growth were planned investments to support our expanding global DTC operations, higher personnel expenses to support business growth and strategic initiatives as well as higher demand creation expense.

I will now review our performance by brand on a reported basis. Looking at the Columbia brand globally, sales increased 9% in the quarter. This growth was achieved via strong DTC performance and wholesale growth in the U.S., reflecting continued market share gains. On the product front, Columbia's innovative spring 2019 rainwear and Omni-Shade Sun Deflector products are receiving accolades. In rainwear, Backpacker magazine named Columbia OutDry Extreme rain jacket as offering the best protection among all shells tested in their 2019 Gear Guide, and Gear Patrol named it as one of their most innovative rain shells in their spring roundup. Men's Journal featured Columbia's OutDry Extreme reversible jacket in their article as 7 best new rain jackets to keep you dry this season. The Omni-Shade Sun Deflector PFG was featured as the lead product in the Salt Water Sportsman's magazine 2019 Annual Gear Guide. Bass Angler magazine featured the spring 2019 PFG Super Terminal Tackle shirt in their spring new product showcase issue.

During the quarter, we continue to invest in demand creation to amplify these product innovation stories and create deeper connections with consumers. We highlighted several unique digital stories of Columbia athletes, putting our products for the test. Recently, we followed China's Li Kuo and Italy's Katia Fori as they searched for terrain that will prepare them for one of the world's most prestigious trail running competitions, the Columbia sponsored UTMB trail run, that begins in Chamonix, France and spans three European countries. Collectively, our UTMB sponsorship and content has generated over $160 million impressions since 2015.

Last week, we released a new PFG digital story following angler Wesley Locke to Hawaii as she makes her first ever attempt to catch a mahi-mahi offshore on a fly. This multigenerational family story celebrates that fishing is all about the experience, and regardless of the catch, there's always something to take home with you. We look forward to sharing more compelling content and product stories like this on our recently launched PFG Instagram channel. PFG remains the unique sub-brand that differentiates Columbia year round from our traditional outdoor competitors. For spring 2019, our PFG advanced orders significantly outpaced the brand average. Early season PFG sell-through has been exceptional.

In the second half of 2019, we're planning to execute key city attack plans in New York City and Denver. We see tremendous opportunity will increase our sales and brand awareness in the Northeast, and New York City provides a global stage to highlight our brand. Denver is an ideal location to further amplify our brand presence in an important outdoor minded market. We look forward to sharing more details about these activations in the coming quarters.

SOREL sales surged 28% in the quarter, reflecting robust growth across both wholesale and DTC distribution channels. Sales growth in the quarter benefited from sales of spring 2019 product as well as strong sales of fall 2018 fashion style. SOREL's ability to be a year-round fashion footwear brand is evident in the sales trend of our spring 2019 product line, including the expanded kinetic sneaker line in the ELLA and JOANIE sandal and wedge collections. SOREL's fashion styles have done exceptionally well in the U.S., and we're starting to see the same momentum build in Canada with the selling of fall 2019 product. We remain committed to SOREL becoming recognized as a year-round fashion footwear brand globally. Given the product success and the tremendous opportunity ahead, we are investing in SOREL demand creation to build on this momentum.

At prAna, sales declined 3% in the quarter, reflecting lower wholesale and DTC brick-and-mortar performance, partially offset by e-commerce growth. From a category perspective, women's pants as well as men's and women's tees and basics performed well in the quarter. We're investing in demand creation to grow brand awareness and continue to see large market opportunity for prAna.

Now Hardwear sales declined 11% in the quarter, reflecting lower excess liquidation sales compared to the prior year. We're pleased to see growth in full price wholesale sales in the quarter. Healthy advance fall 2019 orders gives us confidence that brand will generate full year growth. With clean inventory and compelling new product and marketing, we're excited to see what our reinvigorated Mountain Hardwear brand can achieve.

I'll now quickly review our balance sheet and cash utilization. Total inventory exiting the quarter was up 28% to $521 million. This is in line with the outlook we provided on the last call for elevated inventory growth resulting from earlier receipts of fall 2019 product to improve our manufacturing efficiencies. Based on current timing of receipts and deliveries, we expect inventory growth to peak in the second quarter before moderating by year-end. Our balance sheet remains extremely strong with cash balances of over $700 million exiting the first quarter. We continue to have no long-term debt.

During the first quarter, the company repurchased approximately 200,000 shares of common stock for $19 million and paid $16 million in shareholder dividends. Exiting the quarter, we had approximately $317 million remaining under the current stock repurchase authorization. Given the substantial investments we're making in our brand-led, consumer-focused organization, I'd like to provide an update on current areas of spending. On the technology front, we continue to move forward with Consumer-First or C1, our new retail platform; and Experience First or X1, our new mobile experience. While we are continuing to work toward North American implementation of C1 in the second half of 2019, we are now working towards a phased implementation of X1, beginning with Europe-direct in 2019, followed by the launch of North America in 2020. The financial impact of these time line changes is contemplated in the financial outlook we're providing today. We're also making strategic investments across our supply chain to enable growth, improve productivity, enhance service levels and add capacity throughout our distribution and fulfillment networks.

Before moving to guidance, I'd like to discuss recent changes to our Board of Directors. First, I'd like to thank Ed George, who will be retiring from the Board at the upcoming annual meeting. His support to the company has spanned over 5 decades, including more than three decades serving on our board. Without the support and counsel Ed provided, as the company's banker in the 1970s, Columbia would not exist today. More than anyone, he encouraged and helped us to build, in his words, a fortress balance sheet that has enabled us to prosper through good and bad times. I'd also like to highlight two new additions to our board, Sabrina Simmons and Kevin Mansell. Sabrina, who previously served as the CFO with Gap, Incorporated, brings a wealth of global retail experience and insight managing a multi-billion dollar global apparel business that will help inform our strategy during this period of rapid retail change. Kevin, who most recently served as Chairman, CEO and President of Kohl's Corporation, will provide a unique and powerful mix of retail experience and wholesale perspective from his tenure leading and growing one of the largest department store chains in the U.S. Thanks, Ed, and welcome Sabrina and Kevin.

I now would like to provide some detail on our upcoming 2019 financial outlook. Based on first quarter performance and the completion of our fall 2019 wholesale order taking process, we now anticipate 6.5% to 8.5% sales growth. Compared to 2018 non-GAAP results, we now expect gross margin to improve by approximately 80 basis points with the largest driver of year-over-year improvement coming from Project CONNECT benefits. Given our accelerated level of investment in our strategic priorities, we expect SG&A to deleverage, resulting in flat to 20 basis points of contraction in operating margin compared to 2018 non-GAAP results. This equates to operating margin guidance of 12.7% to 12.9%. Together with the benefit of full ownership of our China business, we expect earnings per share of $4.40 to $4.55, up 10% to 13% from 2018 non-GAAP results.

For the second quarter, we anticipate mid-single digit percent net sales growth and earnings per share of breakeven to a small loss. Please note, the second quarter is our lowest volume sales quarter. The timing of product shipments and expenses can cause reported results to be materially different than our financial outlook. You'll find more details on our Q1 results and 2019 financial outlook in Jim's - CFO commentary furnished to the SEC on Form 8-K and published on our website.

In summary, we believe, our profitable growth trajectory and fortress balance sheet provide a foundation of strength and confidence, from which we will continue investing in our strategic priorities to drive brand awareness and sales growth through increased focus demand creation investments; enhance consumer experience and digital capabilities in all of our channels and geographies; expand and improve global direct-to-consumer operations with supporting processes and systems; and invest in our people and optimize our organization across our portfolio of brands. We're making these investments to enable sustainable long-term profitable growth, make us a more efficient company and drive market share capture across our brand portfolio and geographic regions.

We'd be happy to entertain your questions for the balance of the hour. Operator, could you help us with that?

[Operator]

[Operator Instructions]. Our first question comes from the line of Bob Drbul with Guggenheim Securities

[Robert Drbul, Guggenheim Securities]

Andrew, you did an okay job on the safe harbor.

[Andrew Burns, Director, IR & Competitive Intelligence]

Thank you.

[Robert Drbul, Guggenheim Securities]

I guess, Tim, the first question I have really is when you look at your order book, look at how the first quarter materialized, you look at your order book what's really transpired, can you just give us conservatism around the risk that you see for the rest of the year? You're off to a great start. And I guess, just from the order perspective and the order book that you see, how conservative do you view the rest of the year?

[Timothy Boyle, President, CEO & Director]

Bob, we've been at this for - this is our 21st year of being a public company. We've always tried to look at all the factors here involved with guiding. And we have lots of work to do throughout the balance of the year. So we believe this is our best look at what we think will happen. And you know obviously, there's lots of puts and takes, and weather can be impactful. And we just want to make sure that we've got all the variables collected and we've given investors our best shot at the future.

[Jim Swanson, SVP & CFO]

And Bob, this is Jim. I might just add. Obviously, as it came through the fourth quarter last year, very favorable selling environment. And so as we've put the outlook together for this year, we're certainly taking a more normalized approach with where that - how we're thinking about the business, particularly in the fourth quarter.

[Robert Drbul, Guggenheim Securities]

Got it. And I guess, just on the inventories, can you just put a little meat around the components there? Just - I think, it clearly is how you guys said it would be, but just can you help us with a little bit more, I don't know, like the buckets on the inventory, or how do you - what you see from that perspective as well?

[Jim Swanson, SVP & CFO]

Yes, let me frame this up, Bob, this is Jim. When we look at the underlying composition of the inventory increase, as Tim indicated, the lion share of our inventory is really comprised of current season spring and current season fall inventory. And similar to what we thought the end of this last year, in which we received our spring '19 inventory earlier in order to alleviate some of the manufacturing capacity constraints and drive some of the cost efficiencies that we're seeing in our margin from a Project CONNECT standpoint, you're effectively seeing that same thing here in the first quarter, in which we are much more heavily received in the production and timing of fall '19 receipts are falling into the first quarter. And then to a far lesser degree, do we see an increase in the aging and the excess of our inventory. And as we sit here today with those - with the levels that we do have, we're certainly comfortable with our ability to liquidate that through the combination of wholesale and the outlook channels that we have.

[Robert Drbul, Guggenheim Securities]

Got it. Okay. Tim, I just have a tough question for you. So with Kevin Mansell on your board, do you think your orders from Kohl's are going to go up or down versus when he was running this...

[Timothy Boyle, President, CEO & Director]

We spent quite a bit of time on-boarding Kevin and the word Kohl's never came up.

[Operator]

Our next question comes from the line of Laurent Vasilescu With Macquarie.

[Laurent Vasilescu, Macquarie Research]

I think it was noted on the last call that Columbian products should grow in mid-single digit rate and then Mountain Hardwear should grow at a double-digit rate. With the annual top line guidance up, just curious to have updated thoughts on those numbers.

[Jim Swanson, SVP & CFO]

Yes. So we continue to see growth really across the brand portfolio. I think, as we look at both the first quarter results coupled with where we see the fall '19 order book coming in, certainly a lot of strength out of both the Columbia brand and the SOREL brand. Columbia is probably tracking relatively close to the overall company outlook that we've provided. Certainly, SOREL is a standout. And as Tim touched on, while Mountain Hardwear brand is down in the quarter due to liquidation of excess inventory that we've done in the prior year. As we look at the balance of this year, we would anticipate Mountain Hardwear returning to growth in a pretty meaningful way. And then with prAna despite the Q1 decline, we are anticipating prAna to be in a - growing on the year as well.

[Timothy Boyle, President, CEO & Director]

Yes. It's important, as it relates to Mountain Hardwear, that we recognize the turnaround effort that's ongoing there. And really comparing against prior periods where we were in heavy liquidation mode, that is a bit of disservice to the brand's underlying strength.

[Laurent Vasilescu, Macquarie Research]

Okay. Very helpful. And then I want to follow-up on gross margin. It was up nearly 200 basis points. I think you guys are guiding for about 80 bps of expansion for the full year. How do we think about the cadence versus first half, second half? And then as it relates to gross margin, Jim, correct me if I am wrong, but I was thinking this - your CFO commentary, it's the first time that you called out that Project CONNECT is a benefit to your quarterly gross margin result. And if that's the case, any sense of the magnitude, was it half of the 200 basis point increase?

[Jim Swanson, SVP & CFO]

Yes, good question. Certainly, as we look at the performance in the quarter, the 210 basis points of margin improvement that we achieved, well over half of that is Project CONNECT and that's the great work that the teams have done over the course of 1.5 years that's encompassed the work we've done around assortment optimization, designed to value some of our retail-based initiatives. In the quarter, there's a handful of other things that are contributing to the margin expansion, including currency and sales mix and so forth. But certainly as we look at the balance of the year and the full year outlook at plus 80 basis points, we offset there because we do feel like - we do feel a lot of that continued strength for Project CONNECT throughout the year, but back to the favorable selling environment and less promotional activity that we have in the fourth quarter of 2018, the outlook is really reflecting more of normalized view on that fourth quarter. And then to a lesser degree, well, currency and our full price close-out mix were bit of a tailwind in the first quarter. We would anticipate those having more of a neutralized effect when we look at the full year.

[Laurent Vasilescu, Macquarie Research]

That's great. And then Lastly, I think, on the last call, you guys called out China was about 6% of your 2018 revenues. I think you're equating to about $170 million. While the Winter Games at Beijing are still three years away, how do we think about the revenue size opportunities over the next few years for that business?

[Timothy Boyle, President, CEO & Director]

Well, we think, China can really be the largest single territory or geography for the company. There's enormous opportunity there. Especially when you consider that the Chinese government would like to overinvest in the Winter Olympics, they're going to be opening something like 300 ski resorts for the local Chinese sportspeople to be involved in. So we expect that over time that would be a spectacular part of the business. But we think in addition to the outerwear opportunities, there are very significant footwear and sportswear opportunities in China for the company. We just - we need to get it right and we're continuing to invest to make sure that happens.

[Laurent Vasilescu, Macquarie Research]

That's great. Congrats, again, on the fantastic results.

[Timothy Boyle, President, CEO & Director]

Thank you.

[Operator]

Our next question comes from the line of Susan Anderson with FBR Capital.

[Susan Anderson, B. Riley FBR, Inc.]

Congrats on another great quarter. I was wondering if maybe you could talk a little bit about your thoughts around pricing? With the Columbia brand obviously doing so well particularly in the U.S. and the growth there and just the inventory being pretty clean, is there opportunity to maybe start to throw up the prices there versus kind of where your peers are at?

[Timothy Boyle, President, CEO & Director]

Yes, thanks. Well, we believe that as we continue to invest in our brand acceleration and demand creation that we're creating more power for pricing through the Columbia brand. We've also seen the effects of the innovation that we've been still heavily invested in, which gives us the opportunity to sell products, which - well, we own the IP and can really highly differentiate our products from others. And examples of that would be obviously Omni-Heat in the wintertime, but OutDry Extreme, which is - it's a brand new method of waterproof breathable construction, which is ours exclusively as well as the sun deflector, Omni-Shade Sun Deflector product, which we developed in-house. And these give us the price - the opportunity for pricing power to improve our business. Now we have a belief in the slots where our garments should be priced, and we try to maintain those slots as much as we can. We believe there is continued power for pricing. And again concentrating on the balance sheet for the company, we have the ability to invest in additional inventory and accelerating the inventories to arrive earlier to flatten out some of the peaks that have previously been in our construction schedules to give ourselves the opportunity to have a higher margin and for our factory partners to also make more money on the company's products.

[Susan Anderson, B. Riley FBR, Inc.]

Got it. That's helpful. And then just one follow-up. Maybe if you can talk a little bit about Europe. I think, it was positive mid-single digits, excluding the currency impact. But maybe just your thoughts there. Are there any macro concerns or any slowdown that you're seeing, given the macro? And then also maybe if you could touch on Canada a little bit and the negative growth there?

[Timothy Boyle, President, CEO & Director]

Sure. Well, as it relates to Europe, we believe, it - again, a terrific opportunity geographically for the company. We're a small player in most markets in Europe, and we believe we have the opportunity pan-European to be a much bigger player there. There was some impact on Brexit with our results in Q1 as well as some of the activities of the yellow vest people in France, which is our biggest market. So we should be growing faster there, in my opinion, but that's what we ended up with. We have a great team in place and great products, and we're anxious to see that business continue to grow. Canada had a tough first quarter. It's winter weather impacted the sales of spring products a bit there. But, we believe, again, from a historical perspective, it's a terrific market for the company and one that we should do very well in.

[Operator]

Our next question comes from the line of Mitch Kummetz with Pivotal Research.

[Mitchel Kummetz, Pivotal Research Group]

Tim, on the fall orders, I know when you reported last quarter, I think, you were about 75%, 80% complete collecting those orders. I would assume that you're done now. I'm just wondering if the order book changed much from last quarter, this quarter, if it got a little better?

[Timothy Boyle, President, CEO & Director]

Yes. We have new orders every day and cancellations every day. So in general we had good - a good thumbnail on where we were going to end up at the last call. But it's continued to strengthen and gives us the opportunity to be confident in the guidance we've given today. We're pleased that we believe we're gaining market share, and again we hope that the indications we have on pricing power are going to continue. We've got big investments planned for demand creation and that will be - that plus the unique product that we've got developed will be hopefully quite well received by consumers.

[Mitchel Kummetz, Pivotal Research Group]

Got it. And then on Q2 guidance, I know it's a little volume quarter that makes it pretty volatile. I'm just wondering why Q2 '18 kind of - isn't the new normal. You guys had a really strong Q2 last year. Was that quarter abnormally strong? If I recall it correctly, there was some shift in the sales from Q1 to Q2, I think, May and June were really good months in retail last year. I'm just wondering if that - it's the reason you're guiding the way you are versus a pretty strong earnings quarter last year there, if that was just an abnormally strong quarter that's just really tough to lap.

[Jim Swanson, SVP & CFO]

Yes. Mitch, this is Jim. Again, we'd emphasize it's such a small quarter. And any shifts from a revenue standpoint with relatively fixed cost base can create quite a bit of volatility from an overall profitability perspective. And then, yes, as we look back on Q2 of '18, there certainly were some timing shifts that made that quarter a standout after basically, I think, a decade of having losses in the second quarter. Certainly, we'd like to more consistently deliver profits in the quarter, but nothing of concern as we look at our outlook for the second quarter of this year.

[Operator]

Our next question comes from the line of Chris Svezia with Wedbush.

[Christopher Svezia, Wedbush Securities]

And my congratulations as well. I just want to follow up on a prior question. Just regarding the second quarter. is that also potentially reflecting a higher rate of SG&A spend and that's part of the reason why it's sort of more of a breakeven kind of quarter, maybe a little bit of money, just kind of curious about the SG&A cadence in terms of findings with...

[Jim Swanson, SVP & CFO]

Yes, absolutely, Chris. I meant to catch that when Mitch did ask the question. But certainly as our business began to accelerate last June as we commented on it and the reinvestment of a lot of the benefits we're earning from Project CONNECT, we picked up that rate of SG&A investment. And so certainly that's impacting the Q2 of this year from an outlook perspective.

[Christopher Svezia, Wedbush Securities]

Okay. Got it. And just on the benefits on gross margin related to Project CONNECT, I'm just curious, Q1, obviously, you saw a substantial improvement and reflected in the gross margin. Is Q3 also potentially the quarter where you can see a more material, maybe similar to Q1 in terms of that improvement just based on sell-in of full orders and full product? Just kind of how do I think about where project impact - Project CONNECT impact - could impact the quarterly results?

[Jim Swanson, SVP & CFO]

Well, I think the Project CONNECT impacts. We should generally see that more consistently across each of the quarters. And so any difference between first quarter and the balance of the quarter is going to be other factors that are contributing towards those changes. And so whether that's currency, which is a slight tailwind in the first half of the year and will become a - that will become a bit more of a headwind in the back half of the year and the favorable selling environment that we talk from the fourth quarter. It's going to be more of those shifts. The Project CONNECT side of the benefit for both, our spring and fall '19 seasons, I'd anticipate a nice improvement in the gross margins on that basis.

[Christopher Svezia, Wedbush Securities]

Okay. And then, Tim, for you, just last question here. Just on the - really good success last year doing Houston and Chicago, sort of kind of the key attack markets, I think, Houston was PFG, and I think Chicago was more of your fall, winter product. Just when you think about Denver and New York for this year, anything you plan on doing differently, any learnings that you picked up, just how do we think about this and maybe little more color about timing, where they fall in the back half of the year specifically?

[Timothy Boyle, President, CEO & Director]

Sure. Well, let me talk about Denver first as that most closely connects with Houston and Chicago from a cost perspective. So we'll probably be much more visible there to the average consumer than we will be in New York, which is an incredibly expensive market. So we find when we really concentrate our marketing efforts in markets like specifically those two, then we get a much larger return. So it gives us the opportunity to not only have out-of-home marketing and other sort of more typical, we can also add in the digital marketing and get people to walk into one of our customer stores and buy some products based on their geographic location. So it's likely that we'll have good results, we believe, in both of those markets and it's - again, it's a matter of focusing our efforts there to try and make a higher - make us more visible than we otherwise would be in those really critical markets.

[Christopher Svezia, Wedbush Securities]

Okay. And is - and are they both - is one Q3, one Q4, is that - how about the time line...

[Timothy Boyle, President, CEO & Director]

No, sorry. They'll both be late Q3 into Q4, just we got to try and catch the turn of the weather is what our plan is.

[Operator]

Our next question comes from the line of Jon Komp with RW. Baird.

[Jonathan Komp, Robert W. Baird & Co.]

I wanted to just follow up on the first quarter and the outperformance versus what you had guided to. It looks like you beat on the top line a little bit and you beat on the bottom line by quite a bit versus what you expected. So any more color on kind of where you're surprised sales or margin in the quarter?

[Jim Swanson, SVP & CFO]

Yes, I mean, really from our perspective, relative to the outlook that we had coming into the quarter, Jon, is really a top line story. We - the sales results particularly for the U.S. business for both the Columbia brand and the SOREL brand, strong within both wholesale and the direct-to-consumer. And so - and then to a lesser degree, some gross margin benefit. But the rest of the P&L generally in line with where we anticipated it being. And so we passed on a fair amount of that benefit into our full year outlook, while at the same time realizing the difficult comps and so forth that we've got in the fourth quarter and normalizing our forecast for those effects.

[Jonathan Komp, Robert W. Baird & Co.]

Understood. And that's actually part of the follow-up I had then. So the earnings beat in the first quarter, it looks like you're not fully flowing through. So I just wanted to maybe reconcile that with the positive commentary about the order book? And if there's any other offsets to call out in the balance of the quarter?

[Jim Swanson, SVP & CFO]

Nothing of note. I mean, the take-up and the outlook is predominantly reflective of the top line. So a combination of the Q1 to be coupled with the strength in the order book that Tim touched on. Aside from that, obviously passing on some of the gross margin beat as margins were healthy in the first quarter. And then, I think, we took up the SG&A a bit, reflective of, in part, some of the variable base spend, and then to a degree as we extended certain of the timing out on various of our projects, including C1 and X1 that - we reflected those effects in our outlook as well.

[Jonathan Komp, Robert W. Baird & Co.]

Understood. Then maybe just one other bigger picture, maybe for Tim. Just stepping back and looking at the U.S. performance and projecting the second year of double-digit growth, is there anything that's changing in [indiscernible]? And now that you have a lot more than marketing and product and a lot of the Project CONNECT benefits in place, just how are you thinking about kind of the sustained growth rate, especially with two really encouraging [indiscernible] here?

[Timothy Boyle, President, CEO & Director]

Well, thanks. I mean, it's been a lot of hard work from many of the team members obviously to get ourselves to this position. We believe there's a tremendous amount of growth left in the U.S. market. We have basically distribution in every customer that we want distribution in the U.S. We'd like to have a lot more. And there's room for us to grow in almost every retailer we sell to. And that's, as you remember, the focus of our business is historically and continues to be wholesale. The other thing that gives us a lot of opportunity is our footwear business. So we've made big investments in people and design, talent and marketing in footwear, which has been an area, where, we believe, the commodities get right for our special kind of innovation. And so that's where I expect our business will grow the fastest is in the footwear category in the U.S.

[Operator]

Our next question comes from the line of Camilo Lyon with Canaccord Genuity.

[Camilo Lyon, Canaccord Genuity Limited]

Really nice job.

[Timothy Boyle, President, CEO & Director]

Thanks.

[Camilo Lyon, Canaccord Genuity Limited]

I had a follow-up question on the inventory. Would you be able to give us color on the split of that inventory? In other words, how are you thinking about the composition of that inventory by channel? So what you are setting aside for your wholesale partners versus what your own expectations are for DTC?

[Timothy Boyle, President, CEO & Director]

Yes, as you know, with our wholesale business, we operate on our advance order system. So basically the merchandise has been committed by our wholesale customers for 60 days, at least, maybe longer in some cases. So that merchandise is all satisfied for them. As it relates to our own DTC business, we have estimates, which will include weekly - daily sales on various product categories and that's how we've allocated the inventory for those businesses. To the extent we have variations in either the taking of the orders by our wholesale customers or shortfalls with our own DTC business, we - having the ability to liquidate errors in estimation in our own stores gives us a lot of confidence to be comfortable with our inventory position at this time.

[Camilo Lyon, Canaccord Genuity Limited]

Great. Is there a way to put some sort of quantification around what you just said? In other words, if more 2/3 is wholesale, 1/3 DTC or how - just trying to understand the thought process...

[Jim Swanson, SVP & CFO]

It'd be hard - Camilo, it'd be hard to do that. It reflects more or less what you see in terms of the top line proportion adjusted obviously for wholesale versus retail pricing. And then I think just one other follow-up comment, certainly to the degree we've got excess inventory, we're managing that on much more of an omnichannel-type basis and managing the demand as we see it between the various distribution channels.

[Camilo Lyon, Canaccord Genuity Limited]

Got it. And then my second question is on brand creation. You talked a lot about increasing your marketing spend, and I think you're starting to see some benefits from that. I was curious, if you could maybe give us some color on the channels that you're seeing the most traction? And also if you're starting - if that's starting to inform more of who you are attracted to the brand in an integrated way, so are you seeing traction on the social front, or are you using more traditional mediums? How is that playing out from your customer perspective?

[Timothy Boyle, President, CEO & Director]

Yes, I would suggest that the bulk of our marketing spend is going to be focused on the digital area, where that's a digitally operating in an environment where we can show a TV commercial in a specific location, et cetera. That's where we think the science of social media and the digital world can help us to be much more efficient with our spend. So I would point out as examples to that. We're doing an Instagram channel, I think we may have talked about in the script just now, where we can really merge those people who have contacted the company via e-mail, whether or not they're interested in purchasing some products or just learning about over PFG product, we can approach them directly in a much more efficient way that we - than we could if we were buying a traditional television broadcast channel ad. So I would see the bulk of our spend will be in that area, where we can really scientifically approach those consumers. And again, I believe that we're moving slightly younger on our customer base, especially in PFG, but it's - we're not trying to avoid any particular customer at this time, in terms of how we buy the media.

[Camilo Lyon, Canaccord Genuity Limited]

Okay. Great. That's fantastic. And then just finally, on the order book, now that you've gotten full visibilty or near full visibility into it, as you think about the conversations that you've had for the past you know what four-or-so months with your wholesale partners, given that there's such clean inventory and the channel exited the first quarter with really got clean above any sort of lingering post-Christmas inventory, clearly, there's obviously a desire to order up just to maintain kind of a flattish sort of dollar relative to last year or even more up to grow. So the question is, how do you moderate sort of - how do you moderate there maybe optimism or overoptimism without any sort of visibility into what the weather really will play out as?

[Timothy Boyle, President, CEO & Director]

Right. Well, we've been at this for quite some time, 20 years as a public company and 20 years prior to that really as a private company. And we've learned over the years that it's not good for us to oversell a retailer. So we spend a lot of time with each one of our wholesale partners, finding out if we're getting an order of significant increase because it's coming from somebody else who is open to buy or is it just the particular retailer might expect business to be exceptionally large. We would caution that retailer to avoid any risk-taking, which, we believe, is outside the norm. So again we've been at this a long time, and we believe that we have a good handle on the speed and cadence of which we should get increases. And so we're mindful of that, and we have serious conversations with retailers about their demands.

[Camilo Lyon, Canaccord Genuity Limited]

Have you had to tamp down some of those expectations a little bit?

[Timothy Boyle, President, CEO & Director]

Yes, from time to time. Yes, it happens, for sure.

[Operator]

Our next question comes from line of Jim Duffy with Stifel.

[James Duffy, Stifel, Nicolaus & Company]

Couple of questions for me. First on China, another on strategic opportunities with Project CONNECT. With China, Tim, clearly, you're bullish on long run opportunities for the size of the business. With the model and the go-to-market strategies, where do you see the long run margin opportunity for the China business as it scales?

[Timothy Boyle, President, CEO & Director]

Yes. It's really - when we look at the China market across the other areas where we distribute, it's one of the highest profit margin territories for us. And that's because we entered the market there at a very premium space and it gives us pricing power in that market that we don't have in some other emerging markets. So we're pretty pleased that it gives us the ability to invest pretty heavily in new stores and store remodels and openings, and probably we could be criticized for not being - for not quickly enough refreshing that store fleet there. So we believe that, that's going to be, again, as I said, a great market for us and one that's highly profitable. I think you had a second question - sorry, Jim.

[James Duffy, Stifel, Nicolaus & Company]

Well, just sticking with that one for a moment. I presume there will be some investment there as you take it over that works against the margin. Should we think about China being an opportunity for margin expansion with scale?

[Jim Swanson, SVP & CFO]

You know. Jim, maybe to jump in. In terms of investments that we would make in the China market to the degree, there, investments are going to be much more from a commercial demand creation, some of the fixturing and so forth that Tim touched on. As it relates to the infrastructure, and so forth over the last five years, we've operated a joint venture. We've migrated all of the people, systems, process, just all infrastructure to support the China business over there. We do not anticipate incremental investment associated with kind of the back of house in the administrative side of operating in China.

[James Duffy, Stifel, Nicolaus & Company]

Okay. And then - next question. I know it's been a few years since you've been active in M&A. You've recently been through a lot of internal exploration. Unlocks from Project CONNECT are beginning to show in both the revenue and the margin. I'm curious, should we think about the foundational efforts of Project CONNECT as a strategic platform that you guys can apply to potential acquisitions and does that at all increase your appetite for M&A?

[Timothy Boyle, President, CEO & Director]

Well, Jim, as you know, we never comment on any particular activity in that area. However, we're only 18 months really into Project CONNECT and we certainly have - we consider ourselves to be well along, but not completely - we haven't seen all the fruits of Project CONNECT. And we are working diligently to make sure that those expertises are well established before we do much more than just focus on our own issues. I think, as you know, I've said many times, we're really much better off spending time and improving the businesses that we already have versus exploring unknown territories.

[Operator]

Our next question comes from the line of Rick Patel with Needham & Company.

[Rakesh Patel, Needham & Company]

And congrats on the strong execution, guys. Just a question on footwear. So very nice double-digit growth there and you cited strength in PFG and SOREL. Can you talk about any geographic - any variations in geographic performance that you saw with North America versus Europe? And as we think about this category long-term, can you talk about the potential to expand into Asia? I think you've mentioned China earlier, but just some context on what you need to see before moving forward with that?

[Timothy Boyle, President, CEO & Director]

Sure. When we look at the category globally, it runs in the neighborhood of 20% of total sales. But our European penetration in footwear is actually higher than the average across the company. So when we think about areas of - where the company can naturally play, it's really about trail activity, trail running and then our very successful winter product business. So those are sort of the three areas on the Columbia brand. SOREL obviously is really focused on, in addition to its historical presence in the winter boot business, the move in which has frankly been quite successful to a year-round business for that brand, which will allow us to really fully develop its potential globally. We have a - we have customers who would like to buy that product globally in many different parts of the globe, but they really want to have a full year-round business first, and then we're just now getting to the point where we can show that happening.

As it relates, again, to geographies, I would expect our biggest successes in high-volume footwear would be in North America, and with primarily our existing customers who are currently buying our products and our footwear products. They're just not buying as much as we'd like them to. So our goals over the next several years are going to be really earn our spots there by having highly differentiated products that reflect the company's values and performance features and with hope that we can do in footwear what we've done in an apparel, which is develop innovative solutions that are ours to own. And the team is highly focused on getting this accomplished.

[Rakesh Patel, Needham & Company]

Can you also talk about the rollout of Consumer-First, perhaps some context on the investments that are being made? And where do you see the low-hanging fruit to improve engagement? And at what point would you expect this to be a needle mover for the business?

[Thomas Cusick, EVP & COO]

This is Tom speaking. So on C1, we're running our brick-and-mortar business in North America on fairly old systems. So the intent there is to modernize the systems and improve the consumer experience. As it relates to X1, we're really focused on migrating to mobile first architecture.

[Operator]

Our next question comes from line of Michael Kawamoto with D.A. Davidson.

[Michael Kawamoto, D.A. Davidson & Co.]

Just to build on C1 and X1, can you just talk about your thought processes of how you're ruling them out geographically, starting with U.S. in C1 and Europe for X1. Just curious why you chose to start with Europe for X1?

[Jim Swanson, SVP & CFO]

Primarily, Europe for X1 is because Europe is really the smallest business for the X1 system and it's dependent on the SAP system. So there's a lot of variables here.

[Michael Kawamoto, D.A. Davidson & Co.]

Okay. Got it. And then DTC and e-commerce continue to be a bigger and bigger piece of revenue. Do you have any targets or thoughts on where do you think that heat of the business could go over the next, call it, few years?

[Timothy Boyle, President, CEO & Director]

Well, again, we hope that it will continue to grow, but its percentage of the business is going to be depending on how great a job we do, A, with our footwear business, and, B, with continuing to improve our products and raise the level of awareness and demand for the company's products. So we expect that our own business will grow, but how fast it becomes a bigger part of the business is really a function of how well we do with the other parts of the business.

[Operator]

Our next question comes from the line of Paul Lewis with Citi.

[Paul Lejuez, Citigroup]

Paul Lejuez. Just curious if you can maybe talk a little bit about what drove your bricks-and-mortar store performance from a traffic versus ticket perspective? Also curious if you saw a negative impact on the DTC business from the Easter shift, if there is any quantification there?

[Timothy Boyle, President, CEO & Director]

Yes, I mean, we noticed across the global nature, especially North America and Europe switch from in timing of the Easter holiday. But again our performance across our products in our own stores as well as the wholesale partners that we have, and you might remember that we monitor about 85% of the sales in the U.S. of our products. And so we saw a continued strength across the markets, almost absent the change in Easter holiday.

[Jim Swanson, SVP & CFO]

And then Paul, with regard to your question on the retail metric, it's not something that we've historically disclosed. The growth that we're seeing in our stores is a combination of new store openings, improvement productivity within the existing store base.

[Paul Lejuez, Citigroup]

Got you. And then also curious about on the U.S. wholesale growth. How much of that is being driven by increased sales from existing customers versus new customers?

[Timothy Boyle, President, CEO & Director]

Yes. We're currently selling basically to only customers that we've had in our fleet for quite some time. So we haven't really added any new distribution in the last several years. So we're selling everybody we want to sell in the U.S. We'd obviously like to sell more to each of them, but today we haven't added any distribution.

[Paul Lejuez, Citigroup]

Are there particular few that are really fueling the majority of the growth that you might want to share?

[Timothy Boyle, President, CEO & Director]

Well, we have, I want to say, maybe 10, 12 customers sort of in the same range, and they'd be people you might recognize in the outdoor sporting goods space as well as department stores.

[Jim Swanson, SVP & CFO]

It's pretty balanced from a growth standpoint. And when you look at the first quarter, certainly, we have - we're aided a bit in the January, February time frame with the cold weather, that enables to work through some of our fall, winter products. And then as we ended the quarter in the month of March and so forth, the spring sell-through has been solid as well. So happy with overall performance in that channel of our business.

[Operator]

Our next question comes from the line of Robbie Ohmes with Bank of America Merrill Lynch.

[Alexander Perry, Bank of America Merrill Lynch]

This is Alex Perry, on for Robbie. Congrats on a great quarter. Actually, I just have one here. Just first, Tim, I just want to follow up on your comments about the PFG business. Can you talk through how that business has been performing in both footwear and apparel? And I think you mentioned last call about that business being around $150 million? Any indication on how large the PFG business can become over time?

[Timothy Boyle, President, CEO & Director]

Well, thanks. It's really gratifying to see the business grow so nicely. It's now approximating $200 million and it really covers, in addition to apparel and footwear, we have a terrific accessory business, including headwear. So that's been great. And it really was a category of merchandise that we developed in-house, which just shows you how important it is to be first movers and to really own some of these spaces. It really is an area where we have very little of our traditional outdoor customers operating. So as it relates to PFG, we think that we can spread that business all the way from a more traditional crappy style garment, all the way to casual lifestyle garments and then all the way into performance based on rainwear or in the case of footwear demanding offshore category. So we believe that has a tremendous amount of ability to grow. And again, as it relates to a unique position in the market, it really can be something that we can own and really drive that business significantly.

[Operator]

We have reached the end of our question-and-answer session. I now would like to turn the call back over to management for closing remarks.

[Timothy Boyle, President, CEO & Director]

Well, thank you all for listening in. We've had a great time, and thanks for the compliments on the quarter. We're looking forward to talking to you, again, at the end of next quarter.

[Operator]

This concludes today's teleconference. You may now disconnect your lines at this time. Thank you for your participation.