Lululemon Athletica Inc LULU
Q2 2011 Earnings Call Transcript
Transcript Call Date 09/09/2011

Operator: Good day, ladies and gentlemen and thank you for standing by. Welcome to lululemon athletica Second Quarter 2011 Results Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. As a reminder, this conference may be recorded.

I would now like to introduce your host for today Mr. Joe Teklits with ICR. Sir, please go ahead.

Joseph Teklits - ICR: Okay, good morning. Thanks for joining us today for lululemon's second quarter 2011 results conference call. A copy of today's press release is available on the Investor Relations section of the Company's website at or furnished on Form 8-K with the SEC and available on the Commission's website at Also available in the Investor Relations section of the Company's website will be a recording of today's call which will be available for 30-days as a replay shortly after we end.

Hosting the call today is Christine Day, the Company's CEO; and John Currie, the Company's CFO. We would like to remind everyone of course that statements contained in this conference call which are not historical facts may be deemed to constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual results might differ materially from these projected in such statements due to a number of risks and uncertainties, all of which are described in the Company's filings with the SEC.

With that, we'll turn the call over to Christine Day.

Christine Day - CEO: Thank you, Joe. Good morning, everyone and thank you for joining us to discuss our second quarter results. With me today is John Currie our CFO. Following my opening remarks I will turn the call over to John to review the financial details for the quarter and outlook for the third quarter and full year.

Our business remained very healthy through the second quarter and in the first half of 2011 we have achieved milestones for our company in sales productivity and operating margin, while growing pre-tax income by more than 60%, and more importantly our success continues to be based on running a healthy, brand focused business that consistently delivers product quality and innovation along with the great guest experience, attributes that we are passionate about that has enabled us to build the brand recognition and win the loyalty of our existing customers.

So, not only are we growing nicely, including revenue growth of almost 40% in the second quarter, we also continue to invest in the strong foundation for building long-term success and we believe that we are well positioned to continue our growth initiatives despite any potential recessionary retail environment and product inflation headwinds. Adding to a major initiative earlier this year, which was transitioning our e-commerce platform in health, we also continue to advance on a number of fronts.

First, we took the next step with ivivva with the launch of our new ivivva e-commerce site in Canada, with the U.S. to follow late fall, ivivva is all about dance, movement and fun, and we are excited to bring this to life for Canadian girls nationwide with our new online store that captures the vibrant colors and technical features of the product assortments as well as other cool features on the new site. Also for ivivva, we are developing a new line in partnership with Disney consumer products for spring 2012 providing girls with dance-inspired athletic wear that fits their active lifestyles and ties back to the Disney Channel dance comedy series 'Shake It Up'.

Next, we are rolling out Australian stores at a more rapid pace this year than originally planned, now seven stores versus an original plan of two. We are very confident in our ability to continue to grow the Australian business given the strong guest response to the brand and business results, and the great team that we have in place there. We also continue to make new hires and investments and to spend on building our infrastructure for e-commerce international and other expansion plans in order to prepare for the future. Beginning next year, you will see us add additional country sites to our e-commerce along with other grass root strategies to (seed) the markets, while remain focused on the large opportunity we continue to have in the U.S.

Another major initiative for us has been improving our inventory flow. We have achieved one of our objectives, which is to be inventoried in our core and key items. Our inventory position on new and seasonal items is still a little lighter than we would like it to be for Q3 and we will continue to build levels in those categories throughout the quarter.

Our focus going forward will be on-time deliveries and the flow of new styles for the optimum mix of color, seasonal items and innovation. This matches our new product initiatives which are focused on technical product, news applications, as well as new features within our basic such as the new seaming technology. (indiscernible) of this merchandises an opportunity for us in the remainder of 2011 and 2012, especially in Canada where our customer gravitates towards anything new that we introduce.

Looking at the second half of the year, we believe we can grow pre-tax income by close to 30% on top of strong growth a year ago despite product cost pressures. We have worked hard to develop a winning formula. We are going to stick with it and continue to make it even more prudent as we develop new areas for growth.

As we said on our last call, we are confident that we are strategically positioned to manage through the current economic environment. We see many opportunities ahead and we are in a position to pursue them in a sensible way. We've started to balance the expansion of our brand with integrity of our brand and with the end result being long-term shareholder value creation.

Now, over to John.

John E. Currie - CFO: Thanks, Christine. I'll begin by reviewing the details of our second quarter 2011, and then I'll update you on our outlook for the third quarter and the full year fiscal 2011.

On June 8, our shareholders approved our proposed two-for-one stock split which took effect in early July. But please keep in mind that all comments with regard to share count and per share amounts in our results and outlook are now on a post-stock split basis.

The second quarter, total net revenue rose 39.5% to $212.3 million from $152.2 million in the second quarter of 2010. The increase in revenue was driven by comparable store sales growth of 20% on a constant dollar basis the addition of 18 net new corporate owned stores in North America and three stores in Australia since Q2 of 2010. Direct to consumer sales which increased by $8.9 million driven by increased traffic and conversion and a stronger Canadian and Australian dollar which had the effect of increasing reported revenues by $8.3 million or (4.1%).

During the quarter, we opened eight corporate-owned lululemon stores in the U.S. and one in Australia. We ended the quarter with 151 total stores versus 130 a year ago, 147 of which are corporate-owned and four franchised stores all in the U.S. There are now 117 stores in our comp base, 40 of those in Canada, 68 in the United States, and nine in Australia.

Corporate-owned stores represented 83.9% of total revenue or $178.2 million versus 85.1% or $129.4 million in the second quarter of last year. Revenues from our direct to consumer channel totaled $18.6 million or 8.8% of total revenue versus $9.6 million or 6.3% of total revenue in the second quarter of last year. Other revenue which includes franchise, wholesale, showrooms and outlets totaled $15.5 million or 7.3% of revenue for the second quarter versus $13.1 million or 8.6% of revenue in the second quarter last year.

Gross profit for the second quarter was $122.1 million or 57.5% of net revenue compared to $80.3 million or 52.8% of net revenue in Q2 2010. The factors which contributed to this 470 basis point increase in gross margin were as follows; product margin improvement 210 basis points, higher product costs due to inflationary pressures from raw material and labor, along with higher air freight to accelerate product deliveries, were more than offset by fewer marked ends and discounts associated with strong product sell through and improvements in duty rates and other input costs.

Leverage on non-merchandise costs such as occupancy depreciation and product and supply chain team costs, including efficiencies from our new U.S. distribution centre, contributed 160 basis points of improvement, in foreign exchange a improvement of 100 basis points due to stronger Canadian and Australian dollars.

SG&A expenses were $62.6 million or 29.5% of net revenue compared with $46.1 million or 30.3% of net revenue for the same period last year. The 35.9% SG&A dollar increase is due to an increase in store compensation and operating expenses associated with new stores and showrooms and growth at existing locations, an increase in head office employee cost, including management incentive-based compensation, stock base compensation and other head office costs as a result of the investment in people and systems needed for long-term growth, and finally, the higher Canadian and Australian dollars which increased SG&A by $2.5 million or 4.1%.

These increases were partially offset by cost efficiencies gained as a result of transitioning our e-commerce platform to our in-house model. As a percent of revenue, our second-quarter SG&A decreased by 80 basis points due mainly to the e-commerce operating cost improvement following this transition. As a result, operating income for the second quarter was $59.5 million or 28% of net revenue compared with $34.2 million or 22.5% of net revenue in 2010.

Other income, including net interest expense totaled $0.6 million compared to $2.1 million in the second quarter of 2010. The decrease was primarily a result of an accounting gain recorded in fiscal 2010 relating to our acquisition of a controlling interest in the Australia business during the 2010 quarter.

Tax expense for the quarter was $21.5 million or a tax rate of 35.7% compared to $14.6 million or a tax rate of 40.3% in the second quarter of 2010.

Net income for the quarter was $38.4 million or $0.26 per diluted share. This compares with net income of $21.8 million or $0.15 per diluted share for the second quarter of 2010. Our weighted average diluted shares outstanding for the quarter were 145.2 million versus 143.5 million a year ago, which has been adjusted for the two-for-one stock split.

Capital expenditures were $12.5 million in the second quarter relating to new store build outs, existing store renovations and IT capital expenditures. We ended the quarter with $264.7 million in cash and cash equivalents. With respect to our inventory position, as Christine mentioned, throughout the second quarter, we continued to improve our product flow and in-stock position.

Inventory at the end of the second quarter was $88.9 million or 34% higher than at the end of the second quarter of 2010. Having said that, a portion of this inventory increase comes from higher product costs as opposed to higher quantities on-hand, so the actual units available for sale coming into the third quarter are up by a lesser amount over the prior year. Our inventory quantities have and will continue to improve with stronger inventory inflow as the third quarter progresses.

This now leads me to our outlook for the third quarter of 2011. This assumes the Canadian dollar at par with the U.S. dollar compared with an average exchange rate of $0.97 in Q3 of 2010. We anticipate revenue in the range of $225 million to $230 million. This is based on comparable store sales percentage increase in the low to mid teens on a constant-dollar basis, compared to the third quarter of 2010.

We plan to open 11 lululemon stores in the U.S. and three in Australia during the third quarter. On September 2, we closed on the acquisition of the three Colorado franchise stores, so going forward, these stores will be accounted for as corporate stores.

We expect slight gross margin compression versus the third quarter of 2010, driven by higher product costs from sourcing pressures in both labor and raw materials as we previously discussed. We've made a strategic decision not to pass on higher product costs to the guest through higher pricing. Sequentially, from Q2 2011, we expect gross margin to decline as we seasonally move towards our fall merchandise, which carries a lower merchandise margin along with the return to more normalized markdown levels associated with more sufficient inventory levels.

During the third quarter, we expect to continue to see cost efficiencies as a result of the transition of our e-commerce platform to an in-house model, but at the same time we will be increasing our reinvestment back into the e-commerce business to develop the necessary foundation to achieve the potential growth trajectory of this channel.

Our SG&A will also reflect higher store level compensation designed to attract and retain the best staff, pre-opening costs related to the 14 stores plan to open in Q3 and additional stores plan to open in early Q4. Additional resources at our head office to continue to drive longer term scalability and growth. As a result, we expect SG&A as a percentage of revenue to slightly deleverage against the third quarter 2010.

Assuming a tax rate of 36% and a $145.5 million diluted average shares outstanding, we expect earnings per share in the third quarter to be in the range of $0.22 to $0.24 per share. For the full fiscal year 2011, we anticipate we will open a total of up to 35 corporate-owned stores, including Australia and ivivva locations.

As Christine mentioned, the increase over our previous target of 30 stores for this year, comes from five additional openings planned for Australia, as a result of the strong momentum of the business there. We expect net revenue to be in the range of $930 million to $950 million for the fiscal year representing revenue growth of approximately 30% over 2010.

For the year, we expect gross margin to increase slightly from fiscal year 2010, due mainly to leverage gained in the first half of 2011. As we've discussed on previous earnings calls sourcing pressures are expected to be greater in the second half compared to the first half of 2011, and we expect it will account for approximately 225 to 250 basis points of gross margin compression relative to the back half of 2010. We also expect to see more normalized markdowns with inventory levels at more appropriate levels. This will be offset by leverage on fixed costs such as occupancy and depreciation, more so in Q4 than Q3 due to seasonality of sales volumes.

Keep in mind also when we transition into fall and winter there is a seasonal mix shift in our product assortment that will result in lower merchandise margins compared to the first half of 2011. Adding this all up we expect our second half gross margin to be in line with our historical targets in the low to mid 50s range. We do expect, however, to enjoy leverage on overall SG&A as we gain cost efficiencies from the transition of our e-commerce platform for our in-house model and leverage on our SSC cost in place, offset by higher store compensation designed to attract and retain the best staff, and investments to continue to drive longer-term scalability and growth. So, as a result, overall, we expect our operating margin to leverage slightly over 2010.

We expect 2011 fiscal year earnings per share to be approximately $1.10 to $1.14 up from our previous guidance of $1.05 to $1.08 on a split adjusted basis. This reflects the beat of $0.04 in Q2 and an additional $0.02 from improved expectations for the second half of the year. This is based on the 145.4 million diluted weighted average shares outstanding and it assumes an effective tax rate of 36%.

We expect capital expenditures to be between 113 million and 108 million for fiscal 2011 reflecting the purchase of our Store Support Centre of 65.1 million plus closing costs in the first quarter as well as new store build outs, renovation capital for existing stores, IT and other head office CapEx.

With that, I'll turn it back to Christine.

Christine Day - CEO: Thank you, John. As always, I'd just like to thank all of our educators and managers for making these results possible as well as a big shout out to our e-commerce team for all of the work they did with the transition and how happy we are with the transition with the e-commerce launch and excited about some of the initiatives that we have happening for Q3.

So, with that, we'll open it up for questions.

Transcript Call Date 09/09/2011

Operator: Michelle Tan, Goldman Sachs

Michelle Tan - Goldman Sachs: So, Christine, I was wondering you mentioned some of the new innovations that you've rolled out some of the late '08 seaming and things like that. I was wondering if you could just give us a little more color on the kind of things you've added in over the last couple of months and what the response has been and then just an update on what you're seeing out of some of the newer markets that you've opened up in the U.S. over the last six months?

Christine Day - CEO: Maybe I'll start with the third one. In the U.S., the business has just been phenomenal and the new markets are opening in, including and particularly, the Midwest area, the guest (just fits in) has been phenomenally responsive, so we are very happy with the productivity of our new stores and just in general very happy coast-to-coast with where the U.S. business is and the growth that we're seeing there. In terms of new product innovation, first we are just happy to have really great product in the stores, I think us and our guest are very relieved to see the level of product that we have and in the men's business right now, particularly we have got some great product in in the outerwear that we are very excited about, this is the best man's presentation we've had all year and with that I may turn it over to Sheree to talk about some of the other products such as we have bike pod, and other things in the quarter.

Sheree Waterson - EVP, General Merchandise Management & Sourcing: As Christine just mentioned, we had a cycling capsules which did very well and we continue to see leverage our learnings from these capsules and put those into both our yoga and our run technology. On a technical front, we have more (indiscernible) technology that we've ever had before, which is laser cutting and gluing, laser cut venting and mesh technology, along with more seamless technology and something that we're (indiscernible), which is ultra-light jackets, ultra-light run skirts and ultra-light run tops. So those have all been very well received.

Christine Day - CEO: The issue is more of those items.

Michelle Tan - Goldman Sachs: John, can you put any color around the comment on the Midwest just in terms of level of initial volume relative to the U.S. or some kind of metrics so we can understand the performance there?

John E. Currie - CFO: As I said last quarter, we're opening new stores. It's hard to extrapolate when the store has only been opened for a few weeks, but we're opening stores in the U.S. and the Midwest in the $1,000 to $1,100 or higher per square foot trajectory. The U.S. average is now up well over $1,300 a foot, so it's as you had expected – 75% to 80% of the more mature U.S. store base, which is a great place to start and will contribute to high comps going forward.

Operator: Janet Kloppenburg, JJK Research.

Janet Kloppenburg - JJK Research: I did have a couple of questions. It seemed to me that the merchandise margin improvement in the second quarter was higher or greater than it was in the first quarter. I was wondering, if you could talk a little bit about what drove that even though you had air freight and I think your product cost pressure was greater in the second quarter than it was in the first quarter, and so I like to learn a little bit more about that. Also, on the new product that's coming in, I'm wondering about the cycling category and if that will be developed into a full scale business category as we move forward for both men and women? I was also wondering, Christine, if you could talk about the success of the Hong Kong showroom, and if that could lead to some other international showroom development this year?

John E. Currie - CFO: So, maybe I'll start on the gross margin question. Actually, the inflationary pressure on our gross margin was similar in Q2 to what it was in Q1. Q2 I think wasn't resolved better than what we had expected was, we continued to see very little if any markdown and that made a huge contribution to the product margin in Q2. In addition, I mean, there is a number of smaller items. We've been working on the efficiency of our duties. There are efficiencies through shifting to other countries and the way we characterize our buys from our buyers, we can reduce duties and that's starting to benefit our gross margin.

Janet Kloppenburg - JJK Research: That's something that continued to benefit the gross margin, John, helped to offset some cost pressures?

John E. Currie - CFO: Yeah, for the most part that should continue.

Janet Kloppenburg - JJK Research: on the cycling and...?

Sheree Waterson - EVP, General Merchandise Management & Sourcing: I have to say, we love cycling. We absolutely do, because of the fact that it's a multipronged type of business it's commuting, it's road biking, it's skins and all of that. The capsules have been successful. We have a strategy to leverage e-commerce for this as well so that we can show our cycling capsules for a longer period of time. Right now, for the next couple of quarters, we are just going to be leveraging the capsule strategy that we have, which is, infusing our current assortment with drops quarterly or twice quarterly and stay tuned.

Janet Kloppenburg - JJK Research: Christine on Hong Kong?

Christine Day - CEO: On Hong Kong, we did move the showroom because we moved our office to a bigger location. So, we are no longer on the 14th floor of a dental building. We are in a main office area, which did take it a little bit out of the retail traffic area. So, we are looking at that from – to put a second one in that's maybe closer back to the business trade area. That said, we want to make sure that we are really ready from a systems and operating perspective to support the volume that we know that would do. So, our constraint isn't market opportunity, it's just making sure we don't do things that distract from building the operating capability. Kathryn Henry, our new CIO, is working very hard to deliver a tremendous amount of capability in our supply chain and operating systems, and we don't want to distract from that effort by adding too early things that would not allow us to be successful.

Janet Kloppenburg - JJK Research: So, this will be (at for) international showrooms this year.

Christine Day - CEO: This year.

Janet Kloppenburg - JJK Research: What about products costing Sheree? We are hearing that cotton has come down quite substantially for the first half of next year, and I am wondering what you are seeing and (indiscernible) benefit with outsourcing cost next year.

Christine Day - CEO: Sure. Cotton is coming down, but as I mentioned in the last call, we are not at cotton house or a technical house. So, the benefits of that we might be seeing more elsewhere than lululemon, but we are obviously seeing those benefits. But additionally, we continue to invest in technology, so one thing that you'll see is more innovation in terms of our effective line and so on and so forth. So, you'll see some of that gain offset by additional investment in technical products.

Janet Kloppenburg - JJK Research: Has there been any relief on the technical side of the cost that you've been investing in?

Christine Day - CEO: Some.

Operator: Lorraine Hutchinson, Bank of America-Merrill Lynch.

Paul Alexander - Bank of America-Merrill Lynch: This is (Paul Alexander) for Lorraine. Could you guys give us a little bit more color around the third quarter comp guidance? Its acceleration from the first half and I think that make sense given the difficult comparisons, but what else goes into that, what else are you contemplating, are you seeing anything in the macro environment or in the competitive environment. Then can you remind us what the inventory position was like last third quarter, fourth quarter were you overly lean back then as well?

John E. Currie - CFO: So, I mean, going into the comp guidance there are number of things, first of all, the stronger performance last Q3 that were lapping, I mean, that's same for Q4. In terms of our inventory position as we mentioned, maybe a little bit later than we like to have been at the start of the quarter, but it definitely is improving through this quarter and through the rest of the year. As always our guidance, our outlook is influenced by what's going on in the macro economy, we all read the headlines. Having said that, we are not saying that we're seeing that in our business, but we're just being cautious of what's going on in the world. From a competitive point of view, as always we're watching the competition, we're aware of them. We are not seeing any measurable impact from the competition.

Paul Alexander - Bank of America-Merrill Lynch: Did you see anything in your business in early August, with the height in market volatility?

John E. Currie - CFO: What we saw in early August was late inventory coming into the quarter and when inventory came in our sales reflected that in fact.

Operator: Dana Telsey, Telsey Advisor Group.

Dana Telsey - Telsey Advisor Group: Can you talk a little bit about speed to market, what you're seeing there, what further opportunities there are and how it may help gross margin and inventory? You mentioned ivivva, any update there, whether it's cost on what you're seeing and just lastly you saw the operating margins by stores and direct showing terrific improvement, where do you see the opportunity go forward?

Christine Day - CEO: Maybe I'll start with the ivivva question, where we've reached some scale in that business has really helped the operating margin of the business and we have built out a team to successfully drive that business. So, especially, with going online, we're now exceeding the minimum. So, our general manager of that business Bree has done a fantastic job on building just a brand strategy that's really resonated with the guest, really firmed up the product line. So, we're very excited about where we are with that concept and the opportunities. So, we feel very positive about the business model, the brand model, and how the guest is responding to that. So, we're looking forward to expanding that concept. So, your next question Dana was on…?

Dana Telsey - Telsey Advisor Group: Speed to market initiatives?

Christine Day - CEO: If you look at our strategic plan, it's probably number of opportunities; number one and number two and number three and number four. Working on flow and being really good at flowing our business, as you know we have less inventory risk in carrying our products because we are not a fashion house. That said, it still have some long lead-times especially with the new technologies that we're developing. So, what we're focused on is putting teams to have a better planning and developing that much further in advance, so that it moves out our ability to deliver that on-time and have technical innovation. So, when we say more seasonal items for us, there are really technical innovations and designs, it's not about fashion and it's about the ability to deliver those complex items on time and quickly. We're very excited about not only the systems that we've been putting in place, the teams that we've been putting in place to do this and I think you'll see us really make great strides in that in the balance of this year and into next year, being able to deliver constant flow of new technical items to the market very quickly.

John E. Currie - CFO: Your question on operating margins, as you say, we are showing improvement both in stores and direct. With comp store sales increases and even new stores with pretty good leases we're signing, we're getting good leverage on occupancy and depreciation, so that's what's driving that. In particular, we've worked hard over the past couple of years to put caps in on our percentage rent, so there is a lot of stores now that we are hitting that cap and therefore the leverage on higher volumes drops to the operating margin. On the direct side, I think what you saw this quarter was, being the first quarter on our own platform, you are seeing the kind of flow through that we can achieve in that business, which of course excites me until Chris Ladd says that he actually has to spend some money to achieve the tremendous growth I think we can see in revenue in that channel. So, you'll probably see over the next few quarters, as I mentioned, some investment to continue to improve the website, and then even in the next year as we add country-specific sites for other countries, there will be an investment that will moderate the operating margin in that channel, but as you can see it's very strong.

Operator: Taposh Bari, Jefferies.

Taposh Bari - Jefferies: I had a question. I just wanted to follow-up on inventories. Can you just clarify for us what the difference is between some of the constraints that you are seeing or you saw in the second quarter of this year versus the first quarter? The basis of my question, just going back to, I guess it was April, on your fourth quarter call. My sense is that your inventory issues would have been resolved by the third quarter. So, has anything changed between then and now? I guess just finalizing the question, at what point do you expect your inventories to be kind of fully balanced with the strong level of demand that you guys are seeing?

Christine Day - CEO: I think where we were in Q2 was getting back in stock to meet the sales plan level that are basically in our core and what we would call key items, which are like mainly your colored tanks and your colored (core) and then we were still chasing a little bit into Q3 some of the more seasonal and some of the technical new, getting that in enough of volume to support the growth opportunity. So, that's probably where the timing in the beginning of Q3, we were still a little lighter than we wanted to be. We feel very good by the end of Q3, which we're working in right now that were there, and so we feel for Q4, we'll be in a very good inventory position, not only in volume, but in mix. And then you'll see that really be in a good position for Q1. We don't want to repeat of last year. So, we feel very good that we're in a good position for Q4 and Q1.

Taposh Bari - Jefferies: I know it's tough, is there a way to help us quantify what the impact was from the inventory issues in the second quarter versus what you saw in the first quarter, where they comparable or was the magnitude lower in the second quarter versus the first?

Christine Day - CEO: I think it was a little. It was lower than Q1.

John E. Currie - CFO: In Q1, as you recall, it's very distinct because it was, as I said back then, we started Q1 at a 20% comp, when we ran low it dropped to low double-digits. It wasn't so defined in Q2. So, we're better, it is a bit lumpy though.

Taposh Bari - Jefferies: Do you have some kind of outlook you can provide us with, where you expect inventories to be either at the end of 3Q or at the end of 4Q?

John E. Currie - CFO: I'd rather not because it's point in time and that means we have to be precise on the timing of the flow. We've got lots of inventory coming in adequate to meet our targets for Q3 and Q4, but I don't want to pin to a number at the end.

Taposh Bari - Jefferies: That's fair. I just wanted to follow-up with a second question on just geographic performance. I think it's interesting as you guys are seeing Australia outperform considering that the retail environment there has been really challenging and a lot of other companies, that are U.S. based, that are operating there are seeing weakness in Australia. So, could you just maybe talk about Canada, Australia and the U.S., and how those geographies are performing for you?

John E. Currie - CFO: Canada, as you know, we've been here for 11 years now, tremendous productivity. A lot of other retailers are calling out Canada as being a problem in the first half of the year. We're continuing to see positive comps in Canada in spite of some level of maturity here. Our business here gets even stronger when we have that new product, that innovative product come in. So, we're solid single-digit comps in Canada. In the U.S. and Australia, you're seeing similar levels of comp store increases each year and it's somewhat maxed by the overall, but both the U.S. and Australia are comping well into the 30s. So, if you just isolate those two countries, that's tremendous growth in a tough environment as you say. We again we continue to see that in spite of the macro-environment.

Operator: Paul Lejuez, Nomura.

Paul Lejuez - Nomura: Two questions, one just wondering – I'm sorry if these were asked and I missed it, but if there's been any impact from the Athleta stores opening nearby to your stores? Second, John, I'm just wondering at what point you would actually pass through higher costs to customers, higher sourcing cost that is?

John E. Currie - CFO: On the athletic question, I mean, I keep asking the same question whether that's Athleta or other competitors, and the answer is consistently there is no measurable impact. So, yeah, that's what we're seeing there. I'm sorry, what was your second question?

Paul Lejuez - Nomura: At what point would you pass through some of the higher costs that you're seeing the customers – how high would it have to get?

Christine Day - CEO: I think we're comfortable with the current level of anticipated costs and we have enough efficiency in the system and leverage that we feel that the best value for the long-term brand is to stay put. That said, what we look at is as we design a more technical garment that we do take the pricing on those. So, I think, you'll see the pricing expand in the new garments with where we have that technical value that's demonstrated for the guest and then keeping some of the core in basic at the current level of pricing unless we do specialty item for the season. So, for instance, the specialty hoodie or the fine jacket or something that has something unique in it, but keeping the basics priced well and then taking pricing in the new technical garments and probably ending up with the more on kind of blended approach.

Operator: Sharon Zackfia, William Blair.

Sharon Zackfia - William Blair & Company: Just a quick question on direct to consumer. I think, on the last conference call, you had indicated you were hoping there will be about 10% of sales for the full year. I just wanted to see how you are tracking towards that goal, if there is something you think is beatable, when all is said and done this year.

John E. Currie - CFO: Because of the transition as you recall it was something lower it was about 7.4% in Q1, 8.8% in Q2 which was lower at the start of the quarter and ended the quarter something close to that 10% level. So, with us being a little bit behind that 10% target we still feel it will be very close to that for the year but not likely to be above that for this fiscal year.

Paul Lejuez - Nomura: Then on the ivivva-Disney partnership, could you explain that a little bit more is that product only going to be sold at ivivva or is it going to be sold through any Disney channels or any kind of plan will be good?

Christine Day - CEO: We won't sell it through any of the Disney channels but we are working with them on some kind of unique opportunities which would be little more prop up or trunk show type things in the U.S. to increase our presence there. It will be sold – but it's a select number of items that it will have a tag that will indicate them as Shake It Up items and those will be available online and in our stores.

Operator: Jennifer Black, Jennifer Black & Associates.

Jennifer Black - Jennifer Black & Associates: Let me add my congratulations. You have done a great job with your jacket as far as the diversity. It looks like there is a lot more detail in your outerwear, which I just noticed you raised your price point on the new raincoats, and I wondered if you could give a little bit more color on these categories as far as will you do more outerwear, I know, it's been a small percent and then I have a follow-up question?

Christine Day - CEO: Yes, outerwear is a category that is on fire for us right now, and I guess the good question that you'd asked is, are we going to be doing more outerwear? I think we are going to be doing more variety in outerwear. Our guest is really, really responding to not only the functions, but the beauty and the novelty, I think, of some of the offerings. So, we are looking at that. There is also other types of outerwear that are coming up on our radar lately puffy's and so on and so forth that are excellent and quite (indiscernible) yoga.

Christine Day - CEO: What I will say Jennifer is get to the store early for the spring collection.

Jennifer Black - Jennifer Black & Associates: Well, you know the reason there anyway.

Christine Day - CEO: We feel sales (pricing in your area).

Jennifer Black - Jennifer Black & Associates: My follow-up, I actually have two follow-up questions you've done a great job as far as the improvements on your website and I wondered if you – there were additional improvements coming and will you have the ability at some point I don't know if you have the systems to pull inventory from the web or from other stores, will the sales associates be able to do that? Then I have one more question.

Chris Ladd - Head of Global e-Commerce: Hey, Jennifer, it's Chris. I think what you saw in Q2 was that's really settling into the platform and really understanding how the team works with it, and I think where you're seeing is focus now and to give you a preview of what's coming. Yes, look for some expanded improvements heading into holiday for the site itself. Then I think longer-term, we are looking at what are those right cross channel opportunities specifically around the inventory availability to allow our guest to find the products that they are looking for and how can we help them. So, I think, that's more of the broader kind of strategy for us, but I think you will see us focused in the short-term on improving the overall experience on and we'd be really excited to that in the short-term.

Christine Day - CEO: Chris, maybe you want to speak to our mobile app?

Chris Ladd - Head of Global e-Commerce: Jennifer, I don't know if you saw we, did launch our mobile site in the quarter and that product is already exceeding our expectations. We know that our guest list is a pretty active mobile user. She has her particular iPhone with her during the day and she's actually transacting pretty regularly on it and so we're really pleased with the progress we've made today so far there.

Jennifer Black - Jennifer Black & Associates: As far as being able to pull inventory?

Chris Ladd - Head of Global e-Commerce: I think that's a longer term strategy for us and the one that we're looking at right now. I think initially just getting the right level of product availability in inventory in our DCs to serve our current e-commerce business has been our primary focus and then once we sharpen the pencil there and get better at that, I think you'll see us expand our strategies beyond that.

Jennifer Black - Jennifer Black & Associates: My last question has to do with what your strategies are for holiday accessories, (indiscernible) accessories and any comments about holidays will be great?

Sheree Waterson - EVP, General Merchandise Management & Sourcing: I think we continue to have newness in our bags and we also – our guest loves it when we have technical run accessories that go with run technicalities that we have, so we're looking forward to doing more of that and one thing that I think we're going to capitalize on this here in addition to more variety in some of the bags and as I said the technical, is just more better outfitting that we have, which is a huge gift item, (indiscernible) so forth have been great gift giving items.

Christine Day - CEO: Just being really in stocking, bags and socks, in those items is just (indiscernible) holiday season for us.

Operator: Erika Maschmeyer, Robert W. Baird.

Erika Maschmeyer - Robert W. Baird: Could you share with us on how the U.K. is doing with your current distribution and thoughts around how you might expand that next year?

Christine Day - CEO: We've only had one strategic sales partner in the market that's gone back really four, five years now. It's in the King's Road area and has done very, very well and continues to have as the brand grows tremendous demand, and we've expanded now to several other strategic wholesale accounts similar to what we do in the U.S., so that we have a presence there, primarily for the Summer Olympics in 2012. You'll see us do some activity around that, but we're not ready to commit to opening that market until we really get our supply chain systems in place, so that we can handle the complexity that we know that that takes to execute and we're really trying not to do a lot of ancillary things that detracts from our ability to really get the infrastructure right, right now. So, even though we see tremendous opportunity in those markets and great demand coming through on e-commerce, we're trying to stay disciplined and not add anymore complexity to the work that the team is doing right now.

Erika Maschmeyer - Robert W. Baird: Then just to follow-up on your international e-commerce. Have you seen the penetration there jump and that you don't have to call customers back to confirm their credit card information?

Christine Day - CEO: Yes and happier customers.

Erika Maschmeyer - Robert W. Baird: That's definitely better. In terms of you mentioned additional resources at the head office, could you just talk about where you are prioritizing the growth now and adding in the most of the team and where you just feel like you have the most pressing hires?

Christine Day - CEO: We are definitely working in that digital space and building out Chris's team. We see tremendous opportunity on things like content and our editorial voice in the brand area, and sharing our story which we think is really critical for us, so a lot of the web infrastructure, everything from that content side, certainly the e-commerce platform and that breaks us into Kathryn's team, on the IT team, on building our depths so we are able to be self-sufficient on our systems, not as dependent on outside contractors and consultants. So, Kathryn's done a very nice job of building a team since she's got here. And then still in the design group, we see so many opportunities to be innovative and we have so many product ideas, bringing in the talent to develop those and continue to deepen our bench in the designers, which we do as a critical area. As we are growing as a Company, making sure that we have enough in our plan for succession planning at the executive and then developing the next layers is what we are really working on. So, you will just see some general staffing increases at the mid management level, but primary areas are the digital, IT, brand and product and supply chain in product. We have done a little spin around here. I look forward to the day that I am not actually a working member of the management team on a daily basis.

Operator: Edward Yruma, KeyBanc Capital Markets.

Edward Yruma - KeyBanc Capital Markets: Congrats on a nice quarter. Can you talk a little bit about the sustainability of your markdowns? I know that you've benefited clearly from having its really strong demand, but as inventory picks up and comes more aligned with your existing sales trend, do you expect markdowns to increase and pressure gross margins?

John E. Currie - CFO: Yes, absolutely. That's been the last two quarters, and the end of last year I think I have said every call that our gross margins comes through higher than even we anticipate because of the real lack of markdowns, but the balance is if we want a better inventory position to meet demand by definition there will be more clean up, more markdowns and so that can be couple hundred basis points of difference in the gross margin and we do expect that.

Operator: Howard Tubin, RBC Capital Markets

Howard Tubin - RBC Capital Markets: Can you talk a little bit about your thoughts on new store openings, you kind of back up to that 35 number, and as you look forward is that number you are comfortable with or could it go even higher over the next couple of years per year?

John E. Currie - CFO: Of course, we are not guiding on next year's store count yet, but as you know with all the showrooms and all of the work we're doing to see markets and make sure that we're prepared in every way to open new stores, we do have the ability to open more stores than this year. To go on I'd say likely next year, it will be more stores than this year, but we're not a point to be more specific yet, but the capability is there to open at or above this level.

Christine Day - CEO: I think the only thing I'd John is the one thing that I think is very different for us from like 2009 then the recession hit and we cut back to preserve capital to kind of retrench and build on solid growth. We feel we're not in that position at all anymore. So one thing we want to be really clear on is, we do not see ourselves slowing down. The growth of new stores and in a (moderate) recession, it would have to be something pretty catastrophic, before we would make a decision to pull new stores.

Operator: John Zolidis, Buckingham Research.

John Zolidis - Buckingham Research: Couple of questions, first one just housekeeping. What do you estimate the foreign currency benefited the bottom-line in the second quarter? Then second small question is just on the men's, can you give us an update on how that's performing relative to the women's product? Lastly a more strategic question, I was in one of your stores yesterday, and the product looks great and the store looks fantastic and clearly the U.S. opportunity is very robust. So I'm a little bit confused as to why you're opening up a second concept as ivivva and pursuing growth in countries like Australia? What one could argue is a fairly early point in the growth curve for the U.S. So if you could comment on the strategic approach from the timing of those initiatives? Thanks.

John E. Currie - CFO: Let me just quickly deal with the currency one. I think last year Q2 the Canadian dollars were about $0.97, it is about a $100 for this year. It translated to somewhere in the neighborhood of a $0.01 a share.

Sheree Waterson - EVP, General Merchandise Management & Sourcing: I think just addressing Australia, maybe you're not familiar with the story there as I -- Chip prior to going public had opened a franchise there with a partner. Then he sold it to David Lawn at the time we went public and who is the former CEO of Rip Curl. So, David Lawn and some partners started to expand the concept there. We bought it into that last year to the 80% mark. So, David developed a very profitable business model in Australia, and for us there is tremendous learning there about supporting an international market. The learnings we also get from high labor cost and higher occupancy cost, how the model will translate globally, has definitely been a benefit to us for future growth. As we said in the call, our focus is North America, but in Canada, you've got a business that's 11 years old. It's very high productivity. We believe in more scarcity model with stores with very high volume per store, and we have also seen with this its guests in Canada, we own a tremendous amount for Activewear wardrobe. There has been tremendous demand to create that for a younger group of girls. What we thought happening for the brand in Canada was as the customer got younger and younger, our target avatar is that 32-year old. She doesn't want to what 11-year olds are wearing. So, we felt strategically if we did not address product for that younger girl. There would be brand erosion in the Canadian market for our core lululemon. So, we've got a very successful concept in Aviva, that we believe has a great (length), but we're not in any way distracted from the North American opportunity for lululemon, which is why even though we see tremendous global opportunity right now, pursuing that and staying focused on building the infrastructure to support the North American particularly the U.S. expansion.

John Zolidis - Buckingham Research: Could you comment on the sales productivity and returns in ivivva stores in Australia relative to the U.S.?

John E. Currie - CFO: Australia, I'd say is running sort of a year or two behind the U.S. in terms of the brand recognition, so we are seeing about $1,000 a square foot in Australia and a very high comp in the 30s, Aviva is still pretty young and its $700 to $800 a square foot at this point, but again comping very well.

Operator: Stacy Pak, Barclays Capital.

Stacy Pak - Barclays Capital: Couple of things, I guess one, can you specifically comment on the comp in Canada? I just want to confirm you did not see a slowdown from I heard what you said, but you didn't see any slowdown sequentially? Second of all, can you comment specifically on yoga pants, where I have seen an explosion in competition albeit not what you guys do? Third on the men's business I guess I am in California and I am seeing a lot more of it just being worn around, and I am wondering, can you comment on the growth in that business and what you are seeing there and your confidence in your ability to take share in that market rather than people taking share from you in women's?

John E. Currie - CFO: Really quickly on Canada. As I said, the Canadian business is comping somewhere in the single digits. Q2 is actually slightly stronger comp than we saw in Q1, so it's not trending down, it's slightly the opposite.

Christine Day - CEO: On the yoga pant competition, we certainly see a proliferation in the marketplace of copycat product that comes from sometimes the technical players, meaning the athletic wear players, but a lot from more of what I'd call the other soft line, casual wear, active wear type players, which the performance and quality level is not really comparable. I think that's our huge competitive advantage is, the technical detailing of the pant, longevity of it, the fit of the garment. So, we're not really seeing anybody come up with something that's as directly comparable, the different channels that they are sold through. I think our guest experience in the store is also what brings that guest back. So, even though there is a lot of proliferation, it's really coming at that lower – it's on price in general and there are quality issues at that price for the guest. So, we are not currently seeing any erosion or substitution from our core guest who seems to be very loyal. In men's, we've been very light on product as we've kind of re-shifted the line. We've really felt in the past we had a lot of casual wear pieces and we weren't technical. So, we stripped those out, striped the inventory down and have worked on building a lot more technical line for men's and the response has been terrific. We have some items that the men are just incredibly loyal to, such as the technical shirts and the shorts, and we are just now building on that targeted line. We have a fantastic new men's designer. We are very excited about the product that he is putting out and we think the men's product we have in the store right now is some of the best that we've had, and I think you'll continue to see that grow at a space faster than women's, but still staying below that 15% in the store in the short term.

Operator: (Omar Sayeed, ISI Group).

Omar Sayeed - ISI Group: Christine, could you talk about the way the brand has transformed? I know you haven't been there from the beginning, but I know you also have a great feel for how the Company has transformed over time. Can you talk about the brand and the perceptions of the brand, and perceptions of the product and how that's changed as the Company has grown and moved into new markets, whether it's the Midwest or the growth you're seeing in Australia and maybe some of the stuff you have in Hong Kong, or new categories, men's, how are people, how are consumers? Have you done a research on how consumers are viewing this brand and how it's changed?

Christine Day - CEO: We don't believe in lot of formal research, but we believe in being present and being out there a lot. What I'm seeing and the team is seeing is a deep-deep affection and love of the brand for everything that we stand for, not only that product quality, but the guest experience inside the stores, the education, or how we participate in the community, that authentic giving, a relationship with ambassadors, and the work that we do to support their businesses and in a very genuine way. I think what we're seeing is a very deep brand loyalty, which we're very proud of. I think importantly, the people know that the products stands for something more than just the quality of the product, where really the brand association is, with living a great and healthy life that you love, and that's really what we're focused on. People know that the brand is more than just a product and that they come to us for whether it's the goal setting sessions that we do at our stores, as well as the free yoga classes that we do, people come in to feel good and they feel good about the association with the brand and that's critical part of our strategy is to continuing that.

Howard Tubin - RBC Capital Markets: Would you say you're saying the same thing on the men's side due to that same sort of relationship and that emotional connection?

Christine Day - CEO: I think most men would deny that, but we see – I think, there are a lot of technical products. I think, certainly, we see more men coming into yoga and we are that technical product for them. I think, we are seeing from like the underwear, the run shorts, the technical tops, once we see the guys put on a piece of those, and I would just rather trail race with my husband and we saw a lot more men in the product, and we were really pleased with the penetration that we're seeing there and talking to some of the men that are in the garments like those of their favorite shorts that's it. So, they want 12 of them and they come in and they buy 12 at once. We're really seeing great response from that.

Operator: John Morris, Bank of Montreal.

John Morris - Bank of Montreal: A lot of the questions have been asked. But John, as you look out a little bit ahead on the product cost pressures. I hear you on and you guys have done a very good job in making everybody aware and communicating some of the product cost pressures out there into the back half, as far as gross margin is concerned. The spring season is way out there, but would you expect to continue to see philosophically some of this product cost pressures continue into the spring season or would we begin to see some of that abate by then? I'm asking really from, I guess, a philosophical structural basis. Then I got one or two small follow-ups?

John E. Currie - CFO: Well, some of the inflation that we've already seen will continue. As Sheree mentioned cotton prices are down and so to the extent that we have cotton in our mix there is some improvement going back to product costs that we saw more like a year ago, but the other elements of inflation in our cost structure haven't reversed, for example, labor rates in a lot of countries where manufacturing has taken place. That's not reversing they continue, it's hard to have much of a crystal ball. So, I don't think you will see much of the reversal, but I don't think the increase will be as significant as what we saw this year.

Christine Day - CEO: I think there is more opportunity for leverage in that. If you think about the fact that we have been basically rushing products to market for about six months or seven months there are certain inefficiencies in that process, but as we get a our flow in control of next year that will also offset and give us some room.

John Morris - Bank of Montreal: Christine, I would also imagine as you pointed our earlier on the call that part of the also potential offset would be some of the pricing that you might be able to get and the product that warrants that with respect to higher specification more technical aspects to it. That piece which I think is intriguing and obviously well received by your customer, can you give us some rough feel in terms of what piece of the mix that might be now and when it could grow too?

Christine Day - CEO: Definitely our focus on where we believe we have the opportunity to differentiate you know what we've seen happen in past recessions is people strip quality and details out of products to lower price points yet the guest that we serve really want those and that's given us tremendous opportunity to take market share and our guests respond to that and that's what differentiates continuing her to make that purchase. So, technical is our emphasis and we add beauty to garments, but we want to be sure that people recognize this isn't about adding fashion, this is about adding technical functions and the detailings that's functional that she is looking for – but, we do it in a beautiful way. So, that you will continue to see us penetrate more and more of the line, but yet up a very strong basic key in core, so that we have which is highly technical and quality product, but differentiating ourselves even more with that technical product at the upper end. So, right now, the key in core is kind of close to about 65% of the business, plus or minus on a regular basis and that might lower a few percentage points as we penetrate with even more technical product.

John Morris - Bank of Montreal: Then just finally on the e-commerce expansion into new international arenas next year that you referred to, what regions would we see or countries if you can be a specific?

Christine Day - CEO: So the first one up will be Australia because we want to make sure that we address market pricing. This is off the strong Australia dollar and the duty situation there where you can bring package in under a $1000 without duty. So, we want to make sure that we set that market up for the long-terms success and have pricing parity in the market and great product available for the guests. So, that will be our first and then we do have a strategic list of markets that following that which I am not ready to disclose yet.

Operator: Pamela Quintiliano, Oppenheimer.

Pamela Quintiliano - Oppenheimer: So, just a few things, with Australia is there any change to your longer term outlook now in terms of how many stores you think you can open there?

Christine Day - CEO: We've been pretty consistent in the 20 to 30 range. Each one has been very successful. We are expanding or seeding the New Zealand market now, which we also see as part of that.

Pamela Quintiliano - Oppenheimer: Then in terms of the emphasis on the technical garments that has obviously proven to be very successful thus far. The manufacturing facilities that you've been relying on; will there be any change or any new facilities that you are going to look into as the technical component increases? Also, on the flip side, with labor rates being so high, would you potentially look at other countries to go into, obviously, if they have the quality controls in place that you would need?

Christine Day - CEO: I think for us the important is a relationship with the quality manufacturer that meets all of our sustainability guidelines and wavelengths. We operate at the high end of the manufacturing spectrum, so we need the quality. so, we are not as concerned about the labor which is build into our model as we are about expanding in a way that gives us the best duty rates into U.S. and then other future markets that we want to expand into. We have few manufacturers that we work with, that we work with in a very deep relationship. They've been building factories for us, over the last two years that have been coming online and just got back from a recent trip visiting five new factories and really, really pleased with the partnerships that we have and the capacity that we've been able to develop for the product level.

Pamela Quintiliano - Oppenheimer: So near-term you think you have a capacity in place to support the growth?

Christine Day - CEO: I'll tell you long-term.

Operator: Laura Champine, Cowen & Company.

Laura Champine - Cowen and Company: I just wanted to clarify the SG&A expense guidance. If I run through the numbers that you mentioned John, it looks like after a little bit of deleveraging rate in Q3, you would see significant SG&A expense rate improvement in Q4. Am I reading that right and what's driving that?

John E. Currie - CFO: That's pretty typical if you are talking about sequential quarters because of the high volume in Q4, we do get leverage on SG&A. That's what you'd be seeing.

Laura Champine - Cowen and Company: But on a year-over-year basis, it looks like you go from a little bit of deleveraged two significant leverage, and I just wanted to make sure that that is correct. I also wanted to just follow-up why I'm asking for a little more information about, you mentioned in the queue and in your comments that, you guys raised wages at the store level. If you could maybe quantify that or talk about what the thinking is behind that.

Christine Day - CEO: We believe we are the best (educators) in the world, that's critical to our guest strategy. What we are very conscious of is with a lot of knock-offs coming into the marketplace, if you hire a few lululemon people, you've got really a trained program. So, we haven't seen that, but we want to make sure that our educators know that they are valued for the work that they do. With having fewer stores with really get flow through, part of our key strategy is making sure that our store managers and our educators are paid very well competitively in the marketplace, because that's what gives us that community constancy which is critical to the brand.

Laura Champine - Cowen and Company: Christine, was there a change in the way that they're paying? Did the commission structure change or their incentive structure change in any way or was it just a general increase?

Christine Day - CEO: We gave an hourly increase and we have changed some of the upside in terms of their daily and other commissioned structures, so that as they deliver the upside there is more that goes in for them.

Operator: (Christian Buss), Credit Suisse.

Christian Buss - Credit Suisse: I was wondering if you could provide some perspective on new stores and their productivity and how we should think about store productivity as you open in some secondary markets?

Christine Day - CEO: What secondary markets?

John E. Currie - CFO: I mean the Midwest is proving to be primary market. As I said our new store productivity, stores that we opened really since we went deep in the showroom strategy year, year and a half ago, so the stores we opened in 2010, and early days with the stores were opening in 2011 are opening and there is a range, but on average somewhere around that $1,100 per square foot level, which again, is much higher than what we had seen previously, lower than the more mature market average, but that's to be expected. So, we continue to be very pleased with the way these stores are opening.

Christian Buss - Credit Suisse: That's helpful. Could I also ask you about your gross margins, about how much of your cost of goods is relatively speaking fixed?

John E. Currie - CFO: Maybe a little under a quarter.

Operator: I have no further questions. I would like to turn the conference back to lululemon for any final remarks.

Christine Day - CEO: Thanks everybody for joining us today. We look forward to continuing great momentum through the back half of the year. Thank you, everyone.

Operator: Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program and you may now disconnect. Everyone, have a good day.