Ladies and gentlemen, thank you for standing by. And welcome to Q4, 2020 Kohl's Corporation Conference Call. At this time, all participants are in a listen-only mode. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] I would now like to hand the conference over to your speaker today, Mark Rupe, Vice President, Investor Relations. Please go ahead.

Thank you. Certain statements made on this call, including projected financial results and the company's future initiatives are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Kohl's intends forward-looking terminology, such as believes, expects, may, will, should, anticipates, plans, or similar expressions to identify forward-looking statements. Such statements are subject to certain risks and uncertainties, which could cause Kohl's actual results to differ materially from those projected in such forward-looking statements. Such risks and uncertainties include, but are not limited to, those that are described in Item 1A in Kohl's most recent Annual Report on Form 10-K and the quarterly report on Form 10-Q for the quarter ended May 2, 2020, and as maybe supplemented from time-to-time in Kohl's other filings with the SEC, all of which are expressly incorporate herein by reference. Forward-looking statements relate to the date initially made and Kohl's undertakes no obligation to update them. In addition, during this call we will make reference to non-GAAP measures including adjusted net income, adjusted earnings per share and free cash flow. Information necessary to reconcile these non-GAAP financial measures can be found in the investor presentation, filed as an exhibit to our Form 8-K filed with the SEC, and is available on the company's Investor Relations website. Please note that this call will be recorded. However, replays of this call will not be updated. So if you're listening to a replay of this call, it is possible that the information discussed is no longer current, and Kohl's undertakes no obligation to update such information. With me today are Michelle Gass, our Chief Executive Officer; and Jill Timm, our Chief Financial Officer. I will now turn the call over to Michelle.

Thank you, Mark. Good morning, and welcome to Kohl's fourth quarter earnings conference call. I hope that you and your loved ones remain healthy and safe. 2020 turned out to be very different than what we imagined, when we spoke to you this time a year ago. The pandemic has had an impact on each of us, personally and professionally. So I'm optimistic that brighter days are ahead. As you saw in today's release, our organization has continued to navigate through the pandemic successfully. Our business is gaining momentum and our strong cash generating model has proven resilient. We ended the year with $2.3 billion in cash, up more than $1.5 billion from last year. Looking ahead, I am extremely confident in our outlook. We are executing with a clear strategic plan to continue building on the momentum in our business, with an intense focus on improving our profitability. We have delivered strong initial progress against our strategy in the past two quarters, and we are positioned to deliver a multiyear improvement in sales and operating margin. Based on our progress and outlook, we are pleased to share that we will be resuming our capital allocation strategy in 2021. This includes increasing our capital expenditure, reinstating the dividends, resuming share repurchases, and employing liability management strategies. So, today's call, I'm going to provide a high level overview of our fourth quarter performance, discuss the progress we are making against our strategic framework, and highlight the key initiatives we have in place for 2021 and beyond. Jill, will then provide details on our operating margin goal and capital allocation strategy, followed by a review of our Q4 results, and 2021 outlook. Let me start by touching on our fourth quarter performance. Our results exceeded our expectations across all key metrics in…

Thank you, Michelle, and good morning, everyone. This morning, I'm going to provide more details on our path to a 7% to 8% operating margin, discuss resuming our capital allocation strategy in 2021, and then close with commentary on our fourth quarter results and 2021 outlook. Let me start with our operating margin goal. We are confident in our ability to expand our operating margin to 7% to 8% by 2023, and have detailed plans and initiatives underway that supports us. From a baseline adjusted operating margin of 6.1% in 2019, we are targeting 90 to 190 basis points improvement to run by both gross margin expansion and SG&A expense rate improvement. As it relates to gross margin, we are targeting a rate improvement of 20 to 40 basis points to approximately 36% by 2023 from 35.7% in 2019. This is since digital sales penetration of 40% in 2023, up significantly from 24% in 2019. The increased digital penetration will present headwinds for margin, however, our efforts to expand gross margin are expected to more than offset this. Four key areas driving margin improvement are, inventory management, sourcing cost reduction, price and promotional optimization and supply chain transformation. The first is inventory management. We are committed to disciplined inventory management and have established an inventory turn goal of four times or higher. There are several initiatives underway that will drive margin in turn, including our brand portfolio transformation, where we have reduced choice count and pivoted towards more productive categories like Active and Beauty. In addition, we'll drive better inventory allocation by leveraging technology to achieve higher regular sell-through and reduced clearance levels. And we are already making progress, as evidenced by our Q3 and Q4 underlying margin performance and inventory turnover that was at five and 10-year highs, respectively.…

[Operator Instructions] Your first question is from Bob Drbul with Guggenheim Securities. Your line is open.

Hi. Good morning.

Good morning, Bob.

Good morning. Couple of quick questions. I think the first one is, Michelle, on the women's business and sort of your plans to rejuvenate and keep that business going again. Can you talk a little bit about what do you think are the biggest initiatives to do that, over the next, either this year or sort of into the next few? And Jill, on the -- I don’t know, if this is for Michelle or Jill, but the optimizing price and promotion strategies, simplifying pricing initiative. Can you talk about how Kohl's cash sort of will be affected? And what you're trying to do in terms of the process there that would be helpful. Thanks.

Great. Thanks, Bob, Michelle, here. I'll start with the first one, which is your question on women's. So as we commented in our remarks, we are beginning to see the women's business rebound, and we are pleased with that. We have put in place a bolder strategy in women's than -- it’s a bolder strategy we’ve ever had. I mean, it started with the restructure that we put in place a year ago. And then, I would first say, the brand and product portfolio. I mean, we made a significant transformation in reinventing of that starting with now the elimination of 10 down trending brands, and then refreshing and differentiating and leaning into the private brands that really matter for us, like Sonoma and So, which were positive for women in the fourth quarter, so we're seeing that. And then, of course, leaning in and investing in brands like LC Lauren and Conrad and Simply Vera that have done really well for us, Nine West also was strong for the fourth quarter, that will be a bigger brand for us and really evolving that to be in the spirit of our new vision around the casual lifestyle and taking that even more casual. So I really do think it's about having a much tighter focused brand portfolio, like I said, sort of in service to the vision we put out around the Active and casual lifestyle. So, on the casual more fashion side, it's the brands that I just mentioned. Around active and athleisure, the three national brands continue to be strong for us on the women side. And we have great things coming in the coming year, working very closely with our partners, Nike, Under Armour, Adidas. We're launching a broad assortment in Champion in women's that has been…

Yes. Good morning, Bob. On pricing and promotion, really that is more about our offers. I would say Kohl's cash for us is a key value differentiator. We see it as actually part of our loyalty program ecosystem. It gives you that second trip, and hopefully can move you into our rewards program and obviously up into the credit card programs. There's really going to be no changing in how the underlying Kohl's cash cadence is working, because we believe it gives us that differentiation from a value perspective, but more across the general public offers that we were giving to everyone, category offers that we didn't see as productive. So as we're able to move those out and move into much more productive targeted offers, that's really what's working for us. And we saw that in Q3, and then that continued into Q4, really being a driver behind that merchandise margin that we referenced being up in the quarter. So that's what you'll see continuing and from learnings that we've had. We've been testing this for a while. And we really were able to accelerate moving out of these offers during COVID. And you'll see that continuing into 2021 and being a key contributor to our margin expansion.

Great. Thank you very much. Good luck.

Your next question is from Lorraine Hutchinson with Bank of America, Merrill Lynch. Your line is open.

Thanks. Good morning. What kind of sales recovery baked into your long-term targets? Are you expecting to get back to 2019 sales levels in '22 and grow from there? Or how should we sort of contextualize the sales piece to get to that 7% to 8% margin?

Sure. So I would say first, the 7% to 8% is not dependent on us getting back to 2019 sales levels. The levels we're talking about really will work for us as we continue to drive efficiency and SG&A, and obviously optimizing our margins through the sourcing, pricing promotion, supply chain, and obviously just inventory management overall. We do expect obviously a mid-teens would suggest to get about half back and then we'll continue to see that improve in the out years. But I would say, it's hard to tell what that recovery looks like. We tried to say that in our comments. We're being cautious as we look out and see what does the consumer recovery look like. But we do expect we can hit the 7% to 8% outside of hitting the 2019 levels. Now with that said, we do think we have a lot of great initiatives to accelerate that top-line growth. Starting with, Michelle just mentioned, women's continuing with Active as we expand that space and add new brands and assortments into that area. And then obviously really stepping into beauty with Sephora starting in the back-half of this year, being three of those key drivers. But I would say 7% to 8% is how we're going to hit that, because those are really going to be initiative underlying what we spoke to on the call that should drive that.

Thank you.

Your next question is from Mark Altschwager with Baird. Your line is open.

Hi, good morning. Thanks for taking my question. So also on the top-line, I know you said, very much appreciate your willingness to issue an annual outlook given all the ongoing uncertainty. Just hoping to just get a better sense of, I guess what's underpinning that outlook from a macro perspective? On the negative side, obviously the ongoing uncertainty related to COVID, and the positive side, potentially some more stimulus on the way. Just curious how those factors have been incorporated in the mid-teens growth plan? And then from a Kohl's specific standpoint, any details you can share on how you're thinking about the potential revenue benefits this year from competitive closures, as well as quantifying any expectations for what the Sephora rollout will be in the back-half of the year?

So Mark, Michelle, here. Good morning, and I'll take this. So first off, I would say everything you just talked about is baked into our guidance and the mid-teens that we spoke about in our remarks. If we think about front-half, back-half, I'd say from the front-half standpoint, it continues to be the drivers that we've seen through the pandemic and that have accelerated. So categories like home, we have a strength in home, we're seeing that actually strengthen across multiple categories. It's our Active business. And we talked about how we are going to continue to amplify it in fact this year, expanding the space by over 20% on our roadmap to get to that being at least a third of our business. And I think it's important, when we say active, that's all encompassing, so it's active, it's athleisure, and it's outdoor. And as you know, we're introducing some brands I mentioned FLX earlier. We get Eddie Bauer coming. We just launched Land's End. And we are eliminating brands that are less productive. So I think on Active, we see this is really instrumental to driving overall top-line given the productivity of those categories, especially in our stores. So front-half its active, it's home. We mentioned the women's business is rebounding, so we expect that to help us in the first-half into the second-half. And then of course, digital. We are expecting in the front-half that there will continue to be pressure on our stores. We do hope, anticipate that stimulus does that that gets passed, because we do know that that will help us like it will help many, and families have been under a lot of pressure this year. So if that helps the gap, until we get to normalcy, we are very much in favor…

That's great color. Thank you. Just a quick follow-up. Any help on how to think through the gross margin implications as stores potentially recapture some share this year?

So obviously, with stores, they're a more profitable channel, because we don't have the cost of shipping, but I would say is in context to the 4.5% to 5%. We've taken into account the benefits from gross margin, as well as the efficiencies from an SG&A perspective. So we'll continue to drive productivity in our stores as we open them. I think we learned a lot through COVID, such as we mentioned localized hours. And that will continue to persist for the remainder of time, just because we know we don't have to be open as widely as we were pre-pandemic. So, I would say obviously, that would be a benefit to us as the stores do open up. We obviously utilize them tremendously from a fulfillment perspective. And they fulfilled about 40% of our digital sales this year. So really using them in a different way. And then as the stores open, they lap the closures from last year and we can see the consumer getting more comfortable coming into the store. Obviously, that'll help offset some of the heightened digital penetration as you saw digital at 40% sales this year. We would expect that would come down slightly, just given the stores performing better than what we had seen in 2020 due to closures.

Hey, Mark, I would just add one thing, you asked me about store closures and the opportunity there as well. We feel like we're really well positioned. I mean, we have historically gained market share, especially from the department store sector, I'd say in particular, as the industry was going through so much change. And we look at the last few years and when doors and concepts like Bon-Ton and like did close down. We got a benefit there. But I think the opportunity for us is really what's ahead. And it's the transformation that we have underway in the product portfolio, the brand portfolio and the health of our store base. We've shared with you in the past a stat on how positive cash flow our stores are. We just update that analysis looking at 2020, and even amidst the pandemic with pressures on the store and part of the year, actually being closed, 7 of the 17 weeks, 95% of our stores were still cash flow positive. So, I think that just speaks to the health of our stores. And we can not only take advantage of our store footprint, but also the power of our omnichannel with as we've been talking about things like curbside and the like. And we're going to go after it, but it's the same strategies as getting new customers from Sephora. It's revitalizing our women's business, it's driving even a stronger active destination and the home business too. And then the last thing I would add is, we continue to believe in our Amazon partnership. And as we shared in our remarks of new customers and we drove more new customers than just Amazon, but with Amazon in particular, we can identify at least 2 million unique customers to Kohl's brand new, third of which are millennials. So, I think we're really strongly positioned to capture market share in the years ahead.

Great. Thanks again.

Thanks, Mark.

Your next question is Paul Trussell with Deutsche Bank. Your line is open.

Good morning. And thank you for all the color. I wanted to continue the conversation you're having right now on the top-line, Michelle. You announced the Sephora partnership a few months ago. Since that time, what have you learned? What has you excited since? And with Sephora, you mentioned how you expect that business to have the halo effect. Can you discuss your strategy to get that customer to truly shop the store? What specifically are the brands and the categories that you think that younger customer is going to be attracted to? And speaking of halo effect, to what extent have you seen the Amazon partnership being just at in-store?

Well, Paul, thank you for that question. And there's a few in there. So if I miss anything, I'll look over to my partner Jill here to fill in. Well, first of all, as it relates to Sephora, I'd say the further we get into it, the more excited we get and the bigger opportunity that we see in front of us. It is unmistakably a game changer for the company. I mean, it clearly will transform our beauty business, but it's going to transform the entire customer experience, the store, the digital. And as you were just saying, bring in a new younger customer to Kohl's. So, starting with that, I'd say both parties, ourselves and Sephora working very closely, leadership, myself, CEO on their side. And as you might imagine, a lot of people on multiple fronts, whether it's been the new brand acquisition, the build out of the store, the build out of the digital experience, leveraging our capabilities and personalization, the loyalty programs and the like, so that we come out with a transformational opportunity for both of us. I mean, for them, it extends their reach dramatically getting into off mall locations, which we have seen, and that will continue to be really relevant to the customer. And then, we get the global leader in beauty. That’s a new development since we initially announced that, I made the remark earlier. But this is going to be a true Sephora experience with more than 100 brands of names of the like, which I mentioned. These are -- Sephora does, they're the best at, taking brands, discovering brands from around the world and bringing those to their customers and creating a lot of excitement, discovery and differentiation. And then several of these brands are unique to the…

And Paul, I just want to remind you, we've done beauty a couple of times and we've talked about testing that. And if you think back to the last beauty launch that we had, we did talk about the halo effect we saw two comp across the store, that was driven really by incremental trips. It's really the only replenishment item we have in our store. And I obviously think Sephora is much more transformational than anything that we've put in our store. And the low customer overlap means it's not just about trips, it's about customer acquisition. So as we bring them in, again reminding you, it's our sale, we get them involved with Kohl's loyalty, as well as the beauty insider. And then they get introduced into this really new environment. Through the refresh program, through the Active expansion, we do see that that can be much more compelling than just really that additional trip that we saw in our previous efforts around beauty.

That's very helpful. Anything on the Amazon, what you've seen from Amazon from the halo effect standpoint?

No, absolutely. So as it relates to Amazon, we continue to be very pleased with the partnership. It is driving traffic, it is driving new customers. We did quantify to the best of our ability, based on the data we have and their engagement in terms of transactions and the offer usage. But we think at least 2 million brand new to Kohl's. I think we get really excited that a third of them are millennial customers, attracting younger customers. And year-on-year, our conversion. So of the traffic coming in, that’s returning something from Amazon, the conversion is actually up year-on-year. So the teams are doing a great job, as the traffic comes in converting. And so all of that net is leading to incrementality on the top-line and incrementality on the profit side as well. So, we're going to continue to drive this partnership. I think both parties are really happy. And it's also probably just worth mentioning that as it relates to customer engagement, we get world-class results in terms of the experience that our customers, new and existing customers experience through this platform.

And the only thing I would add to that is, the 2 million customers are in Q4, but it's the lifetime value of those customers. So, we bring them in, we monitor the recurring trips from them. So that's really the benefit that continues to persist for us. So obviously, we're trying to give you more data points to the benefit of this program. And I just can never reiterate enough that it is accretive to earnings.

Just to clarify, I think Jill said, 2 million in the quarter, 2 million in the year.

The year, sorry about that.

2 million across the year. But we did gain more new customers overall, especially in Q4, as we typically do. And a lot of those coming into our digital channel.

Thank you. And lastly, switching gears just over to the balance sheet. Jill, could you talk about cash priorities? And maybe even bigger picture, how to think about the CapEx run rate through 2023, as you roll out a ramp up kind of Sephora stores? Also, what are the metrics you'd be focused on that would lead you to ramp up share repurchases more than kind of what you've initially outlined here? And lastly, what's the overall philosophy that we should know in terms of monetizing [Indiscernible] and how you approach sale leaseback if that has been approved?

Sure. So I think first and foremost, our capital allocation priorities haven't changed. We're always taking our cash first to invest back in the business. This year, it's about 550 to 600. I do think that'll step up obviously, next year, we're going to do more Sephora stores. Historically, we spent about $700 million a year. I think the pivot and our CapEx this year is going to be -- it's much more store driven, a little half -- over half will be stores. It includes the Sephora rollout, the refresh program, the brand launches, the active expansion, and then obviously just normal store maintenance as well. You're going to see tax will be down from historic levels, so we obviously have made a big investment in our technology. And now we're at a place where we're actually leveraging that to really drive the strategic initiatives that we outlined today. So that's first. Second has been the dividends. So, since we've reinstated the dividend back, we've increased to 10% a year. We just reinstated it with 25% this quarter. And we'll continue to look at sustaining and growing that dividend over time. And so then the balance has really been in that share repurchase program. And so as we look at what our cash generation is, and we've generated typically about $1 billion of free cash flow. And we really put that back in as shareholders. From 2017 to 2019, we've returned to shareholders $2.4 billion, evenly through the share repurchase program and the dividends. This year, of course, as we were in the pandemic, we did place more debt. We're obviously looking to preserve as much cash as possible, especially when our stores were closed. So we'll come back now and really look at optimizing our leverage profile, and…

Thank you. Best of luck.

Thank you.

Next question is from Paul Lejuez with Citigroup. Your line is open.

Thanks. It's, Tracey filling in for Paul. Jill, you mentioned earlier the standards of small strategy and rolling out more of those this year. And I was wondering how it's going with your partnership, with the grocery stores and the fitness centers? How those are doing? And if you anticipate doing any more of those this year. Thanks.

Hey, Tracey. So, I think, we continue to innovate as a company. And I think rightsize is one of those innovations that we've been testing. So as we look at our store fleets, we've talked about do we have the right square footage, and can we utilize that square footage differently. Obviously, Sephora is a big partnership, taking on some square footage, which we think will be highly productive. The rightsizes was a way for us to rightsize our store and see can we drive more traffic into the center and capitalize on that to these partnerships. With one of them being Planet Fitness and obviously, the other being all during the pandemic, it was really hard for us to get a great read in how successful some of these would be. What I would say is, we continue to test and monitor and really even how our store flows in some of those markets to see can this work. We have done, you've probably seen some rightsizes with Amazon as well. So I would just say this is still a big test, but it's in the spirit of the innovation. And some of these tests will work and some won't. And this one is going to just be a little bit longer in terms of how long it lasts. I think this is still in less than 20 stores. So I don't want to overstate the impact of this. But I think it's a way for us to continue to optimize the real estate that we have.

Thank you, guys.

Your last question is from Stephanie Wissink with Jefferies. Your line is open.

Thank you. Good morning, everyone. Two really quick questions. So first, Michelle is just on the inventory rebuild or the restock. Help us think through your goals in terms of turns, but also your power core categories? Are you planning to kind of build back in an over indexed way on some of those categories you hope to see over indexing your sales? So that's question one. And then question two, I think this is back to an earlier question. But just wanted to clarify on the wage rate inflation that you're anticipating in your operating margin guidance for the year. Are you assuming the standard minimum goes up, either elected or based on policy that we go to a $15 minimum? Thank you.

Sure. Thanks, Steph. So, I'll start with the first one in terms of inventory. So as you know, our inventory was down quite significantly as we ended the quarter, and down significantly more than our sales. And what we like about that is the inventory turn and we're baking that into a key metric as we look forward. So as Jill mentioned, we were at a 10-year high for the fourth quarter, I would say that it was a little higher in certain pockets than we wanted, notably in those areas that did really well, like home and active. So to your point, as we rebuild back, we will especially rebuild back in the active categories in the home categories. We have fantastic relationships with our brand partners. So they are doing everything they can to support us. But I will tell you, even as we chase, we are going to maintain this discipline. And that our sales will run ahead of our inventory levels. And there's no question about that. We put out the goal to get to a 4x from an inventory turn. And we're on our way and our chief merchant and Jill and others I mean everybody is completely aligned and focused, to make sure that we hit that goal and hopefully exceed it. Because we know there's a lot of good with that. I mean it drives fresher product. It's better for our margins and yes, a win-win all around. And then your next question, I'll hand over to Jill.

Good morning, Steph. So on wage rate, what we had said is we assumed a historical wage rate inflation, which for us has been in that 5% to 6% range within the estimates that we had given. But I will tell you as first, we're above $15 in our fulfillment centers. And second, we actually have an average hourly rate for our full-timers in our stores, that averages $15. So we are making progress into that. We every year are making those adjustments, but we don't take a blanket approach. So, if we’d come out legislatively, we'd obviously adjust accordingly. We do that today. We take a market by market approach in how we look at it, based on turn, based on competitive pressures. And that's really worked for us in the past. Obviously, we've also gotten a lot of credit for how we staff our stores, the overall culture for Kohl’s, and that's really kept us having a lot of nice tenured people in our stores as well. So, we'll continue to watch the wage rate inflation. But I think, those are a couple of facts that helped me get comfortable with where we're moving.

Thank you.

Thank you, Steph. Thank you to everyone listening on the call today. We look forward to speaking with you in May.

This concludes today's conference call. You may now disconnect.