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Edited Transcript of BRBY.L earnings conference call or presentation 14-Nov-19 9:30am GMT

Interim 2020 Burberry Group PLC Earnings Call

London Dec 5, 2019 (Thomson StreetEvents) -- Edited Transcript of Burberry Group PLC earnings conference call or presentation Thursday, November 14, 2019 at 9:30:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Julie Brown

Burberry Group plc - CFO, COO & Director

* Marco Gobbetti

Burberry Group plc - CEO & Executive Director

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Conference Call Participants

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* Charmaine Yap

Redburn (Europe) Limited, Research Division - Analyst

* Elena Mariani

Morgan Stanley, Research Division - Executive Director of Luxury Goods and Brands

* Flavio Cereda-Parini

Jefferies LLC, Research Division - MD

* Luca Giuseppe Solca

Sanford C. Bernstein & Co., LLC., Research Division - Research Analyst

* Rogerio Fujimori

RBC Capital Markets, Research Division - Analyst

* Thomas Vincent Chauvet

Citigroup Inc, Research Division - Head of European Luxury Goods Equity Research and Director

* Zuzanna Pusz

UBS Investment Bank, Research Division - Head of European Luxury Equity Research

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Presentation

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [1]

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All right. Good morning, everyone. Thank you for joining us today for our interim results presentation. I will start with a brief introduction, followed by Julie, who will cover our financial results and guidance. After this, I will give you an update on our strategic progress as well as our upcoming focus areas and priorities. We will close with a Q&A.

Two years ago, we set out our multiyear journey to reenergize Burberry. Our goal was to transform the way consumers view our brand and firmly establish Burberry in luxury fashion. The last 18 months have been focused on building our foundations and creating brand heat. And as we come towards the end of the first phase of the strategy, I am very pleased to say that we're now starting to see the first results of this transformation.

Since Riccardo arrived, we have launched 3 collections, each of which has generated an excellent response from customers and delivered double-digit sales growth. Performance is also starting to come through in our underlying business. As you can see from this chart, our total comp growth has started to gain momentum. And all regions have delivered growth despite a challenging trading environment in Hong Kong. We're very pleased with this momentum, which indicates that the strategy is starting to deliver results. And Julie will now take you through the financials.

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Julie Brown, Burberry Group plc - CFO, COO & Director [2]

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Thank you, Marco, and good morning, ladies and gentlemen. So before I start, I wanted to remind you that in full year '20, we have adopted IFRS 16, which means all our operating leases have now been brought onto the balance sheet. This has increased operating profit and also marginally increased profit before tax. So you'll see on the slide that we've included a pro forma column to aid comparability with the prior year results. And this allows you to see the underlying business trends.

So now looking at our summary of financial performance. During this presentation, unless otherwise stated, I will refer to pro forma growth at constant exchange rates. So total revenue was GBP 1.3 billion, up 3% over the prior year. Adjusted operating profit was GBP 187 million, a decline of 4%, including absorbing significant impairment charges related to Hong Kong. Adjusted diluted earnings per share grew by 1%, positively impacted by tax. And free cash flow was negative at the half by GBP 29 million, largely due to accelerated U.K. tax payments. We have declared a dividend this morning of 11.3p, representing growth of 3% on the prior year. In summary, we have delivered in line with our guidance at the half year. And we're maintaining guidance for the full year despite considerable disruptions in the Hong Kong market.

Turning to our total revenue performance. Group revenue grew by 3%, with the main growth driver being our retail business. In retail, comparable store sales growth was up 4% and space was down by 0.5%. We continue to evolve our store network to align with our luxury positioning. We opened 18 stores with a particular focus on China and Japan. We closed 26 stores, including those associated with our rationalization program. And finally, we continued with our refurbishments, with every major city now incorporating a store aligned to our new creative vision.

Wholesale declined 2% as we rationalized nonluxury distribution, and sales to luxury accounts were positive with growth in double digits. And finally, licensing grew 4%, reflecting strength in eyewear.

Looking at retail comparable sales growth in more depth. Every major geography is now showing a consistent or sequentially better performance in Q2 with the exception of Hong Kong.

Taking each region in the half. EMEIA grew mid-single digits, with the trend from both locals and tourists accelerating across the quarters. The U.K. grew high single digits, with local customers improving significantly and tourist spend remaining strong. Continental Europe grew mid-single digits with strength in Italy and Spain, and the Middle East returned to growth in Q2. The Americas grew by a low single-digit growth percentage, benefiting from stronger performance in Canada and Latin America. The U.S. itself delivered consistent low single-digit growth across the 2 quarters, with locals improving in Q2, offset by softer tourist spend. Asia Pac grew by a mid-single-digit percentage, with a strong performance across-the-board with the one exception of Hong Kong. Mainland China accelerated from mid- to high teens in Q2. Korea showed a marked improvement, accelerating to mid-teens. And Japan grew mid-single digits in both quarters. However, if you include our new store openings, Japan accelerated to high teens in the second quarter.

Finally, a word on Hong Kong. Given the disruptions, we saw significant declines, particularly in Chinese visitor spend, resulting in Hong Kong sales falling by 38% in Q2 and by 22% in the half. In the half, the Chinese consumer globally, grew by a mid-single-digit percentage. This was lower than Q1 as the losses in Hong Kong were only partially offset by repatriation elsewhere.

Now turning to product and looking at the retail and wholesale performance combined. In this half, our mainline stores benefited from a meaningful proportion of new product. At the end of the period, around 70% of our assortment was designed by Riccardo, including a more comprehensive leather goods range. The response from consumers has been very promising, with new product delivering strong double-digit percentage growth with all regions ahead of the prior year. However, our older replenishment lines remained soft as we're now creating the icons of the future.

In apparel, our women's business grew 6% and men's grew 10% in the period. Our full look merchandising initiatives and new branding platforms continue to drive strength in tops, in skirts and trousers. Jackets delivered good growth with nylon and lightweight check styles particularly strong. Accessories declined 5%, with the overall performance of the category negatively impacted by older product lines. During the half, we continued to build out a more comprehensive leather goods offering, with the arrival of several new bag families, supported by marketing campaigns, activations and increased store visibility. This fuller assortment has enabled to have a better price point coverage, resulting in an improvement in accessories through the period.

Turning to the income statement. There are a number of areas I'd like to highlight. Gross margin was broadly stable at reported rates. However, at constant exchange rates, our gross margin fell by 110 bps, broadly in line with the guidance. And I'll return to this on the next slide.

Adjusted operating profit fell by 4%, in line with guidance. However, the underlying business was stronger than this. As within this, we've absorbed GBP 14 million of impairment charges relating to Hong Kong, without which, operating profit would have grown 4%.

The cost-saving program continued to deliver with cumulative savings now at GBP 114 million, and we're on track to reach GBP 120 million by the end of the year. Adjusted EPS grew 1%, benefiting from a reduced tax rate from 24% to 22%.

Taking a more in-depth look at the margins. Our gross margin fell 10 bps at the half, but with the benefit from currency, offsetting a 110 basis point decline at CER. As guided, this reflected 2 factors. First, the investment into product quality, where we are deliberately elevating materials and quality, increasing cost of goods, but for certain categories, not yet raising the prices commensurately. Second, inventory management is key during a period of creative transition. And we've engaged deeper discounting on older product lines, in line with our policy of nondisruption. In addition to these factors, the disruptions in Hong Kong negatively impacted gross and operating margins. Looking forward, we anticipate Hong Kong to continue to impact the second half. And I'll return to this under the guidance.

Turning to the operating margin. This also fell by 100 bps before the positive impact of currency, and this was driven by the gross margin headwind and the impairment charges, partially offset by the delivery of our incremental cost savings.

Now turning to cash. We generated free cash outflow of GBP 29 million. And as anticipated, the reduction over the prior year predominantly relates to working capital outflows, tax and capital expenditure. So working capital was impacted by an outflow on payables predominantly relating to the timing of inventory payments. Tax cash was impacted by accelerated payments under the new HMRC rules. And as I'm sure you're aware, this means that we pay 18 months of tax rather than 12. And finally, as guided, capital expenditure increased as we prioritize our store refurbishments and our IT program. As you know, normal seasonality means we generate most of our free cash flow in the second half of the year.

So looking at our net cash position. We generated free cash of GBP 39 million before CapEx. We invested GBP 68 million in the half and returned over GBP 140 million to shareholders by way of dividend and buyback. And today, we've announced an interim dividend of 11.3p, up 3% year-on-year, and we expect the remaining GBP 135 million of the buyback to be complete by the end of the year. In total, our net cash was GBP 0.7 billion, and our net debt is GBP 0.4 billion included -- including reported lease liabilities now under IFRS 16.

Now turning to the guidance for the full year. I'm pleased to confirm that whilst mindful of the macro situation, we continue to expect to achieve our guidance of broadly stable revenue and adjusted operating margin on a pro forma basis at CER. For the purpose of modeling, in retail, the new product will build from around 70% now to around 80% by the end of the year. However, in Q3, we will have reduced levels of inventory available for markdown, as we previously guided. In addition, we expect sales from Hong Kong to remain under pressure.

In wholesale, we now expect a low single-digit decline, reflecting improved luxury orders. And regarding gross margin, we now anticipate a decline of around 150 bps, with the incremental 50 bps due to mix and the disruption in our higher-margin market of Hong Kong.

Regarding CapEx, spend is now likely to be GBP 180 million, below previous guidance just due to the timing of our projects.

And turning to currency. We now expect a benefit to the full year operating profit of GBP 4 million using the 1st of November spots due to the strengthening of sterling, and our previous estimate was 15.

Finally, regarding IFRS 16, we expect it to benefit full year operating profit by GBP 30 million to GBP 35 million and profit before tax by GBP 5 million to GBP 10 million.

So to conclude, we're now in the final months of our 2-year transitional period before we turn our attention to accelerating growth. We've made good progress in the half with very promising early signs from the new product and the transformation of our retail and wholesale network. Despite considerable disruption in Hong Kong, we remain on track to achieve our financial objectives in the full year.

And with that, I'm pleased to hand to Marco.

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [3]

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Thank you, Julie. The growing momentum Julie mentioned has been driven by the great progress we have made in executing our strategy. And I would like to highlight some of our key activities across communication, product and distribution.

In communication, we have seen a real acceleration in our activities this quarter, signaling luxury through our campaigns, and also starting to disrupt activity in 3 key areas: first, content, where we've been much more native, collaborating with NOWNESS, Dazed and Mille, to name a few, we allowed each partner to interpret our product in their own way. These activations brought our brand to life with local audiences and each drove click-through rates 3 to 9x higher versus our campaign display average.

We've also been much more localized with our content. This is an example of our latest campaign for the Qixi Jie Festival in China, which is similar to Valentine's Day. It was one of our most successful regional campaigns ever, achieving readership and engagement rates close to 3x above our platform average.

Second, through disruptive, physical experiences that allow consumers to interact with the brand, such as these cube installations we built in Hangzhou, Shanghai, New York and Seoul. These gave consumers the opportunity to experience our latest campaign in a completely immersive environment, providing the ultimate backdrop for social media posts and creating influencer- and consumer-generated content, which augmented our reach to millions of followers.

Lastly, this quarter, we stepped up our social activations, for example, becoming one of the first luxury brand to stage a major campaign on TikTok. Our TB Challenges on Douyin and TikTok generated over 1 billion views and allowed us to connect with young consumers in a way that felt authentic to them. All this activity contributed to increased heat across our priority social platforms, with over 30% growth across reach and engagement rate on Instagram and even stronger reach and engagement rate growth on WeChat. We were also listed in the top 10 hottest brand in the Lyst Index, reflecting our growing brand heat both on social media and online overall.

In terms of product, as I mentioned earlier, we have seen strong performance across our new collections. And as Julie said, the majority of the product in our stores is now Riccardo's. We reached around 70% of mainline product at the end of Q2 and plan to increase further to approximately 80% by the end of the fiscal year.

The collections continue to evolve and strengthen. The last show was indeed an Evolution, with every element of the collection, the materials, the design, the show itself, signaling confidence and luxury. The show was extremely well received. We saw a step change in press coverage, with a double-digit increase from the Autumn/Winter '19 show and our overall reach increasing over 50% versus February. We also saw some of our most influential brand ambassadors at the show, translating into a double-digit increase in earned media value compared to Autumn/Winter '19. Finally, we were delighted that Riccardo was recognized as 2019's fashion innovator by the Wall Street Journal.

In leather goods, we continue to make steady progress. As I've said before, this category will take longer to transform. And we continue to focus on building our new architecture, including the replenishment offer as well as strengthening our credibility with consumers. Though performance is still being impacted by the exiting of older lines, over the past few months, we have started to see momentum building for our new styles. For example, the TB, which continues to be a key pillar of our new architecture. The Lola has already become our fastest-selling bag and driven earned media value with influencers and VIPs, and the pocket bag which has ignited significant brand heat in China.

Finally, growth in innovation from our product and communication is supported by the way in which we go to market. We have continued to bring our store network in line with the new creative vision, focusing on high-visibility locations such as our new stores in Shanghai IFC, IAPM also in Shanghai, our reimagined Miami Design District, and GUM in Moscow where we secured one of the most enviable spaces overlooking the Red Square.

We have also significantly invested in our pop-up program, launching over 20 pop-ups over the last 6 months to celebrate our monogram collection. This drove excellent performance with notable increases in sales and traffic in the stores with these activations.

In terms of digital, we continue to innovate in the way we go to market, creating immersive experiences, such as the 3D monogram world on burberry.com, which we extended to digital partners such as Tmall with additional features including social sharing and gifting; and an AR experience for consumers to try on the monogram product.

We continued our successful partnership with Farfetch, where we launched the collection with a special campaign featuring talent from the Farfetch community of ambassadors. Finally, in September, we teamed up with Apple to launch a new chat functionality, allowing sales associates to talk directly to their clients, providing a seamless luxury experience and building stronger relationships. All this has been delivered while driving forward our commitment to sustainability.

In the half, we received our highest-ever score in the Dow Jones Sustainability Index. We launched our ECONYL capsule, crafted from a sustainable nylon yarn. We became a signatory of the G7 Fashion Pact and hosted our first carbon-neutral show. Going forward, sustainability will remain high on our agenda, and you will be hearing more about our pioneering work in this space.

Now looking ahead. The next 12 months are a very important time for us. The actions we take during this period will ensure that we lay the foundations for our acceleration and brand repositioning. As you saw, we're starting to see momentum in our business despite headwinds in Hong Kong. To seize this opportunity and prepare for acceleration, we're focusing on a few key growth drivers. First, as always, is product, where we will continue to focus on our core luxury products such as outerwear and leather goods, investing to ensure quality is perceptible and to excite consumers with newness and fashion.

We will also increase our focus on inspiration, which is paramount to the luxury consumer journey. Globally, luxury consumers spend 50% of their journey in the inspiration phase. This is where the vast majority of purchase decisions are made. And this trend is even more significant in China, where consumers spend 2/3 of their journey in the inspiration phase. And since we expect China to remain the greatest contributor to luxury growth over the next 5 years, inspiring the Chinese consumer is key for us.

Consumer inspiration takes many forms. And over the next 12 months, we plan to focus our efforts across the highest visibility touchpoints, including making our campaigns even bigger and bolder, creating a deeper emotional connection with consumers.

Stores are also a critical source of inspiration. And here, we will amplify our store experiences through store associates, retail excellence, refurbishments, windows, visual merchandising and store events, as well as through our wholesale partners such as Nordstrom, which you can see here. We are the first fashion house to take over the store's concept space with a bespoke immersive installation to coincide with the opening of its first New York flagship.

We will also continue to focus on digital innovation, creating new exclusive experiences that drive engagement and loyalty, such as our recent B Bounce Game, which was a huge success. And because inspiration is particularly important in China, we're delighted to announce today our exclusive partnership with Tencent, another step in Burberry's long history of digital innovation.

Our partner Tencent, dominates the inspiration for the Chinese consumer, covering everything from social media, entertainment, information, software to the most popular lifestyle apps in China. Tencent's products touch 98% of Chinese netizens and account for 55% of the time they spend online. That's why I'm thrilled to be pioneering a concept with Tencent that blends 2 of the most important and increasingly fluid consumer touch points: social media and physical experiences.

The first step in this partnership is to open a pilot store offering unique social retail experiences that connect social journeys to physical environments. It will be a key space for us to test and learn, trialing innovation before rolling it out to the rest of our network in China. We will open this store in Shenzhen, the center of technology in China in the first half of next year.

In conclusion, I'm really proud of the progress we have made on the strategy. It's exciting to feel the growing momentum for our brand and product, and also start to see this coming through in our numbers. Now is the time for us to seize this momentum and prepare for the next phase of our journey, focusing on completing our product transition, truly establishing our positioning in luxury and continuing to inspire consumers in a meaningful and authentic way.

Finally, I'd like to end by thanking our incredible teams for what we have achieved so far. And I look forward to continuing this exciting journey together.

(presentation)

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [4]

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And I will open to Q&A.

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Questions and Answers

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Julie Brown, Burberry Group plc - CFO, COO & Director [1]

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Luca, don't worry, I can see you've got the microphone. We'll just give everyone 2 seconds to get their pads of paper. Okay, go on.

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Luca Giuseppe Solca, Sanford C. Bernstein & Co., LLC., Research Division - Research Analyst [2]

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Luca Solca from Bernstein. I'm very interested in understanding how you're getting traction by nationality, and if you could give us on the back of your sort of data already if -- how are you progressing with Chinese consumers in particular, but also with the European consumers and the American consumers alike.

Second question is on the impact of Hong Kong and the potential repatriation of consumers in other locations. I see that in the Q2, you had a significant spike in Korea, for example, and further progression in Mainland China. I wonder if you have a way to ascertain how much of that has been caused, especially in Korea, by Chinese consumers deciding to buy in Korea rather than in Hong Kong, for example. And whether there's any way to potentially gauge how much of this disruption in Hong Kong is actually balanced out a recovery elsewhere. Thirdly, I was wondering how you expect the improvement in leather goods and in handbags in particular, which has seen a significant amount of new styles starting to get traction as these styles -- been seeing that there must be more styles that are potentially going out of range and not getting us the full benefit of the product innovation.

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Julie Brown, Burberry Group plc - CFO, COO & Director [3]

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Okay. Yes. Yes. Yes. Thanks, Luca, for the questions. So in terms of nationality trends, first of all, the Chinese being our biggest component, so we had a mid-single-digit growth in the Chinese consumer globally for the half year. In the second quarter, it was slightly slower than the first quarter, so we had high single digits in the first quarter slowing down to lower single digits in the second. The impact of that was really felt due to Hong Kong. So Hong Kong is a significant tourist business for us and, in particular, Chinese. And we believe the slow performance in the second quarter was simply due to the disruptions in the Hong Kong market.

In terms of other nationalities, taking the Americans, we actually saw a good trend in the American consumer, local consumer. So although the U.S. market was flat to Q1 into Q2 in terms of performance, both low single digits, what we actually saw was a growth in the local consumer being offset by slower tourist traffic into the U.S. in the second quarter. So a good low single-digit trend, but good local consumption going on in the U.S. market.

We had actually the same situation in EMEIA in the sense that although the tourist spend in EMEIA was fairly consistent across the 2 quarters, it was strong. What we saw in EMEIA was, again, an uptick in local consumption in EMEIA. So U.K. domestics were much stronger in the second quarter. Yes. Yes.

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [4]

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So on -- yes, in fact, I think, it's quite pleasing to see that across the geographies the consumers have responded very well to the new collections being delivered in the market.

In terms of your question on the repatriation of the Hong Kong decrease. Korea has certainly been a country that has seen an increase in -- particularly mainline Chinese spend. However, there, the mix and the percentage of Chinese spend to the total is really small. And therefore, the uptick from there is fractional for us. So really, I think it's more about the repatriation in China. And that is, as you know, very difficult to quantify precisely. What we can say is that certainly, there is a portion of repatriation in China, but we can also certainly say that is not the totality, that is probably at the moment, there is some, but it's hard to quantify how much it is. And we feel that we will, in time, I think we'll -- I think the situation will settle more and it will be a little bit easier to read through the movement of tourists.

In terms of leather goods, I think, I mean, we've spoken -- every time we met, we speak about leather goods. It's clearly one of our priorities, and I think we're doing well. I'm really pleased with what we have. I think the best way to assess it is to go into one of our refreshed stores that has a large assortment of leather goods. I think what you see is a transformed offer there. And it has transformed in a very qualitative, in a very contemporary and with a very strong identity. And I think that we're starting to see a better traction there. I think we are turning the corner. We have seen an improved momentum also across the quarters. We still, as you say, Luca, we still have some headwind from exiting of older lines, and there maybe a little bit more to come. But I really think that what we have done so far is really boding very well for the future. So we're quite pleased there.

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Zuzanna Pusz, UBS Investment Bank, Research Division - Head of European Luxury Equity Research [5]

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Zuzanna from UBS. I have 3 questions, please. First of all, just talk on trends by nationality. So you mentioned that the Chinese consumer grew by low single digit in Q2, so which nationality makes up the delta? Because your like-for-like were plus 5, which is mid-single digits, so was it the Europeans or the Americas that saw the biggest acceleration and that would be very helpful to know.

Secondly, on impairments. So in the press release it was mentioned there was a GBP 14 million impairment related to Hong Kong. I just wanted to clarify, was it related to store closures? So are there any stores you specifically closed in Hong Kong? And if that was the case, would they have been excluded from the like-for-like growth in the quarter? So just to clarify that.

And finally, EBIT. So there's been a couple of moving parts. On one hand, we had that additional impairment, which, if I understood correctly, was included in that adjusted number and that was offset by additional cost savings. But there was also an upgrade to the wholesale outlook for the full year. So I just wanted to check it, is it the right assumption that wholesale is slightly more accretive for you at the EBIT margin level?

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Julie Brown, Burberry Group plc - CFO, COO & Director [6]

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Okay. No, sure. So just taking those in terms of the order. In terms of the nationalities, as you mentioned, the Chinese consumer globally was at a low single digit, but you're comparing that with the comp overall of 5%.

As mentioned, really, we did have an improvement in domestics in 2 of our major markets, one being America where we saw an uptick in domestics. And also in the U.K. market, we saw an improvement in domestics. And generally, we saw an improvement in some of the other European countries. In particular, we saw it in Spain and France and Italy were quite strong. So they were offsetting.

I think in terms of -- I think Luca mentioned as well, Korea was up. South Asia Pac overall has been strong, excluding Hong Kong.

In terms of impairment, so the charge of -- the GBP 14 million charge, it wasn't related to store closures in Hong Kong, it's basically we -- every accounting period, we assess the stores, the whole store portfolio for impairment, look at the future cash flows and assess that against the value on the balance sheet and so it causes an impairment charge to lower -- if you've got lower levels of business, in particular stores, it can cause an impairment charge. And that's essentially what happened in 2 of our stores in Hong Kong at the half year. It did go through the adjusted operating profit. So you see that GBP 14 million impact both in reported numbers and in the adjusted numbers. So we've put it through the trading results. So no impact on like-for-likes at all because no stores were closed.

In terms of the EBIT impact, as you say, there are a number of moving parts. So clearly, we've got the impairment charge. First of all, we've got the gross margin headwind, which is basically as we guided. Apart from we've increased the gross margin headwind by 50 bps for the full year, largely because of the disruption in Hong Kong and it's a high-margin market for most luxury players. So the full effect of that in the second half goes through.

The second thing that has occurred is, of course, the cost savings are going through and we'll reach GBP 120 million by the end of the year. So the incremental cost savings helped the operating margin. And like you say, wholesale, the wholesale upgrade, also to low single digits also helps the operating margin, but not the gross. Thomas?

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Thomas Vincent Chauvet, Citigroup Inc, Research Division - Head of European Luxury Goods Equity Research and Director [7]

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Three questions, please. The first one, was there a material loss or elimination or perhaps EBIT margin accretion from the 26 store closures in the first half and I think there's 17 mainline stores? Or was that immaterial?

Secondly, I think inventories are up high single digit year-over-year in the first half. Julie, do you feel that's the right amount entering into the Christmas period? I remember you said you won't have the intense promotional activity that you had last year. You also, I think, guided for around 3% like-for-like in Q3. So is that amount of inventory fine to you? And finally on leather goods. I understand that there's disruption from the older styles, but on these new styles, are you starting to see perhaps manufacturing efficiency, sell-through, a higher underlying -- substantially higher underlying gross margin that you had in the past? And this category is still a pretty low gross margin business for you, which is quite unusual, so are you happy with the development of gross margin in the new lines of handbags?

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Julie Brown, Burberry Group plc - CFO, COO & Director [8]

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Okay. Yes. So yes, so in terms of the store closure and impact on margins, no, as you know, we decided to embark on the store rationalization program, which affects 38 of our stores. There's no impact in terms of the EBIT itself because the gross margin is being offset by OpEx savings. So net-net, in terms of EBIT value, there's obviously no impact.

In terms of the inventory, so in terms of the inventory, we've had growth in mid-single digits at the half year. In terms of finished goods, it's a rise of 4%. So it's broadly in line with the growth in the retail sales number. So overall, we're reasonably happy with that. In terms of the preparation for festive, we're very comfortable with that.

You mentioned about the Q3 and the like-for-like and the markdown. So we are expecting to put lower levels of inventory into the markdown period in Q3, which is our biggest markdown period over the Christmas and festive period. And the reason for this is that at the moment in the inventory we've got the older collections and then we've got the newer collections from Riccardo. The older collections, we will be clearing through the markdown period. The newer collections, we're being very selective in terms of which of those attract a discount during this period. So net-net, we end up with lower levels of markdown inventory.

Now we guided this because we wanted to be transparent with you because when you're doing the quarterly modeling, we wanted you to appreciate this would happen in the third quarter. No change to that whatsoever. Consensus expectations then for the third quarter were that we would have a comp of 3%. However, and very importantly, on top of that now, we need to reflect the disruption from Hong Kong because when we were guiding our markdown, we didn't have the Hong Kong situation.

Hong Kong in Q3, we do expect to have quite a significant impact because in the second quarter, we've had 2 months out of 3 being impacted. In the third quarter, we're actually expecting all 3 months to be fairly seriously impacted given the status we've got at the moment in that market. Marco, I think you should take leather.

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [9]

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Yes. In terms of leather goods -- sorry, I'll just answer the third question. In terms of leather goods, I think, as I said, we will still have a bit of headwind from exiting older styles, but we have started to see good traction on the new styles that we launched. I mentioned 3 there before. I mentioned TB, which is now, I think, quite recognizable and working very well at the top of the pyramid. Lola, which is a bag we launched recently and is now creating really a lot of demand and a lot of volume, performing really well. And then we have other styles like pocket, like Title. We have a number of new shapes that we've introduced in the market. The point is now making some of those shapes really pillars for the future, having continuity on those shapes, so creating basically the new icons in leather goods for the future. And this is when, then we start to accelerate in terms of volume on the shapes because you start to have consolidation around those. The demand around those shapes. And you start to have opportunities in terms of industrializing those shapes and getting more margin out of that.

But as I think we guided from the beginning, the leather goods business is an investment for us for the future. And this is why we have said that we wouldn't be looked to this category for the highest gross margin at the outset of the transformation. As we move into it, now I think the opportunity will hopefully start to materialize over the next couple of seasons of handbags. Handbags, in particular, is the case.

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Julie Brown, Burberry Group plc - CFO, COO & Director [10]

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Elena?

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Elena Mariani, Morgan Stanley, Research Division - Executive Director of Luxury Goods and Brands [11]

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Elena Mariani from Morgan Stanley. Can I please go back to the wholesale guidance? You've talked about an increase in orders from luxury customers that is offsetting partly the slowdown you're seeing in wholesale due to the rationalization. Could you elaborate a little bit more on which ones are those customers that are buying more, is it mostly Europe, is it in the U.S.? And would you expect these to continue to accelerate through the coming quarters? And can you just in general be more precise about the moving parts?

Secondly, a very small technical question. You've reported store closures but in the second quarter, your non-like-for-like part of retail was going up. Can you quantify the impact from calendar days or anything that is non-like-for-like or non-space-related and help us understand how they're going to move in the second part of the year?

And thirdly, just a broader question, perhaps for Marco. You've been very consistent in delivering against your guidance and now we are approaching this very interesting turning point. How would you see next year evolving? Are you comfortable around the fact that you're going to see top line progressing further in both wholesale and retail and you're going to see both gross margin and EBIT margin improving on a constant currency level?

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Julie Brown, Burberry Group plc - CFO, COO & Director [12]

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Okay. So maybe if I take the first two and Marco takes the third one. In terms of wholesale, we were pleased with the outcome at the half year. It was a combination of timing of shipments, but also an improvement in luxury orders and that was particularly the case in the EMEIA market. So we have, in the full year, we've actually factored that in. So we've gone from expecting a mid-single-digit decline in wholesale for the full year, which is largely due to U.S. rationalization. We've now gone to low single digits, which is largely due to the strength we're seeing in those luxury orders coming through. So the timing washes out, but we've got the luxury orders coming through, which we're very optimistic about.

So as mentioned, I think Marco mentioned it, we've seen double-digit growth in those luxury wholesale accounts, which is really positive. They're our partners. But clearly, this is the year where we feel the greatest weight from the U.S. closures. So U.S. wholesale is actually a double-digit decline because of the size of that rationalization work that was taking place in the U.S., the majority of which will be finished by the end of this financial year, so we'll be clear of that at that point.

Just in terms of the like-for-likes. So we had a minus 0.5% in space in the first half. As you know, we've been making some store closures, partly due to the rationalization program, partly due to relocations, and they're always adjusted for in the comp.

You mentioned about the second half and what we're expecting is a marginal decline in space in the second half -- I think it's just marginally positive actually, marginally positive. So for the full year, it will be broadly neutral as we originally guided but a slight movement between the 2 halves. Yes.

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [13]

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Okay. Look, I mean, in general, I think we, as I said, before, I think we're very pleased to be where we are today. I think we are not only on track with in terms of delivering the numbers that we had outlined when we set out on this journey. But I think also, when we look at the activity in general, I think we see a brand that is much more energized. I think we see a lot of momentum and a lot of energy around the brand. We had transformed the product, and the product is now delivering into the stores. And we are having a very good reaction from customers, both from existing customers who have not left us, and also we're starting to recruit well new customers. And this is across the geographies with also, I have to say, a strong traction in China, in domestic China, which clearly is a positive indicator for us, as they are also becoming in today, probably the most educated and savvy and fashionable customers in the world. We are transforming the network. And I think where we can have refreshed stores, we have a team that is energized in the stores, we have great retail excellence programs there going on. We see great results there.

Wholesale, we are, I would say, almost completed with the transformation of wholesale, particularly in America, which was, for us, perhaps the most difficult position that we started from. I think by the end of this year, we should pretty much done with that. And we're seeing traction with luxury -- with our luxury partners. So I think in front of us, I think we have something that is very exciting for us. I think we see good momentum. We see that we have worked well. We see that the company is re-energized also internally, inside. The competition out there is very strong. And it's actually a great stimulus for us to compete with them. And I think we've been competing also by being very innovative in the market. Sometimes we don't have scale of some competitors. But I think that we have more than compensated by innovative, by surprising, by being effective also with the communication we have. And I think we have connected very well, I think, with the new generations of customers in particular. So all of that is very positive. I think if -- we just have to be cautious of the macro environment because, clearly, we -- there are headwinds, and we have spoken a lot. And for every brand results presentations, Hong Kong has been clearly a focus. And I think we have to be very, very, very careful with that and aware of that.

Foreign exchange is unpredictable, and we can see that it can only -- can also swing the results, but it can also swing where consumers shop. So -- but barring that, I think that we can only look, I think, forward with a lot of optimism for what we have done so far.

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Julie Brown, Burberry Group plc - CFO, COO & Director [14]

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Roger.

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Rogerio Fujimori, RBC Capital Markets, Research Division - Analyst [15]

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Rogerio Fujimori, RBC Capital Markets. I have three questions. The first one is, could you comment on your performance on outerwear and your actions, you reinvigorated performance in the category, outerwear? The second is that when you would think about product assortment strategy and the balance between fashion and carryover or dynamic carryover, have you reached the point where you want to be? Or do you still see greater, I think, shift towards fashion or any implications for ASP and gross margins we should keep in mind?

And the third is -- it's for Julie. Is 2% to 3% in underlying OpEx inflation still a valid assumption for second half and perhaps next fiscal year?

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [16]

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Okay. About product, and I think the 2 questions are probably connected, in my view. I think the first objective we had set out was really to establish the new creative vision. And we did that by focusing on the fashion part of the collections, not necessarily on the key categories, like outerwear, which is a pillar of our offer. So as we move along now into the second phase and as we think that we are starting to establish a clear identity with our fashion part of the collection and seeing traction from the consumer, this is where now we can turn the focus, continuing to focus on fashion of course, but we can turn the focus also on categories that are more fueled by what we can call carryforward or replenishment or every brand has a different definition of that. So you will see us clearly now, as Julie mentioned before, and I think I did in leather goods, working on creating this new iconic shapes or products for the future, which will be the ones that then we can carry forward. And then also from a customer point of view, it's easy to recognize the brand through those products, obviously. Outerwear is, for us, a very important category, but not only because we have a significant activity in jersey, for example, for men's in particular, but also for women. Scarves, of course, our soft accessories are very important. And as I said, I guess from the beginning, leather goods I think is another opportunity for us.

So the work that is going to really be a focus for us is now building those new carryforward categories, those new iconic pillars for us for the future. And this is where you get, by getting continuity, by getting focused, you can really work the details of gross margin, of industrialization and you can really get the benefit from there. So we are in that phase of the, I think, of the transformation that we had set out probably 18 months ago. I don't think we are either behind or ahead. I think we're right where we expected to be at this stage.

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Julie Brown, Burberry Group plc - CFO, COO & Director [17]

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Okay. So just in terms of the OpEx and the inflation situation, so we would normally expect around 2% to 3% this year. We're actually going to be likely to be tracking more at the 1% to 2% level for this year. And as you know, we've engaged in tight OpEx management in the company throughout that period. Clearly, going forward, in terms of the question about the forward view, some of our OpEx is variable. So we've got Asia associated with variable rents, so you can have a rise in the OpEx as the sales improve. We've also got, something to bear in mind that the capital program is running. It was running at about GBP 100 million a year. It's now running at closer to GBP 200 million as we've guided. And so therefore, you'll have the OpEx lift coming through from the depreciation impact. So net-net, going forward, we'd expect to be more in the sort of 4% to 5% category in terms of OpEx. Yes?

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Flavio Cereda-Parini, Jefferies LLC, Research Division - MD [18]

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Flavio Cereda from Jefferies. 4 quick questions. The first one, you guided to a slight dilution in CapEx and this was a timing issue CapEx. I don't know if you could give us a little bit of color there? And the next 3, the 3 questions all link up. Can you give us, as of today, the percentage overall which is new product in the Asian stores because it seems to be significantly higher than in the rest of the world. I was just wondering what the situation was today. If -- I guess this is for Julie, if the situation in Hong Kong stays as it is, which it looks, if anything, it's getting worse, are we likely to see a second greater impairment in the second half of the year? And question number 3, if I look at the digital spend overall, can you give us a sense of how much more money you're spending in digital? And how much of it is perhaps focused on the Asian consumer, please?

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Julie Brown, Burberry Group plc - CFO, COO & Director [19]

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Okay. Sure. So first of all, in terms of capital expenditure, we originally guided to GBP 200 million for the full year. We're now going to be around GBP 180 million. Clearly, it's really all about the timing of projects. There's an element of the store program being impacted there, but we're also gaining some efficiencies. In the capital program, working very closely with the commercial team and the architecture team, and we drive out efficiencies as we roll out the program. And in addition to that, there are some changes to the timing of office refurbishment. So nothing really to be concerned about in that sense.

In terms of new products in the Asian stores, it's I think, very similar.

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [20]

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Yes. I think there is no strategic difference in the offer in Asian stores from the Western-based stores. So I think we are, as we said at the end of H1, we are at approximately 70% of new product being delivered, the offer representing -- they're representing the total offer for the customers. There is no difference between Asia and Europe. You may see a difference when you walk into flagship stores in general, whether it's in Asia or in Europe, having more space, having most possibility to assort and to present new lines, you may have an impression of seeing a lot more product in those stores. But as a whole, we don't distinguish Asia from Europe in terms of the percentage of Riccardo's product, new products or previous lines.

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Julie Brown, Burberry Group plc - CFO, COO & Director [21]

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Just coming back to the question on Hong Kong and impairments. So when we do the work at the period ends on impairments, we're always taking into consideration the forward view, so it's all about the carrying value of those leases on the balance sheet relative to revenue and EBIT income. So that forward view of Hong Kong, which is to be experiencing pressure also in Q3 and Q4, is already built into the impairment that we took at the half year. The only thing then that would, therefore, move that was if the situation deteriorated to a greater extent or it can move it the other way, likewise, if the situation becomes alleviated somewhat. The point we were talking about in terms of the element of repatriation, when it comes to impairments, that doesn't benefit us at all because it's based on the store in Hong Kong. So even if there is a degree of repatriation, as Marco mentioned, we would still suffer the impairment. But based on our current forecast, which do build in continued uncertainty, we wouldn't expect any further impairments in half 2 because they're already built into the first half.

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [22]

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In terms of the fourth question, on digital, I think overall, clearly, we continue to increase the spend in digital media versus other types of media, particularly printed media. That is a shift that is, I think, industry-wide, on which we have been clearly always leading and that will continue.

In terms of the proportion, whether we spend more in Asia, I think it's important to go back to what we said before in terms of inspiration, okay? Inspiration being a fundamental part of the journey of the customer. We saw that in Asia, really Asian customers, and we analyze Chinese in particular, but we don't think that it's significantly different in other countries, if it's 50% in the West, it's 2/3 in the East. So clearly, the portion of time that is spent on forms of digital, which is either social or research, education, is higher in Asia. And so we clearly reflect this in our allocation of spend in terms of digital.

We, as you have seen, not only it's a question of how much we spend, but it's also a question of how we can innovate there and capture the attention of the customers. It's not only volume of spend, but it's also the quality that we have seen has made a great differently operations that we made with TikTok, I think it has generated a huge amount of views and a lot of energy for the brand.

The new game, the B Bounce that we launched, we think that has been a phenomenal success. Those are always built into our plans because they generated, and they maximize and they optimize the investment, the other investments that we make in digital media. The partnership with Tencent, coming up. It's clearly, for us, something that is going to -- it's probably going to be -- hopefully, it's going to be a step change for us in terms of the way that we can connect the journey that the customer has throughout social platform and their own interaction with product, with fashion, but only with their community, and then being able to bring that to life in the store. I think that is an incredibly rich territory that we want to explore. And Tencent clearly is the best place to provide us with all the technology and information and experience in that field. So we're quite excited with that.

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Julie Brown, Burberry Group plc - CFO, COO & Director [23]

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Charmaine. We've got one.

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Charmaine Yap, Redburn (Europe) Limited, Research Division - Analyst [24]

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Charmaine Yap from Redburn. I have 3 questions, please. You talked about attracting new customers and you talked about old customers not leaving. I was just wondering if footfall or traffic in stores have now turned positive? And also relating to that, what is the price mix and volume split if I look at the cost of sales question?

And the second question relates to inventory provisions, Julie were there any changes in expectation of Q3 that's reflected already in the first half? Was there anything in the gross profit line or in any case? Or maybe in the reverse, were there any release in provisions?

And the third question is in terms of the partnership with Tencent. It seems very exciting. What exactly is Tencent doing? Are they offering software? Are they helping out on logistics as well? And also, is this a trial? Or have you signed a multiyear relationship through a JV partnership on a revenue share model? So what can we expect from this partnership?

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Julie Brown, Burberry Group plc - CFO, COO & Director [25]

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Yes. So, okay, I'll take traffic, price/volume mix and also Tencent for you. In terms of customers, new customers, we're actually very encouraged. I mean in terms of traffic, generally, in the sector, traffic is always under pressure as people move more towards digital. But what we've seen, particularly as we went through the first half and into the second quarter, we have seen very positive new customer growth and some traffic coming in terms of certain of our territories. So in particular, China, Japan, clearly, we've got a major focus on those 2 countries. But also, as we mentioned, increasingly, in the U.K. with the local population in the U.K. coming through and some of the other countries, we're starting to see that emerging. But generally, as an industry, I think pressure on traffic remains as a general trend because of the move towards digital.

In terms of price/volume mix, I think the key thing to say is we've not -- it's all really about the mix of the product. So we are consistently investing in quality, design, the level of detail in our designs. If you see the range now compared with a number of years ago, there's a massive difference in the range. And so what you do get is an elevation of the price due to mix and that's a major driver. In addition to that, we've had some volume coming through as well in the comp that we've reported.

Just in terms of inventory provision, before I hand over to Marco for Tencent, so in terms of inventory provisions, there's been a small release at the half year. No specific provisions built in for the future. But we do always look at the inventory aging. And there's a specific accounting policy that applies. We've got PWC in the room. This applies every single quarter in terms of looking at the aging of that inventory. But nothing usual in that, just a small release at the half year.

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [26]

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The Tencent partnership, this clearly has been made possible by the fact that we have been partnering with players like Tencent, Alibaba, Facebook, Apple. This is a position that the brand has established over the course of the year. We have -- we are still somehow very much partnering with them in testing innovation for the -- for our space, for our industry space. So with Tencent, there is a constant dialogue like there is with other partners about how we can continue to innovate together. And clearly, the subject of linking the social journey with the physical experience, it's a subject that we all are talking about today because, in any case, we know that it's part of the journey. They're 2 very important parts of their journeys.

So we have been thinking about this for a while. And we have, together, come up with an idea that Burberry has, on how we can bring these to life and that we can power through the technology and the information and the data on behaviors also of customers that Tencent has.

So it's clearly not a partnership that intends to be limited to 1 store in 1 city and for 1 season. But the partnerships start with piloting. So we -- this will be a pilot. Shenzhen is, I think we find Shenzhen to be obviously a very important location, not only because it's their technology hub. But as a consequence of that, you also have a population that is very connected, very young, very fashion forward. And so this is a great opportunity in an area that is also an area that is growing significantly.

So while we obviously don't want to disclose the terms about the partnership, but at the same time, we think that our partnership with Tencent will continue over time because it's a fundamental engine in our activity and in our connectivity with the consumer with them. So as I said before, we're quite excited there.

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Julie Brown, Burberry Group plc - CFO, COO & Director [27]

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Thank you very much, everyone. Thank you.

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Marco Gobbetti, Burberry Group plc - CEO & Executive Director [28]

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Thank you very much.

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Julie Brown, Burberry Group plc - CFO, COO & Director [29]

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Thank you. Bye.