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Edited Transcript of JILL.N earnings conference call or presentation 27-Aug-19 12:00pm GMT

Q2 2019 J.Jill Inc Earnings Call

QUINCY Sep 11, 2019 (Thomson StreetEvents) -- Edited Transcript of J.Jill Inc earnings conference call or presentation Tuesday, August 27, 2019 at 12:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Linda Heasley

J.Jill, Inc. - CEO, President & Director

* Mark W. Webb

J.Jill, Inc. - Executive VP & CFO

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Conference Call Participants

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* Janine M. Stichter

Jefferies LLC, Research Division - Equity Associate

* Kimberly Conroy Greenberger

Morgan Stanley, Research Division - MD

* Lauren Marie Frasch

Wells Fargo Securities, LLC, Research Division - Associate Analyst

* Paul Trussell

Deutsche Bank AG, Research Division - Research Analyst

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Presentation

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Operator [1]

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Good morning. My name is Carol, and I will be your conference operator today. At this time, I would like to welcome everyone to the J.Jill's Second Quarter 2019 Conference Call. On today's call are Linda Heasley, President and CEO of J.Jill Inc.; and Mark Webb, Executive Vice President and CFO. (Operator Instructions)

Before we begin, I need to remind you that certain comments made during this call may constitute forward-looking statements and are made pursuant to and within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 as amended. Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from such statements. Those risks and uncertainties are described in the press release and J.Jill's SEC filings. The forward-looking statements made today are as of the date of this call, and we do not undertake any obligation to update forward-looking statements.

Finally, we may refer to certain adjusted or non-GAAP financial measures on this call. A reconciliation schedule showing the GAAP versus non-GAAP financial measures is available in the press release issued today. If you do not have a copy of today's press release, you may obtain one by visiting the Investor Relations page at jjill.com.

I will now turn the call over to Linda.

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Linda Heasley, J.Jill, Inc. - CEO, President & Director [2]

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Thank you, and good morning. The challenging start to this year impacted our results materially in the second quarter. We took significant action to align inventories better with demand, addressed assortment issues where we could, enhanced visual presentation and the store experience, rightsized the cost structure and focused on talent.

As we implemented what we set forth in our last earnings call, we performed in line with our expectations. We have made progress fixing that which needs to be. There is more work to be done. We are continuing to take action and doing so in a way that does not impact the customer experience.

To that point, we saw good traffic across all channels in 11 out of 13 weeks this quarter. June and July both had positive traffic throughout the period as we had improved deliveries for those months. We led with product that celebrated high summer with key items that were seasonal essentials and a color palette that resonated well with her, driving good full price sell-through. While we continue to work on shortening our lead times, our ability to infuse newness on a monthly basis is already offsetting fashion risk, that will improve further.

Our performance demonstrates the essentiality of and our commitment to ensuring that we have a balanced assortment that delights her, interspersed with standout unique pieces that become must-have items and inventory position to address demand across all channels. Concurrently, we have invested more appropriately in marketing, remixing the working media spend.

Our customer continues to be loyal. During the quarter, our customer file has grown across new, existing and reactivated customers. As we pursue new-to-brand customers and reactivate lapsed customers to grow our customer file, we are constantly aware of the essential need to stay relevant and top of mind to our existing customer.

We are seeing opportunity to use our data more effectively to identify what triggers a customer's loyalty and spend with a brand. We've always used the data to know who our customer was and what she expected, but now we are digging deeper, gaining insights into why our customer shops the way she does and what we can do to better serve her.

As I have said before, we have some wonderful unique characteristics. Our audience is often overlooked in retail. She is looking for someone to speak to her. We regularly check and tune our business model. For example, we are continuing to test how the catalog should evolve as part of our marketing strategy and as a component of how we communicate with our customer. In any given day, the first touch point many of our customers have with a brand is on mobile or digital devices, either through e-mail or social and digital media.

The store location is also a critical component of our interaction with the brand, owing largely to our engaged store associate base. But the catalog too is an important secondary touch point to these platforms. Indeed, she tells us that she takes the catalog to bed with her and falls asleep being inspired by the images. And as we digitize more content, soon that will shift to her smart device. Regardless of how she chooses to interface, she often starts and ends her day with J.Jill top of mind.

I now conclude that we've moved too fast at the beginning of this year testing reduced circulation and pages within the catalog as well as postcard mailers. This quarter, we returned to a more normalized circulation and contact cadence, and our team is working on a go-forward strategy that better balances print and digital spend, ensuring frequency of contact over specific time intervals.

I'm thrilled to announce that we have brought aboard Deanna Steele as EVP, CIO and CDO. We are committed to making the necessary smart investments to improve overall efficiencies and improve our customer experience across all interaction points. Deanna is reviewing our technology and digital capabilities as well as the blueprinting we developed related to our IT project. While she does that, the previously announced project is on hold. We will discuss our next steps in more detail in the future.

Our marketing team under Brian's leadership, along with the already mentioned analysis of catalog spending, will continue our efforts to remix and optimize our working media spend as we improve our brand voice, reach and imagery. I said last time, operational issues corrected and aside, it's all about product. I repeat that, it's all about product.

Looking to the remainder of the year, we will continue to work on improving the product. We have accelerated the use of customer insights to assist in reviewing floor sets for the coming months. Through these exercises, we are able to look through our customers' lens and bring more of those views into the process closer to the market. With this work and under Elliot and Shelley's direction, we will continue to influence the assortment as we can through the balance of this fiscal year.

As we saw with June and July, we can and will change things like color extensions, styling and visual presentation cues. I'm very pleased that our improved product and merchandising approach has shown predictable results and look forward to more improvement as all that we have initiated comes to fruition next year.

Finally, with Mark now onboard, we have done a thorough review of our cost structure and have made some decisions related to overhead and current investment spend. He will discuss that in more detail.

In summary, the changes we have made over the past year with respect to talent, brand direction and affirmation of our customer were done to ensure long-term profitable growth. The actions we took this past quarter in inventory levels and implementing management and disciplines around our buy processes and practices and addressing our cost structure were intended to move us forward faster. I strongly believe in the strength and power of this brand and in the opportunity that lies ahead. We are confident that the decisions we are making will continue to stabilize our performance, and we look forward to continuing to update you with our progress.

I will now turn the call over to Mark. Mark?

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [3]

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Thank you, Linda, and good morning, everyone. As Linda mentioned, we made good progress with efforts to stabilize the business during the second quarter. We reviewed capital and operating expenses, taking action on both, which will not only help us focus on better execution going forward but add flexibility to the P&L. And though total inventory levels are still elevated, we have assessed our in-season management processes and will bring inventory more in line with demand during the second half of 2019. I'll provide more color on these actions and the impact of the P&L in a moment.

For the second quarter, total net sales were $180.7 million, up 0.6% versus last year's $179.7 million. Total company comparable sales decreased 1.2%. Total direct sales increased 4.9% year-over-year, increasing 170 basis points as a percent of total sales for the quarter.

Gross profit was $105.3 million versus $116.7 million last year, and gross margin was 58.3% compared to last year's 64.9%. The reduction in rate was slightly better than guidance as better full price selling in the quarter helped partially offset the drag from clearing the excess product.

SG&A expenses were $200.1 million inclusive of onetime events, which I will discuss in more detail. Excluding these onetime costs, SG&A expenses were $103.4 million or 57.2% of sales versus $97.4 million or 54.2% of sales last year, with the increase driven by selling expenses, marketing investments and expense associated with the technology project prior to pausing, which we discussed last quarter.

During the second quarter, we undertook a comprehensive review of SG&A with the intent to reduce excess overhead cost, while preserving strategic investments in customer-driving areas. While still more work to do, this review resulted in reductions in overhead, including a reduction in headcount and other expenses and the closing of 1 floor of excess headquarter office space. We expect to generate approximately $5 million to $6 million in annualized SG&A savings as a result of these actions.

Our actions did not include reductions in store selling payroll or marketing expense that we continue to review these investments for efficiency opportunities. We view both selling payroll and marketing as important strategic differentiators for J.Jill, so are proceeding with our reviews with that in mind.

Including these actions, there are 3 onetime events included in the second quarter 2019 SG&A. First, from the overhead expense review just discussed, we incurred onetime charges related to severance, outplacement and impairment on the office lease right-of-use asset. Second, we had a favorable settlement related to an insurance claim for inventory destroyed in a cargo ship fire earlier in the year. The net impact of these first 2 items was a charge of $1.3 million. And lastly, the drop in market capitalization following the Q1 earnings call prompted review of the carrying value of intangible assets on the balance sheet. This review resulted in a noncash impairment charge taken in the second quarter of $95.4 million, bringing total onetime charges to $96.8 million.

GAAP operating income was a loss of $94.8 million versus income of $19.3 million or 10.7% of sales last year. Adjusted EBITDA for the quarter was $12.6 million compared to $29.3 million last year. As a percentage of sales, adjusted EBITDA was 7% versus 16.3% last year. A decrease in both dollars and rate was primarily driven by the impact of clearing excess inventory in the quarter. A reconciliation of EBITDA to net income is included in our press release.

Interest expense for the quarter was $5 million versus $4.9 million last year. Tax benefit for the quarter was $3.1 million versus a $4 million tax expense last year, and the effective tax rate was 3.1% compared to 27.4% in the second quarter of 2018, driven by the tax impact of the nonrecurring items previously mentioned.

GAAP net income for the period was a loss of $96.7 million or $2.21 per diluted share compared to income of $10.5 million or $0.23 per diluted share last year. Excluding onetime items, adjusted diluted earnings per share was a loss of $0.05 this year versus income of $0.24 per share in Q2 2018.

Turning to the balance sheet. We ended the quarter with $29.1 million in cash. Inventory at the end of the quarter was $70 million compared to $61.6 million at the end of second quarter 2018. 2019 inventory includes units removed from sales and held for disposal as well as an increase in the timing of Q3 units shipped and in-transit as of the end of fiscal second quarter. Excluding these items, on-hand inventory as of the end of second quarter 2019 was up 2% versus last year.

During the quarter, we opened 4 and closed 1 store, bringing store count to 286 at quarter end. Finally, capital expenditures were $3.8 million.

Turning now to our outlook for third quarter and the rest of the year. We took aggressive action in the second quarter to rightsize costs and address elevated inventories. We have also been working to improve our in-season management of inventory as well as our buying processes to better balance the units we offer for sale to the demand for those units going forward. We believe these efforts will pay off in the long term while also providing near-term benefits to gross profit and SG&A. That said, we still have more work to do.

Inventory levels are still elevated and uncertainty in the macro environment persists. And though our sourcing teams have made great progress the past year reducing reliance on China manufacturing to below 20% of total cost of goods sourced, some lists for tariffs are set to begin in September and will nominally impact costs of goods sold in the back half of 2019. All of these issues are taken into account in our outlook for the rest of the year.

With this in mind, we expect the following for the third quarter: Total comparable sales to decrease between 1% and 3%; total net sales will be between negative 1% to plus 1%; gross margin will decrease about 200 basis points year-over-year; interest expense for the quarter will be approximately $5 million; net diluted earnings per share is expected to be $0.10 to $0.12 compared to $0.15 in the third quarter of fiscal 2018; and lastly, we expect to open 5 stores ending the quarter with 291 stores.

Turning now to our outlook for the full year. We still expect total comparable sales to decrease 2% to 4% and total net sales to be flat to down 2%. We expect gross margin to decrease about 300 basis points year-over-year. Interest expense is still expected to increase approximately $1 million relative to fiscal 2018. The tax rate for the year is expected to be about negative 3%. Excluding the impairment, the projected tax rate is approximately 27%. Diluted earnings per share, which includes the Q2 impairment, is expected to be in the range of a loss of $1.86 to $1.90 per share. Adjusted diluted earnings per share is now expected to be $0.20 to $0.24 compared to prior diluted earnings per share guidance of $0.17 to $0.21. This guidance includes $0.09 of drag from the technology investment in the first half of the year.

During the second quarter, we reviewed and took action on planned capital expenditures for the year and are now expecting to spend between $22 million and $25 million for full year 2019. A primary driver of the reduction in capital guidance is the pausing of our technology initiative already discussed. Lastly, we continue to expect to end the year with approximately 288 stores.

In summary, we have made progress stabilizing the business, taking decisive actions in a swift manner and improving inventory management oversight and discipline. There are still more work to do, and we are cautiously optimistic as we head into the back half of the year.

That concludes my prepared remarks. I will now turn the call back to the operator for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Janine Stichter from Jefferies.

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Janine M. Stichter, Jefferies LLC, Research Division - Equity Associate [2]

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Question for Mark. Just want to ask a little bit about the inventory. If you could help us parse out the in-transit units versus the units you're holding for disposal/ I'm wondering if you opt to bring in any shipments early due to tariffs?

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [3]

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Janine, so the lion's share of the reported increase was more related to in-transit and then some was related to the inventory that we've removed and are holding for jobber. I think it's more fortuitous that we have earlier shipments coming in, in advance of the tariffs, that should present some level of benefit for us, but I can't point that, that was a strategic plan for us. It's been so fluid with respect to the tariff situation that really wasn't a strategy for us.

To be helpful, I think that the number that we reported of the on-hand units, which really is the inventory that we have available in DC or in store for sale and we reported that that's up 2% as of the end of the second quarter. The equivalent number at the end of the first quarter was up a little over 4%. So represent some sequential improvement in the carrying level of on-hand inventories.

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Janine M. Stichter, Jefferies LLC, Research Division - Equity Associate [4]

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Okay. That's helpful. And then just on the tariffs, I think you said a modest impact to the back half of the year from the tariffs that go into place in September, does that contemplate taking any price increases? Or how are you thinking about what offsets you might have there?

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [5]

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It's all included in our guidance. The team has been working on some mitigation strategies. We factored in the list for tariffs, I think the latest announcement, which was the 15% start in September, along with some of the mitigation strategies that we've had. But all of that is captured in the guidance that we've provided.

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Operator [6]

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Your next question comes from Kimberly Greenberger from Morgan Stanley.

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Kimberly Conroy Greenberger, Morgan Stanley, Research Division - MD [7]

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Linda, when do you feel confident that the products will fully reflect all of the changes that you need to make such that we'll see more normalized revenue growth in merchandise margins? And then I just had a clarification question for you, Mark. On the gross margin, the 660 basis points of decline, is that all merchandise margin pressure, or is there anything else in there?

And on the sourcing out of China, did you say you expect China product to account for 20% or less of your sourcing by year-end this year or what was the time frame on that?

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Linda Heasley, J.Jill, Inc. - CEO, President & Director [8]

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I'll start while Mark compiles the notes. We are making changes to the product as much as we can each successive job that's coming up. And so you'll see in September through the back half of this year building on the things we know she loves and making course corrections in color where we know that we had some missteps earlier in the year. I feel very excited as we build into next year relative to the direction of the new product team with Elliot and Steve onboard. They have really driven a lot of hearkening back to what J.Jill stands for and what we know our customer loves as well as a push forward to where we believe the brand can really take off. So again, I see steady improvement through the back part of the year. We are very cautious about it because, again, those were course corrections where we could and then I see a nice push forward in the -- in Q1 of next year going into the rest of the year. So stay tuned. Again, I'm getting very excited and my partner over here, Mark, keeps me tempered down, but again, I think you're going to appreciate what you see coming up. Mark?

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [9]

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Kimberly, I'll tackle. So China first. We -- as of now, the teams have been working over the course of the last -- I think over a year to bring down the reliance on China as a sourcing country. And so we are below 20% of COGS now and that's kind of an annualized statement, but I think we've made that progress now. And so that's sort of the current state of China manufacturing for us.

The year-over-year decline in gross margin of 660 basis points was primarily -- remember, at the end of the first quarter, we had too much inventory, and we have talked about the fact that we were going to be moving that inventory through the system, either through selling them through stores, but we wanted to be conscious of the impact that would have on the selling experience and also looking at alternative methods, so -- which basically means third-party jobbing, et cetera. The reality is that we ended up jobbing more than we had anticipated, and we think that was a financially sound decision because we did see some benefit through to the full price selling and sort of cleared the environment to allow the full price selling to happen through the quarter. So the primary driver was the year-over-year impact of the incremental jobbing that we did this year.

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Operator [10]

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Our next question comes from Paul Trussell from Deutsche Bank.

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Paul Trussell, Deutsche Bank AG, Research Division - Research Analyst [11]

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When it comes to the top line, could you help us understand how was in-store traffic versus your expectations and the same in terms of the direct performance, were you satisfied there? Also help us think about what happened with ticket in terms of AUR and UPT?

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [12]

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Paul, I'll take it, then Linda may want to jump in on the direct performance. The -- so through the quarter from where we guided, we came in at the better end of the range of our guidance. So I think you could interpret that we were slightly better than the guidance that we have provided in our expectations.

The in-store traffic. Traffic has not been a problem for us in the store. And I think it's a signal of the strength of the brand and the customer connection that through it all the customer traffic has been strong and that's fairly unique, I think, in specialty apparel retail. But -- so traffic hasn't been the issue. The opportunity for us is around the AUR and conversion in the store. And we did see some sequential improvement in those metrics as we sort of -- I'd mentioned it on the last question to Kimberly as we made some course-correcting actions in the quarter and decided to move more of our liable excess inventory into a jobber bucket versus trying to move it through the stores. And -- so we're encouraged by that result through -- throughout the quarter.

As for the direct performance, we reported direct sales up 5%. Pleased with that result. Linda, I don't know if there's anything you want to...

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Linda Heasley, J.Jill, Inc. - CEO, President & Director [13]

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And I think to Mark's point about conversion, conversion has been something we're very mindful of across all the touch points, all the channels. Our fastest-growing channel is mobile, and we know that's where we're most challenged with conversion. So we're making appropriate investments, particularly in the digital platform to help that conversion better. So we believe that we can move there. And then, again, I think with some of the merchandising -- visual presentation, merchandising changes and product where we could change the product in the back part of the year, that's also going to help with conversion in the store channel in particular. So we think there is some upside here relative to thinking about it smartly and leveraging. The good news for us is we have the traffic. Now if we can make the shopping experience even easier for her, we can drive conversion.

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Paul Trussell, Deutsche Bank AG, Research Division - Research Analyst [14]

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And you spoke to evaluating the infrastructure and doing some rightsizing. Any more detail or examples there?

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [15]

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Yes, Paul, we took a look at the overall cost structure. And in the quarter, we took actions on our corporate overhead, including some headcount reductions and related expenses. Along with that, in reviewing our space utilization in the Quincy office here, we were underutilizing our space. So we were able to -- we occupied 4 floors in a building and we were able to take out 1 floor, which is a little -- almost 25% of our total space. So a good opportunity for us to take that floor out.

I would just add that the -- from -- with respect to the financial impact of that, there was an impairment on that. With the new lease accounting, you take an impairment on your right-of-use asset and then the impacts on the P&L, there's actually a slight increase in occupancy expense until you effectively sublease your space and then you get the benefit of that in the out periods when you sublease it.

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Linda Heasley, J.Jill, Inc. - CEO, President & Director [16]

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In addition to costs, I would also add it's time and decision-making. We're working very hard with the product teams that we have in place right now to get decisions made earlier and in sync instead of having to do work and rework. And that's another significant cost. So it's looking at where we can reduce sampling, where we can improve our -- the quality of the product to get better full price selling when we bring it to market. So there is -- it's a whole body of work that addresses our product development calendar, which we know is long and we've brought this up before. So there's a lot of work at play.

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [17]

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Yes. And Paul, lastly, in addition to that, there were -- looking at the usual suspects, the discretionary spends around travel supplies, et cetera, everyone in the organization has stepped up in a huge way and made good contributions to those expense savings for us. Ongoing, we would take a look at more related to the indirect spend in the business, how we can become more efficient in some of our third-party expenses, et cetera, and that work is continuing.

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Paul Trussell, Deutsche Bank AG, Research Division - Research Analyst [18]

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And my last question is just regarding the outlook. Obviously, you did a little bit better, as you mentioned, this particular quarter than the original guidance provided. As we look towards the second half, what has perhaps changed or been edited from your prior forecast with the exceptions of tariffs?

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [19]

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So I'll start. We have included, obviously, the impact of tariffs, as you mentioned. We have our expense -- the impact of the expense activities that we took we've reflected. The reality is, going into the back half, we still remain cautiously optimistic about the overall environment. There is a lot of uncertainty in the macro world in the news, trade disputes that are going on create real market movements and that impacts consumer's psyche and et cetera, et cetera, right, so in terms of us -- and the guidance we're looking for continued sequential improvement, but we are still taking a stance of uncertainty around some of that more macro impacting stuff.

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Operator [20]

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(Operator Instructions) Your next question comes from Ike Boruchow from Wells Fargo.

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Lauren Marie Frasch, Wells Fargo Securities, LLC, Research Division - Associate Analyst [21]

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This is Lauren Frasch on for Ike. As we look at the back half of the year, how are you thinking about the cadence of clearing through the inventory you have as you work to rightsize your levels and its impact on margins? Given the amount of inventory you're holding today, should the bulk of that margin hit be taken in Q3 and then put you into a clean position by the end of the year? And next step, I know Paul's question touched on this a bit, but did you see sales accelerated quite a bit as percentage of total sales, could you talk maybe a little bit what the primary driver of that was?

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Mark W. Webb, J.Jill, Inc. - Executive VP & CFO [22]

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Sure, Lauren. Let me start on the margin hit. So really, the excess inventory that we're still holding is -- has been reserved down to the level that we expect to achieve in the third-party sale, right? So in terms of the margin hit, the 660 basis points in Q2 is really the hit from clearing the excess inventory and were more on a normal cadence as we -- in our guidance that we provided for the back half of the year, for Q3, implied in Q4 and the full year guidance that we provided.

With respect to the direct-to-consumer acceleration?

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Linda Heasley, J.Jill, Inc. - CEO, President & Director [23]

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So we've been doing a number of things relative to the direct-to-consumer acceleration. We've -- the new-to-brand customer in the prospecting we've been doing has -- is most likely to come into the digital platform first. And we had great success with that. We've also been working on our messaging and communication and e-mail, the site messaging, the site layout, the site imagery. The significant investments we've made this past year are really paying off and you're seeing that acceleration in web and it's been a big win for us. Having a very point of view relative to a product offering that's new and limited in its quantity that we purchased have been -- she responded very well to that. So it's a combination of factors that are working to our advantage relative to the direct-to-consumer channel.

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Operator [24]

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There are no further questions at this time. I'll now turn the call back over to Linda for some closing remarks.

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Linda Heasley, J.Jill, Inc. - CEO, President & Director [25]

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Thank you, everyone. We look forward to talking to you at our next quarter earnings call. Thank you.

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Operator [26]

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