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Edited Transcript of LB earnings conference call or presentation 23-Feb-17 2:00pm GMT

Thomson Reuters StreetEvents

Q4 2016 L Brands Inc Earnings Call

Columbus Feb 23, 2017 (Thomson StreetEvents) -- Edited Transcript of L Brands Inc earnings conference call or presentation Thursday, February 23, 2017 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Amie Preston

L Brands Inc - Chief IR Officer

* Stuart Burgdoerfer

L Brands Inc - EVP & CFO

* Nick Coe

L Brands Inc - CEO, Bath & Body Works

* Martin Waters

L Brands Inc - President, International

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Conference Call Participants

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* Paul Trussell

Deutsche Bank - Analyst

* Michael Binetti

UBS - Analyst

* Michael Yee

UBS - Analyst

* Dana Telsey

Telsey Advisory Group - Analyst

* Kimberly Greenberger

Morgan Stanley - Analyst

* Lindsay Drucker Mann

Goldman Sachs - Analyst

* Paul Lejuez

Citigroup - Analyst

* Anna Andreeva

Oppenheimer Capital - Analyst

* Simeon Siegel

Nomura Instinet - Analyst

* Kara Szafraniec

Northcoast Research - Analyst

* Brian Tunick

RBC Capital Markets - Analyst

* Matthew Boss

JPMorgan - Analyst

* Marni Shapiro

The Retail Tracker - Analyst

* Oliver Chen

Cowen and Company - Analyst

* Susan Anderson

FBR Capital Markets & Co. - Analyst

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Presentation

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Operator [1]

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Good morning. My name is Heidi, and I will be your conference operator today. At this time, I would like to welcome everyone to the L Brands fourth-quarter 2016 earnings conference call. I will now turn the call over to Ms. Amie Preston, Chief Investor Relations Officer for L Brands. Please go ahead.

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Amie Preston, L Brands Inc - Chief IR Officer [2]

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Thanks, Heidi. Good morning, everyone, and welcome to L Brands fourth-quarter earnings conference call for the period ending Saturday, January 28, 2017. As you know, we released detailed commentary last night, which is available on our website, www.lb.com.

Since our opening comments are brief, we plan to end the call around 9:45 AM. As a matter of formality, I need to remind you that any forward-looking statements we may make today are subject to our Safe Harbor statement found in our SEC filings. Our fourth-quarter earnings release, additional commentary, and the earnings presentation are all available on the website.

Stuart Burgdoerfer, EVP and CFO, Nick Coe, CEO of Bath & Body Works, and Martin Waters, President of International who is joining us from China this morning, are all joining us today. And now, I'll turn the call over to Stuart.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [3]

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Thanks, Amie, and good morning, everyone. We're not satisfied with our overall fourth-quarter results. Performance was mixed. PINK and home fragrance at Bath & Body Works delivered solid results, but overall mall traffic decelerated in December, and at Victoria's Secret, merchandise margin rates were negative impacted by actions taken in order to end the year with clean inventory.

Looking forward to 2017, we have confidence in the long-term growth opportunities for our business. Our brands are strong and lead their categories, and we have a talented and aligned leadership team. We're continuing to invest in initiatives that will drive significant growth, including White Barn remodels at Bath & Body Works and investment in China.

As you know, in early 2016, we also made strategic changes at Victoria's Secret to streamline the business, focus on our core categories, and accelerate growth. While these investments and strategic actions will continue to put pressure on results in 2017, we're confident that they are providing the platform for accelerated future growth.

Beyond the short-term impacts to this year, we remain committed to our goals of growing annual operating income by 10%, and an operating income rate in the high teens. We will continue to focus on the things that we can control, and manage inventory, expenses, and capital spending with financial discipline. With that, I'll turn the discussion over to Nick.

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Nick Coe, L Brands Inc - CEO, Bath & Body Works [4]

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Thanks, Stuart. So just a few comments. While results were better than last year, they were below our expectations, and it really was our speed, or our business model, really translated as agility, that allowed us to win a during challenging Q4 environment. Looking back at Q4 though, there really continued to be a shift in traffic patterns, and that puts pressure on us to think differently about how to play, or how to maneuver our way through that really critical time frame of the year.

However, that shift in traffic provided opportunity in January, allowing us to grow sales and margin, as the quality of our inventory mix was good and demand was strong. Clearly, we're not immune to the ups and downs or the fluctuations in customer behavior, but our business model becomes invaluable, and shows we can react appropriately, missing our expectations on top line growth, but finishing with inventory down to last year, and not having to overly promote the brand is a good place to be, and frankly a positive outcome to the season.

All in all, it was a challenging quarter, but we managed to grow top line and operating income, with terrific insights into next year, that we've already started to take action on. We remain committed to staying close to the customer, and leveraging our business model to remain as nimble as we possibly can, as the market appears to continue to remain pretty dynamic.

Just a thought on February, February was very much a month of ups and downs, and we were surprised by traffic trends, especially in the middle of the month, during the holiday shift, so about a 12 day period. Outside of those two weeks, our trend in the business really wasn't dissimilar to what took place in November and December.

Some category shifts, nothing startling, and pretty much in line with what we've really been witnessing in the past. So I think it's difficult to predict a true run rate until we get through March and April, where we obviously have more holiday shifts, and our online business has been good. So with the same assortment, that leads us to back to what has been going on from a traffic perspective that we see in the mall. With that, I'll turn it over to Martin.

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Martin Waters, L Brands Inc - President, International [5]

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Thanks, Nick, good morning, everybody. As Amie said, I'm joining the call from Shanghai, where we just opened our first full assortment Victoria's Secret store in China today. Really a terrific store, about 25,000 square feet, four floor store, a real global flagship for the brand. And I'm really delighted with our execution, and frankly blown away by the customer reaction we've seen today.

I was in Chengdu earlier this week. That store opens tomorrow, and before that I was in Beijing, visiting the site of our flagship store for the capital, and that opens in December. I continue to believe that China will be an enormous market for us, and I'm very happy that we made the decision to invest now, for a long-term success. And with that, I'll turn it back over to Amie.

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Amie Preston, L Brands Inc - Chief IR Officer [6]

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Thanks, Martin, and at this time, we are ready to take your questions. I'd like to remind everybody that we're trying to get to as many people as possible on the call, so please limit yourself to one question. Thanks, and I'll turn it back over to Heidi.

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Questions and Answers

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Operator [1]

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(Operator Instructions)

Paul Trussell, Deutsche Bank.

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Paul Trussell, Deutsche Bank - Analyst [2]

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Hi, good morning. Just wanted to really get a little bit more context, around how you're approaching this year, from an earnings guidance standpoint? And perhaps give us a little bit more clarity on expectations, around the extent of the deleverage in occupancy, versus the merchandise margin opportunity, especially as we go throughout the year?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [3]

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So Paul, it's Stuart. Thanks for your question, and good morning. And terms of how we're approaching earnings guidance this year, versus what I'll call our historic approach or mindset, it's consistent. And that is that internally, we seek to plan and run the business conservatively. And then, when we have an indication of opportunity in sales trends, we read and react, and chase and pursue upside opportunity. And that mindset, as it relates to how we run the business on the near-term basis is reflected in our earnings guidance, meaning we try to plan and forecast the business relatively conservatively.

As it relates to the buying and occupancy rate for the year, there is going to be some deleverage in the P&L, driven by sales pressure on a top line basis, and also ongoing investment, both at Victoria's Secret and Bath & Body Works in remodeling stores. 2016 B&O benefited from the reduction of catalog marketing activity, which we have historically classified or [declassified] in B&O. So in terms of 2017, consistent overall mindset, and some deleverage in the P&L and B&O, driven by sales and ongoing investment in our stores. Thanks.

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Amie Preston, L Brands Inc - Chief IR Officer [4]

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Thanks, Stuart. Next question, please?

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Operator [5]

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Michael Binetti, UBS.

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Michael Binetti, UBS - Analyst [6]

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Hey, guys. Good morning. Just a quick modeling question. If you could, could you please clarify the comment you made on the holiday shift in the middle of February? And I think you were trying to help us normalize that, for some of the noise in the month, and how you are comparing it to trends that you saw before February? I just want to make sure I was clear on that.

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Nick Coe, L Brands Inc - CEO, Bath & Body Works [7]

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Sure. Michael, I think the way we're looking at is, the timing shift between when Valentine's Day fell last year, and when it fell this year, and the timing shift between Presidents' Day last year, and Presidents' Day this year. And in that 12 day window we saw both, [Martin] and ourselves, pretty heavy traffic declines. Outside of that, which is where we saw in our decline in our business, outside of that, the periods pre and post have been more stable, and more consistent with the run rate that we had in November and in December.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [8]

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Any other thing I would add, is that our quarter guidance, and it was in the commentary that was circulated last night, our quarter guidance assumes an improvement in the sales trend, from February for the balance of the month.

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Michael Yee, UBS - Analyst [9]

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Okay.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [10]

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Or the balance of the quarter, excuse me, balance of the quarter.

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Michael Yee, UBS - Analyst [11]

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Could I just ask you on, as we look at how the year could flow for you, maybe just a little more about what you're seeing in the business for the second half, because obviously we're going have two very different things going on, first half, versus second half. But could you talk about some of the puts and takes that land you, at what I think you are pointing to is, maybe positive low single-digit comp trajectory in the second half, if I'm reading correctly that's where you feel like the go-forward categories will be trending, coming out of the first half?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [12]

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From a business standpoint, I mean the assumption that's reflected in our modeling and our forecasting is that we'll continue to make meaningful improvements in our merchandise assortments, in how we market and sell those in our business, particularly at Victoria's Secret.

PINK has been a steady business and running well, and very strong growth, we assume that will continue. Easy to say, hard to do. But PINK is led by Denise Landman, and has a great team. But as it relates to lingerie and beauty, as you know we've got two new leaders in that business, Jan Singer and Greg Unis, and they're doing fundamental important work to improve merchandise assortments, the product itself. And we have a belief that the benefit of those efforts will particularly benefit the back half of the year.

Also it will be a function of what we're lapping, and it will be a function of the negative impact in the first half of the year related to the category exits at Victoria's. The pressure from China moderates in the back half of the year, is another aspect of what's going on. So acceleration in business at Victoria's lingerie and beauty, the effect of the swim and non-go-forward apparel exits concentrated in the first half. And then some timing as it relates to the drag from China year-on-year, putting pressure on the first half of the year, and not so much in the second half.

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Michael Yee, UBS - Analyst [13]

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Thanks a lot, guys.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [14]

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Sure.

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Amie Preston, L Brands Inc - Chief IR Officer [15]

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Thanks. Next question, please?

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Operator [16]

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Dana Telsey, Telsey Advisory Group.

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Dana Telsey, Telsey Advisory Group - Analyst [17]

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Good morning, everyone. How are you thinking about real estate and the store base, given the mall traffic environment, and what's happening in the malls? How do you see it evolve and go forward?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [18]

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So it's (inaudible) story. Obviously, an important question. We believe that our brands best comes to light in a store environment.

We have strong, terrific compelling highly profitable online businesses. As you know, about $2 billion in sales related to our online business, and a big global opportunity. But kind of reflecting our belief in the store business, Martin Waters is on this call from China, because of -- in part because of the importance of the physical store and the experience that represents.

With that said, as provided in the circulated commentary last night, we will continue to monitor our real estate investment, our square footage, our productivity, our profitability, our CapEx on a regular basis. And as compared to the view that we had, and shared with you during the October Analyst Day, we pulled back our CapEx related to real estate, about $125 million between then, and our current view. And we'll continue to look at it through the year, depending upon the performance in our business. And that reduction was in dollars, about equally split between Victoria's and Bath & Body Works.

So our real estate is in terrific shape. As you know, 99%-plus of our stores are cash flow positive, our sales per foot, more $800 a foot. A lot of the investment in square footage expansion that we're making relates to the PINK business that has sales productivity of $1,300, $1400 a foot. But again, all that said, we'll continue to monitor the results, and adjust accordingly. And last last, we're participating well in both channels. So we have a very strong store base business, and we have very strong online business in North America, and one that will emerge globally.

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Dana Telsey, Telsey Advisory Group - Analyst [19]

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Thank you.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [20]

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Sure.

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Amie Preston, L Brands Inc - Chief IR Officer [21]

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Thanks, Dana. Next question, please?

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Operator [22]

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Kimberly Greenberger, Morgan Stanley.

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Kimberly Greenberger, Morgan Stanley - Analyst [23]

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Great. Thank you, good morning. I'm wondering if you can sort of step back, and reflect on all the strategic changes made at Victoria's Secret last year, and share with us, what are the results that you've seen, that are in line with what you were hoping to see? And relative to your expectations when you started on this journey, what are the pieces that have come through in a somewhat disappointing way? Thanks so much.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [24]

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Sure. Thanks, Kimberly. So in terms of an overall assessment of the changes that Victoria's implemented in 2016, the first I would say, is that we attracted through the changes that we made, a younger customer, which we believe is very important to our business. We've always felt that way, Les has felt that way about, that our businesses from the very beginning. Having that younger customer is very important, and we believe we made substantial progress on that.

Secondly, Kimberly, I would say that we drove a lot of unit growth in the bra business. And as you're aware, as most are aware, there are two emerging categories, or newer categories in the bra business that we pursued very, very aggressively. And we drove a lot of growth in this category, and those being bralettes and sport bras. And so, that was a goal. We went after it in a big way, and we drove substantial growth in those businesses.

The next thing that comes to my mind in an assessment, is that we brought two new -- we reorganize the business, as you were aware, it was run as one business. We broke it into three parts, lingerie, PINK, and beauty. And through that, combined the store and online channels under each of those three leaders.

And how I would assess that, is Denise Landman has been in the business a long time, has a very strong track record, and through those changes, I think it only -- that organizational change only gives us more confidence in the ongoing growth opportunity for PINK. And that manifests itself in terms of space allocation, marketing resources, et cetera, selling efforts online and in-store. And the ability to pursue growth in PINK is enhanced through that organizational change.

We're very optimistic about what Greg Unis and Jan Singer are going to do for our business. It's early. If you said, well, tangibly, what have they done? We'll see more of that in 2017, but based on their entry into the business, they're onboarding into the business, and how they present themselves as retail leaders and merchants, marketing perspective, et cetera, very, very encouraged about what they'll be able to do for our business.

I would say, as it relates to the marketing and the business, as you know, Kimberly, we were spending substantial money in an old idea called the paper catalog. And realized that there's probably some controversy with that idea of eliminating that marketing vehicle. But it was a primary vehicle for us, and we believe one that was out of date.

And I think we made good progress, more to do, but good progress on shifting and accelerating -- and we've obviously, always been a digital marketer, but taking some of that financial resource, and maybe more importantly [mind time] and shifting that to more relevant ways of communicating with today's customer. I think we made good progress on that, more to do, but that shift, I think was reasonably well executed.

We've spoken before, but I think -- in answer to your question, it's worth highlighting again, one of the specific things that Greg was able to do in the beauty business, is he reduced the SKU count, the assortment by 35% to 40%. And working with the mass sourcing function, is now making very heavy use of what we call, the beauty park here, in the greater Columbus area, the benefit of which, as you know is about reducing lead times, and driving speed. So very good progress in rationalizing the assortment and reducing lead times, through the beauty park opportunity'

Maybe lastly, I would say, we drove a lot of trial in key categories with promotions. But I would say that we're still learning how to balance driving overall traffic to the store, with -- in that goal, with driving unit growth and volume and select categories, and I think we made some progress there, certainly. But that's an area that the team is thinking a lot about, how to strike the right balance between driving, again growth in key categories, and more fundamentally just driving traffic to the store.

So those would be the -- we exited the swim business, and we ended our inventory clean. So we sold through the swim goods that we bought, and did so in a pretty reasonable way at a healthy margin, and those goods have been sold through. And through all the changes that you're aware of, and I've tried to headline here, we ended the year with inventory numerically and qualitatively at Victoria's in very, very good shape.

So we got pressure in the first half of the year, as we've outlined, as you appreciate from the sales and margin impact on the non-go-forward business that we had a year ago, but we're optimistic that we've laid a good foundation for accelerated growth in the back half of 2017, and for the next several years. Long answer, but a big question. (multiple speakers)

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Kimberly Greenberger, Morgan Stanley - Analyst [25]

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Thank you so much. I appreciate it.

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Amie Preston, L Brands Inc - Chief IR Officer [26]

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Thanks, Kimberly. Next question, please?

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Operator [27]

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Lindsay Drucker Mann, Goldman Sachs.

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Lindsay Drucker Mann, Goldman Sachs - Analyst [28]

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Thanks, good morning, everyone. Following up, Stuart on those comments about promotions, and the shift towards driving trial versus just driving traffic to the store. Last year, when you made a pretty dramatic change in your approach to promos, as you think about this year, could we see a bit of a reversion to some of the old methods that have been successful in driving traffic? Maybe not a full a return to the mailers, but are you kind of reevaluating the sort of aggressive reduction in promos, is maybe an opportunity to do a little bit better in traffic?

And also, as you think about how aggressive the markdowns were in bras specifically, towards the end of last year and into holiday, do you feel like maybe there's just a little bit of fatigue right now from the consumer, that's weighing on the of business, because they came off a such a very promotional holiday, that she needs a bit of a reset? And that's part of what's kind of weighing on the business in the short-term? Thank you.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [29]

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Sure. Short answer to your first question, which is about continuing to evaluate the nature of promotion, the short answer to that is, absolutely yes. And one shouldn't conclude from that, and you recognized in how you phrased the question, we're not going to go right back to where we were promotionally, in terms of just very significant quantities, of a very simple and not brand-building coupons, as we would refer to them.

But we are reevaluating how to have relevant promotion, delivered in a brand-building way to her, in traditional mail, and electronically, and communicated in a number of ways, as you would appreciate. And those evaluations continue, and they're very important to the business, and I'm optimistic that we'll make good ground on that this year in 2017.

As it relates to the promotional fatigue, Lindsay, I think there could be some aspect of what you're describing, but what I really think about in answer to your question is, what is most important to Victoria's Secret or Bath & Body or businesses like these is having fresh, new, compelling product. And if we deliver well on that, or I should say when we deliver well on that, all these other aspects diminish in importance pretty significantly.

And that is absolutely what Denise and Greg and Jan are focused on, which is regular flow of compelling, new merchandise into the business. Again, is there some aspect of what you're describing? It may be true, probably it's a reasonable theory, but I'm highly confident that what really solves all of that, is compelling newness in our assortments.

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Lindsay Drucker Mann, Goldman Sachs - Analyst [30]

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Great. Thank you.

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Amie Preston, L Brands Inc - Chief IR Officer [31]

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Thanks, Lindsey. Next question, please?

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Operator [32]

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Paul Lejuez, Citi.

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Paul Lejuez, Citigroup - Analyst [33]

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Hey, thanks, guys. I'm just curious if anything changed in how you promoted either of businesses in February? And also, have you seen periods in the past when things fell off to this magnitude, one quarter to the next? And if so, what was the reason behind it, and how did that get fixed? Thanks.

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Amie Preston, L Brands Inc - Chief IR Officer [34]

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Thanks, Paul. We will start with the Nick.

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Nick Coe, L Brands Inc - CEO, Bath & Body Works [35]

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Hi, Paul. It's Nick. We didn't really make any major changes to the promotional activity in the month of February. So obviously, we came off of a very strong January, and came into February. And as I said, the real challenge was in the middle of the month.

What was interesting to us during the month, was where we tried to fight traffic and pulse different ideas, we found a pretty solid receptivity from the customer. So whether she was in the mall or not, or whether she was anticipating to shop, during that change in traffic, our ability to drive traffic if we needed to, with different pulses was actually pretty positive, which says underneath all of that, do we have product acceptance, do we still have a compelling brand proposition, and so that's one aspect of it.

The other aspect of it was, we were also -- we're very much a short cycle business, and the importance of us testing, especially products, less so price, but especially product, to give us clues into where should we be going, has also been very valuable during the month, that -- it gives us a pretty solid point of view, in terms of how do we want to evolve the brand, where do we want to take the brand to, especially in light of the fact that we are a very short cycle business. So that's really the main -- there were no major change to the promotional or marketing aspect to it, outside of just trying to understand receptivity during those difficult traffic periods.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [36]

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And Paul, Nick alluded to it, earlier in his remarks. For both Bath & Body and Victoria's Secret, the businesses continues to be very strong online. And that's just a very important point to register. And we have seen in our businesses, and as reported by third-party service, a substantial reduction in mall traffic in February, for whatever reason. Is it tax refund, who knows what it is, but it was a substantial fall off,

And so fundamentally that's what's going on. And what we're focused on as a management team is what we can control, which is about, again about product, and managing the business with financial discipline, and we'll do that. But I think we had a -- and then, the last point, just to make sure we understand, we quantified it for you guys in the pre-circulated remarks, is another compounding factor in all this, is that impact of the exits at Victoria's on their number, and on the total Company number, which in the first part of the year, as you know, is significant.

So when you are looking at the headline level number, it gets your attention, and it certainly gets ours. But again it's mall traffic, it's the impacts of the exits at Victoria's. And again, what gives us some level of confidence and comfort, is the business continues to perform very well online.

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Paul Lejuez, Citigroup - Analyst [37]

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Thanks, guys. Good luck.

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Amie Preston, L Brands Inc - Chief IR Officer [38]

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Thanks a lot, Paul. Next question, please?

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Operator [39]

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Anna Andreeva, Oppenheimer.

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Anna Andreeva, Oppenheimer Capital - Analyst [40]

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Thanks so much. Good morning, guys. I guess, a follow up on February. So historically, do later tax refunds affect the BBW customer disproportionately, or is this additional volatility being seen at both businesses right now? I guess, understanding the limited disability out there, but what kind of a comp at Victoria's are you embedding in the 1Q guide, and for the year? Thanks.

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Amie Preston, L Brands Inc - Chief IR Officer [41]

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So we'll start with Nick.

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Nick Coe, L Brands Inc - CEO, Bath & Body Works [42]

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Yes, hi, Anna. I don't know if we can genuinely sit here and factually comment on, whether there is an impact associated with that. Wouldn't surprise me, if there is a nation of fierce consumers, and they're waiting for cash to come back, that could be an impact to that. But I think it would be dangerous and/or difficult for us to genuinely quantify that. I think it will be interesting to see what will happen. And as I said earlier in the remarks, it's going to be difficult anyway, because of the Easter shift, so it will be important to get through March and April, and understand the combination of both of those months. So we shall see.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [43]

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The guidance assumption for Victoria's for the quarter, first quarter in total, is down low double-digits, so you can call it 12%, 13%. Importantly, remember that number reflects the impact of the exits, and so the go-forward business assumed comp, is a negative low single-digit for the quarter. Thanks.

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Amie Preston, L Brands Inc - Chief IR Officer [44]

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Thanks, Anna. Next question, please?

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Operator [45]

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Simeon Siegel, Nomura Instinet.

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Simeon Siegel, Nomura Instinet - Analyst [46]

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Thanks, guys. Hi, good morning. Stuart, so just with the moving pieces on the top line, can you help quantify the puts and takes, in the gross margin expectations for Q1 and the full year?

I'm just thinking through, with the exits largely behind, you mentioned clean inventory. I think you called out beauty being up mid single. Just shouldn't there be some merch margin improvements? So maybe any help, thinking through the size of pieces behind the significant Q1 decline? Thanks.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [47]

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Sure. The decline in gross margin percentage in Q1 is driven by the occupancy deleverage that I mentioned before. And so, for the Company in total, there's a slight decline in merchandise margin rate, but the real phenomena going on within the gross margin line, is the deleverage effect related to occupancy.

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Amie Preston, L Brands Inc - Chief IR Officer [48]

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And for --

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Simeon Siegel, Nomura Instinet - Analyst [49]

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And then, just thinking through those pieces, should there be a point where the merch margins starts, or ends up being a positive tailwind to merchant margin?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [50]

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Yes, in the back half of the year, Simeon, in the third and fourth quarter.

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Simeon Siegel, Nomura Instinet - Analyst [51]

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Okay, great. Thanks a lot, guys. Best of luck for the year.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [52]

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You're welcome.

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Amie Preston, L Brands Inc - Chief IR Officer [53]

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Thanks, Simeon. Next question, please?

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Operator [54]

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[Kara Szafraniec], Northcoast Research.

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Kara Szafraniec, Northcoast Research - Analyst [55]

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Good morning. Just a quick question about mix at Victoria's Secret. Is mix likely to remain a pressure point this year, and if mall traffic remains negative and mix skews to that lower price point, what you do guys see as a path to getting back to positive comps at Victoria's Secret? Thank you.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [56]

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So mix will be -- will present some pressure for Victoria's in the first half of the year, as we went after the bralette and lower AURs sport bra business aggressively in the second half of 2016, so the mix will present some pressure in the first half of 2017, should not in the back half of 2017.

In terms of how we're going to grow sales at Victoria's Secret, it really gets back to the merchandise, most fundamentally, and then how we market and sell effectively both in stores and online. And through some of the commentary previously, hopefully you know that our dominant emphasis is on merchandise itself. And then, through compelling store design and compelling online presentation, good interactions with associates, sales experiences in stores, that's how we drive growth in the business. Thanks.

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Amie Preston, L Brands Inc - Chief IR Officer [57]

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Thanks, Kara. Next question, please?

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Operator [58]

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Brian Tunick, Royal Bank Canada.

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Brian Tunick, RBC Capital Markets - Analyst [59]

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Thanks, good morning, everyone. Two quick ones. Just wanted to hear more about PINK, which opportunities in category growth do you think are the greatest? I obviously, know you're not getting out of swim there, but how big do you think that business could be, and what are the most exciting opportunities there?

And then maybe just Nick, could talk briefly on the signature? I think that was a little bit of a slowdown in the holiday quarter, and curious what the timing is, the opportunity to course-correct that product category? Thanks very much.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [60]

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Brian, I think, as you know with respect to PINK, we continue to be very bullish on that business. And they've got a very strong loungewear and apparel business, and they've had that for a long time, and they've always had a very strong panty business, and they've also developed a very compelling high growth, high profit bra business within that brand.

So in terms of the growth opportunity, we see -- and I realize how this may come across, but we see several billions of growth and opportunity, to really double that business over the next four or five years, based on results that have been achieved over time, in our extrapolation mathematically around square footage in North America, let alone what we may be able to do internationally.

As you know, that starts with a clear brand identity and brand position, and then a very strong merchandise and marketing execution consistent with that position, and leveraging capabilities that you've heard us talk a lot about, including read and react, and chase, and short lead times, and all of that whole mindset.

And again, Denise and our team has such a strong understanding of that customer. They're not perfect, they don't get it right every time, but their record is very, very good, and when they do have a miss, which is inevitable in these businesses because of those short lead times, and just their mindset of how they run that business, they adjust very quickly. So I'm very optimistic about the growth potential for PINK over the next several years.

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Amie Preston, L Brands Inc - Chief IR Officer [61]

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Thanks. Nick?

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Nick Coe, L Brands Inc - CEO, Bath & Body Works [62]

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Hi, Brian. So I think the best way to think about this, is obviously I mentioned, earlier, one of the benefits of having a short cycle business is that we get to leverage one of our best competencies, which is testing. So we've had a relatively aggressive testing agenda taking place during the spring, and that will continue, and those reads will be most beneficial for the back half. So more to come on that, as we get to the back half.

I think the other way of looking at it is, and with each delivery as we go through the spring season, there will be newness that is of a nature that's helping us evolve the brand as we move forward -- and I'm talking specifically about signature as per your question. So we'll be in a read and react mode in the spring for the back half, and we'll also be in a read and react mode, for things that we put in the assortments that are coming anyway, or have come, and are coming anyway, that will lead to, how do we evolve this part of the business. And so far, we're confident with what we're seeing, and I think we're moving in a pretty solid direction.

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Amie Preston, L Brands Inc - Chief IR Officer [63]

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Thanks, Nick. Thanks, Brian. Next question, please?

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Operator [64]

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Matthew Boss, JPMorgan.

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Matthew Boss, JPMorgan - Analyst [65]

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Thanks. So with the moderation in the quarter of the Victoria's Secret comp, much of the decline do you think is company-specific versus category dynamics? And I guess, said differently, do you think you're losing share in the intimates category, or is it over all category growth perhaps declining, just given the lower AURs?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [66]

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Yes. I think, depending upon whether you measure share in units or dollars, you might get a little bit different answer, because we drove very strong unit growth in 2016. We don't think about market share a lot, frankly because as the market leader and the dominant participant in the category, what we're looking to do is grow the market fundamentally. But while there certainly are some emerging competitors, and some well-known names if you will, and then some smaller emerging players.

We're -- while we always had competition from the very beginning of the Victoria's Secret business, we think we're well-positioned, based on all the equities that the brand has, and the capabilities of the team and the organization to continue to be in a very good leadership position. And again, we drove significant unit growth in 2016 in our categories. Thanks.

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Matthew Boss, JPMorgan - Analyst [67]

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Great.

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Amie Preston, L Brands Inc - Chief IR Officer [68]

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Thanks, Matt. Next question, please?

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Operator [69]

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Marni Shapiro, The Retail Tracker.

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Marni Shapiro, The Retail Tracker - Analyst [70]

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Hey, guys. I'd just like to dive a little bit more into bra business, the lingerie and bra business, and AUR specifically. As I recall, last year you had pressure on AUR from stale product and some couponing. It sounds like this year and the back half of last year, some pressure there from trial on the sport and bralettes. So looking forward through 2017 and beyond, when should we start to see AUR begin to stabilize? And then can you talk about the merchandise margin complexion of bralettes and sport, versus say, your traditional bras and push-up business?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [71]

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Sure. Thanks, Marni. Short answer to your first part of your question is, I would expect stabilization of AURs in the back half of 2017, reflecting the commentary earlier about our aggressive push into bralettes and sport bras that we pursued in the fall of 2016, and those categories, in the bra business, do come at lower AURs. We'll be anniversary that, and so I would expect that we would have a stabilization of AUR. And that I'm trying to remember second part of your question?

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Marni Shapiro, The Retail Tracker - Analyst [72]

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Just the complexion of the margin between bralettes and sport, versus your traditional bra and push-up business?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [73]

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Yes, over time, Marni, we would expect to have those margin rates be similar to the overall bra business. Now I said over time, we were very aggressive in pricing in 2016, to drive a lot of unit growth and a younger customer to our business and that was intentional. It was by design, and we were successful in doing that.

With that said, we will through fundamentally differentiation of merchandise in those categories, look to have margin rates over time, that are more similar to the overall bra business. And we're not formulaic about that, and one should use a lot of judgment on that, and you got to about dollar growth versus rates and so on, and we try to do our best at that. But maybe by example, if we thought about some other parts of our business over time -- for example, the PINK business, there was a time when PINK business had margin rates that were meaningful below Victoria's Secret lingerie margin rates.

That's no longer the case, and they did a great job through compelling merchandise, sourcing capability, speed, read, react, adjust to meaningful margin rates while still driving terrific growth in that business. And we'll be looking to do the same in the sport bra and bralette categories.

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Marni Shapiro, The Retail Tracker - Analyst [74]

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If you pull out the sport bra and bralette category for just a moment, and you look at your core bra business, the go forward part of it, has that portion stabilized, or are you still aggressive there, as well? Just trying to separate the two, because you almost have two bra businesses right now?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [75]

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I understand, and I want to be a little sensitive to how much we give out on the call. But yes, there was some AUR pressure in the constructed bra business in 2016, and obviously, we'll be looking to moderate that, and get to flatter improved AURs in 2017, as the year progresses.

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Marni Shapiro, The Retail Tracker - Analyst [76]

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Fantastic. Thank you, best of luck.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [77]

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Yes, thank you.

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Amie Preston, L Brands Inc - Chief IR Officer [78]

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Thanks, Marni. Next question, I think we've got time for maybe two more.

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Operator [79]

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Oliver Chen, Cowen and Company. Please go ahead.

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Oliver Chen, Cowen and Company - Analyst [80]

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Hi, thank you As we do look forward, what's the nature or a general framework for how you are thinking about pricing, between your core versus sports and bralette? And you did touch upon this, but would love any additional thoughts on the nature of your competition? Just because as we think about categories and channels and online pure plays, I'm curious about what's happened with competition, as you brief us on [core bets] that you're making in the business?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [81]

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Thanks, Oliver. So on the first question around pricing, and pricing as a subject is a big subject. And at the end of the day, in our business generally, and it would be true in the apparel and the bra business, we want to create differentiated merchandise, compelling merchandise, where we have emotional content. And from that, as you know, pricing power.

And we think we do that pretty well, through the merchandise itself, and through the quality of the store format, the online experience, interaction with sales associates, the emotional content, in its fullest sense, first and foremost, merchandise, but everything that surrounds it in the business. And so, that's how we work to create value.

And then, we balance promotional activity to ensure that in important time periods, and just to drive traffic and volume and transactions, relationship over time, that we're driving volume, balancing rate and pricing and dollar results. So that's how we think about it generally. I realize that may sound pretty general, but that's how we think about it.

As it relates to competition, the first thing I would say, and this -- I realize you'll take it for what's it worth perhaps, but frankly, I'm glad we're in categories that are attracting competition. So one of the things that we feel strongly about in this business, is that we're in two great categories of retail, and that is personal care and beauty, and separately in intimate apparel.

And if we were in categories of retail where you would say it was intensely competitive, and the average margin was 4% operating income rate -- I could think about some other categories of retail, that might cause you to conclude one thing. Intimate apparel, personal care and beauty have been very attractive categories for a long time, and there has been a regular flow of new competitors for a long time, 20, 25, 30 years

At the end of the day, based on the leadership positions that we have, the quality of the brands that we have, and the quality of leadership that we believe we have in the business, we remain very confident about our ability to maintain and grow our leadership positions in those two broad categories of retailing. So is there a little bit more noise out there today? (multiple speakers) Probably is, but again, we remain very confident.

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Oliver Chen, Cowen and Company - Analyst [82]

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Just a quick one. With the pricing, is sport going to be a trial year in the back half, or is a little bit of TBD, as you, test, read and react? I'm curious about that, because I know it's been a strategy to generate trial, but will that fade off, or should we expect that in the second half, as well?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [83]

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I think we'll -- in both the bralette and sports bra categories, we'll begin to moderate the aggressiveness of our pricing as we work through 2017. But that in part, is a function of how compelling the assortments are.

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Oliver Chen, Cowen and Company - Analyst [84]

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Thank you.

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [85]

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Thanks, Oliver.

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Amie Preston, L Brands Inc - Chief IR Officer [86]

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Thanks, Oliver. And we're a little over time, but I promised one last question, so one final question. And hopefully, it will go to Martin, because he's sitting out there in Shanghai, all by his lonesome, and nobody is giving him any love. (laughter) So one last question.

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Operator [87]

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Susan Anderson, FBR Capital Markets.

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Susan Anderson, FBR Capital Markets & Co. - Analyst [88]

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Hi, good morning, and thanks for fitting me in. So yes, a quick question, actually on the international markets. Maybe if you can remind us, when you started seeing the pressure on that business from FX? So when should you start to cycle it? And then, it looks like the [VSBA] business is also still seeing some pressure. But any thoughts around that improving, now that we are seeing beauty improve at the [VSBA] in the US? Thanks.

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Amie Preston, L Brands Inc - Chief IR Officer [89]

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Martin?

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Martin Waters, L Brands Inc - President, International [90]

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Yes, thanks Susan, for squeezing me in. I'll maybe answer the question on the [VSBA], and then I'll throw it back to Stuart on the compare on FX. I think the patterns that we've seen in [VSBA ] very much mirror the patterns that we've seen in the beauty business in North America. And as you know, under new leadership, we're starting to see some traction there, and we're excited about what's in front of us for the spring season.

And I would expect that to flow through, in a replication model to all of our international businesses, be they in the big store format, or the small store format. So yes, I think pretty much the same pattern, that what you get away from home, is the same as you get at home. Stuart, do you want to comment on when we cycle the FX?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [91]

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Absolutely. Susan, currency start impacting our Company in total, and as you would expect largely or meaningfully in the international segment, really beginning in the fourth quarter of 2014. And that effect continued through 2015, continued into 2016, but moderated in the back half of 2016. And we don't expect that this point, a significant FX pressure in.2017

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Susan Anderson, FBR Capital Markets & Co. - Analyst [92]

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Great. I guess, I was wondering more on the tourist side. I think, obviously, travel has been I think lower because of FX. So I was wondering if you expect that to pick up or stabilize anytime soon, in the international markets?

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Stuart Burgdoerfer, L Brands Inc - EVP & CFO [93]

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Martin, do you want to take that or do want me?

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Martin Waters, L Brands Inc - President, International [94]

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Yes, I'd say, very difficult to tell really. I don't think people can predict what's going to happen in the travel market. But the extent of the change is relatively small to be honest with you, Susan. What I would tell you, and I am somewhat biased, because I'm sitting here in China, is that China is absolutely fantastic. And this is a great opportunity, and I'm thrilled with what we're doing here, and the opportunities both in the local market, and in the travel sector in China, will be just spectacular in the years to come.

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Susan Anderson, FBR Capital Markets & Co. - Analyst [95]

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Great. Sounds good. Good luck next quarter, you guys.

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Martin Waters, L Brands Inc - President, International [96]

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Thank you.

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Amie Preston, L Brands Inc - Chief IR Officer [97]

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Great. Thanks, Susan, and thanks everyone for joining us this morning. We appreciate your continuing interest in L Brands. Thanks.

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Operator [98]

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