LEVI - NYSE

Good day, ladies and gentlemen, and welcome to the Levi Strauss & Co First Quarter Earnings Conference Call for the Period Ending February 26, 2023. All parties will be in a listen-only mode until the question-and-answer session, at which time instructions will follow. This conference call is being recorded and may not be reproduced in whole or in part without written permission from the Company. This conference call is being broadcast over the Internet, and a replay of the webcast will be accessible for one quarter on the Company's website at levistrauss.com. I would now like to turn the call over to Aida Orphan, Vice President of Investor Relations at Levi Strauss & Co.

Thank you for joining us on the call today to discuss the results for our first fiscal quarter of 2023. Joining me on today's call are Chip Bergh, President and CEO of Levi Strauss; and Harmit Singh, our Chief Financial and Growth Officer. We have posted complete Q1 financial results in our earnings release on the IR section of our website, investors.levistrauss.com. The link to the webcast of today's conference call can also be found on our site. We'd like to remind everyone that we will be making forward-looking statements on this call, which involve risks and uncertainties. Actual results could differ materially from those contemplated by our forward-looking statements. Please review our filings with the SEC, in particular, the Risk Factors section of our Form 10-K and the information included in our quarterly report on Form 10-Q that we filed today for the factors that could cause our results to differ. Also note that the forward-looking statements on this call are based on information available to us as of today, and we assume no obligation to update any of these statements. During this call, we will discuss certain non-GAAP financial measures. These non-GAAP measures are not intended to be a substitute for our GAAP results. Reconciliations of our non-GAAP measures to their most comparable GAAP measures are included in today's press release. Finally, the call in its entirety is being webcast on our IR website, and a replay of this call will be available on the website shortly. Today's call is scheduled for one hour, so please limit yourself to one question at a time to give others the opportunity to have their questions addressed. And now, I'd like to turn the call over to Chip.

Good morning, and welcome, everyone, to today's call. Coming off 26% constant currency growth in our year ago period were off to a solid start to the year. We grew first quarter revenue 9% in constant currency and 6% on a reported basis to $1.7 billion, while driving strong progress on inventory and advancing the key initiatives of our strategic plan. In our direct-to-consumer business, growth accelerated to 16% in constant currency, with record DTC sales, representing 42% of global revenues, 3 points ahead of last year. We delivered strong growth globally. Our international business grew 11% in constant currency, accounting for 56% of our total revenues. And even excluding the planned acceleration of wholesale shipments to support our U.S. ERP implementation, we achieved solid top line results and exceeded our expectations for EPS. Our performance this quarter clearly demonstrates our strategies are working, driven by the strength of our brands, the growth of our direct-to-consumer business and the benefits of a globally diversified business model. We continue to make progress against our three strategic priorities: leading with our brands, prioritizing our direct-to-consumer business and diversifying our portfolio. Please note that for the balance of our remarks, Harmit and I will reference year-over-year revenue growth in constant currency. Starting with our first priority, leading with our brands. Beginning with the Levi's brand, we grew market share again this quarter, achieving share leadership in the U.S. amongst the key 18- to 30-year old target consumer group, and we continue to grow share in women's denim bottoms closing the gap to the number one position. In the quarter, the Levi's brand was up 9%, with our men's bottoms business delivering a record Q1 and women's bottoms achieving its highest revenue of any quarter. Men's bottoms grew 9% with growth across all geographic segments, and we continue to fuel momentum in women's bottoms, which grew 18%. We're planning a steady cadence of newness through the year, and we continue to lean into trends, like with our newly launched women's XL Balloon and Noddy's Food and the shift in rise from high to mid and wider leg openings, all of which drove solid growth in the quarter. 2023 is an important year for the Company, marking our 170th anniversary and 150th of our iconic 501, the blueprint for today's modern blue jeans. As we celebrate the heritage of our namesake brand, we're using this important milestone to cement the next generation of Levi's pants. In February, we launched our largest coordinated global marketing campaign, the greatest story ever worn. It kicked off during the Grammys where Bad Bunny also opened the shell wearing a pair of vintage 501 and has helped drive nearly 3 billion impressions with consumers worldwide. After all these years, love for the 501 has only grown and continues to experience exponential growth, a solid proof point of the strength of the brand. Q1 net revenues were up 25% on top of 50% growth last year and revenues for the 501 this year are expected to reach close to $800 million, which is nearly 70% higher than pre-pandemic on a reported basis. As we move through the year, we're infusing energy and newness into our iconic 501 through new launches for him and her inspired by historical fits. We also have a robust lineup of collaborations planned like our recent drop with the iconic streetwear brand, Stussy, which sold out in one hour and an exciting partnership with NewJeans, the popular K-Pop girl band furthering our ambition to engage younger consumers. Our global DTC business delivered a record quarter, up 16% versus a year ago, driven by positive comp sales and traffic growth across brick-and-mortar mainline and outlet stores in all geographic segments as well as e-commerce. Our U.S. DTC business also achieved another record quarter of revenue, with especially strong performance in our U.S. flagships and larger tourist destinations. We continued our store expansion in Q1, opening 25 Levi stores globally including five mainline doors here in the U.S. The investments we're making to elevate our consumers' digital experience and strengthen their digital connection to our brands are paying off. Even with consumers returning to our stores in large numbers, our e-commerce business grew 14%, driven by broad-based global growth and across all brands, including levi.com, which was up double digits. We continue to expand the breadth of our offering online while improving the user experience. Our loyalty membership was also up almost 40% in Q1 to nearly 25 million members, and this continues to translate to a higher level of spend among loyalty members. Our direct relationships with consumers and continued strong performance in our international wholesale business helped mitigate the impact of softer U.S. wholesale revenue. Global wholesale grew 4%, driven primarily by Asia and Canada. In the U.S., we accelerated approximately $100 million of revenue from Q2 to Q1, primarily due to our Q2 ERP implementation. As a result, our U.S. wholesale business grew low single digits on top of last year's strong 25% growth. Additionally, while our core consumer has generally remained resilient, we continue to experience demand softness from the value-oriented consumers, most notably impacting our Signature and Denizen brands. As for our diversification strategy, we continued the strong momentum we have achieved in each of our major growth opportunities with international, women's, tops and our other brands, Dockers and Beyond Yoga, each contributing positively to the first quarter growth. International revenues were up 11% or 14% excluding Russia. Europe saw 6% growth, excluding Russia, with most markets growing including our largest markets of France, the UK and Germany returning to growth. Asia continued its strong momentum, up 22% as we experienced growth across all markets other than China. In China, after the

Thanks Chip. We achieved solid results in Q1 with sales up 9%, excluding the benefit from accelerated U.S. wholesale shipments primarily related to the ERP transition, our business grew low single digits. Focus on our strategic initiatives and the structural shift in our business fueled our results with our international business and direct-to-consumer channels driving almost 70% of the growth in the quarter. And we made significant progress reducing our inventory with total inventory dollars and units down meaningfully. We have achieved this in part by taking deliberate actions to clear inventory in the U.S. as well as reducing receipts in H1, putting us in a stronger position as we move through the balance of the year. We remain committed to controlling costs with a focus on discretionary expenses while continuing to invest for the long term, including opening 18 net new stores and our ERP implementation in the U.S. following two successful implementations in Canada and Mexico. And despite the beat we delivered this quarter, we are maintaining our annual revenue and EPS guidance range, reflecting a cautious outlook on the macro environment even as we remain excited about the momentum in our direct-to-consumer and international businesses and the progress we're making against our strategy. I will now provide more color on our Q1 performance and 2023 outlook. Net revenue increased 9%, driven by continued global momentum in our direct-to-consumer business. International revenues were up 11% with greater-than-expected results across most markets, while the U.S. was up 6%. AURs were up mid-single digits, driven by broad-based growth across geographies, genders, categories and brands. Our direct-to-consumer channel sequentially accelerated with net revenues up 16%, driven by broad-based positive comp sales growth on top of extremely strong first quarter comp sales last year, driven by higher traffic, and higher volumes across geographies, including in the U.S. and Europe. Adjusted reported gross margin was 55.8%, 360 basis points below last year's record 59.4% and but 120 basis points ahead of 2019 pre-pandemic levels. The deliberate actions that we took to reduce inventories in the U.S. that I mentioned a moment ago, coupled with a more promotional environment resulted in greater-than-expected pressure on gross margin in the short term, but the inventory level sets us up in a stronger position as we move through the year. Gross margin benefited from price increases, lower freight expenses and favorable channel mix despite a negative 40 basis points impact from accelerated wholesale shipments. However, those benefits were offset by several logic transitory factors, including a 200 basis point impact from higher product costs, reflecting record cotton prices, higher ocean freight and demo charges as well as nearly 300 basis points impact from lower full-price sales. As we move through the year, the headwinds impacting gross margin should begin to recede, including from product costs given lower cotton pricing, freight and demurrage charges as well as lapping lower full-price selling and unfavorable FX from H2 last year. And the key contributors to our structurally higher margins that we have spoken to you about such as favorable channel, geographic and women's mix will continue to benefit margins. Adjusted SG&A expenses in the quarter was $757 million, up 7% from last year, driven primarily by a four-wall investment in support of the higher DTC sales and A&P investment to support our 501 marketing campaign for which the spend is skewed to the first half of the year. While adjusted EBIT margin came in line with our expectation at 11%, down from 14.9% last year, the decrease was driven almost entirely by the decline in our gross margin rate. Adjusted diluted EPS was $0.34, with a penny negative impact from foreign exchange. I'll now take you through our key highlights by segment. In the Americas, net revenues grew 7% driven by the strength in DTC. The channels upload double-digits in the U.S. and achieved our second quarter of record revenue. Overall, Canada was up double-digits and Latin America grew high-single-digits driven by increases across nearly all markets in the region. Europe returned to growth, with net revenues of 6%, excluding Russia on top of 21% growth in the prior year, driven by our DTC business. Geographically, growth was seen across most countries. Our largest markets France, the UK and Germany were collectively up low-single-digits with Spain and Italy were up double-digits. Strong demand for the Levi's brand in Asia continued with revenues accelerating to 22% growth driven by all channels and markets outside China led by India. Asia ex-China was up 28%. As Chip mentioned, we are seeing trends improve in China and now expect China to turn profitable this year. Asia operating margins also expanded 160 basis points to 18.5%, due to higher revenues and lower SG&A. And operating margin dollars were an all time record. Now looking to our balance sheet and cash flow. As discussed over the past year, as we execute the ERP transition, and as a result of actions to reduce receipts in H1, we are rapidly reducing our inventory levels. Q1 inventory was up 33% on a dollar basis a 25% sequential improvement from last quarter of up 58%. Core product represents more than 2/3 of our total inventory. We continue to expect sequential improvement quarter-over-quarter with quarter two being substantially lower than Q1 and expect levels to be in line with sales growth by the end of the year. Adjusted free cash flow was negative $272 million in the first quarter, driven by the timing of capital and the implementation of our ERP. As a result of this, we used our revolver to support our cash position, as we sequentially improve our inventory through the year. We expect free cash flow to turn positive, enabling us to pay back our ABL draw. And of course net debt was approximately $834 million and overall liquidity was $1.2 billion. Our leverage ratio remains strong, although it did increase to 1.4 times compare to 1.1 times at the end of Q1 2022 due to a negative free cash flow. In the quarter, we returned approximately $56 million in capital to shareholders, including dividends of 48 million up nearly 20% from the first quarter of prior year. And in Q2 '23, the Company declared a dividend of $0.12 per share in line with last quarter. Moving on to our outlook, even though we exceeded expectations in Q1, given it is early in the year and macro uncertainty, we are maintaining a cautious stance and reaffirming our fiscal 2023 revenue and EPS outlook. We continue to expect net revenues between $6.3 billion and $6.4 billion reflecting reported growth are 1.5% to 3% year-over-year, and EPS in the range of $1.30 to a $1.40. While we're maintaining our guidance overall, the way in which we get the head change from previous expectation, we expect the strong momentum in our global DTC and international businesses to offset softer wholesale trends in the U.S. and Europe as retailers continue to be cautious with your open to buy. As a result for the year, we expect nearly 60% of Levi's brand revenue coming from international and DTC as a mix of our total business in the mid 40% range. Our DTC channel and international businesses are both fast growing with tremendous opportunity given our under penetration in these categories and importantly our high gross margin businesses. In reported dollars, we continue to expect low single-digit growth in the Americas for the full year as strong growth in our U.S. DTC business and Latin America will be tempered by U.S. wholesale. We are pleased to see Europe return to growth in Q1, driven by the strength with trends coming in better than expected. The outlook has improved, but it's still within the previously guided range of up low single digits. And based on the stronger trends we're seeing in Asia, we now expect low double-digit growth and improvement from mid-single-digit growth in our previous guide. As I mentioned last quarter, we continue to expect '23 to be a tale of two halves, with the first half weaker and the second half considerably stronger given a number of factors including the year, we are lapping promotional levels, record cotton prices impacting COGS in H1 and supply chain disruptions progressively getting better. I will now provide color on Q2 and the full year. For the second quarter, the over delivery reported in Q1 will temper growth in Q2 but will not have an impact in the first half or full year. In Q2, we now expect revenues down high single digits to low double digits, given that we are in our ERP implementation and associated downtime our ability to ship product in the U.S. in excess of what we have contemplated in our guide is limited. Q2 gross margin is expected to meaningfully improve versus Q1 as a result of a higher contribution from DTC, but will be down slightly to last year's and we continue to expect SG&A to be up mid-single digits relative to a year ago. In respect to the full year, given the higher levels of promotion than we previously anticipated, we now expect full year gross margin to be down approximately 50 basis points versus prior year's 57.5%. We remain confident that second half gross margin will sequentially improve as headwinds moderate. And we now expect the full year tax rate to be low to mid-teens versus our prior expectations of mid- to high teens. Prior to Q&A, I'd like to make three key points. First, while we expect to face continuing challenges through the year, the strength of our brand gives us confidence in sustaining our top line momentum and our Q1 performance serves as a proof point that our strategies are working. Europe's returned to growth as well as our strengthening international performance and broad-based momentum in our direct-to-consumer business are all fueling profitable growth. Two, gross margin will progressively improve as we move through the year and headwinds abate and we expect to end the year with gross margins above 57% on our way to our long-term goal of 60%. And three, we will continue to focus on controlling the controllables by reducing discretionary spending while continuing to invest in growing DTC as we open new doors, growth comp sales and accelerate e-commerce. With that, I'll now go ahead and open the call for Q&A.

Thank you. The floor is now open for questions. [Operator Instructions] Our first question comes from the line of Bob Drbul of Guggenheim.

I guess if I could just focus a little on inventories and gross margins to start off the call. On the inventory side, can you just talk about sort of where you ended up in the up 33 versus your plan? Where you think inventory levels are specifically at your U.S. wholesale partner levels? And then on the gross margin side, tying it together with the inventory, can you just talk about the expectations, I mean, Q2 gross margins versus your assumptions around the promotional activities specifically in the U.S.?

You asked the question that we thought you'd ask. So let's start with it. Overall, we made meaningful progress on inventory, as I mentioned in my prepared remarks, is down meaningfully both in dollar and unit terms is sequentially improving. If you could recall, we said when we reported Q4 that that's the peak and it gets better, which is what is happening. We do believe that by the sequential improvement continues into Q2. And as I mentioned, inventory is largely clean. We did get rid of inventory to the extent we could, that did hurt margins, I'll come to margins in a while, but I think the inventory improvement is largely driven by the fact that we proactively correct one buys and we were able to clear inventory. To a question about, is this largely driven by the U.S.? Yes, unequivocally. It is U.S., U.S., for example, inventory levels at the end of Q4 were up 90% year-over-year and Q1 is down to 35% year-over-year. So, it's a dramatic improvement in the U.S., and that's why we think that it gets better progressively as the year progresses from that perspective. To your question about gross margin, the miss against our expectation was largely because we proactively were able to clear inventory as well as promotional levels were slightly higher than we anticipated. Quarter one is not a great read, if you look at it last year for full year gross margins. It will record gross margins last year when basically, there was very little promotion. Gross margins are at all-time high at 59.4%. We ended the year at 57.5% a year ago into what's happened on gross margins in the quarter? Let's start with what I call the good guys, and a lot of these good guys are going to be here for a while, which is the fact that we took prices up. We are seeing lower airfreight and a favorable channel mix. So we quantify all that, it's about 150 basis points that we see continue through the year. And then what I call or what we call transitory, it will receive as the year progresses. 200 basis points is a combination of commodity, increased cotton in H1 was barred. Our product was barred when cotton was an all-time high, that along with some demurrage costs, et cetera, is about 200 basis points. That begins to recede as we step into H2, but I think the tailwind is about, I would say, 170, 180 basis points because there is some inventory that we bought in H1 that we clear in H2. And the rest is promotion levels, which were much higher than a year ago. The two pieces. One, last year this time, we didn't really sell anything under the full price. Now we're selling something a little higher and then promotions. We expect -- and we're conservatively anticipating this. This is typical to predict, but we're anticipating that promotion levels continue through the year. So as you think about the year, annual expectation on gross margin, I think we're going to be about relative to last guidance about 70 basis points down at the end of the year and that's largely driven by higher promotion levels, which we expect offset by better channel mix. DTC is going to be higher. International is going to be higher. Europe is rebounding nicely. So, I think that's how we're thinking about gross margins. And as you know, a large piece of what we sell is core. We brought a lot of newness into our assortment with the 501 150th anniversary and so all that helps. I hope that addresses your question, Bob.

Thank you. Our next question comes from the line of Matthew Boss of JPMorgan. Your question please, Matthew.

So maybe, Chip, could you just update us on health of the Levi's brand, maybe what you're seeing in the U.S. and Europe marketplace today as it relates to the denim category? And then, Harmit, to your point before, any change in the pricing strategy just given the dynamic consumer backdrop out there?

Sure. So let me first talk the category since that's part of your question. And I think you all know that the data that we get on a quarterly basis is U.S. only, still a major part of our business. We don't get the rest of the world on a quarterly basis. But sort of as we had thought would expect the category is back to growth again in the quarter in the most recent quarter is up 1%. That's on top of a prior year quarter of up 16%. So if you remember in the last call, we talked about how coming out of the pandemic, we saw a big spike in denim. And then we had two quarters of kind of mid-single-digit softness. We're back to growth now, and that's good. That 1% growth in the category compare that to what we reported in our U.S. DTC business with record volume that was up low double digits. So we are clearly gaining share. We talked about it in the prepared remarks. We are now the outright leader in men's and women's 18- to 30-year old jeans market after gaining one point of value share in the past 12 months and past three months and we continue to grow share in women's denim bottoms, closing the gap. We are now knocking on the door being the number one brand in the U.S. That has not happened in my entire 11.5 years at this company. And we continue to have momentum while others are struggling. In terms of brand equity, a couple of things. I guess the first thing I would point to is just the strength of our overall DTC business, where we are in control of the brand and how we engage with the consumer and how we show up. It shows up in the business results. Our global DTC business delivered a record quarter. We were up 16% versus prior year. We comped positively in all regions. Our e-commerce business was up double digits, too. I think that kind of speaks to -- consumers are still coming to this brand. And one other data point is as we do our brand equity studies around the globe, we do get a price perception for Levi's, and this is price perception, right? But Levi's jeans as a leader in being worth paying more for, for quality and longevity, and we -- as a result of that, we're pretty well positioned to continue to navigate through this inflationary period. And I don't think we said it in the prepared remarks, but our AURs were up mid-single digits again this quarter despite the promotional environment. On Europe, specifically, Europe revenues were up 2%. I think we said this in the prepared remarks that up 6%, excluding Russia, sequentially improving versus last quarter, again, driven by the strength of DTC, which was up 16%, excluding Russia. Comps were positive every month across North and South Europe. They were also positive in the quarter in mainline and outlet stores as well as e-commerce. Every market in Europe grew with the exception of a couple of the smaller markets in the Nordics. Our largest markets, France, U.K., Germany, were all collectively up low single digits. Spain and Italy were up double digits. So Europe is doing a little bit better than what we thought it was going to do going into the year and -- but it's still kind of in the range of what we guided originally. I guess the last thing I would say about Europe, just like the U.S., we're pretty cautious about our wholesale business there. As retailers are playing their open-to-buy budgets pretty close to their best given all of the macroeconomic uncertainty.

And Matt, your question about any change in pricing strategy, if the question behind the question is are we taking prices down? No, that's not what's happening. But we're not necessarily pricing up in today's environment. And so, we're promoting smartly, like most retailers. We're not necessarily number one in promotions. We are competitive, but we're not necessary one. And we've got a lot of newness in our assortment. And so, that's why -- how we are attracting traffic, et cetera, where we can price, for example, the organic stuff that we bring in, we price thoughtfully. But overall, we're being mindful of the fact that the consumer generally especially in the western part of the world are just a tight on spending.

Thank you. Our next question comes from the line of Jay Sole of UBS. Please go ahead, Jay.

Harmit, I heard you say you expect SG&A dollars to be up mid-single digits in Q2. I'm not sure I caught what you expect SG&A dollars to do for the full year and how that impacts your operating margin guidance. Is it possible -- could you just expand on that a little bit for us, please?

Yes. I would say low single- to mid-single on a full year basis. And largely, the way we are thinking about SG&A, Jay, is wherever we can cut discretionary expenses, we are. We have really tightened new hires, we have tightened things like travel, and this is business critical, et cetera, et cetera. I think where we're spending the dollars is as we open new doors, we'll have on a net basis, 80 doors this year between our three brands and that is going to fuel the direct-to-consumer business, which is important. Advertising a little bit, especially with the 501 campaign and on basic infrastructure, like the ERP, which is being implemented as we speak in the U.S. as well as the distribution capacity that we're gearing up for the long term. So, I think those are the areas where the spending is, which drives a little bit of the SG&A, but where we can tighten we'll continue to tighten.

Thank you. Our next question -- one moment. Pardon me. Our next question comes from the line of Ike Boruchow of Wells Fargo. Your question please, Ike.

Maybe Harmit, can you talk a little bit more about the implications the ERP has had on U.S. wholesale? Just maybe specifically, can you quantify the dollars that were pulled forward into the first quarter and the dollars that will be pulled out of the second quarter? Maybe specifically, could you give us embedded in that down high single to low double, what is the U.S. wholesale decline planned in 2Q? And then any other color on U.S. wholesale, whether it's order books or planned in the back half, it would also be great.

Yes. Sure. Ike, when we were talking about a quarter ago, I think we had anticipated the timing of the ERP and the discussions we were having with our key customers the range of the sales push between Q1 and Q2 would be about $80 million to $100 million and as we mentioned on the call, I think the timing is about $100 million between Q2 and Q1. I do want to thank our wonderful customers because they were able to work with us in getting this -- just as we work through the timing of the ERP is currently being implemented. So our DCs, for example, are shut as we speak, and we are in the process of cutting over. I think to your question about Q2, a large piece of the $100 million is what we actually take from Q2 and pull it in Q1. So Q2 will be impacted with that. And that's why as we think about what to expect in Q2, we're guiding down high single digit, low double digit, that obviously also has a positive impact on gross margin. That's why we're saying gross margins will be down a little bit, not what you saw in Q1. So, I think that's how we're thinking about it. We do expect the impact of the ERP to largely be in H1 because the ramp-up really happens in May, which is the last month of the quarter. And so by the time we get into quarter three, I think we should have this behind us. And as you know, we have implemented the ERP in Canada and Mexico and is largely a very standardized module that's being implemented in the U.S., and the benefits are largely going to be in data insight and simplification for our operators. That's what we're seeing in the two markets and that's the benefit that we see. And it is foundational to everything else we're doing, and especially as we grow e-commerce and we grow our direct-to-consumer business, this gives us the foundational base to actually accelerate automation and connect with the consumer a lot better.

Thank you. Our next question comes from the line of Dana Telsey of Telsey Group. Your question please Dana.

As you think about the performance of denim versus non-denim, what did you see there? And Chip, you've given out in the past what the overall apparel category, how that performed versus denim? What are you seeing there? And can you just expand upon with wholesale? How do you expect that to progress through the year? And is there a difference between the department stores or the discounters and what you're seeing in order rates?

Yes, there's a lot there. So first of all, you're right, I normally do give the apparel category, and I didn't this time, but I've got the number here in front of me. Apparel was up 2%. This is U.S. data again for Q1. Recall, I said that the denim category was up 1% off of a base of plus 16. Apparel was up 2%, I don't have what the base period is for total apparel, but it was up slightly ahead of denim, and that's consistent with everything we're seeing and hearing that some of the more dressier categories is doing a little bit better. We're even seeing that in our own business. Our non-denim business has done pretty well. It was up low double digits as well on some of our best-selling items right now are chinos and cargoes and things like that. We're seeing it really, those categories moved really well. What else was in the question?

Yes. So I think, Dana, you asked about our expectations for wholesale. As you know, or I just want to clarify, if you think of the U.S. wholesale business and the year we're lapping is important. The first half, I think the U.S. wholesale business was up close a little over 20%, 25% in Q1, 20% in Q2. And so we are lapping strong numbers, and then we have the ERP timing. Our expectation for the year and this is wholesale in total, our expectation for the year is down in the low to mid-single digits, but made up by our direct-to-consumer business. So, I think if you think of the business structurally, this is going to -- our direct-to-consumer business, which is about 42%, but for Levi's, it's close to 45% continues to get stronger. And strategically, that's really what we said in Investor Day. This is a business that should head towards 55%. So it gets stronger, the gross margins are better, et cetera. So, I think '23 is a good reset here from that perspective. And we're taking -- it's unfortunate what's happening in the Western world in terms of the macroeconomics. But if the Company emerges structurally a better company at the end of the year, it's a good thing.

Yes. The only other thing I would add on top of that, Dana, is in talking with our wholesale customers, virtually all of the customers are keeping their open-to-buy budgets pretty tight. Given the uncertainty and then the only other thing I would add is that we are seeing pretty significant softness in our Signature Denizen business. So that value consumer is really being squeezed. There's definitely a bifurcation happening -- where the lower end consumer is making hard choices and either trading down or just not buying denim. And -- but that middle-income consumer amount, which is kind of the sweet spot for the Levi's brand is doing well and is still buying denim, and that is driving the growth of the Levi's business, the growth of our DTC business and the strength that we are seeing in our direct-to-consumer business.

Thank you. Our next question comes from the line of Paul Lejuez of Citi. Your question please, Paul.

It's Tracy Kogan filling in for Paul. I don't think I heard you talk about 3Q, and I was just wondering, if you're still expecting high single-digit sales growth there, and if you have anything like order books to support or give you confidence in that growth?

Yes. No. Tracy, good to connect. We don't, as you know, guide quarterly. We talk about the year. But if you do the math, our H2 is up higher than mid-single digits. And so in H2, we'll close approach probably the low end of our growth algorithm. And so, we're bringing to progress this. What we've said earlier is a tale of two halves, the first half weaker, the second half stronger. It's also driven by the year we're lapping. But if you go back and benchmark it to, say, '19, the difference between the first half and the second half is not that dramatic. It's just the year that we're lapping. Plus our expectation really is things get a little better as the year progresses, and we are able to work out all the inventory issues, et cetera, et cetera.

Great. And just on freight, I think you said airfreight was a tailwind, but ocean freight was a headwind this quarter. I guess it netted out as a headwind. I'm just wondering how you're thinking about those pieces of freight for the remainder of the year?

I mean, H2 becomes a tailwind, both pieces of freight, and that's how we're thinking through it.

Thank you. Our next question comes from the line of Laurent Vasilescu of BNP Paribas. Your question please, Laurent.

Harmit, I just want to square away some math here. I think in your prepared remarks, you mentioned that DTC should be about mid-40% of the percentage points of the overall sales for the year. Does that imply global wholesale would be down high single digits? I might be off with the math, but just wanted to confirm and if that's the case, how much of that decline is coming from U.S. wholesale? And then maybe drilling down further, just curious, I think last quarter, you mentioned that mass was down high teens. Just curious to know how you're thinking of how it performed this quarter and how you're thinking about it for the full year?

Yes. So the mid-40s is largely Levi's. If you think of the Company Dockers has about 30% of the business is DTC. And Beyond Yoga, it's half the business. But if you would think of the Company, we are a little better than 42% at the end of the year. That's the projection. So if you do run the math, our view is global wholesale is down in the low mid-single digit and is largely the U.S. and Europe, where, as Chip mentioned, our customers cautious in the open to buy. And we are building that into our expectations and really focused on driving our direct-to-consumer business. If things change, obviously, you'll see that roll into the numbers from that perspective.

Very helpful. And any color on the mass channel, how it performed this quarter and how you're thinking about for the year?

Yes. So the mass channel was down about 13%. And in quarter four was down 19%. It was lapping a 10% growth quarter in 2022. And we're planning it down. We're planning it down low double digits. And again, we sell to two wonderful customers, largely Signature and Denizen and they're cautious in the open to buy. And we're reinforcing. The good news for us is one of the customers, we are taking women's out -- denims and women's out of doors and really working with them to grow our Levi's Red Tab and that does help premiumize the brand.

Thank you. Our next question comes from the line of Brooke Roach of Goldman Sachs. Please go ahead, Brooke.

I was wondering if you could talk to the sell-through trends that you're seeing in U.S. wholesale for the core Red Tab business and how consumer engagement with the brand at wholesale may be differing relative to the stronger trends that you're seeing in North America DTC? And then Harmit, can you clarify, is the more cautious view on wholesale a function of a more cautious open to buy? Or has there been a slowdown in sell-through trends versus your prior expectations that may be driving this outlook?

Yes. So March is, as you all know, it's a very difficult month to read because of tax refund checks, the weather. And so, I think as we think about the quarter April, for example, it's early days, but we've seen traffic come back and things are looking a lot better. To your question about -- and our direct-to-consumer business, which is a real representation of how the brand is showing up in our assortment is doing well. To your question about the cautious view on wholesale is largely be open to buy that we're thinking that's driving that decision. So if that opens up, things get better, and that will probably, over time, as inventories tighten should also improve the promotional environment.

Thank you. Our next question comes from the line of Alex Straton of Morgan Stanley. Your question please, Alex.

Just a couple on my end. First, I totally understand that promos are higher year-over-year given the change in environment. But I'm wondering how promos change sequentially in the latest quarter compared to the prior and maybe how you would characterize the broader environment there? And then secondly, just on inventory quickly. I want to understand if that in line by the end of the year with forward sales growth is a longer time line than I think you may have previously communicated? I think most brands are saying they'll be clean entering the back half. So I'm just wondering what's different on Levi here?

Yes. Yes. I mean, Alex, our view is we're going to be clean. We clean out today than we were a quarter ago. We'll be clean by quarter two. It's not about is the inventory clean? Is this a question about our view on inventory is, we think, quarter the growth rate relative to a year ago is mid- to high teens, slightly higher than what we anticipated a quarter ago, just given where U.S. wholesale is. But as you know, in U.S., the inventory is largely for and so that's guiding our thinking on getting inventory back to sales levels from that perspective. In terms of the promotional environment, we've just been cautious it's difficult to predict. And so in our latest expectation of gross margins, we have built in a slightly higher promotion level in H2. Now, if that doesn't pan out, obviously, that translates into higher gross margins, but that's really factored in into expectations.

The only other thing I would add is keep in mind that the base period promotional environment changed pretty dramatically between first half and second half. Last year, first half, there were all the supply chain issues and a lot of people didn't even have enough products. So everything was being sold at full price. And then the second half, it started to get a lot more promotional. So the year-over-year change is quite dramatic in the first half for us. The year-over-year change in the second half should be much less dramatic and have less of an overall impact on the gross margin.

I think if you're trying to understand, Alex, the progression of gross margin. So last year, Q1 was 59.4 ended at 57 to the point Chip was making because it got promotional as the year progressed. This year, Q1 is 55.8. 200 of that is really commodities, which gets better as we step into H2. So that's why we think there is progression in gross margin getting us back to slightly over 57% as we close the year, plus I think the promotional environment gets better. It's not going to be as promotional view. But we're building in some promotions in H2, but it's not going to be as bad as Q1 and Q2.

Thank you. Our next question comes from the line of Chris Nardone of Bank of America. Your question please, Chris.

Two quick questions. On second half guidance, can you just talk about your confidence in maintaining that strong DTC momentum on a potentially lower promotional environment compared to the last second half? And then a quick question on Asia. You increased your guidance up low double digits, and that's on top of mid-20s percent growth last year. Is there any way you can elaborate on where you're seeing the most strength in Asia and how much is coming from new doors versus comps?

Yes. Yes. Thanks, Chris. Asia. As you know, growing Asia is one of our strategic initiatives. And the last two years, the noise has been just COVID and some country close, et cetera, et cetera. So I think Q1 is a good read from that perspective now. Q1 doesn't reflect the reopening of China because that happened largely in February. But most markets in Asia are off to a great start. And you can see the leverage in our operating margin as well as operating dollars, whether it's India, whether it's Australia, whether it's other South Asian countries. We had a good quarter from that perspective. The brand is strong is largely a DTC business and the direct-to-consumer business is -- or the growth is largely driven by comp sales performance, which is the good news. And we haven't really factored in any upside should -- what we see in China continue or sustain itself for the rest of the year. So that's the Asia story. You had another question, Chris. One with the, yes, strong DTC, ONE, we think Asia sustains itself as the year progresses because the brand is strong. Consumer's a lot more resilient. It's a younger consumer so I think all that really helps. To your point on DTC, DTC last year did slow down in the second half, largely Europe was down. Q3 and Q4 was down. And we have seen Europe rebound. The consumer in Europe, our view is a lot stronger than everybody anticipated. And while wholesale customers continue to be tight on the open to buy, we see the DTC growth continue. The other piece is we do have a new Chief Digital Officer, and Michelle is putting a lot more emphasis on driving our retail performance and I think those things definitely will benefit us because there is low-hanging fruit and as we continue to focus on improving execution, our operators on the ground do a great job, but the clear opportunities. And I think as we continue to optimize that, we will continue to see DTC performance improve.

Thank you. At this time, I'd like to turn the call back over to the Company for any closing remarks.

Thank you, Latif, and I want to thank everyone for dialing in and for your questions, and we'll look forward to talking with you at the end of the next quarter. Thanks very much. Have a nice weekend.