Tapestry, inc (TPR) Q1 2022 Earnings Call Transcript

Tapestry, inc  (NYSE: TPR) Q1 2022 earnings call dated Nov. 11, 2021

Corporate Participants:

Kelsey Mueller — Director of Investor Relations

Joanne Crevoiserat — Chief Executive Officer

Scott Roe — Chief Financial Officer and Head of Strategy

Todd Kahn — Chief Executive Officer and Brand President of Coach

Analysts:

Bob Drbul — Guggenheim — Analyst

Ike Boruchow — Wells Fargo — Analyst

Erinn Murphy — Piper Sandler — Analyst

Mark Altschwager — Robert W. Baird — Analyst

Lorraine Hutchinson — Bank of America — Analyst

Michael Binetti — Credit Suisse — Analyst

Adrienne Yih — Barclays — Analyst

Matthew Boss — J.P. Morgan — Analyst

Brooke Roach — Goldman Sachs — Analyst

Presentation:

Operator

Good day and welcome to this Tapestry Conference Call. [Operator Instructions]

At this time for opening remarks and introductions, I would like to turn the call over to the Director of Investor Relations at Tapestry, Kelsey Mueller.

Kelsey Mueller — Director of Investor Relations

Good morning. Thank you for joining us. With me today, to discuss our first quarter results as well as our strategies and outlook are Joanne Crevoiserat, Tapestry’s Chief Executive Officer; and Scott Roe, Tapestry’s Chief Financial Officer and Head of Strategy.

Before we begin, we must point out that this conference call will involve certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act. This includes projections for our business in the current or future quarters or fiscal years. Forward-looking statements are not guarantees and our actual results may differ materially from those expressed or implied in the forward-looking statements. Please refer to our Annual Report on Form 10-K, the press release we issued this morning and our other filings with the Securities and Exchange Commission for a complete list of risks and other important factors that could impact our future results and performance.

Non-GAAP financial measures are included in our comments today and in our presentation slides. In addition as we continue to anniversary the onset of the COVID-19 pandemic, we will be providing financial information compared to FY ’20, or pre-pandemic and FY ’21 where applicable. For a full reconciliation to corresponding GAAP financial information, please visit our website www.tapestry.com/investors and then view the earnings release and the presentation posted today.

Now, let me outline the speakers and topics for this conference call. Joanne will begin with first quarter highlights for Tapestry and our brands, along with an update on our strategies for the holiday season. Scott will continue with our financial results, capital allocation priorities and outlook going forward. Following that, we will hold a question-and-answer session where we will be joined by Todd Kahn, CEO and Brand President of Coach. After Q&A, Joanne will conclude with brief closing remarks.

I’d now like to turn it over to join, Crevoiserat, Tapestry’s CEO.

Joanne Crevoiserat — Chief Executive Officer

Good morning. Thank you, Kelsey and welcome, everyone. I’m pleased to report that the strong momentum we saw throughout last year has accelerated further in the first quarter with our sales now 9% above pre-pandemic levels. Our operating margin has improved 8.5 points compared to fiscal year ’20 even as we’ve reinvested in key growth drivers for our business. The fundamental changes we’ve made to the Acceleration Program to transform Tapestry and our brands have enabled our teams to act with agility to drive highly effective customer engagement and support increasing demand.

This performance also reaffirms our confidence in our differentiated platform. Our three unique brands are enabled by our talented teams, technology infrastructure, globally diversified supply chain and a 90% direct to consumer model. These assets coupled with our growing data and consumer insights capabilities have fueled more targeted product development, more efficient pricing and more effective marketing, all of which support accelerating revenue higher gross margin, improving profitability and most importantly, stronger connections with our customers.

Now turning to the highlights from the first quarter. We continue to make meaningful progress against the Acceleration Program by sharpening our focus on the consumer leveraging data to lead with a digital first mindset and transforming Tapestry into a more responsive organization. First, we kept the consumer at the forefront of our strategy which drove further increases in customer recruitment. In fact, we acquired approximately 1.6 million new customers across our direct channels in North America, an increase of 20% with growth in both stores and online. Second, we leveraged our unique data and analytics capabilities to enhance engagement with our consumers. As a result, retention improved year-over-year at each brand, including strong re-engagement with the 4 million customers acquired last year in our North America digital channels.

In addition, we drove a higher number of repeat transactions and reactivated lapsed customers at an increasing rate. These examples highlight the advancements we’ve made to utilize customer insight to increase engagement with our brands and drive higher lifetime value. Third, we enhanced our expertise in the digital channel, a margin accretive business across brands. We’ve made significant investments including in talent to improve the customer experience and drive conversion. As a result, we realized a sequential acceleration in e-commerce revenue trends in the quarter, a meaningful achievement as we lap difficult online comparisons from last year.

Sales rose close to 50% with digital penetration now nearly 4 times pre-pandemic levels. At the same time, trends across our global store fleet again improved with operating margins that continue to exceed pre-pandemic levels. Fourth, we further strengthened our positioning in China, a region that represent significant long-term opportunity supported by the rising middle class. While I’ll cover resurgences during the quarter, impacted traffic across the industry, we delivered sales growth of over 25%. Compared to pre-pandemic levels, sales increased roughly 65% accelerating versus the prior quarter. And importantly, we grew on both the Mainland and with Chinese consumers globally, which increased at a low double-digit rate versus fiscal year ’20. And fifth, we increased global AUR at each of our brands, reflecting traction with our customer base and the deliberate structural changes we’ve made to reduce promotional activity and improve assortment productivity.

Now, let me touch on the first quarter highlights for each of our brands. Coach delivered another exceptional quarter, accelerating further often already strong base. Revenue rose 27% representing an increase of 15% compared to pre-pandemic levels or a 13 point sequential improvement. Operating margin expanded fueled by gross margin, which reached nearly 75%, the highest rate in any quarter in the last 10 years. These results are a testament to the increasing brand heat and strong customer demand and engagement we’re seeing at Coach, highlighting progress against the brand’s fiscal year ’22 growth strategies. First, we drove another quarter of AUR gains as we benefited from strengthening pricing power and our deliberate actions to improve SKU productivity and lower promotional activity. Globally, Coach’s handbag AUR increased high-single digits in both the retail and outlet channels. In addition, we achieved the 10th consecutive quarter of AUR improvements in North America, which rose low double digits. This continued improvement reflects our pricing power and strong engagement with consumers as we focus on enhancing customer lifetime value. In the quarter, we acquired over 900,000 new customers across our North America channels, a high-teens increase compared to the prior year.

At the same time, purchase frequency rose versus last year. Second, we continue to develop our iconic families to create a foundation for our product pipeline in future seasons with notable strength in key families such as Tabby and Rogue. In addition, we are led by Stuart Vevers creative vision who is building on 80 years of iconic Coach codes, notably the Signature C and Horse and Carriage, both of which have supported increasing sales across all channels. Third, we increased investments and drove stronger returns in marketing, leveraging our data capabilities to drive outsized growth in our digital business.

In the first quarter, e-commerce increased over 60% representing a sequential improvement on both a one and two-year basis underscoring the significant opportunity that this channel represents. Fourth, we again drove growth in China. Sales rose over 25% compared to last year with improvements across stores and e-commerce as we diversify our approach to meet the customer where they want to shop. This includes better leveraging existing platforms and establishing relationships with new online forums. As we build on the strength of our brand and our positioning with the emerging middle class, we continue to see tremendous long-term potential in China. And fifth, we outperformed in the men’s business, in keeping with our ambition to deliver $1 billion in sales in the category over our planning horizon. In the quarter, we reinvigorated some of our iconic leather good silhouettes infusing camo print in retail and a basquiat collaboration in outlet.

In summary, Coach continues to stand out even amid external pressures. Customers are engaging with the brand at an increasing rate given the traction of our product and marketing. We’re driving continued momentum as we enter the important holiday quarter. The brand has proven that the foundational changes we’ve made are working and our results are sustainable. We are increasingly confident in our ability to drive both revenue and profit gains for fiscal ’22 and beyond.

Now moving to Kate Spade. The brand continued to make steady progress against the strategic priorities and outperformed internal expectations across the P&L. We built on the increasing traction we’re seeing with consumers which drove top line improvement during the quarter. Importantly, direct sales excluding wholesale increased mid-single digits versus pre-pandemic levels, a sequential improvement compared to the fourth quarter. These results confirm that the growth strategies we’re executing to return Kate Spade to its roots and improve the underlying foundation of the brand are taking hold.

In the quarter, we maintained a consumer-centric approach in our execution acquiring over 650,000 new customers across channels in North America, a significant increase over last year. At the same time, we reactivated lapsed customers with outsized growth among those customers left over three years reflecting a renewed connection with our core customers and confirming the efforts to clarify the brand’s positioning are gaining traction. Second, we continue to build out our core product offering by amplifying key platforms.

Most notably, the Knot and Spade Flower again outperformed expectations and act as strong foundations for future growth. The strength of these recent introductions coupled with deliberate actions to improve full price selling and pull back on promotional activity fueled another quarter of global handbag AUR growth, which rose low double digits. The progress we’ve made has increased our confidence in Kate Spade’s pricing power as we deepen our connection with consumers and execute on our strategic agenda. Third, we drove brand heat by deploying marketing centered on our Kate Spade community and leaning into our DNA as a best-in-class storytelling brand. We employed new ways of reaching our customers including a variety of social media platforms and re-imagined an uniquely Kate Spade approach to New York Fashion Week, which featured a pop up Apple Orchard in downtown Manhattan incorporating our iHeart New York collection.

Fourth, we maximized our lifestyle positioning by continuing to strengthen the foundation of ready-to-wear, footwear and jewelry, all of which outperformed our expectations. Overall, the brand’s differentiated and broad offering supports our goal to increase lifetime value as those customers buying lifestyle products tend to purchase more frequently and spend more. And fifth, we utilized our already strong digital platform to continue to grow e-commerce sales, which rose over 15% in the quarter as we test, learn and scale innovative and new ways to engage the consumer online.

In closing, we’re leading with our values to strengthen the emotional connection with our passionate Kate Spade community. We are excited by the brand’s progress and our solid performance underscores that we have the right strategy in place. We have significant [Technical Issues] in our ability to achieve $2 billion in revenue at high teens operating margins over the planning horizon.

Turning now to Stuart Weitzman. The brand has made continued progress towards achieving our overarching goal of restoring profitability in the current fiscal year. To achieve this, we advanced our growth strategies in the quarter. First, we improved operating margin compared to prior year further increasing our confidence in a return to profitability this year. This was driven by continued outperformance in high growth areas including digital and China. Our e-commerce channels rose over 30% globally driven by customer experience upgrade to improve conversion. And in China, a market that remains a significant opportunity for the brand, revenue increased over 25%. Second, we recruited an increasing number of new customers compared to last year and drove higher retention rates overall. The consumer remains at the forefront of our strategy as we capitalize on shifting market trends. Most notably, the return to in-person socialization and the growing need for occasion and dressy footwear. At the same time our iconic collections continued to resonate. Notably, the Nudist [Phonetic] family, which brought an increasing number of new and younger customers to the brand.

Third, we drove brand heat through a tailored offering supported by marketing actions to engage the consumer. Stuart Weitzman’s momentum was evidenced by a return to AUR growth which rose low double digits compared to prior year reflecting deliberate actions to lower promotional activity as well as select price increases, which we intend to continue on a strategic basis. This was a key driver of the gross margin expansion of over 250 basis points. Fourth, we strengthened our wholesale partnerships, specifically with key domestic full price partners resulting in high-teens growth in the channel.

Overall, our solid execution is evidenced by our improving financial performance. We’re laser focused on the consumer by offering compelling product and marketing to enhance customer engagement and increase our productivity in key regions and channels. This in turn will support our goal to restore profitability in fiscal ’22.

Now turning to the overarching strategies for the holiday quarter. The consumer backdrop is healthy and our recent internal survey work in North America highlights for the handbag and footwear categories remained strong. We’re remaining nimble on keeping the customer at the center of our priorities. First, we are controlling the factors within our control and playing offense. We’ve moved quickly and taken bold and deliberate actions to mitigate industry wide inventory constraints. We’re also messaging to customers earlier in the holiday season to elongate the shopping period and capture demand early. Importantly, we will be maintaining our disciplined around discounting and selectively increasing prices as we lead with messaging on innovation and value over price. Separately, we are creating engaging omnichannel customer experiences as in-store traffic continues to improve and online engagement increases.

Across brands, we’re employing exciting initiatives to surprise and delight consumers during this important shopping period. At Coach, we’ve kicked off the holiday season in a truly iconic fashion with our recreation of Jennifer Lopez’s All I have video, nearly two decades after the original, featuring our signature code. At Kate Spade, we’re creating magical holiday moment with our, To All a Sparkly Night collection which captures the sense that the little things can be life’s biggest indulgences.

And at Stuart Weitzman, our recently launched campaign featuring, Kate Hudson arrives just in time for the start of the holiday season as well as celebrations for our 35th anniversary. Overall, our first quarter results in the momentum we’re delivering are evidence that our strategy, led by the acceleration program is working. We’ve radically transformed our Company realizing material operating margin improvement while fueling investments in key growth areas of our business. We’re largely a direct-to-consumer business with a digital first mindset building a deeper understanding of our customers. We’re utilizing these capabilities, along with the additional benefits of our multi-brand platform to drive even further growth at Coach and accelerate the trajectory of both Kate Spade and Stuart Weitzman over our planning horizon. I’m encouraged by the growing vibrancy of each of our brands and the strengthening engagement with consumers, backed by the work of our talented and passionate teams.

Our confidence is underscored by the stronger outlook for fiscal year ’22 and additional shareholder return plans announced today. We’ve entered the second quarter with momentum and have proactively put in place plans to deliver for our customers, this holiday season and into the New Year. We are well positioned to capture market share at structurally higher operating margin in the years to come, creating significant value for all our stakeholders.

With that, I’ll turn it over to Scott, who will discuss our financial results, capital deployment priorities and fiscal year ’22 outlook. Scott?

Scott Roe — Chief Financial Officer and Head of Strategy

Thanks, Joanne, and good morning, everyone. We delivered another quarter of high quality earnings results outpacing last year pre-pandemic levels and expectations. We continue to execute against the strategies of our acceleration program building upon the foundational changes made in fiscal year ’21 against a difficult backdrop. We drove continued topline momentum and improved operating margin meaningfully fueled by gross margin expansion.

Turning to the details of the first quarter. Total sales increased 26% versus prior year and outperformed expectations. Compared to pre-pandemic levels, revenue rose 19% representing an 8 point acceleration compared to the prior quarter fueled by improvements across all channels, stores, digital and wholesale. By region, revenue rose double digits versus last year in Mainland China, North America and Europe. Importantly, these regions improved on a two-year basis including relative outperformance of North America, which rose at a high-teens percentage compared to pre-pandemic levels. In Mainland China, while there were pockets of COVID increases, overall momentum continued and in Europe, we realized improving trends as lockdown measures were lifted.

Moving down the P&L, we expanded gross margin at each brand during the quarter. These results reflect the continuation of the successful execution of our strategy as we maintain price discipline, improve SKU productivity and leverage our data analytics capabilities to more effectively tailor our product assortment and marketing messaging to the consumer. SG&A rose relatively in line with sales given the reinvestment of cost savings into the organic business, the prior year’s atypical comparison due to COVID-19 and the impact from higher sales. Taken together, we achieved operating income growth and margin expansion in both Company-wide and at each individual brand.

Earnings per diluted share for the quarter was $0.82, an increase of 42% compared to the prior year and more than doubling pre-pandemic levels. Now turning to our balance sheet and cash flow as well as an update to our capital deployment plans, we ended the quarter in a strong position with $1.7 billion in cash and investments and total borrowings of $1.6 billion. Therefore, given the strong results of our first quarter, our robust balance sheet, significant free cash flow generation and outlook for growth we’re announcing an incremental $1 billion share repurchase program as highlighted in our press release.

As such, we now expect to return approximately $1.25 billion to shareholders in the fiscal year, a meaningful increase compared to our previous outlook to return $750 million to shareholders in fiscal ’22. This return reflects approximately $1 billion of share repurchases in the fiscal year which consist of $600 million to complete our existing program inclusive of the 250 million of shares already repurchased in the first quarter and we expect to utilize approximately $400 million under our new program in fiscal ’22. In addition, our shareholder return plans continue to forecast approximately $250 million returned through our dividend program.

Overall, the organic business momentum and the actions announced today underscore our commitment to capital allocation priorities. First, investing in the business to drive long term profitable growth. And second, returning capital to shareholders through dividends and share repurchases. In addition, we still intend to repay our July 2022 bonds totaling $400 million by the end of the fiscal year. These actions highlight our confidence in the strength of our brands, our ability to drive sustainable growth and our commitment to returning capital to shareholders.

Now moving to our fiscal year ’22 outlook. Before turning to the specific details, I want to touch on the current state of the industry. The external environment continues to be dynamic as consumer demand remained solid with supply chain headwinds are constricting inventory availability. We certainly see the same dynamic within our business as demand for our brands remains robust. As Joanne mentioned we’ve acted early and boldly to maintain the momentum we’re seeing across each of our brands, while we’re not immune to external factors nor can we predict future challenges that may come, the bold actions we’re taking to secure supply along with our experience at reacting with agility to a constantly changing landscape over the last 18 months or so, it gives us confidence to increase our annual guidance.

Please note that all growth rates compared to prior year are on a comparable 52-week basis, excluding the impact of our 53rd week last year. So let’s unpack this increase in outlook. We now expect revenue to approach $6.6 billion which would mark a record for the Company. This represents a mid-teens increase compared to fiscal ’21. Our outlook for operating income is now expected to grow at the high end of our previous growth expectation for a mid-teens increase compared to prior year resulting in modest operating margin expansion. This contemplates modest gross margin pressure due entirely to the incremental freight investments in order to maintain product flow to meet strong consumer demand. This pressure is expected to be most acute in Q2 and Q3.

Excluding this additional freight impact of approximately 200 basis points, we are driving continued underlying gross margin expansion through lower discounting, improved SKU productivity along with price increases that will be implemented for the balance of the year across brands. In addition, we now expect modest SG&A leverage for the fiscal year. We continue to expect about $300 million in structural gross run rate expense savings as a result of the acceleration program. As previously shared, we are reinvesting these benefits to fuel growth including $90 million in higher marketing spend or approximately 3 percentage points higher than fiscal ’19. We’re also investing further in our digital talent and capabilities.

Net interest expense for the year is expected to be $65 million and the tax rate is estimated at 18.5% assuming a continuation of current tax laws. We’re now forecasting weighted average diluted share count to be in the area of 278 million shares incorporating a planned $1 billion in share repurchases. So taken together, we now expect EPS to be in the range of $3.45 to $3.50 incorporating the first quarter’s outperformance and an approximate $0.05 benefit from additional share repurchases. We continue to expect capex to be about $220 million for the year. Of this spend, we anticipate approximately 45% of it related to store development primarily in China, with the balance dedicated to our digital and IT initiatives. This also includes initial investments related to the build-out of our new fulfillment center to support both growth and speed to market.

Finally, we expect inventory levels to be up meaningfully during the balance of this year as we pulled forward receipts to match strong demand and face elongated lead times from supply chain pressures due to COVID disruptions. As mentioned, we’re taking deliberate steps to accelerate inventory growth and we feel comfortable in our inventory positioning to meet demand. Given the dynamic environment and last year’s atypical comparisons, we expect variability by quarter. To provide some guardrails on Q2 specifically, revenue is forecasted to grow high teens, reflecting continued momentum on a two-year basis. Operating income is projected to be in the area of prior-year levels, which contemplates incremental airfreight of approximately $70 million in the quarter or roughly 350 basis points.

In addition, we have shifted the benefit from the reinstatement of GST into the second half of the fiscal year. As a reminder, GST is expected to benefit the full year by almost 50 basis points. So taken together while margin pressure is anticipated in the second quarter, our full year operating margin outlook remains unchanged as our underlying business momentum and price increases are estimated to offset cost and inflationary pressures. As a result, EPS in Q2 is expected to be relatively in line with prior year.

In closing, we entered the fiscal year with strong momentum reflecting the benefits of the deliberate and decisive actions we’ve made under our Acceleration Program. We’re continuing to focus on what’s in our control as we navigate a dynamic operating environment and we’re taking bold steps to ensure that we can meet robust underlying demand for our brands without compromising our long-term operating margins that are already up significantly. We’re increasing both our fiscal year revenue and EPS guidance as well as our expected return of cash to shareholders. Overall, our strategy is working. I’m confident that we’re in a position to create significant value for all our stakeholders in the years to come. I’d now like to open up the call for your questions.

Questions and Answers:

Operator

[Operator Instructions] We will go first to Bob Drbul with Guggenheim. Your line is open.

Bob Drbul — Guggenheim — Analyst

Hi, good morning. Joanne, can you talk about what’s actually giving you the confidence that you can maintain the strong momentum you’ve seen heading into an inventory constrained holiday quarter for us please? Thanks.

Joanne Crevoiserat — Chief Executive Officer

Good morning, Bob. Our confidence is really driven by three factors. Our Acceleration Program initiatives are gaining traction and driving brand heat, we’re seeing a strong consumer backdrop and we’re taking bold actions to manage the environment. And we’re pleased with the momentum we’re seeing across brands, the actions we’ve taken through our Acceleration Program have transformed our Company and are driving strong and sustainable results. We see brand heat building is evidenced with the AUR growth that we’re delivering in each of our brands. We’re also seeing acceleration in topline trends.

In the first quarter, we delivered growth of 9% above pre-pandemic levels which was an 8 point acceleration from the fourth quarter. We’re delivering that with significant gross margin expansion which is allowing us to deliver structurally higher operating margin, while also reinvesting in the key growth drivers of the business. And we’re seeing continued of strength in digital in China, which are two areas that we’ve talked about represent long-term opportunity for Tapestry.

As I mentioned, as we look at the landscape, consumer spending is healthy and demand for our categories remains very strong. So although the environment continues to be dynamic, we’ve moved aggressively to manage the supply side of the equation to protect the strong trends that we’re seeing and serve our customers really keeping the customer at the center of our strategy and of our execution. And our teams have a proven track record of managing these dynamics and we are very confident in our ability to deliver for our customers this holiday and beyond. And that confidence Bob is really evidenced by the increased guidance and incremental share repurchase programs that we announced today.

Bob Drbul — Guggenheim — Analyst

Thank you.

Operator

[Operator Instructions] And we can go now to Ike Boruchow with Wells Fargo. Your line is open.

Ike Boruchow — Wells Fargo — Analyst

Hey, good morning, everyone. Congrats. I guess, Scott, I wanted to ask about, I understand three, you know, a lot of us in toplines [Phonetic] are looking at the cost of cotton and inputs like that for you guys, that’s not super important. Can you talk to us about key inputs for you guys? Maybe leather specifically, is there anything inflationary on the cost side, input cost side that pops out to you guys, that’s it, all impactful?

Scott Roe — Chief Financial Officer and Head of Strategy

Yeah, good morning, Ike. Sure, we’ve seen — we’ve seen elevated input costs and that’s not really a new dynamic for us. And also, as we’ve said — we’ve seen higher AURs and higher prices, right. So as we — as we look at the overall structural gross margin and operating margin picture, we’ve got confidence in our ability to maintain our margins even in the face of elevated cost that we see being with us for some period of time.

Ike Boruchow — Wells Fargo — Analyst

Thanks.

Operator

We’ll go now to Erinn Murphy with Piper Sandler. Your line is open.

Erinn Murphy — Piper Sandler — Analyst

Great, thank you. Good morning and nice job on the quarter. My question is around Kate Spade. The sales for the business are still not back at pre-pandemic levels, but the profitability has clearly improved, to some of the actions you’ve taken. So can you share a little bit more about your sales outlook for the brand that’s embedded in your guidance this year. And then, Scott, I do have a clarification just on freight, you talked about higher freight in Q2 and Q3, you called out the 70 million in air freight, specifically in Q2. Should we expect a similar level in the third quarter? Or is Q2 for air freight, peak? Thank you.

Joanne Crevoiserat — Chief Executive Officer

Let me jump into the Kate Spade comments, Erinn. So we are making steady progress at Kate Spade and we do have the right strategy. We are clarifying the brand positioning and we’re seeing traction across the P&L and in fact direct sales for the quarter increased mid-single digits versus pre-pandemic levels. So on a direct basis, we are growing above pre-pandemic levels and that improved quarter-over-quarter and we are focused on returning the brand to the — to its roots and driving stronger consumer engagement. We acquired over 650,000 new customers across North America channels to the brand at this past quarter alone and we’re reactivating lapsed customers at an increasing rate, which gives us confidence that the strategy is working that we’re reaching the core Kate Spade consumer and we’ve worked hard to improve the product assortments there. We talked about new platforms like the Knot and Spade Flower which continue to perform and those represent important platforms for future growth and we’re seeing increased global handbag AUR. AURs grew low double digits. So all signs that Kate Spade is on the right path on the direct business, growing against pre-pandemic levels and it reinforces our confidence that the brand can achieve $2 billion in revenue at a high teens operating margin as we move forward.

Scott Roe — Chief Financial Officer and Head of Strategy

Yeah, good morning, Erinn. I’ll jump in on your freight question as well. Maybe just a little bit of perspective. Before I get into the quarter-by-quarter details, remember the last time we spoke to you all, we talked about reopening in our largest single supply source Vietnam, which is about 40% of our supply base. We expected that to start reopening in August. And in fact that occurred about seven weeks later. And so what we decided to just build on Joanne’s comments early and boldly. So we did secure airfreight, the reason I give you that perspective, because it’s important as you take not only about the flow by quarter, but also at this point, we now see that we’re approaching normalized level of production we see, goods flowing, we have much better visibility than we did the last time we spoke, even at the SKU level. So we can merchandise against the product flow that we see. So the result of that is the exceptional air freight that we have used to bridge that gap and lead this really strong consumer demand that we see, that starting to moderate as you get in the back half of the year. So as you think about gross margin shaping you just saw the gross margin in Q1, up 450 basis points from two years ago. You’re going to see we said elevated airfreight in Q2 and Q3.

We gave you our best estimate, obviously it matters as we see what — what exact products sell through and there could be a little timing between Q2 and Q3, but think about that as roughly equal from an airfreight standpoint, but remember in the second half, we start to see the increase in prices, making a meaningful impact. We talked about the change in GSP from a timing standpoint. So what that means is gross margins will be up in the second half and specifically in the fourth quarter. So that’s one of the reasons we speak with confidence about our ability to maintain operating margins over time. We’re exiting this year, coming out of the fourth quarter with strong gross margins and the kind of — and the kind of increases that you’re used to seeing from us on an overall basis.

Erinn Murphy — Piper Sandler — Analyst

Super helpful. Thank you so much.

Scott Roe — Chief Financial Officer and Head of Strategy

Sure.

Operator

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

Mark Altschwager — Robert W. Baird — Analyst

Good morning and congrats on the continued momentum here. So encouraging to see the handbag AUR momentum. I guess, both at Coach and at Kate, can you speak a bit more to the AUR opportunity you see outside of the handbag category with the healthy demand backdrop, the inventory challenges out there, I’m wondering to what extent can you take price and other accessories and lifestyle categories to help offset the elevated cost pressures [Phonetic].

Joanne Crevoiserat — Chief Executive Officer

Yeah, let me start and then I’ll toss it to Todd who can give you an update on Coach specifically but across all of our categories, we see the opportunity to take price. And we, as brands in the portfolio are gaining pricing power and we are structurally positioned to be able to improve our AURs with the data and analytics applications that and the structural changes that we’ve made across our assortment. It’s not just the handbag effort and we’re looking across our assortments, we’re understanding what our consumers are looking for and expecting from our brands and we’re getting better and better at leveraging that data to tailor our assortments appropriately, tailor our messaging and evaluate pricing across. So we feel good about the progress we’ve made, but we see tremendous run, we’re really just getting started. We’re a data rich company and we’re learning to use that data in better and better way and that you’re seeing throughout the P&L including in gross margin and AUR increases. But Todd, I’ll pass it to you and to talk about what you’re seeing and doing at Coach.

Todd Kahn — Chief Executive Officer and Brand President of Coach

Thank you, Joanne. Yes. I think what you’re seeing, as Joanne indicated, we are seeing AUR expansion across every category and what gives us so much confidence is the quality of our product and the values that we bring and we’re seeing that across footwear, we’re seeing that in ready-to-wear. And when you think about the Coach brand and you think about historic norms where pinnacle luxury sits, we have more white space today than any time in our history. And I think that’s going to give us a real opportunity to increase our pricing. And as we celebrate now, Coach’s 80th year, we are seeing real credibility on our lifestyle component and that’s very exciting and I think you’ll see over the next couple of years us penetrating even higher in elements of the lifestyle.

Mark Altschwager — Robert W. Baird — Analyst

Thank you.

Operator

Our next question comes from Lorraine Hutchinson with Bank of America. Your line is open.

Lorraine Hutchinson — Bank of America — Analyst

Thank you. Good morning. I just wanted to focus on the new customer acquisition at both Coach and Kate, can you talk a little bit about what strategies are working best for you? And if there are that we need to lean into from an investment perspective.

Joanne Crevoiserat — Chief Executive Officer

Thanks, Lorraine. We are gaining traction and that has been a big focus of our Acceleration Program. As we say we’re getting closer to our consumer. It’s understanding the consumer at a deeper level and we’re leveraging those insights and applying them to the work we’re doing and bringing great product to market and then leveraging those insights to understand how and where to reach customers. We’re increasingly reaching customers through digital channels, we’ve talked about that as a place that we think there is tremendous runway ahead, but we’ve added over $1 billion to that business in two years. We’re testing and learning more. We’ve changed the way we work and we’re investing more in marketing, even as we’re delivering structural operating margin improvements. We’ve really tilted the P&L to invest in those places that allow us to reach more customers and reach them in different ways. So those efforts are paying off. We acquired 4 million customers through digital channels in North America last year, and 1.6 million in the first quarter across North America across channels and we expect to continue as we learn, because we’re really just getting started on leveraging these insights, new ways of working and targeting our investments more into the places that will allow our brands to grow.

Todd Kahn — Chief Executive Officer and Brand President of Coach

And I’ll just add for Coach, in the last quarter as you saw, we increased 900,000 new customers. And what we’re seeing is the increased frequency we’re seeing over 40% of the new customers are Gen Z and millennials, so that bodes well for our future and couldn’t be more excited about the opportunity. And even as we invest in digital, we see a true omni opportunity here and there is a synergistic opportunity between our brick and mortar and our digital and they feed off each other in a really great way. And with the Acceleration Program and leaning in understanding the data, it helps us create better store experiences and even helps us determine where to put stores into the future.

Joanne Crevoiserat — Chief Executive Officer

And one point I want to add that I didn’t mention, but it’s about acquiring customers, but then it’s about driving lifetime value. And I did want to make sure, I mentioned, we are focused on reengaging the consumers after we acquire them and driving higher lifetime value. All of our brands have a broad array of and assortments that we can engage our customers. We’re seeing those customers come back and transact more frequently. And so, we’re really building the foundation for future growth.

Operator

We’ll go now to Michael Binetti with Credit Suisse. Your line is open.

Michael Binetti — Credit Suisse — Analyst

Hey guys, thanks for taking our questions here, and congrats on a great quarter in obviously a tough environment.

Scott Roe — Chief Financial Officer and Head of Strategy

Thank you.

Michael Binetti — Credit Suisse — Analyst

I guess, Joanne, let me, can you just run me through China in a little bit of detail in the quarter, in third quarter, you said it was up 40% on a two-year basis, fourth quarter, up 40 also. And I think that might have included an extra week. So maybe a little lower than that. And now we’re at 65% on a two-year basis this quarter. It was pretty unexpected for us, considering all the headlines coming out of that market with lockdowns and disruptions in the quarter. That’s a meaningful acceleration and what looked to be a tough quarter if you wouldn’t mind running us through that. And then I guess, Scott, how should we think about margins for the Coach brand as we kind of jump over some of the cost impacts here in 2Q into the second half. Can the margins for the brand continue to increase in the second half?

Joanne Crevoiserat — Chief Executive Officer

So let me jump on the China question. We were pleased with our growth in China. As you mentioned we accelerated on a two-year basis. And although we did experience pockets of COVID-related disruption we delivered growth. We grew greater than 25% on the year. But to your point, 65% on a two-year basis and we are seeing continued strong engagement with customers in the market and brand sentiment remains strong particularly in the Coach brand, and we’re seeing growth I guess. And I would say at Coach and at Stuart Weitzman, our two biggest brands with the highest penetration in the market. And Kate as you know remains relatively smaller, but we see tremendous runway ahead. Of course, we’re monitoring the developments in the market, the environment remains dynamic, but we’re staying very close to the customer and we’re well positioned, all of our brands are well positioned against the growing middle class. So as we stay close to the customer and deliver the product and the experiences and show up where the customers are increasingly innovating in places like Douyin, the TikTok of China and putting our brands, where our customers are and being very relevant to that customer. We expect and we continue to see we have tremendous runway in the market.

Scott Roe — Chief Financial Officer and Head of Strategy

Yeah. And maybe, Todd and I’ll take this from different angles to your second part of the question. Yeah. We see margins up in the second half. I mean, what I’ve mentioned earlier regarding the shape of the overall Tapestry, picture is obviously a lot of big numbers largely driven by Coach. So we would see that same general dynamic plan for Coach. So, Todd, maybe a little color.

Todd Kahn — Chief Executive Officer and Brand President of Coach

Yeah. Thank you, Scott. The one thing I’d like to add is, as we maintain these really fabulous margin, if you look at the first quarter, Coach captured market share in our primary category of handbags. We looked at the handbag growth globally between 15% and we saw Coach’s results way above that. So the combination of being able to capture market share while maintaining these margins. We’re not buying the market, we are maintaining a really healthy business. And I think that is one of the key differentials between us and where maybe we historically were.

Operator

Our next question comes from Adrienne Yih with Barclays. Your line is open.

Adrienne Yih — Barclays — Analyst

Good morning, congratulations. The sector just came right for multi-year — multiple years of healthy growth. So my first question is, Joanne or Todd, can you talk about the penetration of sales in the Coach brand over 400 [Phonetic] versus — under 400 versus last year. If you’re buying higher end goods as well as buying them more frequently. And then Scott, I would imagine that prior to this, basically everything was on the ocean. And so just wondering what percent is air freighted in 2Q, what’s expected to be air freighted in 3Q as a percent of what you normally do? Thank you.

Todd Kahn — Chief Executive Officer and Brand President of Coach

Scott, you want to take the air freight first and then I’ll come back.

Scott Roe — Chief Financial Officer and Head of Strategy

Sure. Yeah, that’s probably a simple one. So, Adrienne, we’re not — we haven’t given the exact percentages I guess historically we’ve seen about a 90-10 split, ocean versus air freight and or expedited freight. And obviously we’re in an elevated level at this point. So I guess the thing I would really point you to though as my earlier comments around that based on our visibility to normalizing production flows, we’re really seeing that moderate in the back half of the year and getting back to, I’ll say, maybe not exactly normal, but certainly an improved environment as we move through the balance of the year.

Adrienne Yih — Barclays — Analyst

Right.

Todd Kahn — Chief Executive Officer and Brand President of Coach

When you look at our business overall. And as you know, we’re very defined by different channels, what we are really pleased with is the increase in AUR across all of our channels and that is the most important thing for us. So we will have bags for $1,000 and we will have bags for $149. What we’re doing is driving all of them up and that’s how we look at the business and one of the things we’ve done differently now is when we design a bag, we actually think about the market where that back will do the best and we price accordingly. So in the past we might have priced at the lowest common denominator, now we price at the highest common denominator.

Adrienne Yih — Barclays — Analyst

Thanks, Todd. Very helpful. Best of luck.

Todd Kahn — Chief Executive Officer and Brand President of Coach

Thank you.

Operator

We’ll go now to Matthew Boss with J.P. Morgan. Your line is open.

Matthew Boss — J.P. Morgan — Analyst

Great, thanks. Joanne, so on the continued outperformance of the Coach brand, I guess help us to triangulate the outsized strength that you are seeing from the digital channel to potential market share that you believe you’re taking across categories exiting the pandemic and Scott, anyway to size up the multi-year margin opportunity from this structural model channel shift to digital over time.

Joanne Crevoiserat — Chief Executive Officer

Yeah, I’ll take it. As we embarked on our Acceleration Program, we saw huge opportunity to better understand and serve our customers where they wanted to shop. And that really had us leaning into investments we had made historically, but leaning into our capabilities in digital and data. We are, as we said, 90% direct to consumer business. We know a lot about our customers and we knew we had an opportunity to better engage our customers and meet customers as their shopping behaviors were changing. So we have invested quite a bit and we’ve grown that business tremendously. We are seeing continued engagement at Coach, where we have runway, but across all of our brands, we’re seeing continued engagement, customer acquisition through digital channels. That’s not to say that’s our only focus, the omnichannel customer and customer shopping behaviors are changing and continue to change rapidly. So we’re staying close to the customer and we want to be available with our brands to our customers where they want to shop and how they want to shop and we’re staying close to that. We’re making the investments we need to make, and we’re seeing really high returns on those investments, leveraging data and getting closer to our consumers, leaning into those digital capabilities has been paying off. And it’s not just acquisition as I mentioned earlier, it’s really, once we acquire our consumers driving — to drive higher lifetime value and that’s engaging them across our broad array of categories in each of our brands. So proud of the work, the teams are doing. As I mentioned, it’s early days for us. We’re happy and very pleased with the traction we’re seeing, but a long runway ahead.

Scott Roe — Chief Financial Officer and Head of Strategy

And maybe I’ll just take and bridge from Joanne’s comment to the longer term structural margin. I guess, the first thing I need to remind you about this, we have given the guidance beyond our current outlook, so that there is, we’re not — we’re not at a point where we’re ready to have that conversation. But I would point you to a few things. So you’re exactly right. As we grow our digital business, it’s one of our most profitable channels and actually our most profitable. And as Joanne said, it’s our penetration is now 4 times what it was just two years ago. And the data and analytics that Joanne just outlined and some of the things, Todd shared around, pricing and our opportunity, we see that absolutely, we’re using data better, understanding our consumer to a more — in a more intimate level and all that gives us confidence that we can — we can maintain our margins on the other hand. Don’t forget, we are in an elevated cost environment.

So we — that’s not new. We’ve been seeing this for a while and input costs are up. Great news is, we’ve got visibility to it. We see that we have the pricing power and that gives us confidence to maintain those margins over time. So more to come as we get closer to next year, but I think, what I hope you would take away from that, is the things that we’re seeing and demonstrating this year in our outlook are structurally favorable for us as we look to the future.

Matthew Boss — J.P. Morgan — Analyst

Great color. Best of luck.

Operator

We’ll go now to Brooke Roach with Goldman Sachs. Your line is open.

Brooke Roach — Goldman Sachs — Analyst

Good morning. And thank you so much for taking the question. Joanne, I wanted to follow up on the prior question on customer acquisition and retention. And you highlighted that customer reengagement and transaction levels among those existing customers are really building a strong foundation and improving here. Could you possibly share some additional insight on what strategies have proven to be most effective and getting that customer to continue to come back and repeat and reengage with that brand? And then Scott, maybe as a follow-up, some other companies have talked a lot about labor supply as being a big focus recently. Can you talk to the impact of your recent employee initiatives and your staffing levels maybe what you’re seeing in terms of wage rates at retail and in distribution centers going forward. Thank you.

Joanne Crevoiserat — Chief Executive Officer

So let me jump on the first part of your question. Consumer acquisition retention repeat rates, we’re seeing that across all of our brands and we’ve deployed strategies really across our value chain. It’s not one thing, it’s really through the work of our Acceleration Program. It starts with getting to know our customers and being clear on who our target customers are for each of our brands and then serving those customers, understanding them and then serving them with great creative products and then making sure we’ve got the right assortment in the right places. So we’re leveraging data and analytics, plus the creativity of our talented creative teams to put the right assortments in the right places and manage inventory in the right way. And then the marketing investments that we’ve made as we’ve structurally changed the picture of our P&L to invest more in those things that will drive acquisition retention, those investments in the growth drivers in digital and in marketing.

At the same time, we’re doing that, we’re increasing our improving our capabilities to understand and reach customers. So we have specific strategies that we’re executing. We’ve got a test and learn framework that our teams are executing under. And we’re innovating constantly as we learn how to better engage our consumers, bring them back more frequently, serve them better messaging and those are the things that are working and again that’s the power of the Tapestry platform. We’re applying these capabilities across our brands, and we’re seeing traction across our brands.

Todd Kahn — Chief Executive Officer and Brand President of Coach

Yeah. So just the Coach part, I just can add 2 points. One is, and I think this is to all our brands, we are leaning into values and sense of community and that is resonating. And one of the things that has worked extremely well for us is the Coach Insider program, if we can get our new clients to join us as Coach Insiders, they have frequency of purchase, their lifetime value increases many fold. And the Coach Insider program is not a discount program. It’s not a points program. It’s about community. It’s about access and that has created a really terrific basis to not invest, have the one and done scenario, but instead create multiple purchase over our lifetime.

Scott Roe — Chief Financial Officer and Head of Strategy

And Brooke, I’ll address the second part of your question around labor supply. We’re not immune to the challenges that everybody sees out there, but I guess as I look at it, the good news here is, we’re not just beginning to address this issue. This has been a multi-year journey, not just on wages, you might recall, earlier in the year, we talked about raising wages in the $15, minimum and things that we have done on the — to be competitive from a cost or a wage dollar amount standpoint. But I think maybe even more important is the focus on engagement of the employees and someone relatively new to the story here. As I’ve come in, I’ve been very impressed with how high the engagement scores are on our retail employees and distribution centers, this is — this is an area that’s been a long-term focus, it’s a people-centered approach and that double-prong of focusing on the people and also making sure we’re competitive so far has been a pretty good formula for us in terms of getting the — getting the labor that we need. Of course, we’re not immune to the situations that are going on.

Brooke Roach — Goldman Sachs — Analyst

Thank you very much.

Operator

Thank you. That concludes our Q&A. I will now turn the call over to management for some concluding remarks.

Joanne Crevoiserat — Chief Executive Officer

Thank you, Catherine. Q1 was a strong quarter for Tapestry with outperformance across all brands. We are building momentum and our confidence and the tremendous runway ahead for our brands is underscored by the increased guidance and shareholder returns we announced today. We’ve moved quickly and decisively and navigating industry wide headwinds to meet rising demand for our brands. As always, our results are driven by our passionate teams who are moving with greater agility and are ready to deliver for our customers this holiday and beyond. Thanks everyone for joining us this morning and have a great day.

Operator

[Operator Closing Remarks]