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Burlington Stores, Inc. (BURL) Q2 2021 Earnings Call Transcript

Burlington Stores, Inc. (NYSE: BURL) Q2 2021 earnings call dated Aug. 26, 2021

Corporate Participants:

David Glick — Senior Vice President of Investor Relations and Treasurer

Michael O’Sullivan — Chief Executive Officer

John Crimmins — Executive Vice President and Chief Financial Officer

Analysts:

Matthew Boss — JPMorgan — Analyst

Lorraine Hutchinson — Bank of America Global Research — Analyst

Ike Boruchow — Wells Fargo Securities — Analyst

John Kernan — Cowen & Company — Analyst

Kimberly Greenberger — Morgan Stanley — Analyst

Michael Binetti — Credit Suisse — Analyst

Presentation:

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Burlington Stores, Inc. Second Quarter 2021 Earnings Webcast and Conference Call. [Operator Instructions] After the speakers’ presentation there will be a question-and-answer session. [Operator Instructions]

I’d now like to hand the conference over to your host today, David Glick, Senior Vice President, Investor Relations and Treasurer. Please go ahead.

David Glick — Senior Vice President of Investor Relations and Treasurer

Thank you, operator, and good morning, everyone. We appreciate everyone’s participation in today’s conference call to discuss Burlington’s fiscal 2021 second quarter operating results. Our presenters today are Michael O’Sullivan, our Chief Executive Officer; and John Crimmins, Chief Financial Officer.

Before I turn the call over to Michael, I would like to inform listeners that this call may not be transcribed, recorded or broadcast without our expressed permission. A replay of the call will be available until September 2nd, 2021. We take no responsibility for inaccuracies that may appear in transcripts of this call by third-parties. Our remarks and the Q&A that follows are copyrighted today by Burlington Stores. Remarks made on this call concerning future expectations, events, strategies, objectives, trends or projected financial results are subject to certain risks and uncertainties. Actual results may differ materially from those that are projected in such forward-looking statements.

Such risks and uncertainties include those that are described in the company’s 10-K for fiscal 2020 and in other filings with the SEC, all of which are expressly incorporated herein by reference. Please note that the financial results and expectations we discuss today are on a continuing operations basis. Reconciliations of the non-GAAP measures we discuss today to GAAP measures are included in today’s press release.

Now here’s Michael.

Michael O’Sullivan — Chief Executive Officer

Thank you, David. Good morning, everyone, and thank you for joining us. We’re going to structure this morning’s discussion as follows: First, I will review our second quarter results. Second, I will discuss the outlook for the second half of fiscal 2021. And third, I will share some comments on our ESG initiatives and our most recent Corporate Social Responsibility Report. After that I will hand the call over to John to walk through the financial details. Then we will be happy to respond to any questions.

As a reminder, the results that we discuss today are being compared to the equivalent period in 2019. Given the impact of the pandemic last year our 2020 results do not provide a good basis for comparability.

Okay, so let’s talk about our results. Total sales grew 34% in the second quarter, which followed a 35% increase in Q1. Think about that, we grew our sales by over a third versus the first half of 2019. This is compelling evidence that our Burlington 2.0 initiatives are working and that we are taking significant market share as the consumer and the broader economy begins to recover from the COVID-19 pandemic.

Now I will talk about comp store sales. Comparable store sales in the second quarter increased 19%. We believe that there were several factors that drove this very strong comp performance. These factors included: Number one, the residual impact of the federal stimulus payments that were distributed in March. Number two, pent-up demand as the COVID vaccines became more widely available during the quarter and consumer spending picked up. Number three, the beginning of the monthly child tax credit payments in July. And number four, our own very strong execution of our Burlington 2.0 strategies.

Turning to category and regional performance once again our strength in the second quarter was very broad based. All of our major merchandise categories easily outperformed their plans and comp store sales in all regions of the country were well ahead of our expectations. Our gross margin in the second quarter increased by 80, that’s eight-zero basis points this was despite a 120 basis point increase in freight expense. Of course, this means that our merchandise margin grew by a very robust 200 basis points. This increase was once again driven by lower markdowns.

The buying environment in the second quarter was very favorable and we were able to find great merchandise values to flow to stores and to fuel our ahead of planned sales trend. At quarter end, our in-store inventory levels were, down 7% on a comp store basis. This is a relatively modest decrease, compared to recent quarters and it reflects a deliberate strategy. In fact, we chose to accelerate back-to-school receipts to ensure that global supply chain challenges did not impede our ability to take advantage of the sales opportunity that we see for the back-to-school period.

To better understand how we managed our inventories during the second quarter, it is more instructive to look at our average weekly comp store inventories. These were down 25% during the quarter. For the balance of fiscal 2021, you should expect to see similar double-digit decreases in comp store inventory. As you know this is a core element of our Burlington 2.0 strategy to run with leaner inventories and to ensure a fresher assortment in front of the customer.

Reserve inventory was 31% of our total inventory at the end of the second quarter versus 33% in the 2019 period. Again this end of quarter metric does not convey the full story. We have continued to significantly expand our use of reserve inventory as a tool to chase the sales trend. In fact our reserve receipts during Q2 increased 86%, while our reserve releases increased 64%. In other words, there is a lot more movement in and out of reserve and that was in 2019. In the second quarter, we were able to make some great opportunistic and strategic buys to put into reserve, but at the same time we moved up the release of other goods from reserve to fuel our strong sales trend.

Moving on to new store performance. We are very pleased with the initial rollout of our new smaller store prototype. During the spring season, we opened 16 stores that with 30,000 square feet or less and the earlier results are extremely encouraging. As you know, we expect this smaller formats to become our main new store prototype over the next couple of years. As a point of information, one of these recent openings is in Patchogue, New York. This is fairly close to those of you who live in the New York City area. So I encourage you to visit, walk the floor, spend some money and of course, let me know what you think.

In a moment, I will talk about the outlook for the rest of the year. But before I do that now that the results of the second quarter are in, I would like to briefly review our performance for the year to-date. In other words for the spring season as a whole. As a retailer, we break the year into two halves, building our plans and strategies for the first half of the year, the spring season; and then separately building our plans and strategies for the second half of the year, the fall season. So I think it is helpful and instructive to step back and ask how well did our strategies work in the spring season? And how well could we execute on these strategies? Also by looking at the season as a whole this naturally flattens some of the timing issues that can affect or distort one quarter or another.

So how did we do? Well for the spring season Q1 and Q2 combined our top line sales growth was 34%. Our comp store sales growth was 20%. Our operating margin grew by 240 basis points and our adjusted earnings per share was ahead by 73%. Look, we know this was not all us. There were one-time factors such as the federal stimulus payments and the release of pent up consumer demand. There is no doubt that these one-time factors helped drive our results. They helped drive every retailers results. That said, we feel very good about our own performance on an absolute and on a relative basis.

With that said, let me turn to our outlook for the second half of fiscal 2021. Based on our stronger than expected year-to-date results, we have increased our baseline plan for comp store sales for the full season as a whole from our previous plan of flat to a new plan of plus 10% comp growth. We are already 3.5 weeks into the quarter and I’m happy to report that our August month-to-date sales trend is currently running well ahead of this. We are chasing the trend and we have growing confidence that we will exceed this 10% hurdle for Q3. As we get further into the quarter, we will update and adjust our baseline plan. But for now, there are significant reasons to remain cautious.

At this point the surge in COVID cases driven by the delta variant shows no signs of letting up, and it is unclear what impact this may have on consumer spending in the weeks ahead. In this environment it makes sense to plan our business conservatively, and then adjust as we learn more. Throughout this year we have demonstrated our extraordinary ability to chase the sales trend. We will do the same in the fall season if the sales trend is there.

Moving on from the sales outlook, I would like to spend some time talking about the extraordinary freight and supply chain expense pressures that we are seeing. For several quarters now there has been a significant imbalance in global transportation systems between demand and available capacity. This has caused unprecedented volatility and disruption in deliveries of merchandise across all sectors of retail, and it has caused a significant spike in international and domestic freight rates. As we move into Q3 and the peak period for retail deliveries the situation is getting much worse. Again this is not at all unique to Burlington, these conditions are affecting all retailers.

Based on our experience and success so far this year, we are confident that despite these issues we will be able to get timely receipt of the merchandise that we need to support our trend. But in doing this we expect to incur significantly higher freight and supply chain expenses. As John will detail in a moment, we are anticipating some offsets to these higher expenses. In particular, continued markdown savings driven by faster inventory turns and leverage on other expenses, if we achieve our sales plans. But overall, these higher logistics costs will put significant pressure on our operating margins.

Before I leave this topic, it is important to make the point that the issue I have just described, the huge imbalance between demand and available capacity in Transportation Systems is being driven by short-term factors. On the one hand the surge in consumer demand in the United States, and on the other hand the limited capacity of domestic and international transportation systems further hampered by labor shortages and restrictions associated with the pandemic. We do not believe that this imbalance all these factors are permanent. It will not happen right away, but we expect these issues to normalize over time. As they normalize, we would anticipate that freight rates will come back down. We also believe that if the situation normalizes there could be a significant backlog of merchandise that makes its way into the off-price channel.

Okay. Before I turn the call over to John there is one other very important topic that I would like to touch on. Earlier this week, we published our third annual Corporate Social Responsibility Report. We are very proud of this report and the accomplishments and progress that it describes. As a company, we recognize the driving shareholder value is extremely important. But it should not be the only thing that we focus on. And it cannot be the only objective that we measure ourselves against. We have a much broader set of responsibilities to our associates, to our customers and to the communities that we serve. These are all critically important stakeholders. We believe that by serving these stakeholders, we will build a stronger, better and more sustainable company, and that in doing this we will further enhance and drive shareholder value over the longer term.

The CSR report that we published earlier this week is intended to back up these words with specific details on the programs that we are pursuing and data on the progress that we’re making. It covers important topics like inclusion and diversity, community outreach and support and environmental sustainability. To be clear, while we are proud of our commitment and our accomplishments we regard this as a journey and we know that we have plenty of work still to do. I would encourage you all to take a look at the report, which is available on our Investor Relations website and invite you to follow-up with us if you have questions or would like more information.

Now I would like to turn the call over to John to provide more detail on our second quarter financial performance. John?

John Crimmins — Executive Vice President and Chief Financial Officer

Thanks, Michael, and good morning, everyone. Let me start with the review of the income statement. As a reminder, the results we discuss for the second quarter of fiscal 2021 are being compared to the second quarter of fiscal 2019.

For the second quarter, total sales grew 34%, while comparable store sales increased by 19%. The gross margin rate was 42.2%, an increase of 80 basis points versus 2019s second quarter rate of 41.4%. This improvement was driven by an approximately 200 basis point increase in our merchandise margins, which was attributable primarily to a reduction in markdowns. This merchandise margin improvement more than offset the significant increase in freight expense, which was approximately 120 basis points higher than 2019s second quarter rate.

Product sourcing costs, which include the cost of processing goods through our supply chain and buying costs were $146 million versus $82 million in the second quarter of 2019, increasing 160 basis points as a percentage of sales. Higher supply chain costs accounted for nearly all of the deleverage. The drivers of this expense pressure were consistent with what we had seen in Q4 and Q1, higher wage rates and wage incentives and the disruption in the flow of receipts across the global retail supply chain.

Adjusted SG&A was $550 million versus $441 million in 2019, decreasing 170 basis points as a percentage of sales. SG&A leverage was primarily due to leverage in occupancy and store payroll. Adjusted EBIT margin increased to 8.3%, 110 basis points higher than the second quarter of 2019. All of this resulted in diluted earnings per share of $1.50 versus $1.26 in the second quarter of 2019. Adjusted diluted earnings per share were $1.94 versus $1.36 in the second quarter of 2019, an increase of 43%.

During the quarter we opened eight net new stores bringing our store count at the end of the second quarter to 792 stores. This included 11 new store openings, one relocation and two closures. This brings us to total store openings of 37 gross and 31 net for the spring. We still expect to open 100 new stores in fiscal 2021, while closing or relocating 25 stores for a net addition of 75 stores.

We ended the period with available liquidity of approximately $1.9 billion, including approximately $1.3 billion in unrestricted cash and $534 million of availability on our ABL. Our total balance sheet debt is now $1.8 billion, which includes $961 million on our term loan and $805 million in convertible notes, with no outstanding balance on our ABL. During the second quarter, we executed a make whole call for the $300 million outstanding of our 6.25% 2025 senior secured notes.

Additionally, during the second quarter, we refinanced our term loan extending the maturity to June 2028 from November 2024, while our interest rate spread increased modestly by 25 basis points to LIBOR plus 200 basis points. We continue to remain hedge and $450 million of the $961 million notional value. We extended our current interest rate swap through a Blend and Extend transaction moving the maturity of the swap out to June 2028 and lowering the LIBOR rate of the swap from 2.72% to 2.19%.

Our previous share repurchase authorization expired earlier this month and our Board recently approved a new $400 million authorization that expires in August 2023. As we’ve said in the past, our first priority remains investing in our long-term growth and reducing our leverage. We are pleased with the recent reduction in our leverage and the progress we’ve made over the last nine months, paying down the $400 million previously outstanding on our ABL by the end of fiscal 2020 and retiring our $300 million of senior secured notes in June. Looking ahead, we are focused on deploying excess cash, where we see the most accretive use.

Now I will turn to our outlook. Despite, the recent strength of our business, the outlook remains very unpredictable. So we are not providing specific sales or earnings guidance for the remainder of fiscal 2021. But as we did in our last earnings call, we would like to share some high level comments and how we are thinking about our financial performance for the second half of 2021. Like other retailers, we are seeing significant incremental pressure from freight and supply chain costs.

As we discussed on our first quarter call, these pressures impact us primarily in three areas: first, ocean freight, the capacity versus demand imbalance for all imports just continue to worsen and has driven related costs well past what we have been anticipating. These higher rates affect our margin on all merchandise. The small portion of our business that we directly import and the merchandise that is important by the vendors we buy from.

Second, domestic freight. A very similar story demand for exceed supply for all modes of transportation and as the situation is continue to worsen rates have continued to escalate well test what we have been anticipated. And third supply chain costs. This demand has far exceeded what most retailers have planed for the competition to increase staffing levels to meet the higher volumes has driven wages higher again. Our expected increase in supply chain cost is driven partly by additional base wage increases, partly by temporary incentives and partly by inefficiencies caused by the overall disruption in the global supply chain.

With that as background, let’s move to some specifics. As Michael mentioned earlier, we will continue to plan sales conservatively and adjust our business to the trends that we see. Just as we did in the first half of fiscal 2021, our current baseline comp sales plan for the second half of the year is a 10% increase. As Michael mentioned earlier given our strong start to the quarter we have growing confidence that Q3 may exceed this hurdle, but we will keep our fall baseline comp sales plan at 10% until we are further along and have better visibility as to what to expect in the fourth quarter.

Based on this revised comp store plan for the fall season combined with our better-than-expected Q2 comp sales results, we are now planning for a full-year comp store sales increase of 14% versus our previous plan for a 7% increase. As you think about total sales growth for the full fiscal year versus FY ’19 remember to factor in two years of new stores of this time period. We opened 31 net new stores during the first half, then we expect to open 44 net new stores in the second half of this year, primarily in Q3. The growth in new store and non-comp sales combined with our updated full-year comp baseline assumption of 14% would potentially deliver approximately 28% total sales growth for the full fiscal year.

Given the dynamic and volatile cost environment we are facing, it’s difficult to provide specific margin metrics for the balance of this year. However, we thought it might be helpful to share some of our internal modeling assumptions for Q3. Yes, we were to hit our baseline comp sales plan of 10% in Q3, then our modeling suggests that our EBIT margin would decline by approximately 250 basis points, driven by 450 basis points combined freight and product sourcing cost deleverage; offsetting that cost pressure we would expect 200 basis points of combined merchandise margin expansion and SG&A expense leverage.

On our last earnings call, we shared that with the Q1 results and our planning assumptions of 10% comp in Q2 and flat comp in Q3 and Q4, we would have expected a full-year EBIT margin decline of 20 to 30 basis points, compared to fiscal 2019.

Now, after factoring in our Q2 results, our new 10% comp sales planning assumption for the fall season and the significant incremental freight and supply chain cost pressures, our modeling assumptions result in relatively flat EBIT margins for fiscal 2021. We do expect most of the deleveraging effect of freight and supply chain costs to be temporary. And the global supply chain capacity and demand are more in balance, we would expect to see an operating margin tailwind, but it’s not yet clear when to expect that to happen.

Two final points before I turn the call back to Michael. First, please keep in mind that these comments, we are making on our planning assumptions are intended to help you understand how we are modeling our business. As we said earlier, we expect the business environment in the second half of the year to continue to be very difficult to predict for sales demand and for freight and supply chain costs. Our planning assumptions are based on estimates that may not be accurate.

Second, we wanted to reinforce the point we made on last quarters call. As you update your model for 2022, it will be very important to back out the impact of one-time sales benefits from external factors such as the federal stimulus checks in Q1, the pent-up demand we saw in Q2 and the additional benefit from the child tax credits for the balance of 2021. Of course, we will provide more information on our 2022 sales outlook later this year or early next year.

With that I will turn it over to Michael for closing remarks.

Michael O’Sullivan — Chief Executive Officer

Thank you, John. Let me wrap up my remarks by congratulating the entire Burlington family for our exceptional performance in the second quarter and the first half of fiscal 2021. As I’ve said before, this is a really exciting time to be at the company. We have very strong momentum, we are building and strengthening our team and we are achieving results that are at the top of our retail peer group.

Our 34% total sales growth year-to-date reinforces our confidence in our ability to take significant market share over time. Meanwhile, despite the temporary expense headwinds that we are facing, we remain very excited about our ability to significantly expand operating margins over the next few years.

With that I will turn it over to the operator for your questions. Operator?

Questions and Answers:

Operator

Thank you. [Operator Instructions] Our first question comes from the line of Matthew Boss. Your line is now open.

Matthew Boss — JPMorgan — Analyst

Great, thanks and congrats on another nice quarter. Michael, maybe first on the top line, could you just help quantify or provide any additional color around some of the factors that drove your second quarter comp growth?

Michael O’Sullivan — Chief Executive Officer

Sure. Well, good morning, Matt. Thank you for the question. As you probably recall in the — for the first quarter, we estimated the impact of the federal stimulus checks as being worth 10 to 15 points of comp growth. That analysis was fairly straightforward, the checks were sent out over a very short time period in March of this year, and we could see the sales lift in the days and the weeks that followed. So we announced it wasn’t hard. We’re fairly confident about that estimate.

For Q2, as I said in the script there were several factors that grew, what we think drove our comp growth, including probably a residual impact from those stimulus checks plus pent-up demand, as life started to get back to normal in Q2, and then the child tax credit payments that were made later in the quarter. We certainly try to quantify the impact of each of those. But there was much more difficult. For example, how do you quantify pent-up demand? So we don’t really have an estimate that we can share for Q2, but nevertheless, I would say we’re fairly short that the impact of those items was pretty significant.

The reason that, that’s important is that all of those items are non-recurring. This year these factors have been like a rising tide they’ve lifted all retailers. In 2022, we would expect that, that tide is going to recede. So as John said earlier, as you think about sales models for 2022, it will be very important to back out the significant impact of those one-time items, not just for us, but for every retailer.

Matthew Boss — JPMorgan — Analyst

Great. And then maybe just a follow-up on freight and supply chain expenses for John. Could you just help provide some color on the higher freight and supply chain expenses that you’re seeing today. And then maybe more so what makes you think that these costs are temporary?

John Crimmins — Executive Vice President and Chief Financial Officer

Well, thanks, Matt. Good morning. It’s a really good question. I think it’s worth taking a couple of minutes to explain in some detail what we’re seeing. Coming into this year, we really all of the retailers were tentative and somewhat conservative in our sales plans, nobody was really sure what to expect, driven by the government stimulus payments, pent up consumer demand, and other one-time factors, sales levels across the retail industry has grown well beyond what anyone would have expected six months ago. Faced with this surge in demand all retailers have been competing with each other for capacity alone — really everyone [Phonetic] linked to the global supply chain.

The competition for that capacity has driven rates to unprecedented levels. Just an example, the spot rate for shipping a container from China to our West Coast port shortly before the pandemic had been running around $1,500 bucks. To do that now costs $15,000 and the rates are still increasing. There aren’t enough containers, there aren’t enough ships, there aren’t enough trucks or trains. There is more a volume now. There any part of the supply chain pipe can adequately handle, every piece of the pipe is slower. In our backlogs to work through every step of the way.

To work around these issues most retailers have increased their orders and try to accelerate them ahead of the fall and holiday season. This is even further increased the pressure on the supply chain, helping to drive even higher rates. The companies that can afford to the additional costs are worth incurring temporarily, because even after covering these costs, the added operating profit is accretive, even if it temporarily hurts operating margins, temporarily may be the keyword in the situation we believe and most economists seem to agree that the situation will moderate over time as demand subsides and as capacity is added. So, like many others, we think the global supply chain issues will likely carry into next year.

But at some point the imbalance between demand on the one hand and capacity in the other will start to correct itself. When this happens, we would expect freight in the rest of the temporary costs related to the disruption in the DC labor shortage to become a tailwind for most companies including us. And remember, while it continues, we do expect the disruption to help us to be able to continue to fund plenty of terrific merchandise values for our customers.

Matthew Boss — JPMorgan — Analyst

Thanks for all the color and congrats again on the continued momentum guys.

Michael O’Sullivan — Chief Executive Officer

Thanks, Matt.

John Crimmins — Executive Vice President and Chief Financial Officer

Thanks, Matt.

Operator

Thank you. Our next question comes from the line of Lorraine Hutchinson. Your line is now open.

Lorraine Hutchinson — Bank of America Global Research — Analyst

Thank you, good morning. John, you achieved similar comp growth in the first and second quarters, but your operating margin expansion was much stronger in 1Q. Can you take us through the factors that drove this difference between the quarters?

John Crimmins — Executive Vice President and Chief Financial Officer

Sure. Good morning, Lorraine. Thanks for the question. Let me just frame the question a little bit and then I’ll answer it. So EBIT margins expanded 360 basis points in the first quarter and only 110 basis points in the second quarter, so that’s about a 250 basis point difference, obviously in a very similar comp level. So why is that?

Well, gross margin was really the key driver of the difference, expanding only 80 basis points in the second quarter versus 230 basis points in the first, so that’s a 150 basis points of the difference. Markdowns were the big driver of the gross margin difference and this wasn’t unexpected for us. You may remember that during the first quarter call, we said that the markdown improvement in Q1 would not be sustainable, Q1 was kind of unique, we were comparing to the first quarter of 2019, than a quite a bit of clearance activity. Historically, first quarter had been a week gross margin quarter for us, we often carried over holiday clearance merchandise from the fall, which dragged our first quarter margin down. And this did happen to us in the first quarter of 2019. But in the first quarter of 2021, we started with incredibly fresh and lean inventory and then with the well above plan 20% top of the first quarter, our inventory turns increased nearly 60%, which we also set would not be sustainable. It turns out you’re right, our inventory terms did slow down in Q2, but they still improved by a very respectable 49%.

Aside from gross margin, the remaining 100 basis points difference is largely driven by less SG&A leverage. Most of that was driven by less advertising leverage in Q2, compared to Q1 and more deleverage from its incentive comp in the second quarter.

Lorraine Hutchinson — Bank of America Global Research — Analyst

Thanks. And then my second question is for Michael related to pricing several retailers have talked recently about taking up prices to offset some of these cost pressures. What are you seeing in terms of pricing in the market? And could this be an opportunity for Burlington as well?

Michael O’Sullivan — Chief Executive Officer

Well, good morning, Lorraine, great to hear from you. I would say that we are very skeptical about the ability retailers to sustainably raise prices across the categories that we compete in. There are really two reasons for that skepticism: firstly, it’s important to grow our distinction between higher realized prices in the short-term versus permanently higher prices longer term. It’s clear the inventory levels across the retail industry have been very lean this year, and as a consequence has been very little promotional activity. That means that realized prices have been higher for many retailers. But we just don’t think that’s sustainable. The realized prices are higher, because inventories are lean, but the only reason that inventories are lean is that there’s been a huge surge in consumer demand at the same time as supply chains have been constrained. So we think that when the situation normalizes, it’s slightly realized prices will come back down to more like historical levels. So that’s the first reason we’re skeptical.

The second. The second factor that may be feeding into this is that the — is the spike in freight and supply chain costs. If you believe that those costs are permanent and I think you could make a good case, the retailers may try to pass those costs on, in the form of higher prices. But as we said in the remarks and as John just described. We think those costs — most of [Indecipherable] moment in time a short-term imbalance between demand and capacity. It is just picking up on one of the data points that John shared earlier. Ocean freight rates are about 10 times higher now than they were in 2019. That is not because operating a ship all paying a dockyard work or is 10 times higher, it’s because demand exceeds capacity. That imbalance won’t last it will normalize. So we think any price increase that’s based on those short-term costs. Again, it’s just not likely to be sustainable, so that’s our assessment.

Now, let me wrap up my answer by saying we could be wrong, maybe prices across the retail really will move up in the next year or two. And to be clear, we wouldn’t mind at all for an off-price retailer like us that would be terrific. It would help to further expand our value differentiation through the lens of Burlington 2.0, we would see this as a great opportunity to drive sales. Not to drive margin, but to drive sales.

Lorraine Hutchinson — Bank of America Global Research — Analyst

Thank you.

Michael O’Sullivan — Chief Executive Officer

Thanks, Lorraine.

Operator

Thank you. Our next question comes from the line of Ike Boruchow. Your line is now open.

Ike Boruchow — Wells Fargo Securities — Analyst

Hey, good morning, Michael, John, David. Michael, question for you to start, just a couple of long-term question is actually just, I guess, based on the comments today, I’m curious if you could help us on how you’re thinking about 2022, given what you’re up against in 2021? Is there a way you could help us understand how you are planning the business next year in anyway?

Michael O’Sullivan — Chief Executive Officer

Well, good morning. Ike. Yes, thank you, it’s a very good question. Having just done at 20% comp for the spring of 2021, it is pretty challenging to think about, well, how should we plan spring of 2022. We’re getting to a point where we’re starting to work on that, because typically as we move into October, November, we start working on our plans for the following spring. I don’t have a lot of details to share, but let me do this, let me offer up a possible scenario for 2022 in terms of what the air [Phonetic] could look like.

We think that it’s possible that 2022 will be a very difficult and turbulent year across the retail industry. I’m not saying that with any sense of do more pessimism on the contrary, difficult and turbulent years in retail are often very good for off-price. So as I, sort of, lay out why we think the year could be difficult. You should interpret this as me feeling upbeat not the opposite. So really two reasons why I’m saying I think 2022 could be a difficult year in retail, that the first reason we’ve kind of touched on earlier in 2021 every retailer has benefited from significant one-time items that have driven much higher sales levels than they otherwise would have achieved. When retailers anniversary those items in 2022, comps could well turn negative, impact mathematically that seems very lightly.

Secondly, in 2021 that surge in sales was accompanied by global supply chain constraints and very lean inventory levels, which means that many retailers have seen just a remarkable recovery in margins. Again if you scroll forward to 2022, if consumer demand does fall off. And it’s likely though supply chain constraints are going to ease. So you could see an increase in the flow of merchandise into the country. At the very time the comp sales trends have turned negative. The scenario, I’ve just described a negative sales trend across retail and the loose [Phonetic] our supply of merchandise could create huge disruption. But the consequences for off-price and for Burlington 2.0 in particular, we think could be very favorable, could offer the potential to further accelerate our ability to take share.

Now I don’t want to oversell the scenario, I’ve just described. The past 18 months have demonstrated there are serious hazards to anyone making predictions. So, but that’s actually — that’s kind of the point. For 2022, given the uncertainty, we think that we’re going to need to be very flexible and very nimble, so we can respond to any scenario we take, including the scenario I’ve just described. And if there is an opportunity, so that we can — we’re in a position to take advantage of it.

Ike Boruchow — Wells Fargo Securities — Analyst

Got it. Sort of follow-up actually just you teed it up pretty well to take advantage. It seems like having a lot of success with the Burlington 2.0 strategy, are there aspects of the strategy that you could accelerate or leverage you guys could call or accelerate going forward? If this is in fact how the environment actually shapes out?

Michael O’Sullivan — Chief Executive Officer

Yes, it’s a really good question, in fact for the last several months, I’ve been working with the executive team on exactly this question, you know, can we move faster? Again, I don’t have a detailed answer. But let me offer up a few comments: number one, we are mindful, and we’re building a company for the long-term here. Where everything we do needs to be done in a very high quality way. So we’re not going to accelerate anything if we have to compromise how well we do it, that’s point number one.

Point number two, I would say that there are areas where if the opportunity presents itself, then we will absolutely move faster. The best example of this is the investment we’re making in our merchandising organization. If we see strong talent in the market or a stronger flow of talent in the market, we’ll move on it very quickly. We won’t be held back by existing hiring plans or budgets.

And then I guess the third point is that there are — there may be some other initiatives that we can accelerate, but we need to do more homework first before we make a decision to formally adjust our plans. The key thing, I guess, bringing it back to this year. The key thing is that for the balance of 2021 we need to focus heavily on doing what we’ve been doing, offering great value, planning the business conservatively and being ready to chase. So we’ll certainly in parallel, sort of, work on some of those longer-term opportunities and possibly accelerating some of those longer-term opportunities. But our main focus for the next six months needs to be to keep doing what we’re doing. It’s been a winning game for us so far this year.

Ike Boruchow — Wells Fargo Securities — Analyst

Thanks so much.

Michael O’Sullivan — Chief Executive Officer

Thank you.

Operator

Thank you. Our next question comes from the line of John Kernan. Your line is now open.

John Kernan — Cowen & Company — Analyst

Good morning, Michael, John, David, congrats on strong execution and huge market share gains here. [Speech Overlap] question for John. First, can you give us more color on the operating margin outlook based on to freight and supply chain costs. It sounds like for the full-year ’21 you expect operation — operating margins to be flat on a 14 comp? How do we think about the margin structure going forward? Do you still see the same opportunity you saw several months ago to increase margins over time?

John Crimmins — Executive Vice President and Chief Financial Officer

Okay. Well, first of all, good morning, John. Thanks for your question. I’ll start with the first part this year’s EBIT margin. Back in May when we spoke, we shared that freight and supply chain costs were rising faster than what we had originally planned for, and while we had planned for these cost to continue to increase, we underestimated that the magnitude of the increase. It looks considerably worse now than it did then. So today we shared our Q3 adjusted EBIT margin outlook at down 250 basis points on a 10 comp. Our updated full-year adjusted EBIT margin plan implies a similar decline for Q4 based on our updated full comp plan of 10%. Our strong first-half margin rate performance is being roughly offset in the back half as we do expect operating margins to be down by over 200 basis points, if we perform in line with our 10% comp planning assumption for the fall.

And yes, assuming a 10% comp performance for the fall, we would expect our operating margin rate to be flat. This full-year performance is driven by 450 points of deleverage, mostly from freight, supply chain costs and to a lesser degree by incentive comps — costs. We expect to be able to fully offset these costs with about 450 basis points of combined gross margin expansion, driven by lower markdowns and leverage on SG&A costs. So while the impact of these incremental costs in this year’s operating margin is disappointing.

There are few other things to keep in mind, our updated planning assumptions that we share today, if realized we deliver 28% total sales growth with a flat operating margin that would mean 28% EBIT dollar growth also. And as we’ve mentioned a few times today, we think that with the exception of some permanent changes in DC wage rates the rest of the drivers, the 450 bps of deleverage are temporary. We estimate the DC wage deleverage impact in these estimates to be less than 100 bps of that 450.

So for the second part of your question, how do we think about operating margins going forward? Well, we still see fundamentally the same long-term operating margin opportunity that we’ve been describing. We expect freight and supply chain cost to improve, we expect to continue to drive faster inventory turns, which should result in lower markdowns. We expect to see occupancy leverage increase accelerated by our new smaller stores, and we see opportunities to drive better operational efficiency, creating other expense leverage. So, yes, we still see the same path to the continued operating margin expansion that we’ve been talking about.

John Kernan — Cowen & Company — Analyst

Got it. That was a lot of detail. Thank you. I have another one for you, John. It sounds like you’re excited about what you’re seeing with the new smaller prototype. Is there anymore you can tell us about the new store format? Any detail on how the unit economics of these stores compare to the older larger format?

John Crimmins — Executive Vice President and Chief Financial Officer

Thanks, John. Yes, we are really excited about the performance of all of our new stores, but particularly that the 16 stores we opened this spring that are 3,000 square feet or smaller. Most of them are about 25,000 square feet, some of them are actually a bit smaller, but average this group of new stores that we opened this spring are running well ahead of our underwriting targets, and this is — it’s also true for the group of smaller stores. And one of the most exciting things about this smaller store format is the potential, it has helped us improve leverage on occupancy costs. As I just mentioned it’s a big part of our long-term margin opportunity.

The hypothesis is always stand that if we can drive similar sales volumes in smaller, less expensive boxes, that’s going to help us drive operating margin expansion. Still early days, but what we’ve seen so far with the new batch of smaller stores is really encouraging, and it only strengthens our confidence and the potential of the new format. And now that we have several of these stores open, we should have enough of a sample to begin to work through the learning curve, how to best operate in the smaller size. The economics in the new store should be a great operating margin tailwind and the availability of boxes in this size range should provide plenty of very attractive sites for future new stores. So, yes, we’re really pleased with what we’ve seen so far this year.

John Kernan — Cowen & Company — Analyst

Awesome. Thank you.

Operator

Thank you. Our next question comes from the line of Kimberly Greenberger. Your line is now open.

Kimberly Greenberger — Morgan Stanley — Analyst

Okay, great, thanks so much. Very nice quarter here. I wanted to just come back to one of the comments that you’ve made on the call today that August here is running well ahead of the 10% comp plan here for the third quarter. I’m wondering, if you can just give us a little more color on trends here for Q3. What are you seeing in your business? And as you look out to the balance of Q3, I know, you will monitor the business, but what are the risks and opportunities as you see them for the quarter?

Michael O’Sullivan — Chief Executive Officer

Sure. So good morning, Kimberly, it’s Michael. I’ll take that question. It’s a good question, and I would — can see, but ordinarily after — up to such a strong start to the quarter, we would have taken up the plan for the quarter by now. But in this particular situation we’re being a little cautious, I think, for two reasons: the first I kind of mentioned in the remarks, the search in COVID cases related to the delta variant. Now so far there’s absolutely no evidence that, that’s had any impact on our business. But if the situation deteriorates, then obviously that could change, so that’s one reason to be a little bit cautious.

The second reason we’re being a little bit cautious is the third quarter, much more so than any other quarter of the year. Weather really matters. Given, I know, we’ve talked about this before. Given our legacy of Burlington Coat Factory, I would say that both the good or bad, weather affects us in the third quarter most — more than it does most other retailers. Weather turns cooler, shoppers naturally think about aware. So if the weather turns cooler earlier in the quarter and that really helps us versus other retailers. If on the other hand, it remains warmer to later in the quarter, then that can hurt us.

Right now most of the long-range forecasts — weather forecasts are saying that October and even November could be unusually warm. We never really know how much face to place in those forecasts, so that they could be wrong. But it makes sense for us given that outlook to be cautious in Q3. If the forecasts are wrong, we know that we can chase and actually in our reserve inventory we have a pretty good outerwear position. So if the weather did cool or sooner than we would chase the trend.

Kimberly Greenberger — Morgan Stanley — Analyst

Fantastic, that’s great color, Michael. Thank you for that. And John, just a follow-up on that, if in the third quarter, for example, you were able to deliver a 15% comp instead of your 10% plan, how would that change your outlook for the — and maybe just take it to the second half of the year, how would that change your outlook for the operating margin decline?

John Crimmins — Executive Vice President and Chief Financial Officer

Sure, Kimberly. Good question. So I’m going to answer the question in two pieces. So if we were to perform at a 15% comp, obviously, yes, that would give us an opportunity to get some additional leverage on our fixed cost base, that component of SG&A, in which we’re already showing really good leverage and would also help our gross margin performance. We could have — we would expect to drive even lower markdowns on a higher sales demand. So that part of the way that we would typically think about, our flow through on incremental sales, is very much in place. It’s even there if you look at the 10% comp even though it’s a flat margin. You were getting 450 basis points of leverage on a full-year performance on our SG&A and on our gross margin. It’s just all been eaten up by the product sourcing costs, supply chain costs and some incentive comp.

So we’re very comfortable with that part of our algorithm. But, yes, the freight and supply chain costs are very difficult to predict. So I don’t want to give you an exact — how this will flow-through because we just don’t know. We think we have some pretty conservative assumptions in here, realistic. But yes, it’s just not clear how that situation is going to play out and that’s why we’ve stayed away from giving specific guidance.

Kimberly Greenberger — Morgan Stanley — Analyst

Understood. Thank you so much.

Michael O’Sullivan — Chief Executive Officer

Thanks, Kimberley.

Operator

Thank you. Our last question will come from the line of Michael Binetti. Your line is now open.

Michael Binetti — Credit Suisse — Analyst

Hey, guys. And my congrats on a nice quarter and thanks for all the detail here today. So the merch margins were 200 basis points lower in 2Q — I’m sorry, up in 2Q, but were lower — I’m sorry, they were up but less than 1Q. I’m curious, Michael, if you can just maybe give us some comment on what drove that moderation. And then I think you said 3Q would be 200 basis points from both merchandise margin and SG&A leverage. So it seems like you’re baking in further moderation of the merch margin in the third quarter and second half, but given how tight supply chains are and inventories that you spoken to are getting backed up into the market, I’m trying to think what would be some of the incremental headwinds to merch margin as you look out to the plan in second half.

Michael O’Sullivan — Chief Executive Officer

Sure. So good morning, Michael. Yes, everything you said is correct in terms of the comparisons of the quarters. So we saw a nice merch margin improvement in Q2, but it wasn’t as big as the improvement in Q1. That’s really driven by the point that John was making earlier that Q1 was the anomaly — Q1 — we are much cleaner coming into Q1 than we’ve been historically and as a result, we took far fewer markdowns in Q1. So that was really what drove that difference between Q1 and Q2. Looking forward to the back half, obviously, our back half baseline comp assumption is a 10% comp. If we do a 20% comp in the back half of the year, I would be hoping for — I would be expecting much stronger inventory turns, much stronger markdowns and that would drive a stronger merch margin performance than we’ve indicated.

Just linking this, though, to the point you were making about availability of merchandise, I would say that, so far this year, availability has been pretty good. We’ve had no problem across our business, we’ve had no problem overall chasing receipts. We’ve gone from a — we started the year with a flat comp as a plan and we’ve obviously ran at 20%. So we’ve been able to find the goods. As I think about the backlog in supply chains, I think availability is going to get better, much better, even than the pretty good availability we’ve seen. But I think that improvement in availability may not happen for a few months. We’re going to get to a point here, probably in October, something like that, when goods that have been ordered that haven’t arrived in the United States aren’t going to make it for holiday. And I think at that point, it could be a good buying opportunity for off-price. But we’ll see, and a lot of that merchandise we would end up putting in reserve anyway. But it — we do think that there’s going to be some opportunities in the months ahead.

Michael Binetti — Credit Suisse — Analyst

Is it safe — thanks for that, Michael. Is it safe to say that on the pathway and the inventory and the channels, you spoke about it, I think, earlier in remarks, you mentioned the reserves — your intake of reserve inventory was up I think 86%. Would that suggest that, in August, you’re seeing the ability to continue bringing in reserve flows at a bit of a slower pace but you have confidence that it picks up through the quarter or what kind of a pace relative to that 86% did you assume as you thought about the 10% comp?

Michael O’Sullivan — Chief Executive Officer

Yes, it’s a good question. We’re kind of assuming that, that reserve inventory over the next month or two is going to kind of come in at a similar rate to what we’ve been experiencing. But we do think that there is a buying opportunity down the road, probably though for merchandise that we wouldn’t necessarily flow to stores. So it wouldn’t necessarily hit the 10% comp. Some of it might, but most of it might be packed away for next year, because it would be seasonal merchandise.

Michael Binetti — Credit Suisse — Analyst

Okay, thanks a lot, again, guys.

Michael O’Sullivan — Chief Executive Officer

Thanks, Michael.

Operator

Thank you. There are — this concludes today’s question-and-answer session. I will now turn the call over to Michael O’Sullivan for closing remarks.

Michael O’Sullivan — Chief Executive Officer

Thank you everyone for joining us on the call today. We appreciate your questions and your interest in Burlington Stores. We look forward to talking to you again in November to discuss our third quarter results. Thanks again.

Operator

[Operator Closing Remarks]

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