The holiday shopping season was kind to retailers, and I expected stellar results. Revenue from Target (TGT) and Abercrombie & Fitch (ANF) both grew by double-digits. However, Urban Outfitters’s (URBN) was only up 6% Y/Y. This was not much better than the 4% growth reported in the previous quarter.

Revenue from both retail and wholesale operations was up 6%. At the brand level Urban Outfitters revenue was up 5%, Anthropologie Group was up 5%, and Free People wholesale revenue was up 6%. Within the retail segment the digital channel posted double-digit growth. Direct-to-consumer (“DTC”) is becoming a key strategy of Abercrombie & Fitch and Lululemon (LULU); Urban Outfitters has to exploit this burgeoning channel just to keep pace. Average order values from DTC were flat but conversion rates rose.

Comparable sales through stores were negative due to a fall off in transactions and units per transaction. In the past comparable store sales were problematic for the company. It could portend that DTC volume is cannibalizing sales through stores. It would not be unusual for customers to comparison shop and buy the same apparel online if it’s cheaper than in the stores. The question remains, “If comparable store sales fell during the holiday shopping season then what happens going forward?”

Margins Are Declining

As a larger percentage of revenue is derived via the DTC channel the company’s gross margins should decline. Gross margin during the most recent quarter was 31.3%, down from 33.0% in the year earlier period. Increased penetration of the digital channel and increased expedited shipments during the holiday season drove the decrease. On a dollar basis gross profit was flat Y/Y, despite the rise in revenue.

SG&A expense of $250 million was up 4% Y/Y. Urban Outfitter has invested in digital market which drove expenses higher. Investments were earmarked to improve the company’s online sales platform, including in-store pick-up capabilities and improved delivery options. This all adds to customer convenience and service, but it comes at a cost. Income from operations of $91 million was down 9% Y/Y. Declining operating income amid rising revenue has become a familiar narrative as retailers grow online offerings and provide more amenities to customers to compete with Amazon (AMZN). “Build it and they will come” appears to be the new slogan for retailers. What happens if revenue actually falters amid increased spending?

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