Capri Holdings Ltd Q1 FY2023 Earnings Call

Greetings and welcome to Capri Holdings Limited's First Quarter 2023 Earnings Conference Call. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Jennifer Davis, Vice President of Investor Relations. Please proceed.

Good morning, everyone, and thank you for joining us on Capri Holdings Limited First Quarter Fiscal '23 Conference Call. With me this morning are Chairman and Chief Executive Officer, John Idol; and Chief Financial and Chief Operating Officer, Tom Edwards. Before we begin, let me remind you that certain statements made on today's call may constitute forward-looking statements, which are subject to risks and uncertainties that could cause actual results to differ from those we expect. Those risks and uncertainties are described in today's press release and in the company's SEC filings, which are available on the company's website. Investors should not assume that the statements made during this call will remain operative at a later time, and the company undertakes no obligation to update any information discussed on the call. Unless otherwise noted, all financial information on today's call will be presented on a non-GAAP basis. These non-GAAP measures exclude certain costs associated with COVID-19-related charges, ERP implementation costs, Capri transformation costs, restructuring and other charges. To view the corresponding GAAP measures and related reconciliation, please view the earnings release posted to our website earlier today at capriholdings.com. Now I would like to turn the call over to Mr. John Idol, Chairman and Chief Executive Officer.

Thank you, Jennifer, and good morning, everyone. We are pleased that the year is off to a better-than-anticipated start, driven by strength across all three of our luxury houses. Our powerful brands continue to resonate with consumers, as evidenced by the 12 million new names added across our databases over the last year. Additionally, consumers are responding to the innovative and exciting fashion luxury products, led by the design visions of Donatella Versace, Sandra Choi, and Michael Kors. Capri Holdings' success is a testament to the strength of our brands as well as the dedication, resilience and agility of our entire team across the globe. Looking forward, we remain optimistic about our future growth potential based on the strategies outlined at our recent Investor Day. While we recognize there are near-term macro uncertainties, our confidence in Capri Holdings' ability to achieve our long-term goals is grounded in the proven resilience of the luxury industry, the strength of our luxury portfolio, and the talented group of employees executing our strategic initiatives. As a result, Capri Holdings is positioned to deliver multiple years of revenue and earnings growth as well as increased shareholder value. Now turning to the first quarter performance. We were pleased that revenue, gross margin, operating margin, and earnings per share all exceeded our expectations, resulting in record first quarter revenue and earnings per share. Total revenue in the first quarter increased 8.5% on a reported basis or 15.2% in constant currency, reflecting better-than-anticipated results at all three brands. Operating margin of 18.5% was above our expectations. As a result, earnings per share of $1.50 was better than anticipated. Looking at group revenue trends by geography. In the Americas, revenue growth continued to exceed our expectations, increasing 11% on a reported basis or 13% in constant currency. In EMEA, revenue increased 21% on a reported basis or 37% in constant currency, also above our expectations. This was driven by strong growth across all houses benefiting from robust domestic consumer demand as well as an increase in pan-European travel. In Asia, revenue decreased 14% on a reported basis or 7% in constant currency. This reflects Mainland China revenue down mid-30%, partially offset by improving trends in Japan and Southeast Asia. Excluding Mainland China, sales in Asia increased 21% on a reported basis or 35% in constant currency. Moving to first quarter performance by brand, starting with Versace. We were pleased with the results, which were ahead of our expectations. Revenues increased 15% on a reported basis or 30% in constant currency compared to the prior year, demonstrating the strength of the brand and the success of our strategic growth initiatives. All categories performed well as we continued to reinforce and amplify Versace's iconic brand codes. In women's accessories, which are a key component of Versace's growth strategy, sales in our retail channel increased approximately 80% versus the prior year. With our three pillars, La Medusa, Greca and Virtus, we are gaining traction in accessories. The category is growing much faster than anticipated. We are confident in our ability to position Versace as a leading luxury leather house and expand accessories revenues to $1 billion over time. Footwear also performed well as we continued to build our core offering focused on our iconic brand codes, while also innovating with bold new styles. In the first quarter, women's footwear sales in our retail channel increased approximately 50%. Performance was driven by dress styles, which increased approximately 75% compared to the prior year as consumers responded positively to styles featuring a range of Versace codes, including Greca and Medusa. Additionally, we saw strength across both women's and men's ready-to-wear. Donatella's spring 2022 collection performed well as consumers embraced ornate prints and a celebration of the La Greca brand code. We continue to expand our core lines, which incorporate iconic house codes to broaden Versace's reach. During the quarter, we also saw strong sales across categories from our highly anticipated collaboration with Fendi. Fendace was an amalgamation of signature elements and reimagined classic silhouettes from two iconic Italian luxury houses, Fendi and Versace. With an exchange of roles and brand codes, Donatella designed a Fendi by Versace collection, while Fendi Artistic Director, Kim Jones and Sylvia Fendi designed a Versace by Fendi line. This partnership has generated significant revenue and increased brand awareness for Versace. Moving to brand awareness and consumer engagement. Versace continues to deepen consumer desire by combining powerful storytelling with data analytics. Versace's summer campaign, La Vacanza took the iconic very Versace look to Calabria, Italy. Iris Law starred in her first Versace campaign with unapologetic flair embracing the Versace vacation lifestyle and reflecting the latest vibrant summer styles. Versace continued to dress many of the world's most famous celebrities during the quarter, which helped to build consumer desire and increase engagement. Versace's presence at the Met Ball was exceptional with the atelier dressing Blake Lively, Cardi B, Gigi Hadid, Lilly James, Gabrielle Union and Dwyane Wade, among others. As a result, Versace was the most engaged brand across all social media channels for the Met Gala. In June, Cher and Donatella united in celebration of Pride Month 2022. As Chersace created a limited capsule collection in support of Gender Spectrum, a charity committed to the health and well-being of gender diverse youth. The combination of these brand-building activities and our data analytics capabilities led to increased consumer acquisition driving 40% year-over-year growth in Versace's global database. Overall, Versace's strong first quarter results speak to the strength of the brand and the success of our strategic initiatives, reinforcing our confidence in the luxury house's long-term growth potential. Moving to Jimmy Choo. We were pleased with the results, which were ahead of our expectations. Revenues increased 21% on a reported basis or 30% in constant currency compared to the prior year as we continue to execute on our strategic initiatives to expand accessories and maximize our casual opportunity. In women's accessories, which are an important pillar of Jimmy Choo's growth strategy, sales in our retail channel increased over 50% in the first quarter. Women's accessories are among the fastest-growing categories driven by strength in our VARENNE and Bon Bon families. The VARENNE Quad has quickly become one of our iconic handbag styles with its clean lines, timeless design and exceptional craftsmanship. Turning to footwear. Sales in our retail channel increased strong double digits. We continue to see strength in dress styles driven by a return to office, social events and special occasions. In casual, our glamorous pool slides quickly became a summer wardrobe foundation for our consumers as they responded positively to slides made with our JC logo jacquard as well as styles embellished with pearls or our Crystal Sea. In sneakers, we have seen strong reaction to our new classic gift contemporary Rome trainer in both women's and men's. Moving to brand awareness and consumer engagement. Jimmy Choo continues to drive consumer acquisition and engagement by combining storytelling and data analytics. Our storytelling for summer brought Jimmy Choo's DNA of glamor, daring and confidence to life. Shot in Miami, the campaign featured Precious Lee and Barbara Palvin, celebrating the glamorous Jimmy Choo lifestyle. Jimmy Choo's reputation as a favorite brand among style icons also builds desire and increases brand engagement. During the quarter, celebrities wearing Jimmy Choo included Jennifer Lopez, Selena Gomez, Katy Perry, Billie Eilish, Sean Menendez, Joe Jonas and Nick Jonas. We also utilized a wide community of influencers to leverage brand heat and accelerate regional potential. In May, Jimmy Choo hosted 18 global influencers in Central Pay to celebrate the summer collection launch. The influencers shared over 400 posts and generated approximately 20 million impressions. Our engaging customer communication, which combines storytelling with data analytics helped contribute to a 30% year-over-year increase in Jimmy Choo's global consumer database. Overall, Jimmy Choo's strong revenue growth and operating margin expansion reinforces our confidence in the luxury house's future potential. Turning to Michael Kors. Our first quarter performance was better than anticipated. Revenues increased 5% on a reported basis or 9% in constant currency compared to the prior year. We continue to elevate our product. And as part of this strategy, we have achieved our goal to grow signature penetration to 50% of revenue across all product categories. We now see a significant opportunity in products featuring our new MK hardware codes. These highly recognizable codes build brand identity and drive consumer loyalty. In accessories, Signature continued to perform well, driven by updates in soft neutrals, feminine pinks and jacquard materials. Consumers also responded positively to our vacation-inspired collection of Ocean Blue Ombre and White Signature. Additionally, we were pleased with the success of our new platforms, Carly and Heather, which feature our MK hardware. In footwear, consumers responded positively to the elevated execution of our seasonal flats and sandals. Branded hardware and bold studding performed exceptionally well. Looking at women's ready-to-wear, we saw strong sales of dresses from romantic Palm Lace to Bodycon logo jacquard styles. Men's remained the best performing category with robust sales across accessories, footwear, and apparel. During the quarter, we were excited to launch the Michael Kors Ellesse capsule collection, offering a luxurious and modern take on retro at leisure. The collection's vibrant, sporty and glamorous designs were brought to life in a series of pop-up installations and activations around the world. The collaboration created energy and excitement, generating strong engagement as well as solid sell-throughs. In terms of brand awareness and consumer engagement, we continued our jet-set storytelling in Miami. For summer, the campaign again featured quintessential jet-setter, Bella Hadid, wearing Michael's latest fashion designs while carrying statement accessories. Bella and friends enjoyed bright days and cool summer nights on the go in true jet-set style. Michael Kors' presence at the Met Gala was also extensive and drove brand heat and consumer engagement. Michael dressed celebrities, including Addison Rae, Ciara, Lori Harvey, Isaac Gonzales, Sigourney Weaver, and Chinese supermodel, Hakon, among others. In June, we activated our campaign around pride celebrating Michael's lifelong support for the LGBTIQ+ community. We launched a dedicated pride capsule that featured a rainbow MK charm logo on a white background. A portion of the profits were donated to OutRight Action International, which works to advance human rights for the LGBTIQ+ community globally. In China, we launched the Qixi capsule collection for Chinese Valentine's Day, featuring our China watch and jewelry ambassador, Bai Lu, actress Chen Duling, as well as actor and model, Lu Chun. Combined, they have 136 million followers across social media helping further expand Michael Kors exposure in the region. The combined power of our jet-set storytelling and data analytics capabilities contributed to a 17% year-over-year increase in Michael Kors global database. Overall, we remain optimistic about the future growth of Michael Kors. The strategies we put in place prior to the pandemic have been generating strong consumer demand as well as attracting new and younger customers. At the same time, they enable us to drive strong profitability even with elevated supply chain costs and other macro headwinds. In conclusion, we are pleased with the progress our luxury houses are making towards their strategic goals. Looking forward, we remain optimistic about the long-term growth potential for Versace, Jimmy Choo, and Michael Kors. With our portfolio of iconic founder-led fashion luxury houses, Capri Holdings is positioned to deliver multiple years of revenue and earnings growth.

Thank you, John, and good morning, everyone. Starting with first quarter results. Revenue of $1.36 billion increased 9% versus prior year or 15% in constant currency, exceeding our expectations. Performance was driven by better-than-anticipated results across all three of our luxury houses. Net income was $215 million, resulting in diluted earnings per share of $1.50. This was above our expectations, reflecting better-than-anticipated revenue, gross margin, and operating margin. Turning to revenue performance by brand. Versace revenue of $275 million increased 15% versus prior year or 30% in constant currency, which was above our expectations. Global retail sales increased double digits. By geography, total revenue in the Americas increased 32%. Revenue in EMEA increased 23% on a reported basis or 40% in constant currency. Revenue in Asia decreased 20% on a reported basis or 9% in constant currency, reflecting increases in Japan and Southeast Asia, offset by an expected decline in China. Versace ended June with a global luxury fleet of 208 retail stores, flat to prior year. For Jimmy Choo, revenue of $172 million increased 21% to prior year or 30% in constant currency, above our expectations. Global retail sales increased strong double digits. By geography, total revenue in the Americas increased 42%. Revenue in EMEA increased 32% on a reported basis or 51% in constant currency. Revenue in Asia decreased 4% on a reported basis but increased 3% in constant currency, reflecting increases in Japan and Southeast Asia, partially offset by a decline in China. Jimmy Choo ended the quarter with a global fleet of 236 retail stores, a net increase of 3 from the prior year. At Michael Kors, total revenue of $913 million increased 5% compared to last year or 9% in constant currency, also exceeding expectations. Global retail sales increased in the low single digits. By geography, total revenue in the Americas increased 6%. Revenue in EMEA increased 16% on a reported basis or 30% in constant currency. Revenue in Asia decreased 16% on a reported basis or 10% in constant currency, reflecting strong increases in Japan and Southeast Asia, offset by a decline in China. Michael Kors ended the quarter with a global fleet of 821 retail stores, a net increase of 1 from the prior year. Now looking at total company margin performance. Gross margin of 66.2% was below 68.1% last year, primarily due to anticipated higher supply chain costs. Margin performance was above our expectations, reflecting the ongoing benefits of the company's strategic initiatives. Operating expense as a percent of revenue was 47.7% compared to 47.2% last year, reflecting increased marketing and support of the business. On an absolute basis, operating expense increased approximately 10% or $57 million versus the prior year. As a result of better-than-anticipated gross margin and operating expense leverage, total company operating margin of 18.5% was 200 basis points above our expectations. All brand operating margins also exceeded our expectations. At Versace, operating margin was 18.9% compared to 20% last year. At Jimmy Choo, operating margin was 11% compared to 7.7% in the prior year. And in Michael Kors, operating margin was 24.3% compared to 27.6% last year. Now turning to our balance sheet. We ended the quarter with cash of $221 million and debt of $1.4 billion, resulting in net debt of approximately $1.2 billion. Total liquidity at the end of the quarter was $900 million. As part of our ongoing commitment to return cash to shareholders, we repurchased approximately $300 million worth of shares in the first quarter. We have an additional $700 million of availability remaining under our share repurchase authorization. Looking at inventory, we ended the quarter with $1.265 billion, a 66% increase over a historically low level last year. Relative to pre-COVID levels, first quarter inventory increased 25%. As a reminder, we anticipated elevated inventory levels as we implemented new programs to receive seasonal merchandise earlier as well as hold more core inventory given supply chain delays. As we look at inventory flow for the remainder of the year, we expect levels will moderate sequentially and as planned, be below the prior year by the end of the fiscal year. Now turning to guidance. Starting with the full year overview. We are maintaining the outlook we shared during our recent Investor Day. As we noted then, the U.S. dollar has further strengthened. And as a result, we reduced revenue by $100 million for the full year. However, we are pleased to maintain our operating margin expectation of 18% and earnings per share of $6.85. Additionally, as we look at revenue, we now expect the impact of COVID-related restrictions in China will continue into the second half of fiscal '23. As a result, we anticipate approximately $50 million less in revenue from Mainland China relative to our prior forecast. We now assume revenue in Mainland China will decline approximately 20% year-over-year in the third quarter and approximately 10% in the fourth quarter. Now turning to detailed full year guidance. Starting with revenue, we forecast Capri Holdings revenue of approximately $5.85 billion. This represents an approximately 3% increase over the prior year on a reported basis, while on a constant currency basis, revenue is expected to increase approximately 10%. Looking at full year revenue guidance by brand, we assume Versace revenue of approximately $1.175 billion, increasing approximately 8% on a reported basis and approximately 24% in constant currency. Jimmy Choo revenue of approximately $650 million, increasing approximately 6% on a reported basis and approximately 13% in constant currency. And Michael Kors revenue of approximately $4.025 billion, increasing approximately 2% on a reported basis and approximately 6% in constant currency. For the year, we continue to expect gross margin will be approximately flat to fiscal '22. This reflects the ongoing benefits from our strategic initiatives, offset by lower sales in China which is a higher-margin region as well as the negative impact of foreign currency. In addition, we expect transportation costs to remain elevated through the year. We continue to expect a full year operating margin of approximately 18%. For Versace, we anticipate an operating margin of approximately 16%. For Jimmy Choo, we expect an operating margin of approximately 5%. And for Michael Kors, we anticipate an operating margin of approximately 24%. Turning to our expectations around certain non-operating items. We now anticipate net interest income of approximately $10 million. Our effective tax rate is expected to be approximately 10%, and we forecast weighted average shares outstanding of 140 million. As a result, we expect to generate diluted earnings per share of approximately $6.85 for fiscal '23, representing double-digit growth. Turning to second quarter guidance. We anticipate total company revenue of approximately $1.4 billion. This represents an approximate 8% increase versus the prior year on a reported basis and an approximate 16% increase in constant currency. We continue to anticipate revenue in Mainland China will be down approximately 20% year-over-year in the fiscal second quarter. For second quarter revenue by brand, we forecast Versace revenue of approximately $300 million, increasing approximately 7% on a reported basis and approximately 26% in constant currency. Jimmy Choo revenue of approximately $140 million, increasing approximately 3% on a reported basis and 9% in constant currency. And Michael Kors revenue of approximately $960 million, increasing approximately 9% on a reported basis and approximately 14% in constant currency. Looking at operating margin, we continue to expect second quarter operating margin of approximately 17%. As a reminder, we anticipate higher supply chain costs in the second quarter versus the prior year, resulting in gross margin contraction. Additionally, this reflects the negative impact of foreign currency as well as lower revenue from China, which is a structurally higher-margin region. In terms of operating margin by brand, for Versace, we anticipate an operating margin in the mid-teens range. For Jimmy Choo, we expect operating margin to be slightly positive. And for Michael Kors, we anticipate an operating margin in the low to mid-20% range. Turning to our expectations around certain non-operating items. We forecast net interest income of approximately $3 million, an effective tax rate of approximately 11% and weighted average shares outstanding of 139 million. As a result, we now expect diluted earnings per share of approximately $1.55. In conclusion, we are pleased with our first quarter results. Looking forward, we remain optimistic about the long-term growth potential for Versace, Jimmy Choo, and Michael Kors. Probably macro headwinds in the near term, our powerful brands have enduring value and proven resilience, reinforcing our confidence in the ability to deliver strong revenue and earnings growth over time.

I want to emphasize that we are proud to start the year on a solid note, demonstrating record revenues this quarter and the strongest adjusted earnings per share in the company's history. This strong start reflects positively on our three luxury brands: Versace, Jimmy Choo, and Michael Kors, as well as the strategic initiatives we implemented prior to the pandemic. As I mentioned at our recent Investor Day, we've successfully transitioned to a luxury group. We are optimistic about our accomplishments and believe there is significant potential for growth across all three brands if we remain focused on our strategies. Looking at our regional performance, North America has shown stronger results than we anticipated, and we believe this trend will continue. While we are uncertain about the consumer landscape in the latter half of the year, the luxury industry appears to be robust and healthy, suggesting a positive outlook for the near future despite potential consumer adjustments. In Europe, we were pleasantly surprised by the strength of the consumer market. The lifting of lockdowns and a desire for people to enjoy social activities are driving this resilience. Although COVID cases are rising globally, we see that consumers are adapting, which indicates significant pent-up demand in Europe, particularly as it reopened later than North America. We're also encouraged by the strong travel trends in both North America and Europe, as well as within the EMEA region, generating business for our local markets and a gradual recovery in travel retail. Moving to Asia, we maintain a positive outlook for certain markets like Japan and Southeast Asia, where reopenings are progressing well. However, we are less optimistic about China due to various restrictions leading to store closures and reduced travel, which impacts all three luxury houses. We anticipate recovery later this year, and our forecasts are gradually improving despite current challenges. Long-term, we have strong confidence in our luxury portfolio in China, where our brands remain significantly underdeveloped compared to competitors. While we acknowledge the potential bumps in the road from macroeconomic issues or pandemic-related challenges, we believe in the long-term growth of the Chinese market and its potential effect on our revenues and earnings. Regarding the North American market, I view it positively for all three brands. Versace saw accessories growth exceeding 80%, while Jimmy Choo experienced over 50% growth, and Michael Kors achieved strong mid-single-digit growth. Overall, we see market growth, and we expect Michael Kors to continue benefiting from this trend. As we elevate the brand, we are seeing a positive response from customers. Although we previously lowered our expectations for Michael Kors during the pandemic, the brand has shown remarkable resilience through its repositioning strategy, which includes raising prices and enhancing quality. We remain optimistic despite the expected challenges over the next 12 to 24 months, and we believe the strength of our three luxury houses will drive robust revenue and earnings growth for the company. Thank you, Brooke.

The first question comes from Brooke Roach from Goldman Sachs.

John, given the volatility globally and a very uncertain macro, I'd love to hear your perspective and maybe some additional context around what you're seeing by key geographic region right now and the outlook that you're contemplating into the second half of your fiscal year for each of those regions. And then maybe as a follow-up, in North America, how do you see the handbag market evolving into the second half of the fiscal year? And where do you see the biggest opportunity for Michael Kors to gain market share over that period?

I'm going to let Tom take the general inventory question, and I'll get to your slightly more specific parts of that. Tom?

Thanks, Omar. And first, I'd just say that what we're seeing is how we planned inventory. So it's very consistent with our expectations to have the higher inventory and the comparison against what is a really historically low level where we did not have enough inventory last year to meet consumer demand. So compared to pre-COVID levels, inventories up 25%. And as we looked at the broader inventory and supply chain situation, the delays are more related to on the water for a product coming from Asia to the U.S. and to EMEA. So that is where we're holding a little more core inventory and pulling out fashion more where that is impacted. Overall, what we're seeing now is delays are shorter. However, compared to pre-COVID, what we're seeing today would still be extremely long compared to those times. We expect delays to continue and for cost to remain high through the year. And we believe that we're in a very good spot to continue to see levels of inventory sequentially decline through the year. And as I mentioned in the prepared remarks, at the end of the year be below the prior year. So we see it playing out as anticipated and want to have the inventory in hand to be able to meet consumer demand as we see it.

I'm going to let Tom take the general inventory question, and I'll get to your slightly more specific parts of that. Tom? Omar, I will address your questions in segments. First, I want to remind everyone that our inventory levels were intentionally set. We took two main actions. We moved our design calendar forward by nearly 90 days because we were experiencing significant delays during the pandemic at that time. We determined that consumer demand was not being met, necessitating adjustments to our design schedules and inventory timing to prevent these delays. While this issue was primarily in North America, there were also notable delays in Europe. The second decision we made was to hold core inventory for about six months instead of the typical 90-day period, which was our historical average. We are currently experiencing the peak of this strategy, but we plan to revert to more traditional core inventory levels as delays have diminished. However, we are still encountering delays exceeding 30 days at the ports. We will scale back some core inventory, and as previously mentioned, we expect to be below last year's levels in Q4, coinciding with when we initiated changes to our inventory processes. Our inventory levels are aligned with our plans, and we are confident about the upcoming fall season across all three brands—Michael Kors, Jimmy Choo, and Versace—as we have successfully adjusted our design timelines and core inventory positions. Regarding core versus fashion, as I noted for Michael Kors, we’ve reached about 50% signature, which is our targeted level. We prefer not to exceed this threshold and believe it is the optimal position for us.

The next question comes from Matthew Boss from JPMorgan.

So John, maybe larger picture, what in your view drives the durability of the overall accessories category that we're seeing? Is mid- to high single digits still the best growth rate to consider multiyear? I guess, and also, are you seeing any signs of softening across the assortment as you dissect the portfolio by income demographic? Any pushback at all to your proactive pricing initiatives? And have you seen any changes so far to what has remained a rational promotional backdrop in your segment?

Thank you, Matt, for your questions. First, I want to emphasize that we are focused on both footwear and accessories because footwear is a significant part of our growth strategy. As mentioned, we are seeing strong growth in Jimmy Choo and Versace. While we may not discuss it as often in Michael Kors, we've indicated that we believe we can add about $250 million to that segment. In the luxury space, both accessories and footwear are crucial for driving consumer desire and engagement. We expect both to grow in the mid-single-digit range. We have been implementing price increases in the Michael Kors brand for over two years, with more expected this fall and some in the spring. Jimmy Choo started its price increases a little over a year ago, and Versace is currently doing so. It's worth noting that Versace's pricing, particularly in accessories, is relatively lower compared to other luxury brands, and we have not experienced any resistance from consumers regarding these increases. This is largely driven by the strong designs from Donatella, Sandra, Michael, and our talented design teams. Additionally, accessories are increasingly seen as a means for individuals to express their fashion sense, which is encouraging for our future prospects. Interestingly, the resale market has fostered a sense of comfort among luxury consumers, allowing them to buy and enjoy products with the added value of being able to resell them later. This has created a circular economy that benefits those interested in fashion, providing a way to update their wardrobes regularly. We feel optimistic about this trend. Regarding promotional rationality, it hasn't posed a concern for us with Versace and Jimmy Choo; it's primarily an issue for Michael Kors in North America. We prefer to forgo certain revenues and step back from business rather than resort to strategies we previously disagreed with before the pandemic. We learned that those strategies were not beneficial for our brand or profitability. We remain committed to our vision, and we believe consumers will respond positively to our great design and engaging storytelling across all our luxury brands, including our exciting efforts at Michael Kors. We're also leveraging data analytics to target and serve customers more effectively. While we cannot predict the broader macroeconomic challenges in the latter half of the year, we believe our brands have offerings that will capture consumer interest and foster engagement. Thank you very much, Matt.

The next question comes from Kimberly Greenberger from Morgan Stanley.

Okay. Great. Thanks for the great discussion and the comprehensive view on revenue. John, I thought that was really helpful. Maybe I'll go to the gross margin because we haven't talked about that a lot here during the Q&A session. Gross margin, Tom, you talked about the higher supply chain costs. First, if you could just look at the year-over-year change in gross margin and help us understand what the merchandise margin performance was as separate from some of those supply chain costs. And then within the supply chain cost, could you break down the elements or even just give us rough buckets on which of those things you view as transitory and could be recovered in future quarters or future years? And which of those cost increases in supply chain do you think are likely to be more lasting or more permanent? We're just trying to understand if we're sort of in a moment in time where there are some temporary pressures on the gross margin that could abate in the future or if anything has sort of fundamentally changed with the cost structure.

Sure. Thank you, Kimberly. I’ll start with Q1 as we're pleased with our performance. Gross margin exceeded expectations, and the dynamics from the quarter reflection on our outlook for the year and pacing. It relates to our strategic initiatives, including merchandising margins and supply chain aspects. In this quarter, our strategic initiatives continued to perform well across all three brands, resulting in higher full-price sell-throughs and growth in accessories at Jimmy Choo and Versace. However, these gains were offset by high supply chain costs, primarily compared to the previous year, along with the impact of negative foreign exchange rates and lower sales in China, a region with structurally higher margins. Looking ahead, we anticipate that the negative impact from supply chain costs will persist into the second quarter relative to last year since those costs began accumulating in the third quarter and particularly during the holiday season last year. Nevertheless, we expect the headwind from these costs to decrease in the latter half of the year. All the while, we believe our strategic initiatives will consistently add value each quarter. For Q1, we expected margin declines, but outcomes were better than anticipated. In Q2, we expect margins to remain down due to supply chain challenges, but in the second half of the year, we now anticipate gross margin to improve year-over-year, and we expect these trends to continue. As for the supply chain, we view air freight costs from the past year as transitory, and we hope not to face significant dislocations going forward. The future will reveal whether the supply chain environment normalizes and how we manage contracting seasons. We are leveraging reduced delays and are cautiously optimistic, hoping that the supply chain will ultimately serve as a tailwind.

The next question comes from Ike Boruchow from Wells Fargo.

Maybe, John, just on the topic of M&A, there does seem to be some assets out there that do appear attractive. I know come forward has been mentioned in the news of late. But I guess I'm curious, current thinking on the M&A landscape, timing for CPRI. And when you think about potential targets for the business, are you solely focusing on owned brand acquisitions? Or does the idea of a licensing structure appeal to you as well when you kind of think about potential deals?

First and foremost, we see the greatest value for our shareholders in executing our growth strategy initiatives. Based on what we presented at Investor Day, we firmly believe we have the potential to grow this group to $8 billion. We're confident in our initiatives and goals to grow Versace to $2 billion. Jimmy Choo is showing strong results and we believe it could become a $1 billion brand for the company. We expect operating margins to reach the mid-teens range soon. This past quarter was strong for us, and moving forward, we understand how to unlock additional value. Regarding Michael Kors, we are positively surprised by our results and optimistic about the future. In terms of capital allocation, Capri Holdings is currently the least expensive acquisition option for us, and we prioritize returning value to shareholders through share repurchases, as we see this asset as significantly undervalued. The Board and I believe this is one of the best uses of our capital. As for potential acquisitions, we have been clear that any target must have significant scale, as we want to avoid distractions given the large opportunities with our three existing luxury brands. Additionally, we're focused on European luxury brands, where we see sustained growth potential over the long term. There are assets that are or will be available, but we do not expect anything to happen quickly. When the right opportunity arises, we believe we are well-positioned to make an acquisition without distracting from our current strategic goals. We recognize there will be competitors for these assets, which are likely to come at high purchase multiples. It’s simply a matter of whether we choose to pay for an asset or not. Lastly, we aren't interested in any licensing arrangements whatsoever. I want to thank everyone for joining us today. We’re pleased to start the year on a solid footing and are optimistic about the remainder of the year despite some macro headwinds. Our three luxury houses have the resilience to navigate whatever challenges lie ahead. Thank you, and enjoy your summer.

Thank you very much. This concludes today's conference. You may disconnect your lines at this time, and thank you very much for your participation.