Good day, everyone, and welcome to The Estée Lauder Company's Fiscal 2024 First Quarter Conference Call. Today's call is being recorded and webcast. For opening remarks and introductions, I'd like to turn the floor over to Senior Vice President of Investor Relations, Ms. Rainey Mancini. Ma'am, you may begin.

Hello. On today's call are Fabrizio Freda, President and Chief Executive Officer, and Tracey Travis, Executive Vice President and Chief Financial Officer. Many of our remarks today include forward-looking statements, so I encourage you to refer to our press release and our reports filed with the SEC. These documents outline factors that could cause actual results to differ significantly from our forward-looking statements. To assist in discussing our underlying business, the commentary on our financial results and expectations does not account for restructuring and other charges and adjustments mentioned in our press release. Unless stated otherwise, all organic net sales growth also excludes the non-comparable effects of acquisitions, divestitures, brand closures, and the influence of foreign currency translation. Reconciliations between GAAP and non-GAAP measures can be found in our press release and in the Investors section of our website. Please remember that references to online sales encompass sales made directly to our consumers through our brand.com sites as well as through third-party platforms. And now I'll turn the call over to Fabrizio.

Thank you, Rainey, and hello to everyone. We appreciate you joining us to discuss our first quarter results, revised outlook for fiscal year 2024, and accelerated profit recovery plan to benefit fiscal year 2025 and 2026. Before we begin, I want to start by expressing the tremendous grief and sadness we have for the victims and their families of the horrific terrorist attacks against Israel, the tragic loss of Palestinian lives, and the growing humanitarian crisis in Gaza. Our hearts break for the profound suffering across the Middle East during this terrible time. We are committed to continuing to support the safety and well-being of all our employees in the affected areas and around the world. Let me now turn to our first quarter results. We delivered our outlook for organic sales and exceeded the expectation for adjusted diluted EPS. Organic sales decreased 11%. Our global travel retail business drove the decline, as expected, with organic sales lower by 51% given the combination of trade inventory reduction and structured market containment. The entire rest of our global business rose 4% organically, led by mid- to high single-digit growth in the Americas and the markets of EMEA and double-digit growth in Asia Pacific, excluding Mainland China. The excellent performance in these regions enabled us to deliver our sales outlook despite a slower-than-expected recovery of overall prestige beauty in Mainland China. Adjusted diluted EPS of $0.11 was ahead of the outlook as we achieved a better-than-expected adjusted operating margin. There were several drivers for this more favorable profitability, led by a greater contribution to sales from skin care than forecasted, as well as disciplined expense management. Notably, we continued brand-building investments in the areas with the greatest growth opportunities with AP spending rising as a percentage of sales. While we had a better-than-expected start to the fiscal year, we are lowering our fiscal year 2024 outlook given the further incremental external headwinds in two specific areas of our business. First, the expected growth rate of overall prestige beauty has slowed in Asia travel retail and Mainland China, which is currently also evidenced in the presale phase of the 11.11 Shopping Festival. To reflect this impact as well as the ongoing policies and efforts to contain structured market activity, we are moderating our expectation for fiscal year 2024 retail sales for Asia travel retail and Mainland China. As part of this, we continue to expect to reset retail inventory in Asia travel retail by the end of the third quarter. Second, we are reflecting the risks of business disruption in Israel and other parts of the Middle East. For fiscal year 2024, our revised outlook continues to expect sequentially improving sales trends each quarter with double-digit organic sales growth in the second half. We also still expect sequentially stronger adjusted operating margins each quarter with continued consumer-facing investment in our growth engines. Moreover, we are accelerating and expanding our profit recovery plan, which is designed to benefit fiscal year 2025 and 2026 for us to realize our ambitions to rebuild profitability despite the external headwinds' increased pressure on the business in fiscal year 2024. On our earning call in August, I described our four strategic imperatives for fiscal year 2024, which are, drive momentum where our business is thriving, return to growth in the U.S., capture demand from the returning individual travelers in Asia travel retail, and begin to rebuild our profitability. Let me share with you our progress across these pillars as well as the framework of our accelerated and expanded profit recovery plan. First, we are focused on extending the gains we achieved in fiscal year 2023 in the numerous developed and emerging markets around the world where we prospered. In the first quarter, we did just that. In the markets of EMEA, we achieved impressive results once more driven by the U.K. and Germany. Organic sales growth was balanced across brick-and-mortar and online as engaging activation in-store and on social media resonated strongly with consumers across our brand portfolio. We extended our prestige beauty share gains in Western Europe driven by our high-quality hero products and innovation. In EMEA's emerging market, India was a standout driven by stellar gains by The Ordinary and double-digit growth by M·A·C. In Latin America, prestige beauty remains vibrant, and we again achieved strong results. Mexico and Brazil excelled, each up double digits organically. Our localized go-to-market initiatives in these two dynamic emerging markets have succeeded in attracting new consumers. We continued our winning ways in many markets across Asia Pacific. The evolution of Hong Kong's SAR is especially compelling. And we realized very strong prestige beauty share gains with our brands' strong desirability, high-touch services, and innovation engaging consumers as retail traffic increasingly returns. Our performance in Japan and Australia once again robust driven by our diversified brand portfolio catering to local desires. Around the world, our direct-to-consumer business performed especially well. Every region contributed, led by double-digit organic sales growth in freestanding stores in Asia Pacific. On a global basis, we are thrilled that the makeup renaissance is infusing, and we have been ready to meet consumers as they again embrace their enthusiasm for the category. Makeup thrived in the quarter as the Americas, the markets in EMEA, and Asia Pacific each contributed high single-digit organic sales growth to offset the pressure on the category from global travel retail. We are successfully tapping into and creating trends with on-point innovation like M·A·C Studio Radiance Foundation and Estée Lauder Futurist SkinTint Serum Foundation. During this exciting period for the category, our brands are leveraging their expert artists and social media know-how to engage with consumers and generate strong and expanding levels of earned media value. Fragrance again prospered. We delivered our 11th consecutive quarter of organic sales growth led by outstanding performance in the Americas and Asia Pacific, with strong share gains in prestige fragrance in Western Europe. We continue to believe that we are still in the beginning of a promising long-term phase of growth for fragrance in Asia Pacific as consumers increasingly embrace the category and penetration levels are low relative to the West. Indeed, in Asia Pacific, fragrance represents 8% of the prestige beauty industry, whereas in Western Europe, it is 40% of the industry. We are well positioned for this growth opportunity with our luxury and artisanal brands' alignment with the trends in the region as consumers gravitate to fragrance collections in addition to trends for multiple distinct scents of the highest quality. Moving to our second pillar. We are focused on returning to growth in the U.S. for the full year and made strides in the first quarter when encouragingly, our organic sales growth improved strongly on a sequential basis and moved from a modest decline last quarter to mid-single-digit growth this quarter. Our multifaceted strategic plan included launching a robust innovation pipeline with increased focus on breakthrough ideas and leading trends, increasing engagement by brands on social media to realize greater earned media value, accentuating our strength in luxury and artisanal fragrance and in high-performance, ingredient-led and derma skin care, and expanding brand reach in specialty-multi to attract new consumers. During the first quarter, innovation proved to be a powerful catalyst for growth in the U.S. across every category. The contributions are many, from Clinique High Impact High-Fi Full Volume Mascara and M·A·C Studio Radiance Serum Powered Foundation in makeup to Estée Lauder Advanced Night Repair Rescue Solution in skin care and more. Through these high-profile launches with sophisticated media strategies, our brands elevated their engagement on TikTok, Instagram, and other platforms. Impressively, M·A·C's earned media value in the U.S. Beauty improved several ranks to #2 in the month of September, further solidifying its #1 rank globally. We also achieved strong progress in fragrance in the U.S. driven by our luxury and artisanal brands. Le Labo, Tom Ford, and Jo Malone London each rose double digits driven by multiple growth engines from innovation to online, brick-and-mortar, and expanded consumer reach. Encouragingly, we returned to growth in skin care in the U.S. The Ordinary was a standout. Consumers continue to gravitate to the brand for its scientific, ingredient-led skin care, driving strong prestige beauty share gains. The brand launch of Soothing & Barrier Support Serum drove exceptional new consumer acquisition trends on brand.com and strategically expanded The Ordinary portfolio to include more multi-active products. Moreover, Estée Lauder and La Mer further bolstered our improving performance in the category. Let me now discuss the third pillar, to capture demand from the return individual travel in Asia travel retail. For the first quarter, retail sales in global travel retail were substantially ahead of our organic sales decline, which reflects the execution of our priority to reduce trade inventory in alignment with retailers. Indeed, we are making solid progress through exciting activation of our heroes, capitalizing on innovation and investing in beauty advisers. Across these three pillars, one of our greatest strengths to leverage is our diverse brand portfolio, which was a fundamental driver of our progress during the first quarter. M·A·C's excellent performance showcased the strength of our portfolio among large brands, while The Ordinary drove double-digit organic sales growth among our scaling brands, and Le Labo excelled, rising over 40% among the developing brands. Let me now turn to our fourth pillar, rebuilding our profitability. We are accelerating and expanding upon our profit recovery plan. We expect to realize $800 million to $1 billion of incremental operating profit across fiscal years 2025 and 2026. The plan consists of four building blocks to improve each of gross margin and operating margin. First, we are focused on optimizing mix by elevating luxury across brands, most especially in skin care and fragrance, driven by consumer preferences, by expanding our direct-to-consumer ecosystem across brick-and-mortar and online. Second, we have identified many opportunities to maximize value through better price realization and accretive innovation. Third, we intend to increasingly leverage the strategic investment we have made over the last few years, most notably our new manufacturing facility in Japan, our new China innovation labs in Shanghai, and expanded online capabilities. Lastly, we believe we can unlock meaningful cost efficiency from a combination of shorter supply chains, regionalization of our value chain, and improved forecasting accuracy enabled by our new integrated business planning process across the global operation supported by advanced AI capabilities. Before I close, I'm pleased to share that today, we will release our fiscal year 2023 social impact and sustainability report. The future advancements made possible by the extraordinary efforts of our employees around the world across our ESG areas of focus and previously stated goals. Importantly, we again achieved Scope 1 and Scope 2 carbon neutrality and maintained our status of 100% renewable electricity globally for our direct operations. The report also details that we obtained our global gender pay equity target for selected employee populations and achieved our spending targets with women- and Black-owned suppliers and made strong progress toward our water withdrawal reduction and packaging targets. Today, we will also publish our second climate transition plan, which describes the effort in our ongoing climate transition journey. In closing, in fiscal year 2024, we will remain focused on driving momentum in our markets of strength, returning to growth in the U.S., normalizing our Asia travel retail trade inventory, and expanding prestige beauty share further in Mainland China from our calendar 2-year date gains while accelerating our profit recovery plan for robust acceleration of profitability in fiscal years 2025 and 2026. To our employees, these are difficult times for the world and all of us. I'm grateful for what you do each and every day in caring for each other and for our beautiful company. Thank you. And I will now turn the call over to Tracey.

Thank you, Fabrizio, and hello, everyone. Let me begin with a brief review of our first quarter results in order to devote the majority of my discussion to our revised fiscal 2024 outlook and our profit recovery plan. Our first quarter organic net sales declined 11%, and earnings per share was $0.11. From a geographic standpoint, organic net sales in the Americas increased 6%, led by mid-single-digit growth in North America and continued strength in specialty multi. In Latin America, net sales rose high single digits and were driven by continued strength in makeup as well as strong growth in both brick-and-mortar and online channels. Organic net sales in our Asia Pacific region fell 3%, primarily due to incremental headwinds from the slower-than-expected recovery of overall prestige beauty in Mainland China. There were several bright spots in the rest of the region, led by triple-digit growth in Hong Kong SAR as well as double-digit growth in Japan and Australia. Our strategic investments in brand activation and new product innovation continue to resonate well with consumers in these markets. Hong Kong SAR also benefited from increased traffic in brick-and-mortar due to fewer COVID-related restrictions compared to last year and the resumption of tourism. Organic net sales fell 27% in Europe, the Middle East, and Africa due to the ongoing headwinds in our Asia travel retail business. The overall challenges in our travel retail business more than offset the performance in the rest of the region, where we saw strong growth in skin care and makeup as well as growth in most Western and emerging markets. Organic net sales growth was driven by our developed markets, led by the U.K., Germany, and France. From a category perspective, fragrance continued to lead growth with organic net sales rising 5%. Strength from hero products as well as compelling innovation from Le Labo propelled double-digit increases in the Americas and in Asia Pacific. Tom Ford also contributed to growth, rising double digits in the Americas. Organic net sales rose 1% in makeup. We continue to enhance consumer engagement through strategic investments and brand campaigns, including social media activation and new product innovation. Once again, M·A·C was the overall top performer, and Too Faced, Tom Ford, and Clinique all contributed to growth as well. Organic net sales declined 7% in hair care and 21% in skin care. The pressures in Asia travel retail and in Mainland China drove the decrease in skin care. The declines from Estée Lauder and La Mer were somewhat offset by strong growth from The Ordinary. Consumer demand for the brand's hero products and new product innovation boosted its standout performance in the quarter. Our gross margin declined 440 basis points compared to last year. The benefits from the strategic pricing actions we took at the beginning of the fiscal year were more than offset by the under-absorption of overhead in our plants due primarily to lower production of skin care products that accelerated in the second half of fiscal '23, higher obsolescence charges, and an increase in promotional items such as sets and samples to support consumer activation. Operating expenses increased 950 basis points as a percent of sales driven largely by the reduction in sales. We maintain key investment plans in areas such as advertising and promotional activities, innovation, and selling to accelerate growth where we had momentum, which collectively accounted for 480 basis points of the increase compared to last year. Operating income declined 84% to $108 million, and our operating margin contracted to 3.1% from 17% last year. Diluted EPS of $0.11 decreased 92% compared to the prior year. The impact from the cybersecurity incident we disclosed this past July was $0.08 dilutive to EPS. The acquisition of the Tom Ford brand was neutral to EPS, including interest expense related to our debt financing and reflecting savings from royalties we no longer pay as we now own the brand. During the quarter, we utilized $408 million in net cash flows from operating activities compared to $650 million last year. The decrease from last year reflects lower levels of working capital, including lower inventory levels, partially offset by lower net income. We invested $295 million in capital expenditures, and we returned $236 million in cash to stockholders through dividends. Turning now to our outlook for the second quarter and the full year. As Fabrizio mentioned, while we delivered on our Q1 expectations, we are lowering our fiscal '24 outlook for the balance of the year to reflect the slower-than-expected pace of recovery due to incremental external headwinds that continue to evolve during the second quarter. This includes the slower-than-expected growth in overall prestige beauty as well as the containment of unstructured market activity in Asia travel retail and in Mainland China. This reduction also reflects the risks of potential business disruptions in Israel and other parts of the Middle East as well as currency headwinds. Using September 30 spot rates for the Korean won, currency translation is anticipated to negatively impact reported sales and diluted EPS for the second quarter and for the full year. We expect organic sales for our second quarter to decline 8% to 10%. The incremental pressures impacting sales in our Asia travel retail business and Mainland China are expected to continue to more than offset anticipated growth in other markets globally. Currency translation and the potential risk of further business disruptions in the Middle East are each anticipated to dilute reported sales growth for the second quarter by 1 percentage point. We expect second quarter adjusted EPS of $0.48 to $0.58 for a decline of between 62% to 69%. This includes dilution of approximately $0.08 from assumed risks of potential business disruption in Israel and other parts of the Middle East and approximately $0.04 from currency translation. The increases in our full year effective tax rate and net interest expense are collectively expected to dilute EPS by $0.04. In constant currency, adjusted EPS is expected to decline between 60% and 66%. For the full year, we expect organic sales to range between a decline of 1% and an increase of 2%. Currency translation and the potential risk of further business disruptions in the Middle East are each anticipated to dilute reported sales growth for the fiscal year by 1 percentage point. We expect full year operating margin to be between 9% and 9.5%, a contraction from 11.4% last year due to the lower sales growth level. We now expect our full year effective tax rate to be approximately 28%, reflecting the full-year estimate of our geographical mix of earnings. Diluted EPS is expected to range between $2.17 and $2.42 before restructuring and other charges and adjustments. This includes approximately $0.22 from the potential risk of further business disruptions in the Middle East as well as approximately $0.16 from currency translation. The increases in our full year effective tax rate and interest expense are collectively expected to dilute EPS by $0.16. In constant currency, we expect EPS to fall between 25% to 33%. Given this more challenging backdrop for fiscal '24, we have advanced the development of our multiyear profit recovery plan to support our priority to progressively rebuild margin in fiscal years '25 and '26. This plan is designed to accelerate the pace at which we expect to rebuild our margins while also facilitating operational efficiencies to support go-to-market agility in our local markets. The plan initiatives will target specific areas to deliver expanded gross margin and operating profitability improvements and is initially expected to drive $800 million to $1 billion of incremental operating profit over the next two fiscal years. We aim to accelerate many initiatives and substantially operationalize the plan in the second half of fiscal '24 to enable the realization of a meaningful amount of the benefits beginning in fiscal '25. Our first priority is to accelerate the rebuild of our gross margin. We plan to optimize our category, product, and channel mix to support profitable growth as well as focus on accretive innovation. We aim to better capitalize on our strategic pricing initiatives by reducing discounts related to excess production and continuing to exercise our pricing power ahead of inflation in our markets. Furthermore, we plan to reduce excess and obsolete inventory by enhancing our operational efficiencies and begin to leverage the investments we've made to regionalize our supply network in Asia. Our profit recovery plan will also target OpEx reductions while further investing in consumer-facing activities that are imperative to accelerating recovery and driving long-term profitable growth. Our main areas of focus include containing headcount as well as reduction in costs related to indirect procurement, T&E, and transportation. These are just a few examples of actions we expect to take under our profit recovery plan. We plan to share more during our second quarter earnings call in February. In closing, while we are encouraged by the strength we are seeing across our brand portfolio and recovery markets, intensifying macroeconomic and geopolitical volatility as well as weakening consumer confidence in certain markets have unfortunately slowed the pace of our anticipated recovery in isolated markets. Given these incremental challenges, we are taking actions through the advancement of our profit recovery plan to support our intention to progressively rebuild our profit margins over the next few years. We remain confident about the long-term prospects for global prestige beauty and in our corporate strategy to drive long-term sustainable profitable growth. The desirability of our brands as well as the positive momentum we are seeing across categories and in certain markets give us optimism for the future recovery in all of our markets and demonstrate the resilience of our multiple engines of growth and our ability to drive share gains globally. Our return to sales growth, combined with the profit recovery plan, which we plan to finalize and begin implementing in the second half of this year, as I said before, support the achievement of margin rebuilding and profit recovery in the next few years. I would like to extend our heartfelt appreciation to our employees around the globe for their continuing commitment and efforts to deliver our results during these challenging times. That concludes our prepared remarks. We'll be happy to take your questions at this time.

Our first question today comes from Dara Mohsenian from Morgan Stanley.

So apologies for a multipart question, but just had a few things on the profit recovery program. Conceptually, it sounds like it's more of a recovery from a depressed fiscal '24 base pushing even harder on some of the building blocks you outlined previously. Is that the case? Or are there more significant organizational changes that are now new in this plan to generate incremental savings? And also that $800 million to $1 billion profit recovery, should we think of that as just savings and recovery from a depressed base, and then base business top line growth on top of that could lead to greater recovery? How do we think about that? And then just, b, taking a step back, why not get even more aggressive here in terms of posture with a larger restructuring? Obviously, the external environment has changed. There's been some internal issues with supply chain and forecasting. So just thoughts on taking a more aggressive tack with the broader restructuring at some point?

And ladies and gentlemen, at this point, we may be having some technical difficulties with the speaker line. So one moment while we attempt to reconnect the speaker line.

Thank you, everyone, for your patience. We apologize for the difficulty. Fabrizio and Tracey are ready for our Q&A session now. So Jamie, if you can take us to our first question, please?

And our first question, once again, is Dara.

I would like to clarify the profit recovery program. It seems like it is more about recovery rather than addressing a depressed fiscal '24 base and intensifying some of the previously outlined building blocks. Is that correct? Or are there more significant organizational changes in this plan compared to three months ago? Additionally, is the projected profit recovery of $800 million to $1 billion solely based on savings and recovery from a depressed base, or can we expect growth in the base business as well, contributing to a top-line rebound and profit flow-through? Lastly, I apologize for the multipart question, but why not adopt a more aggressive approach with the larger restructuring? The external environment has changed, and there have been internal challenges in recent quarters, including issues with supply chain and forecasting. SG&A levels appear high compared to peers excluding marketing. Could you share your thoughts on pursuing a more aggressive broader restructuring?

Thank you, Dara, for your question, and I apologize for the technical difficulties. Regarding the profit recovery plan, it aims to build on the expected growth from this year's depressed levels. We are thoroughly evaluating our situation. Our priority is to recover our gross profit margin, especially considering the challenges we've faced with high inventory levels. Historically, due to our lead times and operational footprint, we have carried substantial inventory, which has limited our agility in responding to system shocks that have occurred over the last couple of years. Therefore, regionalizing our supply chain and finalizing our manufacturing facility in Japan will enhance our ability to reduce inventory in transit and produce closer to actual demand over the coming years. We have also implemented an integrated business planning process, utilizing tools we've invested in to improve our forecasting accuracy, incorporating more commercial drivers to help minimize excess inventory. This year, we are taking significant steps to enhance our gross margins, including a notable reduction in our production volume, which is down about 25% compared to last year. Although we expect more modest growth based on our updated forecast, we are working to decrease the inventory on hand and taking measures to reduce trade inventory in Asia travel retail. These efforts will contribute to improving our gross margin. We are also undergoing a SKU rationalization program and scaling back some of our smaller innovation initiatives planned for the next couple of years. While many of these actions are still ongoing and won't have a significant impact this year, they will yield benefits in the future. Additionally, we are reassessing our expenses and operational strategies, especially in light of our current sales levels and the lower base we will be growing from.

Our next question comes from Stephen Powers from Deutsche Bank.

Tracey, could you provide more insight into the expected revenue and profitability for the second half as suggested by your guidance? It's a significant increase from what you anticipate at the end of December based on the second quarter outlook, even with the challenges you’re facing in Asia travel retail inventory that are likely to continue into at least the third quarter. Additionally, it would be helpful if you could share your confidence level and visibility regarding this situation. It would also be beneficial to understand your brands' consumption during the first quarter and potentially the first half, compared to what you’re actually shipping. I believe a key part of overcoming the inventory challenges is increasing shipments to match consumption. Given the magnitude of the expected increase, any clarity and additional details on this would be greatly appreciated.

Yes, you're correct. The expectation is that we will increase our shipments to align more closely with retail trends. As mentioned in our prepared remarks, our retail trends are outperforming our net trends in Asia travel retail, though both are still declining due to destocking in the trade. We anticipate that this destocking will conclude by the end of the third quarter, during the second half of the year. A significant part of the increase we expect in the second half is due to our shipping aligning more with the anticipated retail trends. This is crucial. Additionally, when we consider what occurred last year, we are facing the impact of policy changes in Korea that affected our shipments in the third and fourth quarters, along with similar policy adjustments in Hainan that impacted our fourth quarter. Therefore, we are also addressing some of the initial effects of those changes. Lastly, travel is gradually returning, although not as quickly as we had expected. We're seeing lower conversion rates compared to pre-pandemic times or prior to the major policy changes in the Asia region. However, traffic is increasing, and we anticipate that conversion rates will gradually improve during the second half of the year. These are the factors influencing our expectations for the second half and the reasons for the significant expected volume increase, primarily in our Asia travel retail sector, with some growth also noted in China. Fabrizio, would you like to add anything?

No, I just want to add that our underlying retail calendar year-to-date is already in the mid-high single digits globally. Our estimate of retail continues to improve on this point. The retail base, driven by consumer consumption, innovation, brand strength, and consumer demand, is very solid.

For calendar year.

For calendar year-to-date. And as Tracey has said, the readjustment of inventories is the big things that we are dealing with. And the evolutions of the policies that have created these readjustments is what has been difficult to predict and anticipate, and it's been pretty volatile. And so that's the adjustment. But the underlying fundamentals are already strong. It's not that we need to develop them in order to deliver the retail in the future. We just need to continue evolving on these fundamentals.

Our next question comes from Jason English from Goldman Sachs.

Thank you for sharing that positive data on retail sales. Tracey, you're mentioning how shipments were burdened last year, and that seems to be part of the narrative from that time. We believe that once we regain leverage and resume sales, the recovery of retail sales will provide significant operational leverage to support gross margin improvement, which is fundamentally a sales issue. However, if I take a step back and evaluate the details of the profit and loss statement, it reveals a slightly different situation. It doesn't appear to be a revenue issue; revenue is basically where it was in the first quarter of 2019. Instead, it seems to be primarily a cost issue. Even with revenue back to that level, cost of goods sold increased by $250 million and selling, general, and administrative expenses rose by $320 million, despite the cost-cutting initiative announced in late 2020, which so far hasn't produced any savings. Can you clarify what has led to such an increase in costs over the past couple of years? Where have the anticipated efficiency savings gone? Additionally, with the new actions you're announcing to address this, do you believe these measures will be sufficient to manage these costs effectively?

Yes, that's a great question, Jason. If you look at our profit and loss composition from fiscal '19, you'll notice that our gross margins were higher, and our costs as a percentage of sales were lower. However, due to the downward revision in our recent guidance, our costs as a percentage of sales have increased. We have implemented two cost-saving initiatives: the Leading Beauty Forward program and the post-COVID Business Acceleration program. The Leading Beauty Forward program expanded our operating margins by over 100 basis points yearly, allowing us to reinvest in essential capabilities, particularly in digital marketing and shared services. This program successfully achieved both margin expansion and cost leverage at the time. The Business Acceleration program also helped us close some underperforming physical locations and make necessary adjustments. Over the past few years, we have invested in critical capabilities, especially in regulatory areas, including cybersecurity and compliance with increasing regulations in the countries where we operate. We have also made investments in our sustainability program. While we faced several challenges in recent years, these investments were necessary. Looking forward, our profit recovery program will focus on gross margins, as we have not yet returned to the levels we experienced in fiscal '19. We are also examining expenses, including potential savings from our procurement strategy and organizational efficiencies. More details will be available in January and February when we release our second-quarter results. Rest assured, we are as committed to recovering our profit and loss structure as you are, Jason.

I would like to add that the profit recovery plan needs to rebuild gross margin. Our new capabilities, which we invested in as mentioned by Tracey, also need to align with our current sales levels. That will be our focus moving forward. In February, we will provide more specifics on how this will impact 2025 and primarily 2026. The plan is clear, and the whole organization is aligned with it. Teams are already working on this, and we are fully committed to delivering it. I want to clarify the programs we announced in 2020; while you mentioned they didn’t deliver savings, they did indeed provide savings in the selling area. This program was designed in response to COVID, which disrupted our go-to-market strategy and shifted sales online rather than in brick-and-mortar locations. We needed to reallocate resources to online sales and adjust the cost balance between the two areas, which we did. We invested in online projects and continue to enjoy the benefits, while also reducing costs in brick-and-mortar selling areas to align with the trends that emerged from COVID.

Our next question comes from Olivia Tong from Raymond James.

A bit of a multipart question and follow-up to a few. But first, just a point of clarification on the global retail number that you gave of up mid- to high single digits. What's that for you or for the category? And then on travel retail, can you give us a sense on your visibility into how much inventory is still sitting with the groups or individuals versus in a brick-and-mortar duty-free channel, which we have a little bit better clarity in?

Yes, I was referring to our retail sales. So far this calendar year in 2023, our retail trend is up by mid-high single digits. We expect to continue improving this trend. My main point is that retail remains strong. The negative net sales we observed in the first six months of the fiscal year are related to the inventory adjustments that Tracey mentioned. Additionally, when we talk about retail, it excludes travel retail numbers for clarification. Once we align travel retail numbers, retail and net will match, which we anticipate will happen by the end of the third quarter. Currently, we are seeing solid retail progress. Regarding travel retail, we significantly reduced stock in the first quarter, aiming to meet retailer inventory expectations by the end of March. We have a clear understanding with each of our retailers about our current status, ongoing programs to boost retail sales from existing stocks, and initiatives to replenish and sell innovative products. By the end of March, we plan to have retail and net aligned.

Our next question comes from Filippo Falorni from Citi.

So I wanted to ask a question on Mainland China. It's the first quarter where you guys talked about a bit of a slowdown relative to prior quarters. So maybe, Fabrizio, can you give some context on the level of slowdown that you're seeing in the category? And then from a competitive standpoint, we've seen some local brands doing a little bit better, more on the mass side. But have you seen any trade-down within the category, both on skin care and cosmetics?

Yes. First of all, the market in China grew by 2% in the first quarter. Our retail performance during this quarter was flat, but year-to-date, our retail in China is growing, and we are gaining market share. However, in that specific quarter, market growth was only 2%. Our estimates for the recovery of the beauty market in prestige were higher, which is one of the adjustments we are making in our projections for the year. This 2% is the current trend. Additionally, as I mentioned earlier, the presale period on Tmall and overall during Singles Day shows a softer trend compared to last year, which is why we are noting this. We are more optimistic about the upcoming Singles Day events in November, but the presale indicated a weaker market. Regarding your second question, there are local brands in mass and masstige that are performing well; we are definitely seeing improvement in China. In prestige, the impact of local brands is currently limited. Overall, prestige remains solid compared to mass, and we do not observe a significant shift from prestige to mass at this time.

Our next question comes from Bryan Spillane from Bank of America.

I wanted to revisit Jason English's question about margins. As we look ahead and consider how to return to our previous margin goals, how much do you anticipate will come from the increased cost savings, and how much is simply a matter of adjusting the business mix? Given that travel retail is highly profitable, do we need it to return to a similar sales percentage as three years ago, or can we achieve those margins even if travel retail becomes a smaller part of the business due to its cyclical nature?

Yes, that’s a great question. Considering the current state of travel retail, many are contemplating its future, and we are optimistic about a return to growth. However, whether it will reach previous levels remains uncertain. A significant amount of volume has shifted to the local market, and I expect this trend to continue. There could be a rebalancing in consumption patterns, especially among Chinese consumers and possibly other groups. Therefore, we are not depending on travel retail to return to past levels. If it does, that would be a positive outcome. However, our profit recovery strategy, along with our growth plans for our markets and brands moving forward, does not hinge on travel retail returning to prior profit margins.

I would like to provide some historical context regarding the events during the COVID period and the volatility it caused. When comparing our business in Mainland China to 2019, it has more than doubled. However, our global travel retail business is currently below what it was in 2019. During the COVID period, the travel retail business, influenced by various factors we've discussed, saw an increase, but that has since been stabilized. In 2019, a significant portion of sales to Chinese consumers occurred globally through travel, estimated at about 40% of total consumption at that time. Those sales happened in international travel destinations such as London, Paris, New York, Hong Kong, and Tokyo. With the frontiers closed during COVID, this consumption shifted back to Mainland China, and as noted, our business there has significantly increased. Some of that growth went into travel retail developments, like in Hainan, which are beneficial long term, while some transitioned into the unstructured business, which is now declining as part of market adjustment. Overall, this leads to a solid and sustainable business for the long term, especially in Mainland China, where we are committed to supporting growth through local investments and an R&D center. Although the volatile business tied to travel retail during COVID has been reduced, we are focused on further minimizing risks this fiscal year. Meanwhile, travel by regular travelers and Chinese consumers is gradually increasing, particularly in Asia, although travel to the West remains limited. We expect this to improve over time, contributing to a sustainable and profitable business as we move forward.

Okay. So to be clear, we can get back to kind of the previous profit algorithm even if travel retail and basically Hainan is not as big as it was previously?

Yes, we believe so.

And ladies and gentlemen, with that, we've reached the end of today's question-and-answer session. I'd like to turn the floor back over to Fabrizio for any closing remarks.

Thank you. And I just wanted to try to summarize this enormous moving part and make sure that we give you the clarity of what we are focused on at this point in this moment. So we expect calendar year 2023 to be the final, and frankly painful, post-COVID reset period for the company. We move forward with confidence as our fundamentals are strong in this attractive prestige beauty industry. Our calendar year-to-date retail sales performance remains very solid in all recovery markets and in general, both developed and emerging in the mid-single high digit that I quoted before. Our brand portfolio is better than ever with the recent acquisition of Tom Ford, solidifying our luxury strategy and The Ordinary, which we didn't talk a lot in this call but is becoming a powerhouse brand at the entry of growing active derma segment and is definitely our fastest-growing brand in our portfolio. Our innovation pipeline is robust for fiscal year 2024, but it gets even better and bigger and stronger in fiscal year 2025 with the expansion into the white space opportunity that we have identified. We are on track to align retail and net sales via inventory reduction with our retailers in China private retail, as discussed during the call. We are focused on accelerating a more balanced growth in the future by market, by channel. And importantly, via the profit recovery plan, we are preparing to rebuild gross margin, leverage our new capabilities to align our expenses to our current sales levels and further strengthen our consumer-facing activities. And we have the strategic focus and the talent to do this work, and together, intend to return to our historical cadence of delivering sustainable sales and profit growth. And thank you for your time and for your attention today.

Ladies and gentlemen, with that, we'll conclude today's conference call and presentation. We thank you for joining. You may now disconnect your lines.