Prepared remarks
Welcome to the AEO Inc. Third Quarter 2025 Earnings Conference Call. Please note this event is being recorded. I would now like to turn the conference over to Judy Meehan, Head of Investor Relations and Corporate Communications. Please go ahead.
Good afternoon, everyone. Joining me today for our prepared remarks are Jay Schottenstein, Executive Chairman and Chief Executive Officer; Jen Foyle, President, Executive Creative Director for American Eagle and Aerie; and Mike Mathias, Chief Financial Officer. Before we begin today's call, I need to remind you that we will make certain forward-looking statements. These statements are based upon information that represents the company's current expectations or beliefs. The results actually realized may differ materially based on risk factors included in our SEC filings. The company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise, except as required by law. Also, please note that during this call and in the accompanying press release, certain financial metrics are presented on both a GAAP and non-GAAP adjusted basis. Reconciliations of adjusted results to the GAAP results are available in the tables attached to the earnings release, which is posted on our corporate website. Here, you can also find our third quarter investor presentation. And now I'll turn the call over to Jay.
Thanks, Judy, and good afternoon. I hope everyone had an enjoyable Thanksgiving weekend. I'm extremely pleased with the trend change we've seen across brands, reflecting a number of decisive steps we've taken from merchandising to marketing to operations. These deliberate actions are having a positive impact on our near-term results and also serve us well for the long run. We delivered record revenue in the third quarter and very strong momentum has carried into the fourth quarter. We're seeing an encouraging response to the newness the teams are delivering with each new collection gaining steam, most notably, Aerie and Offline are generating exceptional growth across categories. As discussed last quarter, we have made incremental investments in advertising, which is contributing to stronger demand while better positioning our business for enhanced long-term brand awareness and overall customer engagement. At the same time, we are focused on operational improvements and cost efficiencies to drive higher profitability in what continues to be a dynamic macro environment. Turning to the quarter. Total revenue increased 6% to $1.4 billion, a third quarter record. Operating income of $113 million exceeded our guidance of $95 million to $100 million, fueled by higher-than-expected demand and well-controlled costs. As previously noted, our results also included about $20 million of net impact from tariffs. Diluted EPS for the quarter of $0.53 increased 10% compared to the adjusted EPS last year. The strong top line reflected a return to positive comps, which increased 4%. This was a meaningful acceleration from the 1% decrease last quarter. Improvement was made across both brands and channels, all posting positive comps. Aerie's 11% comp in the third quarter was a real standout where strong demand was broad-based across all categories. Growth accelerated throughout the period, which has continued into the fourth quarter, where we are seeing exceptional demand so far. As we look to the future, we continue to see untapped opportunities within Aerie and Offline, which are rapidly emerging as important customer destinations. At just under $2 billion in revenue and less than 5% market share, this indicates a significant runway for future expansion, underscoring our ability to capture a much larger piece of the market as we execute our strategic initiatives. American Eagle's comp growth of 1% marked a sequential improvement from last quarter. Strength in jeans, coupled with better results in men's were among the drivers. As Jen will review, AE's business strengthened with greater in-stocks in our strongest sellers and new product flows. Positive trends have continued so far in the fourth quarter, including a terrific Thanksgiving weekend. Beyond product, our results have benefited from the success of our recent marketing campaigns, which have driven engagement and attracted new customers. We are encouraged by the impact of the campaigns and collaborations with Sydney Sweeney and Travis Kelce and now holiday gifting with Martha Stewart. We see measurable benefits, especially across our digital channels. Looking forward, we will build on this momentum with more exciting campaigns ahead. All in all, I'm very pleased with the progress and meaningful turnaround from the first half of this year. Now the holiday season is upon us, and the fourth quarter is off to an excellent start. We are seeing a clear acceleration from the third quarter, including a record Thanksgiving weekend with strong performance across brands and channels. As a result, we are raising our fourth quarter outlook. We remain well positioned with exciting new collections centered on gift-giving and events planned throughout the season to continue to delight our customers. Before I turn it over to Jen, I want to take a moment to acknowledge our incredible team for all their hard work and tremendous dedication. Their efforts have fueled a meaningful trend change across our leading brands. Great work continues, and I couldn't be more optimistic about the long-term outlook for our business. We look forward to driving more success as we head into 2026 and beyond, driving profitable growth and enhanced value for AEO. Let me turn it over to Jen.
Thank you, Jay, and good afternoon, everyone. I am very encouraged by the stronger performance across our brands, marking a significant turnaround from the first half of the year. This demonstrates the resilience and product leadership of our portfolio of iconic brands. The increasing customer demand, which has accelerated in the fourth quarter, is spanning new and existing customers, fueled by a well-coordinated effort across both merchandising and marketing. Compelling product collections, combined with higher engagement and expanding brand awareness are driving our performance. And the teams are executing very well, leveraging our expertise in key categories and most importantly, by listening to our customers. Let me walk you through a few highlights in the third quarter, beginning with Aerie. The Aerie brand continues to exceed expectations. We achieved record revenue with the third quarter comps up 11%, fueled by strength across all categories, including intimates, apparel, sleep and Offline. Aerie and Offline's performance has been especially impressive with a meaningful acceleration in demand since the spring season. In fact, comps have strengthened with each new delivery. The resurgence in intimates has been very encouraging with solid growth in both bras and undies. Greater depth and breadth of our signature fabrications, strength in new fashion across bralettes and bra tops and fun prints with matchbacks to apparel are just a few highlights fueling the brand's double-digit growth. Aerie apparel remained consistently strong, driven by bottoms, fleece, tees and sleep, which has emerged as a powerful growth category. Offline by Aerie also continues to gain meaningful mind share as we expand awareness and move into newer markets. We remain highly focused on growing the Activewear segment. We are building on our signature fabrics and franchises such as our core leggings while also launching newness with updated fashion silhouettes. Needless to say, we are very excited about our future for both Aerie and Offline. We are well positioned for the remainder of the holiday season and continue to believe in the substantial long-term opportunities ahead. Now moving to American Eagle, which posted a positive 1% third quarter comp, demonstrating a meaningful improvement from the spring season. Positive demand was fueled by trend-right new fall collection combined with bold marketing and exciting product collaborations. Underpinned by our dominance in denim, our strategies to reset the brand and firmly position American Eagle at the center of culture are beginning to yield results. The quarter marked an improvement in our men's business, where we saw nice wins across tops, sweaters, fleece, graphics and knits, all areas we have been working to recapture. Bottoms provided a stable foundation with jeans and non-denim pants trending positive. And favorable trends have continued into the fourth quarter, reflecting the positive reception of our new product. In women's, although we had a very good back-to-school season, the quarter in total was not as strong. Robust demand early in the period led to a number of out-of-stocks in some of our best-selling items. Non-denim bottoms, shirts and dresses proved more challenging, while knit and fleece tops as well as jeans were positive highlights where we continue to see strong demand. And importantly, better in-stocks late in the quarter drove positive results, which have continued into the fourth quarter. AE is a true holiday destination with amazing gift-giving focus combined with fun fashion and party dressing. The response to date has been highly encouraging. Now shifting gears to marketing. This fall season, American Eagle launched its largest, most impactful advertising campaigns ever, which are delivering results. By collaborating with high-profile partners who are defining culture, we are attracting more customers and have more eyes on the brand than ever before. Combined, the Sydney Sweeney and Travis Kelce partnerships have garnered more than 44 billion impressions. Total customer counts are up across brands and customer loyalty grew 4% in the quarter. AE is clearly building long-term awareness and desirability and has captured the attention of both new and existing customers. Traffic has also increased consistently throughout the quarter, which is most evident within our digital selling channels that include both AE and Aerie. Although it's still early days of our renewed marketing strategy, we know that having the right talent amplifies our brand and product at key moments. We are very encouraged by our progress and expect to continue fueling brand excitement into 2026 and beyond. Our recent holiday campaign with Martha Stewart is yet another example of how we are creating fun moments to delight our customers while reinforcing our position as the go-to gifting destination. The holiday season is in full swing. And as Jay mentioned, we are encouraged with the results so far. We are heads down and focused on the rest of the year to deliver long-term sales and bottom line growth. Thanks to our amazing teams, and thanks to all of you for your ongoing support. I wish everyone a happy and healthy holiday season. And with that, I'll turn the call over to Mike.
Thanks, and good afternoon, everyone. I'm pleased to see the steady progress throughout our business, which led to strong revenue and profit above our expectations in the third quarter. In addition to generating a meaningful top line improvement, we successfully controlled costs, created efficiencies, managed promotions and navigated through a highly dynamic sourcing environment, minimizing the impact of tariffs. Consolidated revenue of $1.36 billion increased 6% to last year, fueled by comparable sales growth of 4%, with Aerie up 11% and AE up 1%. We saw growth in transactions across brands driven by higher traffic. The average unit retail price was flat to last year. Gross profit dollars of $552 million increased 5%, reflecting higher demand. The gross margin declined 40 basis points to 40.5% compared to 40.9% last year. Net tariff pressure was as expected at $20 million or 150 basis points. Higher markdowns were largely offset by positive sales growth and lower non-tariff costs, including favorability in freight. Buying, occupancy and warehousing leveraged 20 basis points due to higher sales and a continued focus on operational improvements. For example, we drove lower cost per shipment within our direct business, which has been an area of ongoing focus. SG&A increased 10% due to investment in advertising as previously discussed. With our focus on long-term brand benefits, the campaigns are already delivering results and helping to advance our goal of expanding our reach and generating growth across brands. The balance of expense is leveraged, reflecting our ongoing cost management program. Operating income of $113 million was above our guidance of $95 million to $100 million, driven by stronger-than-expected demand. The operating margin of 8.3% declined from an adjusted margin of 9.6% last year. Consolidated ending inventory cost was up 11% with units up 8%. Inventory is balanced across brands, reflecting better in-stocks for American Eagle jeans, new store openings and the demand acceleration at Aerie and Offline. The increase in cost includes the impact of tariffs. Third quarter CapEx totaled $70 million, bringing year-to-date spend to $202 million. We continue to expect CapEx of approximately $275 million for the year. As a reminder, this includes a one-time spend of about $40 million to relocate our New York design center as we previously disclosed. We're on track to open 22 Aerie and 26 Offline stores, which are coming out of the gate quite strong. We'll complete about 50 AE store remodels with full upgrades to our modern design. A few great examples of recent store upgrades are the Aventura Mall and Sawgrass Mills in Miami and our new SoHo location in New York City. All of these A+ stores are among our best, and we want to ensure the customer experience is unmatched. The upgraded footprints have allowed us to showcase our signature brands, AE Aerie and Offline. We're utilizing new technologies to elevate the shopping journey and create a cohesive and modern retail experience. Overall, our remodeling program is generating comps nicely above the average. As we continue to position our fleet for profitable growth, we're also on track to close about 35 lower productivity AE stores. Our capital allocation priorities remain unchanged, and we're focused on prudently investing in growth to continue to build our brands while returning excess cash to shareholders through dividends and share repurchases. As a reminder, during the first half of this year, share repurchases totaled $231 million and year-to-date dividend payments have totaled $64 million. We have a strong balance sheet and ended the period with cash of $113 million and total liquidity of approximately $560 million. Now turning to our outlook. The fourth quarter is off to an excellent start. As the team noted, we're encouraged by the broad-based strength across brands and channels with particular strength in Aerie and Offline. Our inventory and product offerings are well positioned to deliver a successful holiday season, and we're all focused on achieving a strong fourth quarter result. Based on quarter-to-date sales trends and the recognition that we have important selling weeks still ahead, we are raising our fourth quarter operating income guidance to a range of $155 million to $160 million based on comp sales growth of 8% to 9% with similar growth in total revenue. Guidance includes approximately $50 million of incremental tariff costs. Buying, occupancy and warehousing costs are expected to increase due to new store growth for Aerie and Offline and increased digital penetration. SG&A is expected to increase in the low to mid-single digits, driven by investments in advertising. Given the top line strength, we expect both BOW and SG&A to leverage in the fourth quarter. The tax rate is estimated to be approximately 28% and the weighted average share count will be roughly 173 million. To wrap up our prepared remarks, clearly, we're very encouraged by the progress made across our brands. We're highly focused on delivering the remainder of the year, driving strong profit flow-through and sustaining this momentum into 2026. Now we'll open up the call for questions.
Questions and answers
The first question comes from Jay Sole with UBS.
My first question, I think, it's for Mike. You talked about the acceleration of fourth quarter to date, and you raised the guidance, the comp guidance, I think you said 8% to 9%. That's pretty significant from where you ended Q3. Can you just talk about where you're trending quarter-to-date to be able to guide to that level? And what's driving the acceleration? And then maybe for Jen, you mentioned strength in denim. If you could elaborate a little bit, if people aren't wearing skinny denim like they were, what are the new silhouettes that are working? And how durable are those trends? Do you think the trends that you're seeing can last well into 2026 or beyond? And if you can help us on that, that would be great.
Yes. Thanks, Jay. I can talk you through the guidance. So the 8% to 9% comp increase includes a nice improvement or acceleration for both brands quarter-to-date from what we just reported in Q3. I would say if you want to break it down by brand, we'd be looking for the AE brand to be in the low to mid-single digits and Aerie in the high teens, mixing to that 8% to 9% comp. And both brands are ahead of that quarter-to-date, but we know we've got some big weeks ahead of us, only about half the quarter in, but definitely pleased with how November turned out and where we are quarter-to-date through the Thanksgiving weekend.
Yes. And Denim has been very strong. In fact, particularly in women's, we saw acceleration throughout the quarter, getting into the back half of Q3 and into Black. It's been our #1 Black Friday as far as denim is concerned. The jeans are certainly winning for us. And as you know, that's our key competency business. Look, silhouettes are changing faster than ever. And I always reemphasize that our teams strategically do extensive testing and scaling. And we did have some out-of-stocks, particularly in women's in Q3. Sydney Sweeney certainly accelerated some of that, and we needed to move swiftly to get back into business. And I like what we're seeing at the end of Q3 and headed into Q4 with the denim business. So we're excited.
And the next question comes from Matthew Boss with JPMorgan.
Congrats on the improvement. So Jen, at Aerie, maybe if we could dig a little deeper. Could you speak to the drivers of the same-store sales improvement over the past two straight quarters? And with that, I guess maybe could you break into customer acquisition trends that you're seeing and initiatives in place to sustain double-digit comp growth in your view?
It's exciting to see Aerie back on track. After Q1, we needed to adjust as a team, and we focused on our strategy to regain our winning position. Our core competency businesses have been accelerating since Q3 into Q4, and we also have new ventures, like our sleep category, which is performing well year-round. Additionally, our offline business, which supports Aerie, is holding strong even amid declines in athletic apparel. Our leggings continue to perform well, and we are seeing strong customer acquisition and increased spending. In fact, our acquisition efforts have accelerated, with last week being particularly successful for Aerie in attracting new customers. We are capitalizing on our traffic and effectively engaging with our customers. We're proud of our new 100% real campaign, which aligns with our business philosophy and focuses on our community without airbrushing our models. We've also incorporated some of this into our approach to AI. Aerie stands out by exploring innovative areas, and we take pride in our brand. The team is excelling in leveraging our community and enhancing our marketing, but our focus remains entirely on our product. Ultimately, our daily efforts are centered around our offerings and winning over our customers.
I can start with inventory, Matt. We're very pleased and comfortable with the increase of 11% in total dollars and 8% in units, which is well-positioned to continue driving this trend for Aerie and Offline. As Jen mentioned in her remarks, we are adjusting some denim inventory to ensure we remain in stock and don't miss any sales in the AE jeans category. That 11% increase includes the influence of tariffs as we support those businesses. In terms of markdowns, we were competitive in the third quarter, and markdowns have slightly increased in total impact for the quarter. We anticipate a similar situation in Q4 and we are prepared to compete during significant sales days. The November and quarter-to-date trends show a small rise in markdowns as a competitive strategy. However, we are seeing positive results in terms of top-line growth and overall margin dollar growth. Aerie's markdown rates are comparable to last year, which means we are maintaining this trend without relying heavily on promotions. The jeans category is contributing more to the increased markdowns, but we believe this strategy is the right one moving forward. Regarding gross margin, we are pleased with the results from the third quarter. We disclosed that we reached approximately $20 million in tariff impact, roughly 150 basis points. However, gross margin only decreased by 40 basis points on four comp, indicating the team's effective management not only in mitigating front-end tariff effects but also in identifying opportunities and efficiencies in other cost areas not impacted by tariffs. We highlighted freight, but there’s ongoing work beyond just that line item. For Q4, we anticipate a $50 million impact, with a net absolute impact of about 300 basis points, but we are not guiding gross margin to decline by that much and expect similar opportunities for offsets in other line items. On an 8% to 9% comp, we're leveraging several expense lines that are contributing positively to gross margin, including rent, digital delivery, distribution costs, and compensation. Additionally, other cost line items within our product costs are being effectively managed. We plan to maintain this approach moving forward.
And the next question comes from Paul Lejuez with Citi.
This is Kelly on for Paul. My first question is about your recent marketing campaigns. Despite the high-profile and impactful marketing efforts for American Eagle, why haven't these translated into more significant gains for AE compared to Aerie, which appears to be benefiting considerably from factors like product assortment or specific marketing strategies? Can you help us understand the dynamics at play? Additionally, regarding the tariff impact, you mentioned a $50 million effect in the fourth quarter. Is that the figure we should anticipate for the net tariff impact in the first half of '26?
As a company, we're focusing on advertising to stay competitive. Observing our competition revealed clear opportunities for us to engage more. The response to our campaigns featuring Sydney Sweeney and Travis was unexpected, generating 44 billion impressions. While we've faced some stock shortages in women's apparel, men's has shown improvement in the mid-single-digit range, which we are very pleased about. It's worth noting that marketing can have a halo effect. Toward the end of the quarter, as our denim stock returned to more normalized levels, we experienced growth, especially in women's and the black category. Our performance during Thanksgiving week was exceptional, and we're starting to see positive results. This focus is crucial for our future; we must stay strong and competitive while promoting our products effectively. Our teams are diligently working on delivering the best price-to-value ratio, a strength of American Eagle, and our marketing efforts will enhance this.
I'd also like to mention that we've seen a significant increase in our loyalty members. Over the past few months, more than 1 million new members have joined us. As Jen mentioned, the impact isn't always immediate. It’s also noteworthy that the jeans we created specifically for Sydney Sweeney sold out within just 2 days. They were extremely popular right from the start.
I can address the tariff question. To give some clarity, we anticipate a quarterly impact if tariffs remain unchanged. We expect an impact of about $25 million to $30 million for both the first and second quarters, translating to roughly 200 to 225 basis points in Q1 and the same in Q2, totaling $40 million to $60 million for the first half. For Q3, we incurred a $20 million impact, and we project that Q3 will be around $35 million to $40 million, resulting in an additional $15 million to $20 million impact next year. As we approach the fourth quarter, we are guiding for an impact of approximately $50 million. Overall, this amounts to a 200 to 225 basis point impact for the full year. However, with ongoing cost offsets, we expect the gross margin will not be affected to this extent, similar to what we observed in Q3 and Q4.
And Mike, there may be like as Supreme Court ruling coming on shortly, too. It may have changed everything right away.
So the assumption then would be that you would be taking some like-for-like pricing into next year?
Yes. I think, I mean, on the pricing front, we definitely do not have a specific strategy to pass through the impact of tariffs to our customers. We continue to take shots where we know we can, where we're making price moves that we still fit within our price value equation that the customer expects, and we don't see any resistance to those price changes from the customer. And just ticket changes that allow us to create a little more room on the promotional front, too, to make some decisions within our lease lines. So we'll continue to do that. I think we're seeing success doing or approaching it that way in the back half right now. We'll continue to do that in next year.
And the next question comes from Jungwon Kim with TD Cowen.
You mentioned strong customer acquisition across both brands. Maybe you can give us a little bit more detail around who those customers are and if you're gaining more higher income cohorts. Just curious on who you are gaining share from as you acquire new customers? And then another question, just a follow-up to that is, what are your strategies around retaining those customers you gained in the last two quarters?
Both brands have a stronger customer base than ever. We have certainly seen acceleration as we transitioned from Q3 to Q4, with significant challenges that we're addressing. Our teams are focused on retention, which has been a priority all year. We are succeeding in both retention and customer acquisition. Our teams are employing strategies that are yielding results, which you can see in the news we're reporting today. We're attracting talent, enhancing our influencer programs, and engaging with our communities, which is crucial. Our brands represent something meaningful, standing the test of time. When we combine that with quality products, we can make a significant impact. The teams have developed various strategies, whether it's attracting new customers or optimizing our marketing spend and influencer strategies. It's essential to get the product right first and ensure our tactics support that strategy. For example, the recent talent we brought in, such as Sydney, Travis, and Martha, illustrates our approach to introducing our brands in innovative ways. Aerie's marketing strategy showcases our community in a fresh manner, emphasizing authenticity and the implications of AI for a brand like Aerie with a strong identity. We have two distinct brands and a portfolio we leverage, ensuring we highlight each brand's unique qualities effectively, and that strategy is proving successful. While there's always more work to do, we anticipate exciting collaborations, new talent, and fresh ideas moving forward, as we continuously brainstorm new concepts.
And the next question comes from Rick Patel with Raymond James.
I wanted to double-click on your expectations for AUR in Q4. As we think about the company remaining competitive with promotions, but also factoring in some product and perhaps some pricing wins, where do you see AUR landing in the fourth quarter? And then second, what are your expectations for where inventory will end the year, both in terms of dollars and units?
Hey, Rick, yes, the AUR for the third quarter was relatively flat even with a bit of a markdown increase, just the mix of the businesses between the brands, category mix, our AUR was relatively flat at the company level. We're expecting a similar thing in Q4. November to date here, we saw it play out that way. Aerie is actually driving these comps on some uptick in AUR. We know we're spending a little more markdowns in the jeans category in AEs to drive the business. So the mix for the quarter, we'd expect right now to be similar around a relatively flat AUR for the fourth quarter. And I think it's the way we really expect to plan the business going forward. In Q4, we are not giving specific guidance, but with the positive trend exceeding our plans, we are certainly in a chase mode, which is encouraging as we anticipate a significant profit flow-through, particularly from Aerie. We expect inventory to align with sales and are guiding for a comparable sales growth of 8% to 9%. For now, I expect inventory to remain consistent with sales or at least units to align with sales growth, aware that there will be an ongoing tariff impact. However, we are not providing specific guidance at this moment, but that is what we expect to observe.
And the next question comes from Chris Nardone with Bank of America.
So first, can you just refresh us on how we should think about plans for both the Eagle and Aerie store fleets heading into next year? And if the recent results of both businesses has changed how you're thinking about that versus maybe 90 days ago?
Yes, Chris, we discussed closing approximately 35 stores for the AE brand by the end of this year. Looking ahead to next year, I anticipate that the pace of closures will slow down since we've already shut down many of the lower productivity stores in our main AE fleet over the past few years. So, while we expect 35 closures at the end of this year, it will likely be fewer next year. For Aerie and OFFLINE growth, we're planning 22 Aerie and 26 OFFLINE openings this year in 2025. We are currently targeting a similar store count of around 40 to 50, likely with a somewhat higher concentration of OFFLINE stores compared to Aerie. We have great growth potential, and if we decide to make any adjustments, we might expedite some openings in Aerie and OFFLINE, though those plans are still being developed. Right now, we are planning for a similar store count of 40 to 50.
Okay. Got it. And then just a quick follow-up. I think you alluded Aerie comps are running above the high teens for the quarter, quarter-to-date. And if AUR is roughly flattish, can you just unpack a little bit further? It sounds like you're seeing inflections across the product suite, but are there particular channels, whether that's digital versus retail or certain categories where you're seeing the biggest inflection? We're just trying to understand a little bit better what has changed so drastically over the last 6 months.
Yes, that's correct. The guidance we're providing is an 8% to 9% comparable sales growth forecast. To clarify, American Eagle is expected to achieve low to mid-single digit growth, while Aerie is projected in the high teens. Both brands have been performing above these trends from November to the Thanksgiving weekend. Digital sales are outpacing store sales. The marketing campaigns discussed by Jen and Jay have significantly driven traffic digitally, which is where we are seeing most of the gains from these efforts. In Q3, both channels showed positive results, with digital sales on the higher end at the high single-digit growth level. For Q4, we anticipate a similar outcome, with growth at around 8% to 9%, where digital is expected to significantly exceed store sales. This trend has continued through November, especially during the holiday weekend, and we are pleased with the positive performance in both channels, although digital is currently experiencing greater growth.
In Aerie specifically, we've seen an incredible turnaround. All categories are performing well. The team had to pivot after Q1, focusing on our product and winning back customers to regain the momentum we deserve. This brand is exceptional. I want to remind everyone that Aerie's brand awareness is currently at only 55% to 60%. Looking ahead to 2026, we have significant opportunities. We are actively pulling in product, and the team is working diligently to maintain this momentum into next year.
And also, Jen, I think our merchandise is better, too, which help.
And the next question comes from Alex Straton with Morgan Stanley.
Congrats on a nice quarter. On these big campaigns that you guys have pursued, can you just give us some context on where you think you'll end the year on marketing expense as a percentage of sales versus typical? Like are you investing more than history? And then as we think about next year, should that line item continue to move higher? Or how do you think about kind of that flywheel between the marketing investment and growth?
For this year, we made a significant investment in the third quarter. The fourth quarter is also expected to be higher within our guidance, although not as much of an increase percentage-wise as Q3. I'm very pleased with the SG&A leverage we expect to see in Q4 based on this guidance. While advertising is still experiencing some deleveraging, we are managing all other expense categories as planned and significantly in the fourth quarter. For the year, we anticipate being in the mid-4s percentage-wise, compared to around 4% last year. We're currently resetting our baseline for advertising spend, which is proving effective. Our teams are closely monitoring this on a week-to-week basis, balancing our advertising spend with well-planned campaigns. We expect to continue this approach into the first half of next year, potentially moving towards a 5% rate to reset ourselves, while also reallocating some expenses toward advertising. We plan to review this next year around the same time in the third quarter. Maintaining a 5% rate looks to be a good target for us. As we reset the baseline, we are on a path toward 5%, reflecting the top-line growth we are experiencing. We will revisit this next year and aim to sustain that rate going forward.
And Mike, and trips in the bank, too. We're not saying we have more trips in the bank.
Yes. More to come. We'll discuss some exciting developments in our fourth quarter call in March.
That's great. Maybe one follow-up for you, Mike. Just kind of zooming out here. I know there's been some wrenches in your medium-term outlook since you provided it a couple of years ago. But maybe as we move into the final year of that plan and excluding some of the noncontrollable headwinds like tariffs, can you just like, big picture, talk about where you've made the most progress versus that plan and where there's still more work to be done in this final year here?
Yes. I'll start on the top line. I know we obviously had a few missteps here in the first half of the year in the first quarter, but the net result of this year with this guide is actually going to wind up kind of in that low to mid-single or within the algorithm we've talked about wanting to achieve every year. So we'll be at a kind of low single-digit trajectory on the full year with this back half being kind of the mid- to high single-digit range. So I think that's the continued focus. I'd also say we made a lot of headway in just the culture change around expenses in total. So we continue to control costs across the P&L. I think the leverage that we're seeing here in BOW, this back half of the year and then SG&A in this fourth quarter is a testament to that. Even with the significant increase in advertising this year that you just asked about and I just provided the calendar on all the other SG&A line items are leveraging in this year. And SG&A in total will be relatively flat on the year at the kind of the low single-digit total year outcome. So I think that's a big change for us over the last several years. It's been a massive focus to have a different mentality around controlling expense. It's allowing us to funnel some of these dollars toward advertising. And so we'll continue to do that. And yes, to your point, the tariff headwind is something we can't control. But I mean, our goal is still this 10% aspiration. Tariffs are going to set that back a little bit. But we're going to continue down the path that we're on, on controlling all other costs, investing some dollars in advertising, fueling Aerie and OFFLINE, hitting that kind of low single plus trajectory in AE and passing back toward that 10% that is still our ultimate goal.
Yes. After the first quarter, this team took a thorough look at every aspect of the business, examining every opportunity from merchandise to operations and determining what's important for the company. The dedication of the associates has been outstanding over the past few months, and I'm extremely proud of this team. Despite facing significant challenges in the first quarter, no one gave up or complained. Everyone focused on finding ways to improve and transform, identifying real opportunities and planning for our future success. I am particularly proud of our stores; they are the best-looking and best-maintained in the mall. If you visit our new store in SoHo or the one in Aventura, you'll be very impressed by their design and functionality. We're very excited about our plans for marketing next year, the focus of our merchants, and the enthusiasm within the company, and I believe it's going to be great.
And the next question comes from Janet Kloppenburg with JJK Research Associates.
Congratulations. I agree that the stores look fantastic, especially Aerie but also American Eagle. I wanted to ask about the product availability earlier this year, Jen. I'm curious if that issue has been resolved now that the comparable sales are strong. Mike, regarding the 4% comparable sales increase, did you manage to leverage buying and occupancy? What is the target for that? Additionally, have you completed all price increases, or should we expect more in the future?
Yes, thanks for the question, Janet. To be honest, our challenges have primarily been in women's denim. Since the first quarter, we've been in a reactive mode trying to meet demand, but we haven't been able to keep pace. Our shorts business also didn't perform as anticipated, which we expected to improve moving from the first quarter into the second quarter, but that didn't happen. Consequently, we faced high demand for long legs, and we struggled to meet that need. As we approached the third quarter, we believed we were in a stronger position, but we needed to be cautious with our inventory since denim is among our highest costs and our largest segment. Managing this business is complex. With the launches involving Sydney Sweeney and Travis, we still struggled to meet demand. Our teams worked diligently in the right segments, and our successful silhouettes contributed to some out-of-stock situations, which is a positive sign. However, we still required more inventory to support the women's category due to denim's penetration. The good news is that in the latter half of the third quarter, we improved inventory levels for key silhouettes. For instance, we planned for a 25% increase in our top five women's jeans styles, but demand surged by 50%. We have a significant amount of work ahead, but we feel more optimistic as we enter the fourth quarter. As Mike pointed out, we plan to approach denim differently to sustain our business while also expanding into new categories.
Yes, Janet, on BOW, yes, we did leverage BOW by 20 basis points in the third quarter on the 4 comp. And then that's a good target for us that low to mid-single-digit result to leverage expense really across the board other than this advertising reset we're talking about. And then the fourth quarter on the 8% to 9% comp, we obviously definitely expect to leverage BOW at that kind of result as well. And SG&A will leverage significantly on that kind of result for the fourth quarter. Yes, we mentioned this earlier. The average unit retail is unchanged for the third quarter, and we expect a similar average unit retail in the fourth quarter. We are intentionally not passing the impact of tariffs onto the consumer. We are adjusting our prices strategically, as Jen mentioned, to maintain the value that our customers expect while ensuring that conversion is not affected. This also gives us some flexibility for promotions. So, we will keep optimizing this approach, aiming for a net average unit retail similar to last year.
And the next question comes from Janine Stichter with BTIG.
Congrats on the great quarter. With this quarter-to-date acceleration, it sounds like a lot of it's been driven by traffic and new customer acquisition. Just wondering what you're seeing on conversion, particularly with some of the product improvements you've made. And then maybe if you can just share your thoughts on the Gen Z consumer. We've certainly heard a lot about that consumer potentially being pressured and pulling back, but it doesn't seem like you're seeing that at all in your business. So I would just love to hear your thoughts on kind of where the consumer is and how they're spending?
Yes. I think on the metric side of things, traffic was definitely a driver in Q3. We continue to see that here in the fourth quarter through November. With AUR flat, it's been a mix of sort of traffic and then ADS or the UPT, part of the ADS equation, AUR flat, some uptick in UPTs and then traffic with conversion being relatively flat with AUR being relatively flat. That's sort of your mix of metrics that we saw in the third quarter and early days here in Q4, obviously, a big traffic uptick that we've capitalized on through November and through Thanksgiving, and we'll see how that continues to play out. But with AUR relatively flat, we would assume a similar kind of mix of metrics, traffic being a driver, ADS being a driver with AUR flat, conversion relatively flat, and we'll see how it pans out through December.
Yes, we're focusing on appealing to Gen Z across all our brands. For instance, there may be questions about our connection to Martha Stewart, but she actually resonates well with Gen Z. This is a key example of our approach. We're experiencing positive momentum among all age groups. However, we still see room for improvement in attracting younger audiences, particularly in AE women's. We're working on enhancing some products to engage that demographic. Overall, we aren't noticing significant challenges. Additionally, this is an important period for gift-giving, so we observe parents actively making purchases as well.
Okay. We have time for one more question.
And the last question comes from Corey Tarlowe with Jefferies.
Mike, I wanted to ask about SG&A for Q3 and Q4 and how to consider it for next year from a dollar perspective. Is there anything that will increase or decrease, such as marketing? I believe you mentioned incentive compensation in previous years. I'm interested in understanding this structurally, especially since Q4 sales are strong, which will create some differences. What insights can you share with us?
Sure. I believe we can expect continued investment in advertising during the first half of next year, in addition to our intention to reach an annual rate of about 5%. We'll be reflecting on the current initiatives in the latter half of the year. The incentive compensation is still uncertain as we are in the process of setting plans for 2026. Those annual plans will be tied to our EBIT target as the main success metric. We will likely provide more insights in March regarding 2026 SG&A and how we foresee it developing each quarter, including advertising and potentially some additional incentive compensation, but more details will be available in March.
The momentum has been very, very strong. Curious what you think is specifically working there versus the competition when you either walk the mall or view kind of the competitive set, how you think about your market share gains and the opportunity there? Yes, I mentioned that there is still an opportunity for brand awareness as we are currently at 55% to 60%. Looking forward, we see a lot of potential. It's not just about one aspect; we have focused on our product, with our design and merchant teams collaborating to develop future strategies and address areas where we faced challenges. The team has done an excellent job launching new ideas and revitalizing existing products, such as our undies, which have become a staple for any order or basket, and our displays have never looked better. The focus remains on product quality, and we've adjusted our promotional strategies as needed. Our marketing campaign in Aerie has resonated well, emphasizing authenticity and realness, and our influencer partnerships have been successful. We have many exciting innovations planned for the future. The team is fully committed to rethinking each category, exploring new fabrics, ideas, and launches, which has proven effective with our recent drops. We have a lot planned for 2026, but for now, we are preparing for a successful fourth quarter and are optimistic about our current momentum.