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Macy's Inc (M) Q4 2020 Earnings Call Transcript

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Macy's Inc (NYSE: M)
Q4 2020 Earnings Call
Feb 23, 2021, 8:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, good morning, and welcome to Macy's Incorporated Fourth Quarter 2020 Earnings Conference Call. [Operator Instructions]

And I would now like to turn the call over to Mike McGuire, Head of Investor Relations for Macy's Incorporated. Please go ahead.

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Mike McGuire -- Head of Investor Relations

Thank you, operator. Good morning, everyone, and thanks for joining us on this conference call to discuss not only our fourth quarter and full year 2020 results, but also our update to our long-term strategy. With me on the call today are Jeff Gennette, our Chairman and CEO; and Adrian Mitchell, our CFO. Jeff and Adrian have prepared remarks that they will share, after which we'll host a question-and-answer session.

While we've expanded this call for 90 minutes, given the time constraints and the number of people who want to participate, we ask that you please limit your questions to one. In addition to this call and our press release, we have posted a slide presentation on the Investors section of our website, macysinc.com. The presentation summarizes the information in our prepared remarks and includes some additional facts and figures.

I do have one housekeeping keeping item to share. Jeff and Adrian will be participating in a fireside chat at the Bank of America Consumer & Retail Technology Conference on Tuesday March 9 at 08:30 AM Eastern Time. This event will be webcast on our Investor Relations website. So please mark your calendars.

Keep in mind that all forward-looking statements are subject to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from the expectations and assumptions mentioned today. A detailed discussion of these factors and uncertainties is contained in our filings with the Securities and Exchange Commission.

In discussing the results of our operations, we will be providing certain non-GAAP financial measures. You can find additional information regarding these non-GAAP financial measures as well as others used in our earnings release and our presentation on the Investors section of our website. As a reminder, today's call is being webcast on our website. A replay will be available approximately two hours after the conclusion of this call and it will be archived on our website for one year.

Now I'd like to turn this over to Jeff.

Jeff Gennette -- Chairman & Chief Executive Officer

Thanks, Mike. So good morning, everyone, and thank you for joining us today. So today we're going to share our fourth quarter and fiscal year results, discussing our outlook and near-term guidance and reviewing our updated Polaris strategy. We also look forward to taking your questions in a Q&A session following our remarks.

But because we're coming out of an unprecedented year, one that delivered a series of external challenges that would have seemed almost unimaginable not so long ago, let me start with this. When COVID-19 unleashed its challenges, consumer trends shifted quickly and we learned a lot about our strengths and opportunities. Our Polaris strategy, designed to allow significant flexibility, was tested profoundly and have proved durable, allowing us to adapt and innovate with great agility. Facing these challenges, only some of our results show improvement from 2019. But our business performed better than we might have otherwise had expected under these stresses. And we've shown that we are well positioned to adapt to customers' needs and to new forces in the external environment.

Against this backdrop, many of our fourth quarter results, sales, EBITDA and earnings per share exceeded the expectations that we shared with you at the end of third quarter, and we ended the year in a very good cash position. Sales for the quarter were $6.8 billion with all brands outperforming expectations in the quarter and the back half of the year. This solid performance has continued into 2021. Significant growth in digital sales supported these results, as did a series of actions to win over new customers, while some of our core customers paused spending with us during the pandemic.

We accelerated our focus on digital shopping, extended our assortment to help customers in expressing their unique style through a growing number of categories and clarified and simplified our customer value equation. We rapidly adjusted our merchandise mix, reflecting consumers' increased embrace of categories like home, casual apparel, jewelry and fragrance. And we made changes in stores to make them safe and easy to navigate. We harnessed data analytics to sharpen our offers and outreach to customers.

These and other steps attracted nearly 7 million new customers in the fourth quarter alone, many of them under 40. At the same time, we significantly improved our overall customer satisfaction scores. Notably, we saw solid holiday demand in November and December, which continued into January. As a result, we delivered adjusted EBITDA in the fourth quarter of $789 million, which brought the full year to a positive $117 million. We also saw sequential top-line improvement from first quarter, the weakest point of the year.

Our sales momentum and profitability are due to our investments in advanced analytics and enhanced collaboration with our vendor partners to drive gross margin. We also maintained a persistent focus on managing SG&A. We generated free cash flow of $296 million in 2020, which we will continue to improve through the continued execution of our Polaris strategy. As a result, we ended the year with healthy liquidity, approximately $1.7 billion in cash and approximately $3 billion of untapped capacity in the revolving asset-backed facility that we closed in June.

All in, a year that delivered unprecedented shocks to our industry, our country and to our colleagues and our families, it could have been a terrible year for Macy's. Instead, we battled through the store closures and reopened to deliver unexpected wins and some promising tests. Though no one would ask for a repeat, we did in the end, learned a tremendous amount that has informed us on how to best adapt and improve our outlook, and I'm incredibly grateful to the team who got us there.

Our experience in 2020 increases our conviction to take bolder actions to drive our business forward as a digitally led omnichannel retailer. Under the Polaris strategy, which we introduced to you last February, we have shifted a large proportion of our current and future capital to digital, supply chain and technology platforms to better integrate our digital and physical assets and deliver the most relevant shopping experiences. In part, enabled by these shifts, we expect that approximately $10 billion in sales will come from the digital channels by 2023.

We also plan to continue our focus on rightsizing SG&A, improving working capital efficiencies and modernizing our supply chain to support the omni shopping experience and customers' evolving expectations around fulfillment speed. We understand there is much work ahead to capitalize on the opportunities now available at Macy's. However, we have the aspiration, the fortitude and the agility to successfully transform our legacy [Technical Issue] However, we have the aspiration, the fortitude and the agility to successfully transform our legacy business in the months and years ahead.

From a financial perspective, we are targeting longer term run rate sales growth for Macy's Inc. in the low-single-digits with sales and profitability growing off of pandemic lows. Our plan is underpinned by a capital allocation strategy that enhances long-term financial stability and returns for our shareholders. We are committed to returning to an investment-grade credit profile by paying down debt as it matures, enabling us to target our leverage ratio goal of less than three times.

Today, we'll share more detail on our 2020 financial results and drivers of our performance. We will also address key pillars of our Polaris strategy and our outlook for 2021. After recapping the key themes, we'll open the call for Q&A. So first, Adrian, will offer more details on our performance.

Adrian V. Mitchell -- Chief Financial Officer

Thank you, Jeff. Good morning, everyone. Thanks for joining us this morning. As Jeff shared, we are pleased with our fourth quarter results as they reflect improvement in both sales and margins from the lows of the year. We're committed to updating and accelerating Polaris, taking the actions essential for Macy's to grow as a digitally led omnichannel retailer and delivering higher levels of profitability and free cash flow.

I will start today by sharing the key drivers of our fourth quarter and fiscal year results. In particular, I will focus on Macy's five most important value creators; accelerating sales growth, improving gross margins, increasing inventory productivity, managing SG&A and reducing our debt. Later, I'll go a bit deeper on how our omnichannel businesses from stores to digital to credit are combining to help us meet our strategic goals.

We're accelerating sales growth, we saw comparatively strong holiday demand in November and December and that carried into January with sales totaling $6.8 billion for the quarter. With the pandemic upon us, this reflects a decline of 17.1% for the quarter on an owned plus licensed basis compared to 2019 and a drop of 18.1% for the second half of the year. We pivoted quickly to product categories with higher consumer demand, such as active, loungewear and home. We benefited from new customer acquisition. And we invested in the digital channel, while improving our in-store experiences. We also benefited from the improvement in merchandise return rates. And we increased engagement with our younger and more diverse customers, both vital segments. I'll spend a couple of minutes talking about each of these.

In terms of consumer demand, our focus on the soft home category, led by textiles and housewares was a big benefit during the fourth quarter, as sales was 11% compared to the prior year. Beauty and center core categories also performed relatively well with double-digit increases in fine jewelry and fragrances. This growth partially offset the pressure from the decline of total apparel, which was down 33% in the quarter.

New customer acquisition was strong in the quarter, partially offsetting the drop in active customer counts. Nearly 7 million new customers transacted with us and most of them came to us through the digital channel. We also became more than 6 million digital-only customers, a strong 50% increase over the prior year quarter. That said, we recognize we have work to do to retain a larger portion of our active customers.

Our investments in improving our digital platforms began to pay off at last with fourth quarter digital sales growth growing 21% from 2019 to $3 billion. In particular, Macy's brand Digital platform saw double-digit increases in site visits and conversion rates. This growth partially offset the overall decline in store sales as mall traffic continued to suffer due to the pandemic. Importantly, however, the work we did to create safer, easier-to-shop experience is began to pay off with improvements in our Net Promoter Score, driven largely by positive customer assessments of their safety while shopping.

Lower merchandise return rates also benefited net sales. The return rates in the fourth quarter were down 220 basis points from 2019. Our shifts in category mix helped this number along with consumers' more purposeful buying habits. As apparel sales recover and consumers return to prior habits, we expect to return rates to go back to historical levels.

We also saw some encouraging numbers in customer engagement with a 45% increase in Bronze tier members of our Star Rewards loyalty program over the entire year. Our Bronze customers are by far the youngest and most diverse in the program. They are vital to segment in our under 40 strategy. This increase partially offset the overall drop in active Star Rewards members, which was caused by declines in more established tiers that we believe will reverse as the pandemic abates and dormant customers reengage. Star Rewards provides exceptional value to our customers, while allowing us to use advanced analytics to personalize product offers and shopping experiences, driving higher and more profitable customer spend.

So that's a look at sales. Now on to our work to support gross margin. For the fourth quarter, it was 33.7%, down 310 basis points from 2019. Two areas were particularly important to bolstering this number during the holiday season; supporting merchandise margins and minimizing delivery expenses. Merchandise margin was relatively consistent with the prior year quarter. Some of the underlying drivers include shifts in product mix to lower margin categories such as home at the expense of higher margin categories like apparel. These were largely mitigated by reducing the intensity of promotions, coupons and markdowns to boost sell-through rates closer to full price, while providing customers the pricing clarity and value they expect. These moves also helped us improve inventory productivity, which I'll talk about in a moment.

The investments we made in analytics to support improved sell-through rates are being accelerated in 2021. In the fourth quarter, delivery expense increased materially above last year. Carrier surcharges were about one-third of this increase. This increase in delivery expense was the main driver of the 310 basis point year-over-year decline in gross margin rate. As digital demand rose, we were able to partially offset the impact of higher delivery costs, for instance, by shifting customers to store pickup channels. Approximately 25% of Macy's digital sales were fulfilled in our stores.

We've made very good progress on improving our inventory efficiency this year as we aggressively addressed slow sellers and reduced clutter in our stores. We ended the year with the balance sheet inventory down 27% compared to 2019, resulting in a healthy stock to sales ratio. We are hyper-focused on continuing to improve inventory turns, which improved in 18% in the back half of the year, giving us momentum heading into Q1 of this year.

Now on to our efforts to reduce SG&A. We recorded approximately $2 billion in SG&A in the fourth quarter, about 18% or $464 million lower than 2019. As a percent of sales, SG&A expenses in the quarter were generally in line with expenses in the fourth quarter of 2019 at 30.2%. Given our progress on cost efficiencies, especially from the restructurings in February and July, we exited the year with annualized run rate Polaris' cost savings of approximately $900 million, which is permanent in nature. This improvement reflects a disciplined expense control even as sales exceeded our expectations during the holiday season. We continue to be highly focused on maintaining expense control in the future.

Beyond what we've discussed already, there are number of other contributors to our results. Credit card revenue performed well above our expectations in the fourth quarter at $258 million, up $19 million from 2019 with profit sharing income a key component. This was driven by the relatively good credit health of our customers, resulting in lower than expected delinquencies and bad debt. Asset sale gains were $40 million for the quarter versus $95 million in 2019. That brought our full year 2020 gains to $60 million, slightly better than our expectations. Asset sales continue to be an important component for funding our growth initiatives as we continued to monetize our real estate assets.

As a result, overall, we were pleased to deliver positive adjusted EBITDA in the fourth quarter of $789 million. This performance on the back of our performance in the third quarter led us to a positive full year adjusted EBITDA of $117 million, a much stronger result than we had expected six months ago, underscoring our ability to quickly adapt and refocus.

Continuing on, during the quarter, we incurred net interest expense of $84 million, an increase of $42 million year-over-year. For the full year, net interest expense was $280 million, that's $95 million higher than a year earlier. These increases were primarily driven by the long-term secured debt we took on during the second quarter. Additionally, we recorded tax expense of $154 million in the quarter. The effective tax rate was 49%, primarily reflecting a true up to our full year rate due to better operating performance, including the impacts of the anticipated benefits from the CARES Act.

For the year, we saw a tax benefit of $846 million, representing an effective tax rate of 17.7%. The annual rate reflects the non-deductible components of the goodwill impairment charge, offset by the impact of the carry back of net operating losses permitted under the CARES Act. As a result of the carryover, we currently estimate we will receive approximately $520 million in income tax refunds during the first half of 2022. As a result, quarterly adjusted net income was $253 million versus $661 million in 2019. On an annual basis, adjusted net loss was $688 million versus income of $906 million. For the fourth quarter, adjusted diluted earnings per share was $0.80 in the quarter compared to $2.12 in 2019, which exceeded our expectations. For the year, adjusted diluted earnings per share showed a loss of $2.21 versus 2019 income of $2.91.

The last of our important value creators that I'd like to discuss today is our capital structure and debt. Here, we believe we are well on the path to returning to investment-grade metrics by deleveraging the balance sheet. In January, we repaid approximately $530 million of debt at maturity. Just as noteworthy, we repaid this debt with cash on hand and did not have to draw on the $3 billion asset-backed credit facility. At the same time, capital expenditures in 2020 were $466 million, down from 2019, as expected. We improved our cash generation in the fourth quarter. We generated $296 million in free cash flow for the year, driven by the efficiencies we gained with working capital, which improved year-over-year by $560 million and by focusing our capital spend on the highest priority projects.

So that's it for our five most important value creators; accelerating sales growth, improving gross margin, increasing inventory productivity, managing SG&A and creating a healthier capital structure. Now I'd like to go a bit deeper in discussing the performance of our omnichannel businesses to give you some new insight into the progress we're making toward our strategic goals. This includes the relationship between our stores and digital channels and how they are so vital to supporting each other. I'll also discuss the important and continued contribution of our credit card program.

I'll start by reiterating what we shared earlier. Macy's is a digitally led omnichannel retailer. The Polaris strategy is designed to ensure we accelerate top-line growth and increase profitability across all our channels. Through Polaris, we continue to work hard to improve the profitability of our core businesses, digital and stores. We all know that the pandemic has accelerated the use of digital channels, including our own, and that our customers' preference for digital shopping experience is a permanent shift. We are excited about the opportunity to lean into digital growth. But make no mistake, our strategy revolves around growing omnichannel sales and profitability regardless of which channel our customers use.

We created our strategy knowing that having both stores and digital acted in concert is critical to maximizing our sales and relevance with our customers in any market. For instance, we know that Macy's digital sales per capita are two to three times higher in markets we have Macy's stores. Conversely, from our store closures over the past five years, we have also observed that the growth rate of digital sales drops meaningfully when we close a store in a multi-store market and significantly when we exit a single store market. Stores are providing the critical nodes to our digital customers.

One of the important lessons we learned in 2020 was that we need to meet the rising digital demand from our store inventories if we are to satisfy our customers' need for speed and convenience and achieve our inventory productivity and turn goals. We know that channels such as buy online pickup in store, curbside pickup and same-day delivery will continue to be critical operating practices for us as a digitally led omnichannel retailer.

So how do we measure performance across our digital and stores channels? One way is to focus on contribution margin, directly attributing sales, gross margin and channel-specific expenses to each channel within our financial systems. Channel-specific expenses include selling costs, location-specific real estate costs and logistics and delivery expenses. On this basis, we are pleased that our digital channel is contributing positively to our profitability, and in fact, is doing so at a higher rate than our stores channel. In 2019, the contribution margin from digital was higher than in stores by mid-single-digit percentage points. So the shift to digital is actually a very good trend for us and we expect to be able to capitalize on this over the short, medium and long-term.

One of the biggest challenges to digital margins is delivery expense. However, given that digital's cost model is primarily variable in nature while the stores channel incurs more fixed costs, we know that the lower payroll and benefits in the digital channel can help to offset the pressure from delivery expense. That results in a higher contribution margin from digital as do lower real estate costs. Nonetheless, we also know it is vital to improve our delivery efficiency and better managed and reduced delivery expense.

One critical focus areas to accomplish this is our supply chain. We are therefore working to improve the placement and allocation of inventory across our network. In addition, we are focused on reducing packages per order, increasing the percentage of orders picked up by customers at our stores and making our best shipping offers more directly to our loyalty program and Macy's proprietary credit card holders. By pursuing top-line digital growth we can minimize the impact of digital fulfillment and technology infrastructure expenses. We're doing this in several ways, including driving average number of monthly unique visitors to our site, improving conversion and raising average order value, average unit retail and average items per transaction. With all these in mind, in the fourth quarter, our digital sales accounted for nearly 44% of sales, up from 30% in 2019.

Now, let's shift to our credit card program. As a reminder, net credit card revenues consist of profit sharing income in addition to sales royalties and new account balancing. Our acquisition of new customers and our focus on retention and loyalty work in tandem with our credit card program. To accomplish these goals, it is vital for us to increase personalization to drive customer growth and retention.

Heading into 2021, our goal is to increase the spend of those active customers with rising line of credit and spend capacity and to recruit new account acquisitions. New accounts dropped significantly in 2020 compared to the prior year, primarily due to temporary store closures, although we did open 14% more new accounts digitally last year than we did in 2019. New accounts in the fourth quarter were down 34% from the prior year. Our focus in 2021 is to seize upon the momentum we gained in 2020 and aggressively promote new account openings through our digital channels with an easier more seamless process.

Overall, we are pleased with how our credit business performed during the pandemic and its role and strengthening engagement with our customers. Credit card revenue accounts for a large percentage of our profitability, which we expect to continue. Our Polaris strategy will help us engage customers vigorously through personalization and other initiatives that are designed to drive more transactions on the Polaris. We will continue to report out on the progress we are making.

To wrap up this discussion on performance, I want to stress that we understand that our business model was challenged prior to the COVID-19 crisis and that the pandemic has underscored the need for us to rapidly evolve toward a more compelling omnichannel model. We start 2021 with a solid foundation. Our digital business is profitable. And we've identified priorities to accelerate growth and profitability in the upcoming years, such as reducing net delivery expense as a percent of digital sales. At the same time, we are leveraging our stores to deliver better service and more convenience for our customers by investing in a more seamless omnichannel experience. And finally, we are pleased with the resiliency of our credit card business and our Star Rewards loyalty program, even while navigating the crisis.

While we are confident that our initiatives will drive market share gains, we know our competitors are not standing still. So we are continuing to realign our costs, our supply chain and our fixed asset base to ensure that we leverage our expense base to capture the bottom line benefits of our recovering business for our shareholders.

Now I'd like to turn it back over to Jeff to speak about our strategic priorities.

Jeff Gennette -- Chairman & Chief Executive Officer

Thanks, Adrian. So as I shared earlier, the Polaris strategy that we introduced last year has proven to be a critical enabler of our performance in 2020. Early actions dictated by Polaris helped us broaden fashion offerings across categories and improve our digital experience. The cost control that we committed to last year was critical to weathering the pandemic. And this year, when we needed to make hard choices on our investments, Polaris gave us the clarity to focus first on the areas most critical to future growth. Now while discuss mostly Macy's here, both Bloomingdale's and Bluemercury experienced a strong recovery in the fourth quarter and we believe they are well positioned to outperform the market as the pandemic recedes. We plan to spend more time on these banners on a future call.

In recent months, we have recommitted to Polaris and refined it to achieve our mission to accelerate growth, while improving profitability and returning to growing cash flows. This will require us to deliver better fashion and style options for customers and an improved digital and omnichannel experience. We are also boosting our focus on delivering clear value to our customers and modernizing our supply chain to enhance our value proposition and our gross margins. Financial results further improve with initiatives to unlock SG&A opportunities and boost the returns on our capital investments. Polaris also helps us reshape our footprint to meet customers where and how they want to shop now and in the future.

So the six pillars that underpin the Polaris strategy; winning with fashion and style, delivering clear value, excelling in digital shopping, repositioning our store fleet and enhancing omni experiences, modernizing our supply chain and technology infrastructure and enabling transformation through data analytics and a performance-driven operating model.

Given its importance to our goals and to our future results, today I'm going to give a little more detail on each of these six pillars. As we discuss these, it is worth noting that we have continued to refine Polaris with a deep understanding of the Macy's customer and how their shopping has changed in the past year. Whether retaining our core customer or acquiring the next generation of new ones, the pandemic has accelerated the shift to digital with lots more trying now digital channels and a meaningful portion expected to continue purchasing predominantly online post-COVID.

Other elements have also changed. Many of our customers have shifted their wallets toward new categories, such as home, while others are increasingly focused on more closely managing their budgets. To win with these customers, we must continue to help them discover their personal style, while offering an enjoyable experience that is convenient, reliable and provides the right value regardless of channel. We have and will continue to adapt the Polaris strategy to win with these customers.

So this brings me to the first pillar, focus on the one and three American households who shop at Macy's each year and for some of those who don't yet. The first pillar focuses on winning the customer with fashion and style. Style is how individuals express themselves through fashion choices, including through accessories and home decor. Helping our customer express and satisfy their style needs across our core and emerging categories will continue to be a prime competitive differentiator for Macy's Inc. from off-price to luxury and from offline to online.

In 2020, we made significant progress. In response to the pandemic and consumer behavior ushered in or accelerated, we rapidly expanded our assortment across Macy's in categories such as home office, outdoor furniture, loungewear, active and fleece. We also added new categories to meet emerging demand, including Baby Gear and Skincare Devices, home fragrances, outdoor recreation, gourmet food. All told, we added more than 1,000 new brands to address the demand. In store, we accelerated the editing of excess assortment, reducing our inventory levels to make our stores easier to shop. We improved our stock-to-sales ratio, while realizing better sell-throughs at regular prices.

Looking ahead, we will continue to improve our assortment, especially for the under 40 customer with the right mix of categories. Within each category, we are building a new and relevant assortment across our private and national brands as well as emerging brands. As we build out our assortment plans, we know the timing and the ability to balance our product will be key. We have a clear plan in place to shift a career and special occasion apparel and accessories when our customers are ready to return to the office, community functions, outside events and entertaining. This plan includes keeping the appropriate balance with our casual assortments. Notably, Backstage will continue to be a significant element of our assortment strategy. Last year, Backstage outperformed comp sales in Macy's stores by more than three times. And we plan to open about 35 new store within stores in 2021.

As we improve our assortment, we are also continuing to improve inventory allocation and receipt management to make sure the product is in and is flowing to the right locations as a way to maximize inventory productivity and customer convenience. Concurrently, we are working to strengthen vendor relationships by building new vendor partnership models that help drive improved profitability, product innovation and best-in-class customer experiences. With these efforts under way, we expect to drive faster category growth plus higher sell-through with faster inventory turns.

Our second pillar involves delivering clear values, which we will achieve through simple, easy to understand pricing and promotions along with sharper hyper-personalized communications to customers through our loyalty ecosystem. Specifically, over the past year, we have made significant strides in improving our customer value proposition. For example, we overhauled markdown capability, including adding a new location level tool in advanced analytical powered algorithms. The first of several major pricing capabilities we are adding to our merchandising function.

We also saw both sequential and year-over-year improvement in regular price sell-through. In 2021, we plan to continue to simplify and delay our promotions, optimize our markdowns and improve and localize our pricing to create better value clarity for our shoppers, all while improving our merchandise margins. Additionally, we are also continuing to build on our customer value ecosystem, which would be loyalty, monetization and personalization enabled by our Star Rewards loyalty program.

In August, we grew this ecosystem by launching the Macy's Media Network to connect strategic brand partners to our customers, which created a new fashion and beauty publishing model. This venture has already grown to generate more than $35 million annually as a new income stream. Looking ahead, we see a lot of promise in our ability to expand our monetization engine, while cultivating greater customer engagement with more relevant and personalized content and offers. And taken together, we believe these actions will drive more customers into our Star Rewards and credit card programs and up to $60 million in monetization income in 2021.

Number three, excel in digital shopping. As Adrian outlined, digital is a large growing and profitable channel for Macy's Inc. And with one of the largest digital shopping platforms in the U.S., based on the latest NPD data, we maintained our market share for the categories we serve over the course of 2020, holding the number two spot. And we know our investments in this space are critical to Macy's growth over the next three years.

In the past year, we've made strong headway in digital, thanks largely to a new team that is transforming our capabilities. We exited our corporate office in San Francisco last year and stood up a new team with some of retail's most talented digital innovators who have found a new energy and focus on our digital customer. This team has already improved our customers' digital journey in many ways, including our browse, product recommendations and checkout. This along with our robust plans to transform our digital assets and experiences over time make us very optimistic about Macy's opportunities in digital.

To build on this momentum and realize our goal of growing digital sales to 10 billion within the next three years, we will continue to make fundamental investments while delivering new, immersive, content-driven experiences for customers. For example, we are launching a refreshed homepage with curated visual content and more precise search and browse functions as well as a more intuitive bag and check-out experience with broader ways to pay.

In high engagement categories like beauty, we are creating immersive online experiences so customers can discover new products to shop with confidence. These experiences augmented with virtual reality plus virtual consultations which we have staff with our own beauty consultants are already showing tremendous power. Digital growth in our beauty category within Macy's in 2020 grew more than 60%. This elevated digital experience in beauty is only the beginning. We will carry our learnings here into other categories in 2021 and beyond. Over the next three years, we expect to see continued double-digit growth in digital with increasing channel profitability.

Number four, reposition our store fleet and enhance omni experience. Our fleet continues to have high value relevant and vibrant stores mostly in A&B rated malls, which will remain a critical part of Macy's future. We have already invested considerably in these best at Macy's stores. Across the remaining fleet, we are committed to the 125 store closures that we announced in 2020. Approximately 60 stores have closed or will close soon further reducing our footprint in C and D malls. Following the closure of all 125 stores, at least 85% of our sales will come from A and B mall stores. And we will ensure through targeted incremental investments that all remaining Macy's represent the best of our brands.

This year, reflecting consumers' increasing demands for speed and convenience, we are concentrating on two initiatives. First, we are enhancing our omnichannel shopping experience by focusing on scaling store fulfillment, BOPS, curbside pickup and same-day delivery services. Second, in an effort to more closely connect online and offline and deliver a seamless customer experience, we continue to invest in technology that enhances the way we engage our customers and elevate our in-store experiences from category merchandising and store layout to transaction and staffing models. Together, we expect these efforts will drive down our cost per transaction, while increasing our customers conversion of the store.

At the same time, we continue to test how off-mall stores can lift our digital business, while profitably filling gaps in our geographic markets. As we test new store ecosystems in three markets; Dallas, Atlanta and DC Metro, we continue to find significant synergies between digital and stores. Adding off-mall locations will provide customers with a fuller omni experience by providing more convenience, selection and speed whether they are shopping the digital or stores channels. We look forward to sharing findings from tests in these markets in the early part of next year.

Number five, modernizing our supply chain and technology infrastructure. Another element of our Polaris strategy that was elevated this year is our focus on rebuilding our infrastructure and network to better meet customers' desire for speed and convenience. As Adrian mentioned, we are hyper-focused on building the supply chain that can handle more sales volume and reduce friction for customers on fulfillment and returns while managing and reducing our delivery expense. Through these actions, we are also better managing and placing our inventory to meet customer demand and to minimize markdowns. We expect these efforts will deliver higher productivity in our customer fulfillment centers and in our stores, lower delivery expenses and improved customer service across our network. We know customer expectations in this area are rising, and we are committed to meeting their demands.

Last, we have added a pillar to our strategy that will enable our transformation strategy and accelerate the pace of change. This includes, first, a modernized technology platform to support a friction-free customer and colleague experience. Second, a revamp data and analytics foundation to drive growth and profitability through all of our decisions. And third and the most critical to our success, a performance-driven operating model enabled by clear incentives for our colleagues.

We recognize that the next 12 to 18 months of our transformation journey will require great focus and superb execution. Our team has never been more aligned in their urgency to deliver the advances we discussed, which will strengthen our growth and profitability. Our colleagues and our leadership team are all in. Their passion, dedication and excitement, as measured by their willingness to step up during the pandemic, is extraordinary. And further proof of their commitment, our colleague engagement scores across our organization are the highest they've ever been. I'm excited to see how this will translate into better sales and styling support, especially in stores where we're targeting a significant improvement in customer conversion rates.

With that, I'll turn it over to Adrian, who will share our guidance for 2021.

Adrian V. Mitchell -- Chief Financial Officer

Thanks, Jeff. As we look ahead to the rest of this year and beyond as we get beyond the pandemic and our business normalizes, we are focused on delivering on the metrics that will cement our position as a digitally led omnichannel retailer. That means sustainable sales growth across channels, resilient gross margin and EBITDA margin, solid free cash flow and a healthier capital structure. Considering the profound changes over the past year and the lessons we have learned, we are today providing updated short-term guidance as well as some guideposts toward where we see the business moving longer term. These are based on our current strategic priorities with a recognition of ongoing uncertainties in the marketplace, but they also reflect the more significant and faster lean into a digital growth efforts as well as the continued rightsizing of our mall-based stores within the highest quarterly malls, while testing new off-mall concepts.

I'll first talk about our long-term objectives then cover our shorter term outlook for 2021, which we consider to be a recovery and rebuilding year. In the future, for Macy's, Inc., we target annual sales comps of low-single-digits as the business normalizes past the full effects of the pandemic. We foresee digital penetration exceeding 40%, while for our stores channel, we acknowledge that malls in general will continue to face headwinds that will lead to low-to-mid single-digit comp store sales declines after recovering from the pandemic in 2021 and 2022.

We see gross margin as a percent of sales stabilizing in the mid-30s. This will be driven by improvements in delivery costs and merchandise margin, faster inventory turns and the ongoing shift to the digital channel. For credit, we are targeting this channel to stabilize at roughly 3% of sales. For adjusted EBITDA margin, we see continued growth moving into high-single-digits. For debt, we will remain disciplined and are committed to paying down debt as it matures to deleverage the balance sheet. We are targeting investment-grade metrics, which include a leverage ratio of under three times and an interest coverage ratio of greater than 6.5 times. We do not plan to reinstate the dividend or share repurchase program in the near-term as we are focused on investing in our growth initiatives and paying down debt. However, we will monitor our plans continually in this area and we will consider with board approval when the time is appropriate to resume dividends and repurchases.

Now let's look more closely at 2021, which as I mentioned, we view as a recovery and rebuilding year as we approach the resolution of the COVID-19 pandemic. Of course, there are still questions about the rollout of vaccines and the resulting shifts in consumer behavior. As a result, no one truly knows what the near to medium term will look like, but we do expect our 2021 performance to be bifurcated with continued pandemic challenges in the spring season and more post-pandemic like momentum starting in the fall.

Our annual guidance reflects this view. Here are some highlights. We expect Macy's Inc. 2021 net sales to be between $19.75 billion and $20.75 billion, up 14% to 20% over 2020. Remember that we are lapping a year of significant declines in store growth due to store closures. Our expected stabilization of performance in 2021 is reflected in these metrics. We expect our gross margin rate to improve by high-single-digit percentage points from 2020 levels, up to 37%. Credit card revenue is expected to be substantially lower than 2020, approximately 3% of sales due to an expected rise in delinquencies and bad debt that did not materialize last year.

SG&A expense dollars are expected to be lower than 2019 levels, primarily due to savings of $900 million we accomplished in 2020. As a percent of sales, SG&A is expected to improve from 2020 levels, but deteriorate by approximately 1.5 percentage points compared to 2019, driven by the sales deleverage. Asset sale gains are expected to total between $60 million and $90 million. Adjusted EBITDA margin is expected to be approximately 7% to 7.5%. Net interest expense is expected to be approximately $325 million for the year. The adjusted tax rate for 2021 is estimated at approximately 23.25%. Adjusted diluted earnings per share is estimated between $0.40 and $0.90. Finally, we are committed to delevering the balance sheet. And as such, expect to repay debt at maturity in January 2022.

To support the growth I've outlined both in the near and long-term, we plan to invest a large percentage of our capital in the digital experience as well as our supply chain and technology transformation. As we go forward, we expect to spend about half of our capital supporting these which will be an increase of roughly 2.5 times from what we've done over the past several years. In total, in 2021, capital spend is estimated at approximately $650 million and is targeted to grow over time.

Now from a channel perspective. Digital sales are expected to make up approximately 35% of net sales. This past year saw an unprecedented year of digital growth. And our outlook reflects a more normalized growth cadence, but one heavily focused as a digitally led business. For stores, we anticipate strong comp store sales numbers as we cycle the pandemic-related closures. Stores are targeted to represent about 65% of net sales for the year. We do anticipate that customers will be increasingly more comfortable in public spaces as vaccine distribution reach a scale, but we haven't made any significant assumptions around tourism-based sales recovering in 2021. We expect that store gross margin will help improve total enterprise gross margin compared to 2019 as we prioritize our promotional and markdown practices, while improving inventory productivity and churn.

From a seasonal standpoint, our guidance contemplates continued pandemic-related challenges in the first half of the year, with momentum building in the back half. We expect our profits to be weighted more toward the back half of the year as sales continue to improve. We expect about 75% of our adjusted EBITDA, excluding asset sale gains, will be generated in the second half with the majority of that coming in the fourth quarter given the importance of holiday.

The seasonality of our profits is expected to be most apparent in SG&A. While we've made significant progress on cost reductions, the sales deleverage is expected to continue elevating our first half SG&A rate as a percent of sales compared to 2019. Once we cycle into the back half of the year, the sales improvement is expected to drive SG&A rate to be more in line with the levels we saw in the back half of 2019. Keep in mind too that we plan all of our asset sale activities for the fourth quarter, so asset sale gains are not contemplated in our guidance over the first three quarters of the year. Within our expectations for the first half, we expect first quarter net sales to increase significantly compared to the first quarter of 2020 between $4.2 billion and $4.3 billion with adjusted earnings per share between a loss of $0.52 and $0.45 compared with a loss of $2.03 in 2020.

So in summary, with our updated and accelerated Polaris strategy, Macy's has a clear path to sustainable growth driven by the digital channel, by rightsizing our mall-based stores to better quality malls as well as exploring more convenience and productive off-mall formats that are closer to our customers. At the same time, we'll continue to address gross margin opportunities and gain SG&A leverage as sales recover in 2021. We target to return to stabilize growth longer term as the effects of the pandemic wane. We are keenly focused on delivering strong and sustainable shareholder returns, investing in growth initiatives that generate high returns, achieving a healthier capital structure and progressing toward investment-grade metrics.

With that, I'll turn it back over to Jeff for some closing remarks.

Jeff Gennette -- Chairman & Chief Executive Officer

Thanks, Adrian. So in closing, I'd like to leave you with a few thoughts. As we look toward a healthier economy in the coming months and years, I am optimistic about the way we are reimagining and repositioning our business in line with our Polaris strategy. We have a strong focus on our customer and market trends. We are building out our digitally led omnichannel experience and we are well positioned to better capture customer demand across the total market from off-price to luxury and from offline to online. We know what's important to customers. We will empower and define their personal style through a curated and distinctive products, clear value and enhanced digital and store experiences, optimized by a modernized infrastructure and performance culture. And we will be in a better position to be increasingly relevant to the next generation of customers.

I am encouraged by the talent and focus of our teams across Macy's who persevered through 2020 and who are committed to our future growth. We have a diverse leadership team that includes a blend of new talent with outside perspectives along with our tenured and best developed leaders. And I am confident that together we will build toward a sustainable profitable future.

This concludes our formal remarks. And now we'll take your questions.

Questions and Answers:

Operator

Thank you. [Operator Instructions] And we will take our first question from Chuck Grom with Gordon Haskett.

Chuck Grom -- Gordon Haskett -- Analyst

Hey, thanks. Good morning. Thanks for the thoughtful update. Jeff on the pace of recovery in '21, how are you planning the business by category, particularly areas that may take longer to recover, but also areas of the business that could see a release of some pent-up demand? And then Adrian, when we think about the gross margin structure in the '21 guide of 37% with digital where it is, do you think you can get back to 40% to 41% or is the mid-30s the best run rate? Thanks.

Jeff Gennette -- Chairman & Chief Executive Officer

Hey, Chuck. Good morning. So what we're expecting is that we're going to see much of what we saw in the fourth quarter going through the first half. So we expect that the home businesses are going to continue to be strong and elevated. And then when you look at some of the luxury businesses that customers have been spending on like fine jewelry and fragrances, some of designer skincare, all those categories are strong. So when you look at the fourth quarter, in those businesses we were up about 14%. When you look at all of home, when you look at fine jewelry, fragrances, sleepwear, and I would expect that those would continue. The AUR is up, the sell-throughs are better on those particular areas. So we're definitely funding those. And that's across Bloomingdale's as well as Macy's.

I would expect the negative categories to continue. So I think all of apparel remains challenged. While we are doing well in the casual categories, the dress categories remain depressed. Our inventory levels remain in line with our sales. We have a ramp-up strategy with all of the relevant vendors as well as our private brands if that -- if we start to see seeds of improvement as the vaccination starts to get scale and customers are starting to book advance weddings, you'll start to see those businesses improve for us. So we expect the first half is going to be very similar to fourth quarter. And at the back half, we'll start to see an improvement in apparel, but we'll remain strong in the categories that have been strong as well as the new brands and categories that we have added.

Adrian V. Mitchell -- Chief Financial Officer

And Chuck, thanks for your question and thanks for joining this morning. To your point about gross margin, the thing that we would keep in mind is that we're targeting adjusted EBITDA margin moving toward the high-single-digits range. In order to achieve this, we're driving both the top-line as well as efficiencies in both our SG&A and our gross margin.

Now Chuck, you're absolutely right. From a gross margin standpoint, we are planning to stabilize in the future as the business normalizes in the mid-30s in the future, but we're actually working diligently to improve merchandise margin as well as the delivery cost and getting efficiencies in our SG&A. So really elevating the profitability of the overall business. As we think about the merchandise margin, obviously, category mix will have an impact on our margin level as the current pandemic mix tends to be geared toward our lower margin categories such as home, as we discussed a little bit earlier. But at the same time, we do believe that as recovery happens, apparel sales will return and that will also help offset some of the declines in gross margin rate due to the mix shift that I just mentioned. But we're also going up to pricing and promotions. We're trying to minimize the unnecessary promotions and markdowns and discounts to achieve a higher full price sell-through, which will help our merchandise margins and ultimately help our gross margins, and we've gotten a lot of momentum from what we've seen in the fourth quarter of last year.

We talked at length a bit about the delivery expense, it's all about better allocation of inventory where the customer wants to transact. If you do some split shipments, it's improving our AURs. There are a number of levers we're going after. But as we think about the contribution margin piece that we talked about a bit earlier, we're really focused on not just gross margin hitting in the mid-30s in the future, but really elevating our EBITDA margin, adjusted EBITDA margin closer to the high-single-digit level over the longer term.

Chuck Grom -- Gordon Haskett -- Analyst

Thank you.

Operator

And we will take our next question from Paul Lejuez with Citi.

Paul Lejuez -- Citigroup -- Analyst

Hey, thanks, guys. Just thinking about the contribution comments by channel that you laid out, it gears leading up to the pandemic as digital penetration will increase and your overall EBIT margins were going down. So I'm kind of curious what you think has changed that would reverse that as digital continues to grow in terms of overall penetration? And on the same lines, in that longer term algorithm, the low-single-digit top-line growth that you laid out. How does store closings factor into that? Are you talking overall sales? Is that a comp number? Just want to make sure I understand how you're thinking about stores long-term and how attractive into that top-line? Thanks.

Jeff Gennette -- Chairman & Chief Executive Officer

Great. Thank you very much for your question, Paul. So as we think about the contribution margin, it's important to understand this difference between the channels, right? And so as we are looking at contribution margin, we recognize that improving margins in the digital channel is all about elevating delivery expense -- I'm sorry, improving delivery expense to elevate our digital gross margin. From a store standpoint, it's really just leveraging more of that asset for BOPS for curbside for Boston, a lot of a digitally led initiatives that we have under way, while at the same time getting back just comp store growth.

When we think about the low-single-digit growth in the future, that's really on a comp basis. As you probably know, with regards to the announcement of the 125 store closures that we announced in January of last year, on a 2019 basis, that's about $1.3 billion in sales. So that provides a real headwind as we actually rightsize our mall-based stores. But with the ambition to grow digital to $10 billion in the next three years, with the work that we're doing to reduce digital delivery expense and also the permanency of the $900 million of SG&A savings from the restructuring that we had in February and July of last year, we should be able to elevate those EBITDA margins relative to what we've seen pre-pandemic. So those are some of the major levers that we're focused on as we look ahead.

Paul Lejuez -- Citigroup -- Analyst

Thanks. Good luck.

Operator

We will take our next question from Kimberly Greenberger with Morgan Stanley.

Kimberly Greenberger -- Morgan Stanley -- Analyst

Great. Thank you so much. Adrian, I appreciate all the comments today. This has been extremely helpful and illustrative. I wanted to clarify or ask two things on the 500 basis point differential and contribution margin between stores and digital. If you sort of reflect back over the last five years, can you give us some context around the performance just in your stores channel? And have you seen store margins fall over time? And then secondarily on the longer term financial targets with gross margin in the mid-30s, I think this year 2021 you're providing a preliminary gross margin outlook of 37%, if I heard you correctly. So should we consider that 37% target this year where you would expect gross margin to be sustained at? Thank you so much.

Adrian V. Mitchell -- Chief Financial Officer

Thank you, Kimberly. Thanks for your question. So in terms of the contribution margin, the mid-single-digits and you know the mid-single-digits profitability contribution for our digital channel relative to our stores have actually quite real, and that's based on our 2019 numbers. The thing to keep in mind is over the last five years we've built tremendous scale in the digital channel. So when you think about the leverage of the technology infrastructure and the improvement of scale, we're really seeing increased benefits in terms of the profit contribution in the digital channel.

In contrast, we've actually seen with a large fixed asset base in stores, our store sales is declining. So what we are working to do from an omnichannel standpoint is really leverage our store assets for the digital experiences around BOPS and curbside and store fulfillment and those capabilities. But what we do see very clearly is that as our business on the digital side scales, we'd have great opportunities to continue to improve the profit contribution margin of that business. Delivery expense is a real focus for us as we think about ways to reduce packages, encouraging customers to pick up from our stores, improving our AURs, even with the pricing and promotion work that we've done where it was really good gains, that will all continue to contribute to an even healthier and more profitable digital business, while also taking advantage of the physical assets that we have within the business.

Now as we think about Q1, we're only sharing our expectations around the sales and adjusted EPS. But as we think about the first quarter, we're very comfortable with our inventory position going into 2021. So we do expect to have a healthy level of gross margin as we think about the first quarter of the year. So we're starting the year with really healthy inventory. As you know, we are down 27% over the last year in terms of our inventory going into the first quarter. We're really happy with our stock to sales ratio. We've planned receipts conservatively because of what we described as kind of a pandemic like activity we expect in the first half. And for our stores, providing clear value with simple, easy to understand pricing and promotions that allow us to maintain a strong margin. Those are the kinds of things that we're actually focused on. So we do expect to move into the first quarter in a healthy position. But at this time, just really providing Q1 guidance around the sales and the adjusted EPS level.

Kimberly Greenberger -- Morgan Stanley -- Analyst

Okay. Thank you.

Operator

And we will take our next question from Matthew Boss with J.P. Morgan.

Matthew Boss -- J.P. Morgan -- Analyst

Great. Thanks. So Jeff, your sales guidance for this year, I think stands 17% to 18% below the pre-pandemic base at the midpoint. So as we think about potential consumer recovery in the back half, and I think you've laid out $10 billion or more in competitor revenues up for grab, what's your flexibility to chase sales in key categories? And then, secondly, as we think multi-year, how should we think about your ability to recapture that $4 billion to $4.5 billion in revenue to potentially get back to your 2019 revenue base over time?

Jeff Gennette -- Chairman & Chief Executive Officer

Hey, Matt. So we have a lot of flexibility with -- obviously, we're in a very good liquidity position with our inventories right now. And so as we were -- when you saw how we came out of the second quarter and our opportunity with our inventory position for third and fourth quarters. So those categories that we're really tracking and trending for us, we were able to respond to. There were some supply chain snags in certain businesses like Home Store, where we had -- we didn't have as much flexibility on that. But we're certainly looking at the front half of the year and really the full year based on where the consumer goes on this. So we have the seeds of where we see that -- those runways. But as things -- as I mentioned in my first answer to Chuck's question, those things start to pick up.

So if you think about the dress and the suit business, the clothing business, as people go into more occasion-based dressing, we'll be ready with our main wholesale partners. So those would be where I know we're going to be able to react based on -- and we have longer lead time businesses like Home Store. We're placing those bets. So as an example, if you look at our textiles business, which is mostly private brands, we expect those great trends to continue all the way through 2021. And so we placed those bets based on what we were seeing through the second and the third quarters.

And we've been -- when you think about our overall inventory levels from before, we had opportunities for better sell-throughs. We had opportunities certainly for faster inventory turns. And so even though our inventory levels are down and our sell-throughs are really way up, and particularly in our regular price sell-throughs, that's obviously helping our margins. So I think we have opportunity to do more with the inventory than we have, than we've done historically.

So it's not just buying into kind of lag, if you will, future markdowns and sales of a quarter and how we plan our receipts, but it's also getting better sell-throughs. And so with the markdown optimization that we have, the ability to mark goods at a store level, to decrease our POS, saying that we're doing based on having more hyper localized offering through our personalization engine with customers, that's all helping us on the margin conversation. And having the liquidity in our inventories is giving us the opportunity to respond to all customer needs by going after categories that there's always stock available in virtually everything that we sell. And we can also go into new categories, new brands, new categories. And we're doing that through either VDF or we're doing that through our owned inventory. So that's our -- that's what we've been doing, and I expect all those trends to continue.

Operator

And we will take our next question from Omar Saad with Evercore Partners.

Omar Saad -- Evercore ISI -- Analyst

Good morning. Thanks for taking my question. Great presentation. I wanted to ask about the 7 million new customers. It's great that you guys are attracting a lot of new fresh faces to the franchise. Do you have a sense from where they're coming from and why they're discovering Macy's at this point in time? And then I also want -- if you could also address the existing customers. So many new customers kind of implies the existing customer base is spending a lot less year-over-year. Is this predominantly older customers, who aren't necessarily digitally active and haven't felt comfortable to go back to the stores? And what are the strategies for bringing those existing customers, historical customers back into the franchise while keeping a lot of these new entrants you've attracted? Thanks.

Jeff Gennette -- Chairman & Chief Executive Officer

Hey, Omar. Happy to take these questions. So let's just talk about the -- in the fourth quarter, the number that you're quoting, the 7 million new customers, this was a good quarter for us because these new customers that came into the brand, that was a 2% increase over what we had in 2019 levels. So it was really good to see that. So in a quarter that we were down 17% in sales, to have the customer base increase, that gives us some momentum going into the new year.

So the new customers that have been coming into the brand has been steadily improving each quarter, fourth quarter was our best performance. And when you look at those customers, they are much more young and more diverse than what we've had historically. 4 million of those 7 million came in through digital. So obviously, with the digital engine that we have, that has opened up lots of new customers to us that are shopping more on digital or now experiencing new brands digitally. So when you think about the 4 million new customers that came in through digital, that was a 36% increase versus the previous year. So we're encouraged by those trends for new customers coming in.

To your -- let's just talk about on an annual basis, because when you look at the full annual profile, one of the things that we're proud of is that we had 4 million new customers come to us because of what we changed with our Star Rewards loyalty program. We added a Bronze tier two years ago, and that's starting to get some real traction for us. So in 2020, we had 4 million new members join us on that. That was the 50% increase. And again, those are predominantly, when you look at our overall base of customers, a younger cohort. So 38% of those customers were under 40. And that's versus the total company being about 28%.

So to the other part of your question about kind of customer retention and what happened with our existing customer base, we definitely saw a slowdown in our Gold and our Platinum customers based on where they are and their feelings about shopping and the pandemic. They are in older cohort versus the ones -- the new customers I'm talking about are the ones that came in from Bronze. We do expect in listening to them that this is -- they're really kind of stalling their buying habits overall. And we do expect that they will return to more normalized behavior as the pandemic subsides.

The other thing I'd talk about would be -- is just -- is Klarna. That also has been a nice accelerant for us in terms of new customers. So when we added that in, we -- that has really been about -- when you think about all the new customers that we've had coming from Klarna, about two-thirds of those were previously unknown to Macy's, and so new customers, and they also are predominantly under 40. So 45% of those are under 40 again versus the 27%, 28% for Macy's in total. So on the customer front, I guess, we definitely have some momentum. And so -- and it's good to see that, it's good to see younger customers coming in, they're responding to our values and our products, and really the big engine here. They're coming in through digital.

Omar Saad -- Evercore ISI -- Analyst

Interesting color, Jeff. Thanks. Good luck.

Jeff Gennette -- Chairman & Chief Executive Officer

Thank you.

Operator

We will take our next question from Michael Binetti with Credit Suisse.

Michael Binetti -- Credit Suisse -- Analyst

Hey, good morning, guys. Thanks for all the detail here. Maybe I can just, Jeff, ask you about the inventory comments. You mentioned you have a plan to ramp inventory in some of the categories. As your indicators start to improve, could you offer a few thoughts there? Are the vendors going to be holding inventory? What's making them more comfortable holding that inventory before you're comfortable? And then maybe just as you look at the shape of the year for inventory, maybe you could help us triangulate around your sales growth plan on how you think about the base case of where inventory will grow in the first half versus the second half of the year as you see it today?

Jeff Gennette -- Chairman & Chief Executive Officer

Yeah. Hi, Michael. So we're really -- just to restate, we're happy with where our inventory position ended the year. And so looking at the stock to sales ratio and where we stand, and just having the liquidity that's built into where we believe customer demand may or may not go, we're going to be ready with putting receipts against that.

We have not seen an issue in vendors predominantly in the categories that are dormant right now. They'll have -- they do have inventory ready for us if we were to buy it. And so I -- when you look at all of the kind of dress up categories, there's predominantly a couple of very strong wholesale partners that we have deep relationships with, and they're ready with us across multi-brands, across those categories. So -- and those are the big engines of suits on both men's and women's as well as all the dress-up categories, the dress-up accessory categories, dress shoes, more in the bags that work with it. So those are categories where we have worked with our vendor partners on that.

So we're very focused on -- when you look at the back half of the year, we had an 18% improvement in inventory productivity. That was a number that is -- we're looking at that continuing to really hold in terms of improving that productivity for the first half of '21. So as mentioned, I think that where we're most focused right now is, can we get the home inventories that we need? We've made all the adjustments that are required in our private brands, but making sure that we have that in the housewares categories. We clearly have a supply chain and have had a supply chain issue in both furniture and mattresses. The mattress is one -- is largely behind us. The furniture one, it persists. The demand is quite high. The supply, we're still having some issues with some of the categories there coming out of Vietnam and in China. So -- but we expect that all to be behind us by the end of the first quarter.

So when I look at the inventory levels, we're planning those to definitely be below where our sales are going to be. We're planning to lag. We're planning for higher sell-throughs. We're planning for less markdowns. When you look at the composite of our business and our inventory on regular price inventory versus markdown, it's dramatically lower in markdown inventory. It's basically still below last year in regular price inventory, but been a much healthier position than where we are with markdowns, which is planned. So I think we're in a good position the way we're thinking about our inventory moving forward.

Michael Binetti -- Credit Suisse -- Analyst

If I could ask one follow-up. On vendor direct, I know that that's been a bigger focus around the space. I think you said it was -- I think you said it was 20% of digital. Can you speak to the unit economics there? Maybe just an update on the unit economics. And is there an opportunity to increase that program as you talk to the vendors going forward?

Jeff Gennette -- Chairman & Chief Executive Officer

Yeah. I think the big thing -- vendor direct has been quite strong for us. One of the things that we're always balancing is the customer. And when you have a customer that's coming into your brand and are you -- does that vendor going to be shipping it in exactly the time? Do they put it on the right -- is it in the right condition? So we're always watching the customer reaction to our vendor direct. And we've done a very -- a good job. Our merchants have done a good job with all of our vendor direct partners in really improving that level of service. So we're pretty pleased with it.

You get down to whether or not these orders don't come in, where it's a pure vendor direct order versus owned inventory, so oftentimes, that does increase split shipments, which can be a customer inconvenience. So we're always watching that. When you look at a lot of our vendor direct, we're looking at single category, single purchase. So when you look at a lot of the home categories where a customer will purchase that single item, it will be shipped directly from that vendor. That's been a very positive experience.

When it ends up being a split between a vendor direct apparel order or an accessory order and they're ordering something else that's in our owned inventory, it's coming from two different -- it's either coming from a store, it's coming from a warehouse and it's coming from the vendor direct warehouse. That can be an experience that we're very watchful of to ensure that it matches the customer expectation. But I do expect vendor direct to continue to grow in the right times.

Certainly, when you look at the level of peak that we have between kind of Black Friday and Cyber Week, looking at vendor direct to kind of alleviate some of that -- some of those peak pressures, that's always a factor for us. But when we're going forward with a $10 billion strategy, we're looking at all elements to be able to satisfy the customer. When you look at the number of new brands we brought in, we had a number of expanded categories, the -- and just the continued number of failed searches we had to guide us to where the customers are looking for the Macy's and Bloomingdale's brands to play, we're going to look at all avenues to be able to satisfy that, and vendor direct is part of that engine.

Michael Binetti -- Credit Suisse -- Analyst

Thanks so much, guys.

Operator

We will take our next question from Dana Telsey with Telsey Advisory Group.

Dana Telsey -- Telsey Advisory Group -- Analyst

Good morning, everyone. As you talked, Jeff, about new partnership models with vendors, can you expand on that and tell us exactly what you're meaning? And then the tourist impact, which I think was 290 basis points of a headwind in the third quarter, 210 in the second, what did you see in the fourth quarter? How are you planning it for 2021? And just lastly, it sounds like you're seeing good results on Backstage. How you're planning the growth there? Thank you.

Jeff Gennette -- Chairman & Chief Executive Officer

Hi, Dana. So let's start first about vendors. So what we're working with is, we've got a brand new chief merchant who basically was a Macy's veteran and did great stuff for us in the beauty and the center core worlds. So she's taken over the reins. And so it's always a great opportunity to work with our top partners. And so we're working with those. And things that we're really looking at together, because, in many cases, we share the same customer, we're looking at -- we're kind of ticking through the opportunities. First off is just being really transparent about kind of our joint profitability and what are our investment decisions against the shared customer. So we're looking at that.

We're looking at what are the brand experiences, both online and on store, where their brands can come really fully to life. We look at elevated fashion products that are balanced across wearing occasions. We definitely look at data and the customer data that we have for their brands and what they know about their brands that can help us. And so what do we do with data together that can help build lifetime value? Really getting much better with our own data analytics and looking at their opportunities with that.

We look at marketing and brand opportunities to deepen the brand engagement. And we clearly look at all of our gifting and our special occasion opportunities that were brands -- were a high consideration set for those occasions for our customers, and how do our brands play with that? So we look at that. Obviously, we have our base of our private brands. We look at our national brands. And then we look at our new emerging brands on that. So those are kind of the new partnerships that we're working on.

Let me answer your Backstage question. This has been one that, as you well know, Dana, we started this in 2015. We started out as a freestanding format. Then we brought it quickly into our stores because we had productivity opportunities in our brick and mortar store fleet. And that's really where we've been spending most of our efforts. And to what Adrian's comment was earlier, that has been a strong growth strategy for us. Obviously, during the COVID, we had about -- they were down -- those Backstage areas were down about one-third of what the balance of the brick and mortar stores were. So a much better productivity level. The sell-throughs are really good. So the top-line and the margins have been quite strong there.

We're going to expand that to another 35 stores. So we're well over 200. We're going to get close to 300 stores-in-stores with Backstage through the course of our rollout in 2021. And then we're back to adding freestanding Backstage stores into those three markets that we announced with Polaris back in February of '20. So getting back to freestanding Backstage which has full omnichannel fulfillment capability for returns and store pickup across the full network. We continue to roll out Backstage around the Bloomingdale's equivalent of that with Bloomingdale's outlet, we're continuing to do that.

So we're still bullish on off-price. And when you think about our brands of being off-price to luxury, that's what's been so interesting about 2020, was how well those great values of Backstage worked for us as well as how the luxury -- the bifurcation of the luxury products worked across Macy's and Bloomingdale's. They were both standout performers on both ends of the value spectrum.

Dana Telsey -- Telsey Advisory Group -- Analyst

Got it.

Operator

We will take our next question from Steph Wissink with Jefferies.

Stephanie Wissink -- Jefferies LLC -- Analyst

Thanks. Good morning, everyone. I have a follow-up to Paul's earlier question on gross margin optimization. Could you talk a little bit about what you're assuming in your $10 billion digital target in terms of the percent that's fulfilled from stores? I think in the fourth quarter, it was around 25%. What should we think about the optimal penetration of store fulfillment in that $10 billion target? Thank you.

Adrian V. Mitchell -- Chief Financial Officer

God morning, Steph. So you're absolutely right. About 25% of our digital demand was fulfilled from stores. And that includes store fulfillment, BOPS, curbside and same-day as well. The reality is that we're keenly focused on inventory placements so that we can actually leverage our stores asset to continue to allow us to meet the expectations on cost and speed and efficiency for our customers and for our business. As you remember, earlier in the year, we had actually turned on curbside within just a couple of weeks, and we are already in our Curbside 2.0.

So we believe from a convenience standpoint that the idea of continuing to leverage our stores for store fulfillment, for BOPS and curbside is an important kind of target for us. So we hope, as we think about the 25%, we want to figure out, are there ways to increase that where it makes sense? And also think about our upstream fulfillment choices as well. Because from our perspective, it's really about how the customer wants to shop us. The customer may want to have the delivery sent to his or her home or the customer may want to pick it up at a nearby store within an hour or two. And so we just want to make sure that we have the flexibility to meet that demand and respond to where the customer is taking us from a digital and an omni standpoint.

Stephanie Wissink -- Jefferies LLC -- Analyst

That's great. Jeff, could I put one more question out? Just on your inventory plans for the second half and as you're working with your vendors, how are you thinking about the trend cycle and the inventory composition? Are you seeing vendors presenting you with stronger trend in fashion, maybe taking a bit more risk on newness in the back half as consumers come back to stores and back to retail?

Jeff Gennette -- Chairman & Chief Executive Officer

Yeah. That's a good question, Steph. I think that when you think about our merchants and where we do really well is where we have great fashionable product in categories that customers want, be it trend products or trend categories or otherwise. And so -- and we found our vendors very receptive to that. We're aligned with our vendors about building AUR, by putting more value into those products. And that's our sweet spot, is really -- is pushing the edges of that. So even in our brands that are more widely distributed, in many cases, they've got great premium pieces of their lines that we really like to dive into with them. Our customers expect that, and they love it when we get it right. So we found good receptivity from vendors on that subject.

Stephanie Wissink -- Jefferies LLC -- Analyst

Thank you.

Operator

We will take our next question from Paul Trussell with Deutsche Bank.

Gabriella Carbone -- Deutsche Bank -- Analyst

Hi. Good morning. This is Gabby Carbone on for Paul. Thanks for all the color today. I was wondering if you could dig a little bit deeper into the work you're doing around enhancing the digital experience. In one of your presentation, you mentioned an online business model for Bloomingdale's outlet. So I was wondering if you could share any details around that initiative? Thanks.

Jeff Gennette -- Chairman & Chief Executive Officer

I'm sorry. Could I -- your question was a little garbled. Could you just repeat the first part of the question? I heard the second part.

Gabriella Carbone -- Deutsche Bank -- Analyst

Yeah. I was just wondering if you can talk about the work you're doing around enhancing the digital experience.

Jeff Gennette -- Chairman & Chief Executive Officer

Sure. So let me take that. So obviously, when you think about what we -- let me just talk about what we've got planned for '21. So when you -- we have two big initiatives within digital. One is to continue to improve the functionality of the site, remove all the friction. And the other is to be much more experiential and then really look at the fullness of our ability to tell stories and brand stories. And so when you think about -- expect increased beauty enhancements that Adrian talked about earlier on the site in the first and the second quarter. We're also going to be layering in other categories like some of our lease businesses, some of the luxury businesses as well as sunglasses and eyewear.

When you think about the back half of the year, a lot of it is going to be customization tools for products. Live stream shopping experiences, that's something that we've been experimenting with. Bloomingdale's has been a great pace car for us on that. That's going to continue across the Macy's brand. Really looking at kind of the advisor shopping experience is going to be an add-on that.

And as you just mentioned or you asked in the second part of your question, testing and developing off-price online with Bloomingdale's as our pace car on that. We're also going to be having a total site redesign. That is a multi-year project, but the first incantation of that is going to be launched for the fourth quarter. So that's also going to be in time for the holiday. We've got other plans that are looking in the future years, but those are the ones that are on the docket in experience for 2021.

Operator

And we will take our next question from Lorraine Hutchinson with Bank of America.

Lorraine Hutchinson -- Bank of America Merrill Lynch -- Analyst

Thanks. Good morning. I wanted to follow-up on your comments around credit that business outperformed sales nicely in 2020. So I was a little bit surprised to see the 2021 guidance calls for a drop. Can you speak a little bit about your assumptions behind the 3% of sales guidance and where there could be upside or downside?

Adrian V. Mitchell -- Chief Financial Officer

Hi, Lorraine. It's Adrian here. Good morning. As you described, our guidance for credit card revenue is about 3% for 2021. And also, as we think about the normalization of the business, that's our guidance as well. If you think about 2021 specifically, our guidance is really reflective of an expected increase in bad debt and delinquencies. What we didn't realize from bad debt and delinquency levels in 2020 as expected will effectively show up in 2021.

If you look at the presentation we posted on the website, what you see fundamentally is an elevation of credit card income as a rate of sale in 2020 relative to prior year. So we're effectively getting back to more normalized levels, but also recognizing that we do expect some degradation to happen because of bad debt and delinquencies. There's also some degradation in lower account balances driven by simply the lower sales level in 2021.

We do expect in the first half of the year to be more pandemic like activity. And so that will certainly suppress some of the sales opportunities that we do see, especially, as Jeff mentioned earlier, around some of our higher tier credit card users. So that's really kind of how we're thinking about it and how we are actually projecting credit card income for this year.

Jeff Gennette -- Chairman & Chief Executive Officer

Operator, I think we have time for one more question.

Operator

Perfect. We will take our next question from Oliver Chen with Cowen and Company.

Oliver Chen -- Cowen and Company -- Analyst

Hi. Thank you very much. We were curious about the opportunities ahead with price clarity and how you'll balance price clarity relative to promotions and offering good value, yet maintaining some nice merchandise margins? I would also just love your take on speed, the concept of speed and how that may be an opportunity as you think about supply chain and/or delivery to customers. Where you see most opportunities at speed? Thank you.

Adrian V. Mitchell -- Chief Financial Officer

Good morning, Oliver. So you're absolutely right. We're focused on simplifying our pricing, promotions and discounts for our customers so that we can really just deliver value of our product in a much clearer way. The key to this work though is that we reduce promotions that customers are just not responding to, which will allow us to reinvest in those categories that can actually help us accelerate growth. So as you look at 2020 [Technical Issue]

Jeff Gennette -- Chairman & Chief Executive Officer

I think we lost Adrian. Adrian, are you back on? Yeah, maybe you're garbled. Adrian, can you hear?

Adrian V. Mitchell -- Chief Financial Officer

Yeah. Sorry about that. So during the holiday, we were focused on increasing our full price sell-through and protecting our margins, and that allowed us to actually reduce our POS promotions. As we think about permanent markdown cadence and the launch of our new markdown tool, we believe that that will enable us to have more location level markdowns at scale as we move into 2021. And that initiative alone, we believe, is about a $90 million opportunity.

So as we also think about our pricing and promotion and markdowns, it's also important for us to be very conservative with our buys. So combined with being just more surgical with our pricing promotions and markdown activity, we want to make sure that we're very measured in the buys that we're making going forward. And so that will certainly help us on from that standpoint.

As it relates to shipping speed, a big part of what we're focused on is just being competitive on delivery speed by providing our customers with convenient options they want to choose, whether they're shipping to home quickly or picking up from a store within a couple of hours. And so we're keenly focused on building a supply chain that will really help us handle more sales volume, increase delivery speed, reduce the cost of fulfillment and also reduce a lot of friction that may exist today in our returns process.

So we're leveraging our stores to be a big part of that. We're rebuilding our network. We're investing in the technology needed to do that with predictive analytics to help us make sure we have the product in the right amount, in the right place. So we're making a lot of progress on the speed dimension as well. But we're really following the lead of the customer and taking advantage of the customers to digital, where we feel we have a strong advantage.

Operator

[Operator Closing Remarks]

Duration: 90 minutes

Call participants:

Mike McGuire -- Head of Investor Relations

Jeff Gennette -- Chairman & Chief Executive Officer

Adrian V. Mitchell -- Chief Financial Officer

Chuck Grom -- Gordon Haskett -- Analyst

Paul Lejuez -- Citigroup -- Analyst

Kimberly Greenberger -- Morgan Stanley -- Analyst

Matthew Boss -- J.P. Morgan -- Analyst

Omar Saad -- Evercore ISI -- Analyst

Michael Binetti -- Credit Suisse -- Analyst

Dana Telsey -- Telsey Advisory Group -- Analyst

Stephanie Wissink -- Jefferies LLC -- Analyst

Gabriella Carbone -- Deutsche Bank -- Analyst

Lorraine Hutchinson -- Bank of America Merrill Lynch -- Analyst

Oliver Chen -- Cowen and Company -- Analyst

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