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spk06: Good day and thank you for standing by. Welcome to the Cricut second quarter 2022 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1 1 on your telephone. You will then hear an automated message advising your hand is raised. Please be advised that today's conference is being recorded. I would now like to hand the conference over to Stacey Clements, Investor Relations of the Blue Shirt Group. Please go ahead.
spk01: Thank you, Operator, and good afternoon, everyone. Thank you for joining us on Cricket Quarter 2022 earnings. Please note that today's call is being webcast on the Investor Relations section of the company's website. A replay of the webcast will also be available following today's call. For your reference, accompanying slides used on today's call, along with a supplemental data sheet, have been posted to the Investor Relations section of the company's website, InvestorMarket.com. Joining me on the call today are Ashish Aura, Chief Executive Officer, and Kimball Schill, Chief Financial Officer. Before we begin, we would like to remind everyone that our prepared remarks contain forward-looking statements, and management may make additional statements, including statements regarding our strategy, business, expenses, and results of operations in response to your questions. These statements do not guarantee future performance or undue reliance should not be placed upon them. These statements are based on current expectations of the company's management and involve inherent risks and uncertainties, including those identified in the risk factors section most recently filed Form 10-Q. Actual events or results could differ materially. This call also contains time-sensitive information that is accurate only as of this broadcast, August 9th, 2022. Qlikit assumes no obligation to update any forward-looking projection that may be made in today's release or call. And with that, I will now turn the call over to Ashish.
spk02: Thank you, Stacey, and welcome, everyone. The revenue in the second quarter was $183.8 million below our internal expectations. We have three business segments, a connected machine, accessories and materials, and subscriptions. Let me first discuss subscriptions. Given a huge growth in new users, we had a deep focus on converting users to subscribers coming into 2022. This is an area where we have made significant progress and also have a sound strategy going forward. We had feared that the number of subscribers could decline sequentially in Q2 due to the decline in connected machine sales this year. all our subscriptions-related initiatives resulted in us adding nearly 60,000 subscribers in Q2. We have a strong roadmap and strategy that we are executing on. However, we think it is prudent to stay conservative on our subscriptions outlook in the short term. Unaccessing the materials businesses is being challenged by lower engagement, increased competition, and higher channel inventory. Our engagement initiatives, which I will talk about later, will bear fruit in the medium to long term. We believe that the channel inventory will continue to correct itself in the next few months. We are focusing on improving the value proposition and affordability of our materials and undertaking steps to communicate more effectively our compatibility and why consumers should choose Cricut. Let's talk about connected machines. We leveraged the opportunity in 2020 and 2021 to significantly grow our user base. In 2022, we face a very different environment. The channel inventory is still high. Consumers are more cautious and prioritizing their spend on need items and categories they were unable to spend during COVID. Our channel inventory will work itself out in the next few months. We strongly believe that we have millions of new users to acquire and connected machines to sell. We saw evidence of this during Prime Day sales when we promoted Cricket Joy at $99 during the quarter. Our strategy is to be patient and not impact the long-term health of the category by discounting new machines too much. In the meantime, the steps we are taking to invest in the platform, improve engagement, execute on our subscription strategy, and become more competitive in materials will help assure that we fully exploit the opportunity in connected machines in the future. Despite these challenges, we continue to operate a sound business model that positions us well to come out of this tough environment in a position of strength. We delivered our 14th consecutive quarter of profitability with a history of generating cash, which allows us to continue to invest through the down cycle. We also benefit from a significant opportunity to increase modernization from 7.2 million users already on the platform, subscription revenue stream, and a strong balance sheet. As I think about the second half of the year and the continued uncertain environment, these pillars of strength are the things that will sustain our business in the short term and, just as importantly, position us for long-term growth. We have many levers within our control, the primary being that cricket is a platform. This is an important distinction that separates us from many other companies. Because we are a platform, we are able to interact with our users throughout the entire tracking journey, from initial onboarding to various levels of engagement and modernization. We're able to rapidly innovate, bring new content and features to our entire user base, communicate directly with our users through various touchpoints, and leverage consumer behavior and data to drive further innovation. I'm incredibly proud of the team and all they have accomplished over the past several quarters. Operating in this environment has been challenging, but it has also sharpened our focus on the initiative that will be the most impactful to Cricket. Last quarter, I outlined four key areas of investment. Improve user onboarding and drive engagement. Focus on increased modernization to our subscription software service, Cricket Access, and accessories and materials. continued investments in international markets, leveraging our low-cost world of marketing labor, and innovate and expand the platform. We believe this work will position us to exit current macroeconomic conditions exponentially stronger with one-to-one user connections, deeper engagement on the platform, and increased user modernization. Let me walk through each of these in more detail. As a top priority, the team has been intensely focused on improving our user onboarding experience. The faster a user gets up and running, the more they create, engage, and share. To help drive this process, we'll be piloting learning kits later this year that combine content, cricket materials, and software experiences that handhold the user as they embark on their cricket journey. We're also focused on driving user engagement and creating habit-forming experiences using Cricut. While our engagement metric only focuses on when a user sends a cut command to a machine, we think about engagement of the platform in a much broader way. This includes all touch points along the way, discovery and inspiration, bookmarks, user connections, and other aspects of inspiration and sharing in the design space, platform, and community. That, in turn, will drive user stickiness and ultimately increase modernization through content, subscriptions, and accessories and materials. We are working to make the design process even easier, offering more design tools and expanding our content library. We believe these efforts will be able to drive higher levels of engagement over time. In Q2, we added several new features in Design Space, such as community-driven notifications, project sharing, enhancement to text capabilities, localized inspiration experiences, and other design capabilities to the platform. We're excited about the progress we've made so far. Just as important to our business is turning engagement into increased user modernization. We do this through our subscription business and accessories and materials. We've made significant improvements to our subscription product, and our efforts are already paying off. Our subscription business is as strong as it has ever been, including at the height of the pandemic. We had nearly 2.4 million Quicken Access subscribers at the end of Q2, an increase of more than 34% versus Q2 of last year. Also at the end of Q2, we had more trial subscribers than Q2 of last year, despite slower connected machine sales. as we saw more existing users begin trial subscriptions for the first time. We'll continue to invest in this area to improve the experience and bring new and innovative ways to convert trial subscribers to paying subscribers. In addition to increasing our content library, we're adding new premium design tools available only to Cricket Access subscribers. Positive results from our previously launched Monogram Maker and automatic background removal give us confidence in our strategy for cricket access. In addition, we are expanding user touchpoints within cricket design space to improve our merchandising, marketing, and promotional efforts. We have a strong roadmap and are in the early days of executing on that roadmap. Additional monetization opportunities exist within our accessories and materials business, where we continue to innovate in ways that uniquely leverage our platform. In recent months, we have broadened our successful smart materials portfolio to cover new use cases, introduced a new card-making ecosystem, and expanded into new sublimation plans. The platform compatibility benefit derived from the integration of our accessories and materials within our machines, design space software, and digital content resonates very well with our members. Additionally, we are seeing significant competition, especially online, as well as more placement of competitive materials in our retail channels. While our members realize that Cricut materials work seamlessly with our machine and our software, they are more price sensitive than they have ever been. And we are focusing on making our products more affordable for our consumers via cost reductions and promotions. International remains a key priority for us. the key trends that have driven our business since 2014 also hold true internationally. International continues to become a larger percentage of our overall business for relatively small initial investment levels. While our more established international markets like the UK and Australia are experiencing similar headwinds to our North American business, emerging countries are growing quickly, giving us diversity in revenue growth, especially over the long term. As we enter new markets, we employ the same cricket label with a focus of key influential voices, fostering community, partnering with key retailers, and continuing to build our robust platform to support our worldwide community of users. Investments in international markets continue to deliver success, including significant progress on design space localization, as well as new country launches in Thailand and Turkey, with India, Japan, South Korea, and Taiwan coming soon. We will continue to build the platform, localize products, and expand awareness by leveraging our proven go-to-market model and network effects. All these investments ultimately expand our platform. Whether it's adding new software features, content, or personalized experiences, it all enriches the community experience around the world. For example, our Contributing Artists program, which we launched in Q1, expands our platform, drives engagement, and creates opportunities to increase user modernization. All the images from Contributing Artists are available for purchase as standalone images within Design Space, and for subscribers are included in our Cricut Access subscription service. We're in the early days of this program and are excited by initial results. We've also been working on a very important enhancement to our software and images architecture. Today, when an image contains text, that text is treated graphically. It is not an easy task if a user wants to customize their text, as we don't retain the font in the initial graphical image. We're working on a new architecture, along with a new class of images called editable images. Editable images will allow the user to easily modify the text. in the image and customize it in a variety of ways. This new class of editable images, along with the software features, will be available later this year to Cricket Access members as part of their subscription. We have a solid roadmap of feature enhancements for editable images. Our focus on the platform has never been higher than it is today. We are improving every aspect of the platform, including design tools, community features, engagement-related features, data capabilities, search, mobile-specific initiatives, trick-and-access features, and so much more. I could not be more excited about the opportunities ahead. Underscoring our confidence are four key trends that demonstrate resilience in the market and that have driven our business forward since 2014. First, the desire for personalization. Second, the digitization of tools that makes personalization easy and seamless. Third, technology has opened the door to a new generation of entrepreneurs. And fourth, the proliferation of social media that drives community, a significant barrier to entry for others looking to enter the market. Although there's a lot of uncertainty in the current macro environment, we are as confident as ever about a medium and long-term opportunity for growth. I'm very optimistic about the foundation we have laid over the last 10 years. and excited about how laser-focused the team is on the most important things we need to accomplish in the short-term and long-term, optimizing the trade-off between current profitability and investment in our long-term growth opportunities. Notwithstanding the current environment, our foot is squarely on the accelerator pedal towards sustainable long-term growth. Many of our investments are showing signs of success, building confidence that what we are doing today will have lasting impacts for long-term growth. I will now turn the call over to Kimball for more details on the financials.
spk03: Thank you, Ashish, and good afternoon, everyone. Q2 was a challenging quarter for us. We believe the macro trends that we have been navigating will more than likely continue into the back half of the year. However, we are tightly managing what is within our control. In the second quarter, we generated revenue of $183.8 million a 45% decline compared to prior year Q2, and generated $13.8 million in net income. Breaking revenue down further, revenue from connected machines was $35.4 million, down 76% year-over-year, against significantly difficult comps given the unusually high selling we had in Q2 2021. And just to remind everyone, sales of connected machines in Q2 last year were unusually high as retailers replenished inventory and stocked up on newly launched machines. Excuse me. Q2 was impacted by macroeconomic pressures, softer consumer demand beginning in March, and higher than normal channel inventory positions that some of our retailers held as we entered the quarter. We anticipate retailers will continue to work down their inventory levels through the end of Q3. As Ashish mentioned, consumers are also prioritizing their spend on essential needs and other categories that they missed out on during the pandemic. For context, one way we have thought about the impact of channel inventory versus consumer behavior is to compare new user ads for the quarter, which was down almost 34% year-over-year. New user ads is correlated with machine sell-through. Revenue from subscriptions was $67.6 million, up 33% over last year and 4% sequentially, a remarkable accomplishment given the pressure we saw in connected machine revenues and a demonstration of the durability of our business models. For several quarters now, we've invested in cricket access, and the success we saw in Q2 validates our strategy. Revenue from accessories and materials was $80.7 million, down 41% over last year, and reflected similar pressure from increased channel inventory levels, macroeconomic trends, and competition. In terms of geographic breakdown, international markets grew as a percentage of total business, representing 13.2% of total revenue. compared to 8.5% in Q2 of the prior year. Revenues from international on a year-over-year basis decreased by about 14%, with softness in our most mature markets like the UK, although somewhat offset by growth in newer geographies. On a two-year basis, international revenues have grown 140% compared to Q2 2020. During the second quarter, we continued to fuel our monetization flywheel for long-term growth. We ended the quarter with nearly 7.2 million total users, which is up 1.8 million users year over year. The number of users engaged on our platform for the 90-day period ending June 30 was 3.7 million, up 70% year over year. As a percentage of total users, user engagement was 51% in the second quarter, down from 59% in the prior year. There are multiple factors influencing engagement, including seasonality, post-pandemic opening, and macroeconomic factors. Historically, summer is the lowest period for engagement. We believe that when trends normalize and consumers want to create, there is no real alternative to the cricket platform. In the meantime, we continue making it easier and faster to engage with us. We also continue to see strong momentum with cricket access. The number of paid subscribers grew by more than 600,000 on a year-over-year basis, ending the quarter with nearly 2.4 million paid subscribers. Attach rates continue to be strong, ending the quarter at 33%. As a reminder, this is a significant increase from pre-pandemic periods when our attach rates were in the mid-20s. We measure user monetization through average revenue per user in both subscriptions and accessory materials by dividing revenue for the period in those segments by our entire user base. Our group for subscriptions in the second quarter was $9.59 down from $9.83 in Q2 2021. Accessories and Materials ARPU closely relates to user engagement. ARPU from Accessories and Materials in the second quarter was $11.45. This compares to Q2 2021 ARPU of $26.67, which was higher due to unusually high engagement trends during COVID and also reflects retailers reducing purchases in 2022 as they right-side inventory levels. Moving to gross margin. Total gross margin in the second quarter was 46.5%. an improvement of 7.5 percentage points compared to Q2 2022, which highlights the benefit of our diverse revenue streams. Breaking gross margin down further, gross margin for connected machines in the quarter was 1.6%. On a year-over-year basis, connected machine margin is down compared to an unusually high 20.6% in Q2 2021, which benefited from pandemic tailwinds with elevated machine sales and less promotional activity. Connected machine margin in the quarter was also impacted by end-of-life machines, which carry lower gross margins. We expect end-of-life machines to affect gross margins through mid-2023 as we sell through remaining inventory. Our strategy is to preserve pricing, being careful not to discount newer machines too much while working through end-of-life inventory. In addition, Q2 2022 included elevated freight, warehousing, and handling costs. As we move through 2022, we anticipate increased commodities and labor costs. Gross margin from subscriptions increased slightly in the quarter to 90.9%, reflecting leverage in our subscription business. Gross margin from accessories and materials in the second quarter was 29.1%, down from 39.9% in the prior year, primarily driven by higher freight and handling, excess inventory reserves, and higher sales incentives. In Q2, we rolled out price increases with our retail and distribution partners across connected machines, accessories, and materials. to help mitigate the impact of the recent cost escalation. We expect to materially benefit from these actions later in the year once retailer inventory levels are right-sized and they begin placing larger replenishment orders. Total operating expenses in the second quarter were $65.4 million and included $10.3 million in stock-based compensation. This was a decrease from $66.1 million in Q2 2021. Let me provide some context. We began slug hiring significantly in late Q3 last year and entered 2022 with a cautious outlook on OpEx. In Q1, we reprioritized investments to focus primarily on products that will launch in the next 12 to 24 months. These products will expand our existing cutting machine category, as well as new categories that create new subscription services and materials. We have all other investments that we believe are critical to driving growth in the medium to long term, including investments in international, and in the platform, including data, software, and Cricut Access. Some of these investments are showing very promising early results, like the increase in trial subscriptions from Cricut Access, despite lower machine sales, and the adoption of the Contributing Artists Program. We intend to keep these investment plans in place, given the focused nature and disciplined approach. The fundamentals of our business remain sound, and we believe that we have the resources to navigate the current macro environment and invest without sacrificing long-term operating margins, profitability, or cash flow. Should the macro environment significantly deteriorate, greatly bringing our internal forecast down, we would look to reprioritize investments, predominantly through variable cost reductions and other trade-offs among biggest impacts, time horizons, and growth opportunities. Operating income for the second quarter was $20 million, or 10.9% of revenue, compared to $64.2 million, or 19.2% of revenue, in Q2 2021, and driven by lower revenues in the quarter and increased investments. As we continue to navigate headwinds in the short term, we remain focused on managing our resources and continue to deliver healthy operating margins, even though in the short term they will likely be below the long-term target range at 15% to 19% by a few points. Our business remains durable. With a healthy profitability profile, we delivered our 14th consecutive quarter positive net income. The day that came in the quarter was $13.8 million, down from $49.1 million in Q2 of the prior year, and up 56% from Q2 2019, which was pre-pandemic. Diluted earnings per share was $0.06, compared to $0.11 sequentially and $0.22 in Q2 2021. Turning now to the balance sheet and cash flow. Our balance sheet is strong and enables us to navigate through these challenging macroeconomic times. We ended the quarter with $231.3 million in cash, cash equivalents, and marketable securities, and our new $300 million credit line remains untapped. We continue to generate healthy cash flows. Cash generated from operations year-to-date was $13 million. Cash generated is the primary source of funding, our annual inventory needs, and additional investments for long-term growth. This fosters a balanced and disciplined approach to capital allocations. As part of this balanced approach, Cricket's board has authorized the repurchase of up to $50 million of its Class A common stock. This program allows us to put cash to good use without sacrificing flexibility to invest in attractive organic or inorganic opportunities. Let me spend a few minutes talking about what we see as we look ahead to the rest of the year. We continue to see soft consumer demand and expect that most likely for the rest of the year. We anticipate a moderate lift in sales for the end of Q3, and a more weighted lift in Q4 as retailers fill new orders for holiday. As you recall in our Q4 comments, we highlighted that second half of the year typically represents 60% of annual revenue. Given the current macro environment, we expect second half revenue to be slightly softer than this 60% historical pattern. We remain committed to our annual operating margin targets at 15% to 19% over the long term. We anticipate operating margins in Q4 to start to improve, However, we will likely be below our long-term targets by a few percentage points for the full year. Looking at the long-term, we believe the trends that have driven our business over the last eight years remain intact. We are confident in the unique value proposition that Cricut brings to millions of users and to the millions more around the world that we have an opportunity to bring to the Cricut platform. The significant growth in our user base over the last two years also provides opportunities to further drive engagement and monetization. focused on managing our profitability while investing in areas with the highest impact, including improving onboarding, fostering higher levels of engagement, and innovating on our platform to drive growth in critical access and our accessories and materials business. With that, I'll now turn the call over to the operator for questions.
spk06: Thank you. As a reminder, to ask a question, you will need to press star 1-1 on your telephone. Our first question comes from the line of Mark Alswasser with Barrett, your line is open.
spk07: Hi. Thank you for taking my question. So to start out, just the number of engaged users I think is up about 20% year-to-date. The number of paid subscribers up almost 40% on average year-to-date. Yet that accessories and materials revenue is down about 27%. So I'm hoping you can help us understand or unpack a bit more how much of this pressure on accessories revenue is channel D stock versus users doing fewer projects or consuming maybe less per project. I think that there's maybe a mix and a price component going on in there. So a lot of moving pieces. So I'm just trying to better understand what's happening there and when we might see that start to normalize.
spk02: Thanks, Mark. So, you know, we'll give you a broad view of that and just kind of what the factors are, but you kind of outlined some of them. So the first thing is, you know, clearly engagement in the macroeconomic conditions put significant pressure. We think that's a chunk of that, that basically drove the ARPU down, and we believe was a significant contributor to that. And, you know, we talked about the post-pandemic behaviors and the like, but I think it's a combination of those two things. The second is, you know, and I've got to say this in sequence and by the pecking order. The second is channel inventory. You know, since the ARPU number is based on sell-in, we're obviously not selling in as much as we were through the inventory in the next few months. And we think that that was the second contributor, but, you know, less compared to the engagement one. And last but not the least is competition. Important for us to talk about that. This part of the business has always been the most competitive, and that's the world we've grown up in. For many of our materials, we are able to differentiate those materials pretty well through IP, through software, content, et cetera. But there's a portion of our portfolio that is more prone to competition, specifically the vinyl and the heat transfer vinyl category. And our approach there is going to be to promote our products more effectively and you know, balance that with similar cost reductions. So, we think that the, you know, the contributors, without getting into the specific numbers, were mostly the fact that engagement was down, not just from a seasonality perspective, but also across the board, given that people are now outside and doing other things. The second factor, you know, was channel inventory, and the third factor was, you know, some of the competitive pressures that we've seen.
spk07: That's very helpful. Thank you. Kind of switching topics, heading into the back of school and the holiday season, talk about how you're positioned in the retail channel relative to last year. I guess any metrics you're able to share on maybe the number of doors, retail doors you're in today versus last year in the U.S. and internationally. And then I know word of mouth has always been very powerful for cricket, but maybe talk about your plans to drive awareness there. with other marketing activities as we enter this more important time for your business?
spk02: Yeah, so one of the things that we've talked about before, right, which is that, you know, as and when, you know, basically as things normalize, you know, right now we're seeing the impact of seasonality. And even though I know you didn't ask the question, but let me just kind of highlight that, which is the drop from Q1 to Q2 is very from a seasonality perspective that we saw last year. But it would be exaggerated that the fact that we are at a lower level is more because of the post-pandemic opening compared to last year. But Q1 to Q2 drop in engagement is very similar from a seasonality perspective, right? So I just wanted to kind of share that. You know, from a retail perspective, you know, our placement continues to be very strong, right? And unlike other categories, we know that when the consumer comes back, there is no alternative platform of choice. the platform that they're going to come to is us. You know, one of the things that Kimball mentioned is that, you know, even though our revenues declined by 76%, our net user ads were only down 34%. And we think it's because, you know, the consumer sentiment and the macroeconomic conditions. So we've been really good about our awareness, right? And the reason I say that is, you know, we put a lot of effort in driving awareness and familiarity And we actually promoted Cricut, Joy, and a couple of our machines during Prime Day, and we saw a significant update. So that to us told us that there's a lot of, you know, pent-up demand, and the consumer is willing to jump in at the right price. Now, we don't want to use that lever too much, so we'll continue to stay patient. And, you know, the other big opportunity we have, and you kind of alluded to it in your question, but we have, say, 7 million customers, and there's such a huge opportunity to drive engagement, to get their customer engaged. And they are the ones that actually create word of mouth. And also, we can monetize that. So given our view of the trends, given our investment in our platform, we feel pretty good about how we can leverage our existing install base and our awareness of initiatives to drive growth in the medium to long term. But from a retail perspective, we have not lost anything. and as many doors as we had before for the most part.
spk07: Thank you. And just maybe one last quick one for Kimball. Just on the balance sheet inventory, any obsolescence risk in that number as it remains elevated here? And then what should that normalization look like over the next 12 to 18 months? What's a normalized level of balance sheet inventory for you as you work through some of that older product?
spk03: Yes, so thank you, Mark. To the first part of your question, we have several machines that are end-of-life, and so there may be pockets of write-offs related to specific skews and geographies, but not generally across the board. And as it goes to our inventory strategy going forward, I'll just call out As we went through the pandemic, we intentionally held more finished goods inventory than we normally would. And we've continued that strategy through this year, as we haven't seen any of the lead times significantly unwind. As we move into next year, we're watching that trend overlay with consumer demand very carefully. and we'll end up making sure that we aren't too heavy on finished goods inventory. Great.
spk05: Thanks again. Thank you.
spk06: Our next question comes from the line of Eric Woodring with Morgan Stanley. Your line is open.
spk08: Hey, guys. Thanks for taking my questions. Maybe Ashish, first one for you. You talked about entering India, Japan, Taiwan, and South Korea in the coming months. Can you just talk about maybe what you've done in those markets to prepare for a launch? And the reason I ask that is obviously your biggest competitors are based out of that region. And so I'd imagine competition might be a bit more intense in those markets. So how are you getting the brand name out there? How are you getting customers to think of Cricut first and foremost? as you prepare to launch. And then I will follow up. Thanks.
spk02: Yeah, so, you know, Eric, thanks for the question. We've had an Asian presence for quite some time ahead of Asia, even though we have a baseball team ahead of Asia, Singapore. You know, I've spent a fair amount of time in those markets specifically. And, you know, even though you're correct that, you know, some of our competitors are in that region, there's really not a major competitor that is in the retail space. So, we don't believe that that market has been consumerized. And even to the extent that there is a competitor in Japan, it's mostly operated through the dealer channel. And our approach in go-to-market is very different from the incumbent competitors. So, we don't see too much of a retail presence for many of our competitors today as we go in some of those markets. Our formula is very much the same formula we've employed in many markets, right? which is we have a small team that we're going to put in some of those countries, not all of them. And then we've been recruiting influencers. We've been talking to the community. And really, it's the same playbook that we've leveraged many, many times, which is get community members involved, help them drive word of mouth, and build the market organically. So while the investment in each of these countries is not massive, when you kind of look at all of them together, it adds up. But, you know, I think our approach is going to be very similar. And, you know, we were actually waiting for some certifications and compliance, et cetera. But we've been working on content. We've been working on influencers. And we feel that we've almost been in those markets for quite some time, even though, you know, we have not really had our own team members, but we have a number of influencers and typical cricket passionate users that have educated us and are eager to get going.
spk08: Okay, super. Thank you for that. That was really helpful. Maybe, and I don't know if I should phrase this to you or Kimball, but last quarter you guys had talked about how I think the access channel inventory had fell to something like $28 million at quarter end. I'd just love to know where it is now because I thought if I interpreted your comment earlier about net new users down 34%, that would mean the kind of incremental 40% of declines in connected machines was due to channel, that would imply like 62-ish million of headwinds. And so if you could just help me square that circle, and where is access channel inventory today, and then how is it split between connected machines and accessories and materials? That would be helpful. Thank you.
spk03: Thanks, Eric. This is Kimball. I'll take that. So as we talked about, we ended the year with what we thought was about $35 million heavy in channel inventory. And That was based on historical trends that we saw retailers holding as we moved through the pandemic years. As we went through Q1, we saw some retailers work through their positions or begin to work through their positions while others were actually building their positions. What changed in Q2 is we saw retailers across the board working through their inventory positions. And in the last few weeks, we've even seen that focus intensify. So to a certain extent, we think the goalposts move a little bit on what retailers are expecting as their optimal inventory levels. That said, with everything we know today, watching sell-through trends, looking at consumer demand and conversations with our retail partners, and then overlaying our expectations of holiday, we expect the channel to get to their target inventory levels towards the end of Q3. And so we'll be in a position to place large replant orders late Q3 and more into Q4 to have inventory for holiday.
spk02: Let me just jump in. Just to build on what Kimball said, I think the 34% user ads has a lot more correlated data to what's happening in the market. The one thing that I would say exaggerates the 76% is just to remind you that last year, we were launching new machines and there was a significant amount of inventory that was going into the channel. So I think there's that factor playing in it as well.
spk08: Okay, thanks for that. And maybe just last question for me is on the pricing side, you know, you talked about rolling out pricing increases. You know, what has the demand response been? I realize it's a tough market backdrop, but maybe just help us kind of juxtapose the your desire to increase prices with maybe the need to discount, given some of the channel issues, given some of the competitive pressures, given some of just the demand pressures that you're facing. Does that equate to net pricing declines when you factor in the discount? Or maybe just help us parse out the pricing strategy as we think about it today. And that's it for me. Thank you so much.
spk03: Okay. So on the price increases, we implemented those over the course of Q2 and Sell-in was softer for the quarter, as we've already talked about. And so we haven't seen really impact from that yet. So we do expect to see a benefit from price increases as sell-in resumes. And then as Ashish talked about, especially as it goes to our NM space, we expect to see an improvement in margins from price increases, but we will also work on being strategically promotional to make sure that we are competing well against, you know, other competitors in the category, especially as it relates to vinyl and heat transfer.
spk02: I think the data is a little bit muddied also by the fact that, you know, we have these end-of-life machines that we are working through, so the average price may kind of hide some of that, but in general, you know, we are not going to use the price level too much just because we think it's the right thing for us to be patient. Now, our net impact may not look like that, but it's really mostly driven by these end-of-life machines that we have. But for most of our newer products, we are not being overly promotional.
spk08: Got it. Thanks so much, guys.
spk06: Thank you. Our next question comes from the line of Rod Hall with Goldman Sachs. Your line is open.
spk09: Yeah, thanks for the question, guys. Can you hear me?
spk05: Yep.
spk09: So I wanted to check. We were just kind of trying to figure out the inventory cash flow here. It looks like you spent about $35.7 million of cash. You know, you cash outflow into inventory. But then the inventory level on the balance sheet remained roughly stable. And we see this other assets line moving up. So just wasn't sure. how that $35, $36 million kind of materialized on the balance sheet. So I wonder if you could help us understand that a little bit better, and then I've got a follow-up.
spk03: Yeah, so we classified some component inventory as non-current inventory that shows up in other assets, and that's $35.1 million. And as we went through the pandemic, you know, we – We're ordering components at a 78-week lead time, and so as we've now seen how demand plays out, there's some of those components that we will be storing and then using over time. Now, I'll hasten to add that there's not a risk of obsolescence. These are new components that all go into our newly launched machines, and it's just that we won't be working through them in the next 12 months, and hence the reclass.
spk09: Oh, I see. So it's a current – because they're current inventory, they'll be used in the next 12 months. That's why they go into other assets and not into inventory. Is that right?
spk03: It's because they're components that we won't fully consume in the next 12 months. So it'll be months 13 and beyond. And that's why they're classified as non-current.
spk09: Gotcha. Okay, I got that. And then the other – I wanted to come back to this pricing issue. point and just ask you guys, when I go online and I look at Joy's and other products out there, they're all being discounted by the retail channel, which makes sense, right? People are trying to move it out of inventory. But we have, historically, we've seen that kind of discounting get sticky when it comes to pricing. So the company then struggles to regain its prior pricing levels. And I know that you said that your intention is to raise prices and so on, but I I just wonder how big of a risk you think pricing is out there, given, you know, you've got this channel clearance going on, and how do you control for that?
spk02: Yeah, so, you know, a couple of things, Rod. One is we have a map policy that we enforce, you know, and we're pretty diligent about it. Now, there are a few things that, you know, I think there will be a little bit more on the maker and air tour and applied machines, but for the newer machines, we think, that we want to maintain a fair amount of price stability. And for the most part, I would say that's very true. Now, one of the things that we've done, and we have a lot of experience in, in fact, even more so going forward, because we're a connected machine, we actually feel that we don't have to launch a machine every year, two, three years. And we also don't have to let the price point degrade. I think given the investments that we are making in the platform, we are increasingly going to leverage that platform to maintain the longevity and the price stability in the market. So we may actually increase the value proposition, but our relative turnover and phase-in, phase-out of machines will actually slow down because we think that that's an opportunity we haven't fully aware of yet. And, you know, again, for the last six months, we've been working really hard, which is the result we saw in subscriptions, to basically create so much content and so much capability that we think that we would need to lead on either the price level year on year or on just kind of, you know, basically having to phase in, phase out our machine more frequently.
spk09: Okay. That's helpful, Ashish. Thank you. And one thing I wanted to ask you is to follow up to that comment you're making about Does that reduce the R&D load in the business over time, do you think? Or do you just move R&D into some of these other things and away from machines maybe?
spk02: That's a really good question, Rod. First of all, I think one of our main focus areas is to invest in the platform. We think that that is something that we have the potential to leverage a lot more than we have done to date. So I would say that enhanced focus started about six to nine months ago and probably will continue to ramp up over the next year or over the next few years. From an R&D perspective, we will continue to focus on connected machines. We've been working on a few connected machines for the last couple of years, and those will be launched over the next 12 to 24 months. In addition to that, we are being much, much more strategic in focusing on machines that allow us to go into new categories. So the number of products we may do may be less, but we'll probably do, you know, fewer, bigger beds that have the potential to create large ecosystems. So I would say specifically in the hardware R&D roadmaps, there'll be more and more focus on the connected machine category where we can, you know, kind of build new ecosystems.
spk09: Great. Okay. Thank you very much. Appreciate that.
spk05: Thank you. Our next question comes from the line of Jim Suva with Citi. Jim, your line is open.
spk04: Hi. My first question is, you mentioned inventory. I think you said exiting Q3 should be more in line. How should we think about that, or you said more right-sized, as we kind of head into the holidays? Because exiting Q3, let's call it the end of October, isn't that far away from kind of the Black Friday, Thanksgiving holiday season. So at that point, are you stocked and ready for the holidays, or is there going to have to be a quick replenishment after that, which seems kind of interesting timing?
spk03: So, Jim, when we talk about towards the end of QC, we're actually thinking mid to late September is when those replenishment orders normally would be coming in for holiday and about the same time that we see the trends crossing, that retailers are hitting their target inventory levels. And so we think the uptick in sales will coincide with normal holiday buying.
spk04: Okay, that makes sense. And then the second item I had, and it's a bit of an observation from our family, is we recently actually tried some of the Cricut knockoff vinyls and things. And to be honest, it gummed up our machine. I spent a lot of hours cleaning off the knives and all this, and all the decals and iron-ons flaked and came off on the T-shirts from the birthday parties and stuff we did. So it was a disaster. Now, while you're smiling, the opportunity is, how do you educate consumers and customers about that? Because when you see something at a much lower price, you kind of got to try it and don't blame the person, but You know, I had no knowledge until I tried it that it was going to result in a complete gum-up disaster and waste of time and bad experience. But it seems like the knockoff brands are cheaper for a reason, the quality. But how do you get it across to the purchaser about that?
spk02: Yes, Jim, we strongly and passionately believe in it, right? When we work across our software and some of the – even like our machines and accessories that go with it, the whole point is to – you know, have an end-to-end seamless experience, then what you experience as a consumer is something that a lot of our consumers experience, right? Having said that, pricing and affordability has been a key factor. So I think people are more and more tempted to try those brands. So our approach is going to be to make our product more affordable. Having said that, the question that you asked, which is the right question, right, is we have to do a much better job. And, you know, this is one of the top initiatives in the company just below subscriptions and engagement where we are doing a better job in communicating that story both from our website in design space as well as on the retail shop, right? So I think the opportunity is for us to, you know, make sure the consumer understands the value and the seamlessness and the peace of mind that they get. But I do think that, you know, that doesn't give us a license to, you know, be at a significantly higher price, but I think there's some premiums to be charged. So what we're going to do is we're going to try to win, you know, make sure that our products are affordable. They don't have to be matched to the dollar. And then we'll do a much better job, both within design space, both within our platform, as well as in retail channels, as to what the value proposition and what our key differentiator are of our materials. And, you know, we are working with our retail partners to do that. This is a very important part of our business, and I think we have the right focus on it.
spk04: And then my final question is, it seems like the average of accessories and items per user that are being used is at an all-time low. Even before COVID, it never reached, you know, down into these levels. And I'm talking, you know, we're talking about... you know, $11.45. It's never been that low before. So does that mean kind of the current reported quarter and the next quarter may be kind of the worst, you think? And then people start to rebuy and replenish and the channel replenishes more? Or do you think we're kind of at this level for a while of an ARPU for accessories and materials of around $11 to $12?
spk02: So I think the, you know, the three factors that I mentioned, like, you know, we won't be able to comment on exactly where this should go because there's still a lot of moving pieces. What we do know is that engagement, which, again, like I said, you know, from Q1 to Q2 was a similar seasonality compared to last year, where we dropped about 3%. So engagement in the macroeconomic conditions played a big role. The second is, as you highlighted, channel inventory. You know, the channel was heavy when it came to materials, and because this number is calculated on sell-in, we saw that, you know, we basically weren't able to sell in as many materials as we would have liked to. And lastly, we already talked about competition. So we think, you know, as the channel inventory connects itself, as people start crafting more, we still think there's, you know, there's optimism and a positive outlook for that business. I also think that from an engagement perspective, our initiatives of engagement and really getting the user involved from, you know, a user typically starts thinking about my materials five, 10, 15 days ahead of actually making the project. I think there's a unique opportunity to educate that customer on the materials, et cetera. And I think we are in the early days of that. So, you know, overall, we feel very positive about the initiatives we are taking. And we hope that this business will continue to improve over the medium to long term.
spk04: Thanks so much for the additional details and clarifications. It's greatly appreciated.
spk06: Thank you. Our next question comes from the line of Eric Woodring with Morgan Stanley. Eric, your line is open.
spk08: Hey, guys. Thank you for taking the repeat question. I just wanted to come back to one topic, and that was You know, I know last quarter you had mentioned, you know, you might not expect to hit the 8 million users at year end. Can you just kind of update us on your latest expectations? I know there wasn't anything in the prepared remarks. And really what I'd love to get at there is just kind of how you think about seasonality for net new user ads as we move into the third quarter and the fourth quarter. Thank you.
spk03: So, as we called out at the end of last quarter, you know, We thought we'd be shy of that, and we think we're still going to be shy of that based on what we see playing out. That said, I do think we'll see more user growth in Q4, which is typically a higher quarter for us when it comes to machine sales. And we expect that to be the case this year also. So we do expect to see some uplift in new user ads driven by machine sell-through. In the second half of the year, but mostly waiting in Q4.
spk02: Yeah, so let me, Eric, let me just add to that. So first of all, you know, we feel really good about all the things that we are doing to drive awareness and familiarity. And we saw an evidence of that, that, you know, during Prime Day where, you know, with the promotions of machines, the consumer stepped in. So we feel that our job is to continue to build that awareness and demand and not overuse the price lever. The second is, I think there's a little bit of, you know, you can probably look into the number where we gave that the second half of the year contributes a certain amount, percentage of revenues. And, you know, I think there's, you can probably use that to model what the second half would look like. Again, you know, while we believe that the customer sentiment will be more positive and they will be in holiday mode and they will be in the creativity mode, the trends haven't changed. Right now, it's just a question of how the consumer is feeling about the economy and everything else that's going on. One thing that we have looked at, and even though I know you didn't ask the question, is I think there's an investment being made in subscriptions. We feel that while waiting for that customer to come back, there's an opportunity to continue to invest in both engagement and the subscriptions. And, you know, for that matter, monetization. And, you know, I think because if that user gets more and more engaged, they not only have the ability to monetize through subscriptions, but also there's an opportunity that they drive word of mouth, right? So I think we have to grow top-line awareness, top of the funnel, and we have to get our current customers more engaged, which we have been able to do so with, you know, with the subscription data point that we shared. So we have a pretty strong roadmap, and we're just going to stick to our netting and do what's in our control.
spk08: Got it. Thank you for that color, guys. I appreciate it.
spk05: Thank you. This concludes today's conference call. Thank you for participating. You may now disconnect. Thank you. This concludes today's conference call. Thank you for participating. You may now disconnect.
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