Nautilus, Inc.

Greetings and welcome to Nautilus Incorporated First Quarter 2022 Earnings Results Conference Call. At this time, all participants on a listen-only mode, a question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. John Mills with ICR. Thank you. You may begin.

Thank you. Good afternoon, everyone. Welcome to Nautilus' first quarter fiscal 2022 conference call. As previously announced, Nautilus changed its fiscal year from the 12 months beginning January 1 and ending December 31 to the 12 months beginning April 1 and ending March 31 to include the primary fitness season for exercise equipment in the same fiscal year and to better align with the fiscal year end of retail partners. Today, Nautilus is reporting financial results for its first quarter fiscal 2022, ending June 30th, 2021. Participants on the call from Nautilus are Jim Barr, Chief Executive Officer, and Ina Knoll, Chief Financial Officer. Please note this call is being webcast and will be available for replay for the next 14 days. We'll be happy to take your questions at the conclusion of our prepared remarks. Our earnings press release was issued today at 1.05 p.m. Pacific Time and may be downloaded from our website at nautilusinc.com on the Investor Relations page. The earnings release includes a reconciliation of the non-GAAP financial measures mentioned in today's call to the most directly comparable GAAP measures. In today's call, we have a presentation accompanying the call that management will refer to during their prepared remarks. And on slide two is our full safe harbor statement, which we ask everyone to read. You can access the presentation now by going to NautilusInc.com, then click on the Investor tab, and then click on the Events webcast, and the presentation will be right there for you. I'd like to remind everyone that during the conference call, Nautilus Management may make certain forward-looking statements. These forward-looking statements are based on the beliefs of management and information currently available to us as of today. Such forward-looking statements are not guarantees of future performance, and therefore, one should not place under-reliance on them. Our actual results will be affected by known and unknown risks, trends, uncertainties, and factors that are beyond our control and ability to predict. For additional information concerning these factors, please refer to the Safe Harbor Statement and to our SEC filings, which can be found in the Investor Relations section of our website. And with that, it's my pleasure to turn the call over to Nautilus' CEO, Mr. Jim Barr.

Thank you, John, and thank you all for joining us today. I'm excited to speak to you today about our strong growth and earnings driven by long-term secular trends towards home fitness and, most importantly, our team's strong execution. I'll then shift to an update on the notable progress we're making implementing our long-term strategies. I'll share some perspectives on my now two years at Nautilus, and I'll finish by reiterating our commitment to invest for the long run. I'm incredibly proud of our team for achieving in both short-term results and progressing in our transformation, which will take Nautilus to a place it's never been before. In the first fiscal quarter, we produced strong growth and profitability, exceeding our top-line and operating margin guidance. This was driven by continued robust demand for at-home fitness across our portfolio of leading strength and cardio products, as well as across our customer touchpoints with our domestic and international retail partners and online direct segment. We leveraged our backlog, strategically built up our inventory for the upcoming fitness season, and continued to manage a slew of unprecedented and temporary challenges in global supply chain and logistics to drive these results. This quarter, as a reminder, we are comping the first full quarter that benefited from COVID-related tailwinds. Against that backdrop, I'm delighted to report that net revenue was up 62% to $185 million, representing the highest June quarter and the fourth highest of any quarter in the company's 35-year history. Even more impressive, excluding Octane, revenue for the quarter was up 74% year over year. The direct segment grew 26% in what is traditionally our seasonally lightest quarter, when consumers tend to be outside and not as focused on indoor exercise equipment. The retail segment continues to set records, generating its highest ever quarterly sales, achieving a record $120 million as we began to load into retail partners earlier for the high season. This is an early indicator that our expanded stable of retail partners is betting on a robust fitness and holiday season. In addition, our international channel recorded its second highest quarterly sales, up 70%, or 102%, excluding Octane. Strong sales of our new connected fitness cardio machines, including our Velacor bikes, combined with solid performance from many of our strength products, including the continued momentum of our Select Tech line, drove these better than expected results. The market reception to our new connected fitness offerings is an important driving force behind our continued growth. This past quarter, we introduced our brands to over 40,000 new customers via our website, bringing our new customer count to over 380,000 for the last 15 months. For context, our new customer count averaged about 100,000 a year pre-pandemic. The growth in direct customers and our expanding retail universe our fueling membership growth for connected product sales. Journey membership growth accelerated after we introduced our first embedded screen product in September of 2020, and by the end of June, we had more than doubled the number of members versus the beginning of January. I'll provide additional detail in Journey in a few moments. Our entire industry, along with countless others, continue to face unprecedented and temporary inflationary pressures in raw materials and logistics. Gross margins were affected by higher component costs, including chip shortages that are affecting many industries, as well as higher commodity prices such as steel and continually elevated transportation costs. In addition, natural season channel mix shift to retail played a role. Direct was 34% of the business in this quarter versus 44% last year. I want to emphasize that we view these margin pressures to be temporary challenges as the world recovers from the disruptions caused by COVID-19. While this impact is significant in the short term, we believe these external margin pressures will normalize over time. Short-term margins do not change our view of the long-term value we are creating. Despite gross margin pressures, operating margins came in above the high end of our guidance at nearly 10%. driven by our strong top-line results as well as our strategic decision to shift some North Star investment dollars from Q1 into Q2, including brand marketing for Tour de France and Olympic advertising. EBITDA was $20 million, and we ended the quarter with $83 million of cash in short-term investments. As discussed at our investor day and on our last earnings call, we operate in an attractive, expanding, and very dynamic at-home fitness industry. Our addressable market has expanded rapidly based on permanent changes in workout habits which favor home fitness. In the past 15 months, consumers saw that connected fitness could deliver on many of the elements that they used to get only at the gym, personal training, trainer-led classes, community, and variety. As you know, we have continued to follow the sentiment of former gym goers for over a year now. 25% of former gym goers have consistently expressed that they have no plans to ever return to the gym, and many others are changing how they balance the gym and at home based on an emerging hybrid work model. We are extremely well positioned for long-term growth with our top three market share, our strong brands, our portfolio of innovative products, our wide and expanding multi-channel distribution, and an inspirational new vision and long-term connected fitness digitally driven growth strategies. We are transforming Nautilus from a product-led hardware company to a consumer-led digital company. Our strategy is rooted in five pillars designed to position Nautilus to deliver long-term value. Our entire organization is focused on delivering these long-term goals by March of 2026. $1 billion of revenue, 2 million journey members, and sustainable operating margins of 15% with the opportunity to further expand as subscriptions become a larger portion of revenue. Achieving these goals requires investments, and we intend to self-fund these investments via our pay-as-you-go philosophy. Using a long-term ROI lens, we'll invest a portion of our earnings in the following key areas. Journey, marketing, innovation and technology, product cost to accelerate membership growth, people and capabilities, and partnerships and tuck-in acquisitions. Ina will provide more detail on our planned North Star investments for the rest of the year. I'll now update you on some notable progress we've made on our North Star strategy. First, on our efforts to adopt a consumer-first mindset. In order to attract and retain lifelong customers, we are increasingly making decisions based on consumer insights and data. We have moved from early conceptual stages and have now implemented this approach in all areas of the company. Some examples include, we've instituted new category management capabilities and they are injecting consumer insights into our product roadmap. We're measuring baseline net promoter scores and consumer effort scores at all key points of our customer journey. We are also closely monitoring journey usage and social media sentiment to make sure we prioritize the enhancements that matter most to our members. Our consumer-led approach has really transformed our marketing. As planned, we increased marketing spend during the quarter and will continue to do so throughout the year to support our expanding digital connected fitness and overall product offerings. We are targeting two specific consumer segments and continue to shift more of our spend to digital in order to efficiently reach our target customers with newly refreshed marketing messaging. And our investment in brand marketing is paying off. Our share of voice is two times our market share, and our new brand spots that we aired in the quarter are delivering traffic lists five to seven times higher than our typical direct media. We have more work to do in repositioning our brands, and we plan on continuing these investments for the rest of the year. As mentioned previously, we are rapidly growing our new customer base, adding nearly 400,000 new customers in the last 15 months. The numbers tell only part of the story. We are reaching consumer segments that enjoy exercise more and for whom exercise is more of a priority. These new customers skew younger and more female. Our target consumer enjoys the flexibility of buying online or shopping at stores. I'm proud to say we've continued to increase our points of retail distribution. We have added more than 3,000 new retail doors and greater online capabilities in retail over the last 15 months, including at Best Buy, Costco, Costco Canada, Sam's Club, and Target. Internationally, we had an over 500% increase in our sales through Amazon. We now have broader and more diversified retail distribution and are functioning as a true omnichannel company with many more options for consumers to buy in-store and online. Second, transforming our supply chain. In the face of all of the challenges in global logistics, we have successfully added significant capabilities to our global supply chain. We have reduced our backlog to the lowest it's been in over a year and expect to achieve our goal of no longer being factory capacity constrained by the end of the fiscal year. A great example of solving our supply chain problem is our wildly popular Select Tech dumbbells. This quarter, we shipped more than three times as many dumbbells as the year-ago COVID-driven quarter. And I'm happy to say they are now available for immediate delivery on Bowflex.com and at leading retailers. This would not be possible without our suppliers and their ongoing support to help us meet the unprecedented demand for at-home fitness. We share our success with them and we thank them. Another new capability is our new distribution center in Southern California, which opened in July and is ramping up in time to receive the heightened inventory levels we have planned for the upcoming peak season. We've formed task forces focused on spot buying microchips, finding new ways to ship products across the ocean, and implementing technology to allow us to expand our outbound freight partners. Because of improvements in supply chain, we have been able to build our inventory position to be well prepared for the upcoming fitness season across all channels. Third, focusing our investments and growing our organizational capabilities. We have reduced lower margin skews in all areas. This improves efficiency throughout our organization and enables all teams to be more laser-focused on our targeted offerings. Since fiscal year 2020, we have discontinued 22% of our product SKUs and have tripled the revenue per product that we do carry. We continue to build out our organization, adding executive talent like our new Chief Legal Officer, Alan Chan, a seasoned veteran with 16 years of experience leading global teams in M&A, commercial agreements, intellectual property, and corporate governance. We're also building out our software development and user experience teams, category management, supply chain, social media engagement, learning and development, and change management. Lastly, and perhaps most importantly, we continue to improve and grow Journey, our digital platform. Our members have told us that they want variety, highly personalized one-to-one adaptive workouts, immersive experiences, and fresh on-demand trainer-led content on and off equipment. We're meeting these needs through our innovative lineup of connected fitness products powered by our continually evolving digital platform, Journey. Journey is now fully compatible with the wildly popular Bowflex C6 and Schwinn IC4 bikes via both iOS and Android devices. Our journey platform is constantly improving our artificial intelligence engine to create an infinite number of personalized workouts. The platform assesses the members' fitness level and recommends workouts based on their abilities, available time, mood, and workout experiences they prefer, and continues to learn and adapt, removing the guesswork from achieving a productive and satisfying workout. Our members receive voice-coached individualized workouts similar to one-on-one personal training, trainer-led workouts, and integration with other fitness apps. We continue to provide our members with the ability to stream entertainment while working out and even while being coached. We have integrated Netflix, Hulu, Amazon Prime, and Disney Plus for use within our fitness experiences. Shortly, we'll be adding HBO Max. We are constantly serving up something fresh to our members, be it new content or releases. This past quarter alone we added new adaptive AI-driven workouts, new Explore the World locations. These immersive experiences now numbering over 100 locations are hugely popular with our members, especially on our treads. And we hear from our community that they are choosing Explore the World as a form of escapism during this time. New trainer-led videos. We continue to add more on-machine workouts, and today we announced a strategic partnership with FitOn, one of the fastest-growing premium fitness applications, to bring hundreds of off-product workouts accessible for our Journey members for no additional charge. This collaboration and integration is just one example of our commitment to creating unparalleled digital workout experiences for our growing Journey membership base. Beginning this fall, Journey members can seamlessly access and track FitOn workouts, through their Bowflex-connected equipment or the app. Users can search from a wide variety of FitOn's popular off-product workouts, including cardio, high-intensity interval training, yoga, stretch, and Pilates, and choose various lengths ranging from three minutes to an hour and levels, as well as overlay journey radio to find a workout that matches their mood and location at any given moment. The first day our member gets their machine is not the best day, and we will continue enhancing the platform in response to our members' feedback. It's important to acknowledge that while we're still in year one of our long-term transformation, we've come a long way in a short period of time. I joined Nautilus almost exactly two years ago, and as I reflect on those two years, I'm incredibly grateful and impressed by the work of our team, the turnaround we've achieved, and the profound growth we've driven. The old Nautilus was an equipment-only, ship-it-and-forget-it company supported by great brands, but had missed important trends such as connected fitness, had an aging and unfocused portfolio of products, and marketing that badly needed refreshment. It also lacked clear strategy and proper investment back into the business, and it started to become eclipsed by new entrants. It had suffered a multi-year revenue decline, culminating in 2019's 22% drop in significant operating losses. Pre-pandemic, we instituted a number of operational improvements, launched new connected fitness bikes with a strong value proposition, and began to see significant change in our business trajectory. During COVID, we not only leveraged our at-home tailwinds to deliver five consecutive quarters of strong profitable growth, we expanded our supply chain to meet demand, launched new connected cardio products, targeted new consumer segments with our products and marketing, and relaunched Journey. We also launched Northstar, our long-term vision and strategic plan to give us the direction we needed. We've become a more on-trend and more digitally focused connected fitness company that partners with our customers on an ongoing basis to achieve their goals. The new Nautilus is still that veteran fitness company backed by strong brands, but we now have a clear strategy in place and are taking the right steps to reinvest in our business to fund the long-term success and ensure that we are a digitally-focused, consumer-focused leader. As I close my remarks, I'm delighted that we are further ahead on our long-term transformation than I could have dreamed when I joined Nautilus. We've made a lot of progress and find ourselves in a much stronger foundation from which to fulfill our vision. We're making deliberate and choiceful decisions to invest in the long-term vision. We will remain steadfast in our commitment to continue to build the new Nautilus for the long term, one with more predictable growth and higher profitability that will generate attractive long-term returns. I'll now turn it over to Ina, who will give us more detail on our first quarter financials and our guidance for the rest of the year. Ina?