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spk02: Greetings, ladies and gentlemen, and welcome to the Nautilus Incorporated Second Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. Should anyone require operator assistance, please press star zero on your telephone keypad. It is now my pleasure to introduce your host, Mr. John Mills. Thank you. You may begin. Great.
spk05: Thank you, Jen. Good afternoon, everyone. Welcome to Nautilus' second quarter fiscal 2022 conference call. Participants on the call today 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 Nautilus Inc. on the investor relations page. The earnings released, including a reconciliation of the non-GAAP financial measures mentioned in today's call, are the most directly comparable GAAP measures. Please note, unless otherwise stated, all comparisons in this call will be against our results for the comparable period of 2020. For today's call, we have a presentation that management will refer to during their prepared remarks. On slide two is our full safe harbor statement which we ask everyone to read. You can access the presentation by going to NautilusInc.com, then click on the Investors tab, and then click on the Events, and the webcast and the presentation will be there. I would like to remind everyone that during the conference call, Nautilus Management will make certain forward-looking statements. These forward-looking statements are based upon 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 any 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 is my pleasure to turn the call over to the CEO, Jim Barr.
spk08: Thank you, John, and thank you all for joining us. Today, I'll begin with some thoughts on the home fitness market dynamics over the past 18 months and the outlook going forward as context, then cover our financial performance in the quarter and the first half. Next, I'll discuss our strong progress on our North Star strategy, including Journey. I'll end with our plans to further accelerate our investments in journey and in marketing. You've heard us talk in detail over the past 18 months about the dramatic expansion in the size of our SAM, two to three X by our most recent estimates. This kind of industry growth is very rare and underscores our strong opportunity as the number three in market share. There is strong evidence that much of this market expansion may be permanent because the principal driver is profound and fundamental secular changes in workout attitudes and habits that favor home fitness. Our frequent surveys continue to indicate that 25% of former gym goers do not intend to ever go back to the gym, and that others who say they will return to the gym plan to work out more often at home than they did pre-pandemic due to remote or hybrid work models. Workout place is highly correlated with workplace. We are seeing these changes and attitudes play out in consumer behavior. For example, in a recent study we commissioned, 66% of respondents report that they work out at home versus 43% pre-pandemic. Connected fitness and our transformation are still in early innings, I'm proud that we have positioned ourselves well during the pandemic for post-pandemic success. We now have a portfolio of new connected products, a Strength and Journey digital offering with a growing member base, stronger consumer targeting, expanded omnichannel distribution, and a stronger team. It is remarkable what we have accomplished in the last two years. I'll talk more about that a bit later. Now I'll briefly speak to our second quarter and first half financial results. In the second fiscal quarter of 2022, net sales were $138 million, which represents nearly 125% growth versus two years ago. Our net sales were $155 million in the same period last year. The primary driver of our miss to guidance was due to global shipping challenges beyond our control that affected the end of quarter cutoff. Specifically, we would have met our guidance of $145 to $155 million if just a portion of the $22 million of FFO finished goods inventory we had ready and waiting on the dock for retail customers had been picked up. There are a variety of reasons for the delay in pickup, including retailers' inability to secure containers in time. In fact, $12 million of the $22 million had shipped by the end of October. For additional perspective, this was the second strongest September quarter in the past decade for Nautilus. Excluding Octane, our retail segment in the second quarter was up 19% compared to the prior year period and up 175% compared to the same period two years ago. The direct channel exceeded our internal goals and was down in the second quarter due to seasonality, which didn't occur last year. but it was up 134% compared to the second quarter two years ago. International, which is reported as part of the retail segment, continued to achieve very strong year-over-year and two-year growth in the second quarter, up 57% and 655% respectively. As expected, gross margin for the second quarter of fiscal year 2022 was lower due to abnormal shipping and logistics costs, eight points, commodities and components and foreign exchange, four points, and continued investment in journey, one point. The cost pressures related to the global supply chain disruptions are obviously affecting many industries, including ours. While the impact is significant, we believe these external margin pressures will normalize over time and, when coupled with the expansion of our addressable market, will result in improved operating margins for non-lists. Despite our sales miss, we achieved our adjusted operating margin guidance for the second quarter of low single digits, while increasing our investment in advertising and journey by nearly $8 million versus LY. Especially given the atypical retail seasonality patterns we have seen, it is important to also discuss the first half of the year in aggregate. For the first half, net sales were $323 million, a 28% comp to LY, and a 215% comp to LLY, excluding Octane. Keep in mind, 2022 is comping against the pandemic sales in 2021, so we're quite pleased with our first six months' performance. In fact, this first half ranks as the best comparable period in Nautilus history. For the first half, adjusted operating income was $22 million, or 7%. Moving on to our progress on our North Star strategy. During our investor day in March, when we laid out our long-term vision and strategic plan, North Star, one of the areas we highlighted was our supply chain. We have made great strides by working down backlog, improving our inventory position relative to last year, and opening a new DC to alleviate the widely known supply issues affecting global shipping. We are proud to have built and shipped the inventory to meet consumer demand without the disappointment of last year's long waits. We have overcome shipping issues and will not be among those sellers with empty shelves this holiday season. Even with these successful investments, we expect gross margins to continue to be under pressure as global supply chain disruptions continue to persist. We continue to address unprecedented challenges such as container availability costs of shipping and storing inventory, elevated commodity costs, availability and spot prices of electronic components, and delayed retailer FFO pickups. But we have developed a much stronger and more agile supply chain, thanks to disciplined execution on our North Star strategic plan. Next, I would like to turn to innovation. This quarter, we announced and completed the acquisition of Way, a leader in motion and vision technology. This acquisition directly supports our aim to accelerate our software development capabilities and add new and innovative features to its journey platform, moving us closer to our vision for journey as your highly personalized one-on-one fitness coach. Waze proprietary technology enables computers to understand human motion using cameras on its computer vision software, analyzes movements, and provides real-time individualized feedback and coaching on exercise. Way has a particular unique strength in using cameras found on today's mobile devices, such as smartphones and tablets. Way's existing partners include Microsoft and ETH Zurich, one of the top science and technology universities in the world. We plan to integrate Way's motion tracking capabilities into Journey to further advance and accelerate our highly personalized workout experiences, including automatic rep counting and form coaching. Our initial focus will be on strength training and off-product workouts such as body weight, yoga, and floor exercises. We are excited to have increased our software capabilities through this tuck-in acquisition and plan to incorporate the first set of features from Way into the Journey experience during our fiscal 22 fourth quarter. Over the past year, we've made tremendous advancements with Journey and are seeing very strong adoption and tremendous growth in Journey members. We are excited about the value and the experience that Journey provides. It is focused on the individual. It provides a greater variety of choices of equipment and ways to work out than competitors. We have added classes, of course, but Journey brings what we call entertainment beyond the class. And we provide all this at a great value, typically one-half to one-third the price of our competition. Just last week, we announced that Journey now includes strength video workouts for both Select Tech 552 and 1090 dumbbells. Select Tech is one of our strongest selling offerings, and this is our first entry into strength training with Journey. The new updated digital platform now includes a video library of instructor-led strength workouts for these Bowflex Select Tech dumbbells. In the near future, we will also be adding strength workouts specific for the Bowflex Select Tech 840 kettlebell and the Bowflex Select Tech 2080 barbell. We also announced that for a limited time, New Journey members are eligible to receive a 12-month complimentary trial membership. This marks the latest step to make the Journey experience available to more consumers, whether they are using cardio or strength equipment or both. Previously, consumers could not easily experience Journey without owning one of our connected cardio products. We are excited to expose the Journey experience to a much broader audience. We were also excited to announce last week our latest connected cardio product, the new connected Bowflex Max Total 16. The new Max offers a 16-inch HD touchscreen and integration with the Journey digital fitness platform, so users stay engaged and motivated during high-calorie burn interval workouts. The Bowflex Max Total 16 machine blends the low impact of an elliptical and the high intensity of a stepper to offer a short, high-intensity interval workout in a compact design. The initial reception of our Journey-powered MAX machines has been phenomenal, and we are excited about how we have improved upon this industry-leading product unique to Bowflex. We've increased Journey content, adding over 100 Explore the World immersive experiences, and have released hundreds of new trainer-led videos during the first half of the fiscal year 22. We've done so with our own first-party content and through partners such as FitOn. We also launched Journey.com, a new web-based consumer portal to better highlight Journey platform's features and benefits, as well as helping members more easily manage their Journey accounts without calling customer service. The team and I are delighted with our execution and progress in Connected Fitness via our new equipment and the Journey platform, and we're only just beginning. All of this progress in the last few months has led to very strong membership growth and lowered our churn significantly. While it is early, our growth is extremely promising. I am pleased to report that our current member count is approximately 200,000, more than three times the year ago period when we had about 65,000 members. And this incredible growth is before the holiday season, before our new product introductions, journey enhancements, and special limited time trial offers that I just discussed. As planned in our North Star plan, we have stood up and are building a highly profitable digital business on top of a successful equipment business. The consumer experience on our equipment is enhanced by our digital offering, and our digital business is fueled by the economics of the equipment business. We have been working tirelessly to make Journey a leading fitness service that matches our incredible lineup of equipment. Our digital connected subscription service is driving the future of Nautilus and the execution and results of our North Star strategy have exceeded our expectations to date. I'm delighted that we are even further along in our long-term transformation than we expected on Investor Day in March. This progress ultimately will enable us to have more predictable growth and higher profitability that will generate attractive long-term returns. There remain challenges to overcome, such as post-COVID recovery-driven margin pressure from inflation and transportation costs, which had been more severe than anyone expected. In fact, 12 points in Q2. In the first half of our fiscal year, we were proud to have overcome these challenges, stayed committed to North Star investments, and still remained profitable. It was an incredible accomplishment to do it all. As we looked at the second half, we assumed that these margin challenges, while temporary, would likely persist for the remainder of our fiscal year. This led us to an important decision point. Do we choose to remain profitable by pausing or reducing our North Star strategy investments? Or do we capitalize on our progress and continue to invest with confidence using our balance sheet? Faced with this choice, our board and management team have made the strategic decision to not only stay committed to North Star, but to accelerate our investment in the second half of the year. We are choosing progress towards our long-term goals over short-term profit maximization. Specifically, We are increasing our second half forecasted OPEX spend by $12 to $14 million in Journey versus LY, and marketing as a percentage of sales will increase by 9 to 11 points versus last year. This will permit us to more quickly grow our membership base and transition to a higher gross margin business earlier than originally laid out in our investor day. Additionally, we have improved our liquidity by increasing our line of credit to $100 million. This allowed us to deploy cash for tuck-in acquisitions like Wei, gave us working capital to invest in inventory, and importantly, gives us room to accelerate our long-term investments. We also expect that this near-term investment will enable our journey digital platform business to be accretive sooner than previously expected. Ina will be providing specific 2022 guidance during her remarks, and will include a waterfall of margins to show where we are investing. We also expect margins to climb each year from 2023 to 2026 and beyond. Simply put, we are leveraging our profitable equipment business to build digital faster due to strong results. We are unified in our confidence that this is the best approach for our company and for our shareholders. I'll now turn it over to Ina, who will give us more detail on our second quarter financials and guidance for the rest of the year. Ina?
spk01: Thanks, Jim, and good afternoon, everyone. Today I'll talk to results for Q2 in the first half of fiscal year 22, and we'll provide guidance for the second half. I'll start with slide 11 of the presentation, total company P&L results for Q2 22, with comparisons to the same quarter last year. Net sales were $138 million, down 11% to LY on a GAAP basis. excluding octane, were down 5% and up 150% to LLY. Sales declined year over year primarily due to direct return to normal seasonality and global logistics challenges affecting retail. As Jim mentioned earlier, we had over 22 million of FFO orders ready for pickup that didn't make the cutoff. Unfortunately, our sales guidance range wasn't wide enough to accommodate this level of disruption. Gross profit was 42 million and gross margins were 30.5, down 13 points from LY. Eight points of the decline is due to logistics, four points due to raw materials components and effects, and one point related to increased journey investment. Turning to operating expenses. This year we booked a $5 million settlement related to a class action lawsuit and incurred $1 million in acquisition costs for way. Last year, we booked $8 million of gain on disposal group related to Octane. Given these unusual costs, we believe it's better to look at our operating results on an adjusted basis. Please see our press release for our reconciliation to GAAP. Adjusted operating expenses were $39 million, or 28% of sales, versus last year's $32 million, or 12% of sales. Selling and marketing expenses were $22 million, or 16% of sales, up $3 million to last year, driven by higher advertising. Adjusted G&A expenses were $11 million, or 8% of sales, up $2 million to LY, primarily driven by increased investments in Journey. R&D was $6 million, or 4% of sales, up $1 million compared to LY, again driven by increased costs related to Journey. In fiscal Q2, advertising was $12 million and Journey OpEx was $5 million. Adjusted operating income was $4 million, and adjusted operating margins were 3%, in line with guidance of low single digits. Our presentation includes a waterfall chart on page 13 that describes the year-over-year change in operating margins. The biggest driver is lowered gross margins, followed by increased advertising and investments in Journey. Adjusted income from continuing ops was $1 million, or $0.03 per diluted share, versus last year's $28 million, or $0.87 per diluted share. Adjusted EBITDA from continuing ops was $7 million or 5% compared to last year's $38 million or 25%. Please refer to our press release in the presentation accompanying this call for more information on segment performance for the periods three months and six months ending September. Let me now turn to slide 15 for results for the first half, which is the six months ended September 30th, 2021 compared to the same period last year. Net sales were 323 million, up 20% on a GAAP basis, excluding octane sales were up 28% versus LY, and up 215% versus LLY, driven by strong growth in retail. Gross profit was 98 million, and gross margins were 30%, down 13 points versus last year. The decrease was primarily due to increased logistics, seven points, raw materials components and FX, five points, and one point related to increased investments in Journey. The following statements for the first half exclude the impact of this year's legal settlement and acquisition costs and last year's loss and disposal group. Adjusted OpEx was 76 million or 24% of sales versus last year's 58 million or 21% of sales. The $18 million increase was essentially driven by 12 million more in advertising and 6 million more in Journey. When we saw direct begin to return to seasonality in Q1, the equipment side of our business worked hard to keep costs flat to LOI, despite higher unit sales this year, while continuing to advance Northstar. First half advertising spend was $23 million, and first half journey op-ex was $8 million. Adjusted operating income was $22 million, or 7%, compared to last year's $58 million, or 21%. driven by lower gross margins and higher OPEX. Please see slide 17 in the presentation for our waterfall chart, walking through the year-over-year changes. Similar to Q2, the largest driver of the decline are supply chain related, followed by increased investments in advertising and journey, partially offset by operational improvements, as the organization worked to keep costs in line with lower sales. Adjusted income from continuing ops was $15 million, or $0.46 per diluted share, compared to $45 million or $1.40 per diluted chair. Adjusted EBITDA from continuing ops was $28 million or 9%, compared to $64 million or 24% of net sales. Turning now to the balance sheet as of September 30th. Cash was $22 million and inventory was $163 million, with about 40% in transit as of 9-30, compared to $68 million at year end. Given the continued disruption in global logistics, we made a strategic decision to bring inventory in earlier to be in a better position to meet peak seasonal demand. Our inventory is concentrated in our best-selling products, and we're incurring incremental storage and transportation fees to position as well for holiday. AR was mostly flat at $89 million, and trade payables were $115 million versus $99 million of $331 million. primarily due to the timing of payments for inventory. Debt was $17 million versus $13 million at year end, and we had $49 million available for borrowing in our facility. On October 29, we amended our facility, increasing our revolver size from $55 million to $100 million and extending the maturity date to October 29, 2026. On a pro forma basis, using our new expanded facility, we would have had $94 million available for borrowing at 9.30. Turning now to our expectations for the rest of the year. As Jim highlighted, we're pleased with the progress we're making at NorthStar and the solid momentum in our journey business. We now have 200,000 members. Engagement is growing, churn is declining, and our path to bringing journey to scale has become clearer as we gain new capabilities through our recent acquisition and content partnerships. Certain aspects of our environment are challenging, Like nearly every other business, we're experiencing near-term external pressures and gross margins, which worsened in Q2 versus Q1. While we're really proud that we were able to overcome the majority of the pressures in the first half, we don't believe that putting our future on hold for near-term results is the best way to deliver long-term shareholder value. Our board, the management team, and our employees have strong conviction that the path of sustainable, profitable growth is through having a high-margin subscription business to complement our enduring equipment business. We'll do that by capturing greater share of the connected fitness market by improving and enhancing the journey platform, and we'll be investing in that. Let me now share our expectations for the second half of fiscal year 22, six months ending March 2022. Please follow along starting on slide 20 of the presentation as the slides including a waterfall that we think will be helpful in understanding the changes in operating margins. We expect sales to be between $290 and $320 million, which represents growth versus LLY of between 47% and 62%, or a two-year CAGR of 21% to 27%, versus the six months ending March 2020. This sales guidance reflects our plan to continue bundling 12-month journey trials with cardio equipment sales. We will be deferring the journey portion of the bundled sale revenue and amortizing it monthly for the subsequent 12 months. Our expected deferred revenues of $6 to $7 million will reduce sales and negatively impact gross margins in the second half by 2 to 3 points. We expect the same macro supply chain hedging to continue in the second half, negatively impacting gross margins by 12 points. We continue to increase our investment and journey in the second half. Second half journey COGS, which includes depreciation, content, customer support, and per subscriber variable costs, will be between $6 and $8 million this year. Second half OPEX journey, which includes R&D, IT, product management, and the amortization of stock-based compensation and earner associated with our way acquisition, will be between $18 and $20 million this year. We plan on investing more in advertising this year to remain competitive and share a voice and to highlight the improvements in our connected fitness experience. As a rate of sales, advertising will increase by 9% to 11%. Lastly, we will continue to invest in our infrastructure and in our team. We doubled our equipment business, but most of our increased costs have been targeted towards journey. We're upgrading our tools and adding new capabilities to the equipment side to optimize and scale for the future. We believe these investments will accelerate membership acquisition and will ultimately result in the Journey Business Unit being accretive several quarters faster than originally planned. We could have chosen to pull back on spend in the second half, put our future on hold, and deliver operating income in the low single digits. But as we told you during Investor Day, we will always lean more towards protecting the long-term prosperity of the company versus achieving near-term profits. Therefore, for the second half of the year, we expect operating loss margins in the mid-teens and adjusted EBITDA margins in the low-teens. We continue to expect CapEx to be between $12 and $14 million for the full year, with the majority earmarked for Journey. And lastly, we now expect Journey members to be between $250,000 and $350,000 by the end of fiscal 22. Looking beyond fiscal 22 and into fiscal 23, we see a path to adjusted EBITDA profitability. Specifically, we anticipate year-over-year gross margin expansion driven by a stabilization in the logistics environment. We'll also begin to recognize the accretive impact of our higher margin digital subscription business as we add members and leverage our growing scale. This will enable us to achieve gross margins in the low 30% on a blended basis for the full year. As a result, we expect to be adjusted EBITDA profitable for the full fiscal 23. One final comment on our long-term expectations. By accelerating our investments into Journey, we now expect to achieve mid-teen operating margins by fiscal year-end 25, one year earlier than we initially modeled, with fiscal year-end 26 delivering operating margins in the high teens. In closing, our liquidity position is strong. We've invested our cash in our best-performing inventory, and we have an expanded $100 million credit line. We are well prepared for the upcoming fitness season with a robust inventory position, strong digital offering, well-funded marketing, leading equipment for connectivity, and a team passionate about our vision of creating a healthier world one person at a time. Now I'd like to turn it over back to Jim for his final comments.
spk08: Thank you, Anna. Before we go to questions, I would like to briefly take stock in our progress over the past two years. Faced with a favorable market dynamic, we acted decisively to set a new strategy and execute against it. Our progress to date is undeniable. I'd like to give just a few examples. In 2019, we had only one connected product in our portfolio until December and no meaningful install base for our subscription business. Now we have a complete portfolio of connected fitness cardio machines unified by the Journey membership platform and ecosystem. Our installed base ticked up in late 2019 with the launch of two new bikes, but we did not have much scale in connected cardio units sold. By contrast, in just the last year, we have sold more than four times the number of connected cardio units as 2019, rapidly growing our installed base of Journey-powered units. The Max Trainer, our most important and proprietary product, was in a multi-year decline in 2019. This quarter, I'm delighted to report that the new Connected Fitness M9 Max Trainer, now revitalized with Journey, was number one in dollar sales indirect. Two years ago, we were mostly a mechanical engineering company with about a dozen developers and software UX FTEs. Today, we continue our legacy with strong equipment, but we have 160 people engaged in software development. This fundamental change in our business toward connected fitness has already yielded tangible results. Journey had 14,000 members at the end of 2019. Today, as we've said, we have approximately 200,000 and are on our way to achieving our first year goal and accelerating towards our 2 million member goal. Journey has been built on consumer insight, and we are improving it every quarter with accelerated investments. We are inspired by our mission to be a leader in individualized connected fitness. Two years ago, we had no meaningful consumer segmentation. Our products and marketing appealed more to consumers who didn't like working out, and we were not driving a significant number of new customers to our brands. Today, we are relentlessly focused on high-value targets who prioritize fitness day in and day out and are highly correlated with gym-goers displaced during the pandemic. As a result, we added over 400,000 new customers to our brand versus a typical year of adding 100,000. We also are recalibrating the Bowflex brand to ensure we resonate equally with men and women and to bring our younger cohorts who thrive on connected fitness, and we'll appreciate the variety of the challenge that our journey platform offers. In 2019, we were still not fully committed to Omnichannel. Today, we are passionate about letting our consumers shop when, where, and how they want. I'm really proud of the way we have invigorated and strengthened our retail segment, more than doubling our number of retail doors and radically diversifying our retailer base. We were shrinking in survival mode in 2019 in need of a turnaround, greater liquidity, and a clear strategic direction. Since then, we have more than doubled our revenue and strengthened our capital structure. which gives us the confidence to continue to invest in the future and an inspiring on-point and very focused strategy North Star that we believe will deliver more consistent, more predictable growth based on a balanced equipment portfolio and a growing recurring revenue base and levels of profitability not achieved in our history. We have also built a world-class team and strengthened our digital talent. Our market opportunity has grown tremendously The US home fitness market size appears to have doubled or tripled up the 2019 base due to important changes in habits and trends favoring home fitness. The progress our company has made over the last two years is incredible and gives us strong confidence that our outlook for the future has never been stronger. It is with this confidence that we stay committed to our North Star strategy and our investing for the future. I want to thank all our leaders, employees, suppliers, distributors, and retail partners. Your incredible efforts are not only transforming our company, but changing consumers' lives by empowering healthier living through individualized connected fitness experiences. I'd now like to turn it over to questions. Operator?
spk02: Thank you. Ladies and gentlemen, we'll now be conducting a question and answer session. If you'd like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up the handset before pressing the star keys. One moment, please. We'll leave the poll for questions. Our first question comes from the line of Steve Dyer with Craig Hallam. Please proceed with your question.
spk00: Thanks for taking my question. Good afternoon, everybody. couple questions on journey some some encouraging early signs there I guess a two-part question there one I guess are you willing to share able to share anything that you're sort of seeing that's better than expectations there are you seeing you know sort of more subscribers are you seeing more associated you know sort of members or accounts on those subscriptions you know anything there I guess would be so what you're seeing would be the first one the second one then would be the the increased journey spend on Is that sort of to the extent you can sort of talk about that? Is that accelerating spend that otherwise would have been done next year? Or are you just are you ramping up sort of marketing given what's going on in the marketplace to stay relevant in front of mind? And then I have one more. Thanks.
spk08: Sure. No, thank you for your question, Steve. Good questions. Yes, so I'd say the short answer is everything on Journey seems to be going better than we expected. Specifically, we did call out the member number. That's going faster. And as I mentioned, it's kind of pre-fitness season and some special offers to get this out there. We've disconnected Journey from the cardio equipment so more people can experience it. I guess that's one is just the membership. The churn is down. We're not providing it yet. As you know, we're committed to providing a set of metrics on an ongoing basis beginning with our fourth quarter call when we said it would be material. So we'll continue to do that. Engagement is quite high. By that I mean the number of hours and workouts per user are going up. attachment is up. So that's, you know, of the people who are eligible to use Journey, how many of them are actually using it. So all of those things give us really, you know, a lot of confidence that we are ahead of schedule on many of these things. And hence, we've sort of changed our goals as well and are more aggressively moving towards our long-term goals. And I'll hand it to Ina on the spend question.
spk01: So you had two questions on the spend. First about journey spend. Yes, it's an acceleration of spend we thought we'd be doing a little bit later, but we thought given the momentum and the proof points that we could accelerate it. You asked about marketing. So yes, we're increasing marketing as a percentage of sales, and that's in a combination of we now have a great set of connected products and experiences we want to tell consumers about, and we do want to be a little bit more competitive and just share a voice
spk08: the back half of the year and as we said about the brand advertising as well we think a portion of this investment is durable right and we talked about the fact that we have the Bowflex brand that is kind of top of the market in terms of recognition relative to our closest competitors so people know the brand but the brand when we talk about the brand it sometimes emotes a the idea of the Rod Gym, and we want people to be thinking about more modern views of our brand related to journey and digital experiences and things like that. So we'll be spending on that so that we move the brand to where we want to move it.
spk00: That's very helpful. Just a couple quick ones. I think you had talked back at your analyst day about staying profitable through all of this and paying as you go, I guess, so to speak, was a term you used a couple times. The decision to swing negative or unprofitable in the next two quarters, is that primarily a function of accelerating journey, or is that also sort of some of these other cost headwinds are just bigger than you anticipated at the time?
spk08: Yeah, it's a combination of really both those things. Our strong progress is a big part of it. So when you're doing well, you go, hey, can we get there faster? And you challenge yourself to do that. But to be totally honest, it's these 12 points of margin compression. When we started out at that pay-as-you-go and we thought we could do it all, we thought we had such a strong tailwind there that we'd be able to overcome all of those points, especially the landed product cost of about seven points. So we thought we could overcome all of that and still invest in Journey. But then by the time we got to the second half and we looked at it, and we were really looking at the logistics problems getting worse throughout the first half and sort of peaking in the second quarter. And then we have to anniversary that for the entire back half. And that's just too much to overcome when you look at it that way. So then we were really faced with that choice, and we just really wanted to put investors in our framework there. We literally said, hey, look, we can break even. But is that the right thing for the business? We would have to actually slow things down. We'd slow down some hiring. We'd slow down journey development. We wouldn't market as much. And we could deliver a profitable second half, but that did not seem right. What you're seeing in the market is nobody's really going for a profit motive. Growth is more important. Membership growth is more important. and we saw a way to really accelerate towards that much faster. So that's why we made the decision. We did want to kind of put you all in our mindset. We are 100% confident that is the right decision. We came here to change the company in this direction. We have a tremendous opportunity to do that. We have a balance sheet that supports it, and we're going for it. We think that's the right way to go. Some investors might want the short-term profit, but We want the investors that are here for the long term because the long term is just a beautiful thing.
spk00: Yep, got it. Thank you for the color. I appreciate it. Sure.
spk02: Thank you. Ladies and gentlemen, our next question comes from the line of Mike Schwartz with Truist Securities. Please proceed with your question.
spk06: Hey, good evening, guys. Mike Schwartz. First question, I guess, how do you think about customer acquisition costs in the current environment? And I guess, where do we expect that to level out and really start to see some benefits over the next couple of years?
spk08: Yeah, I mean, obviously, direct businesses are challenged with the cost of customer acquisition. I was trying to get at that a little bit in my script and my talk. Because we're actually, if we were trying to acquire journey members without an equipment business, that would be brutal, right? The cost of customer acquisition in a purely digital business would be very, very tough. The way we look at it, and we described a little bit of this at Investor Day, but still the way we think about it, is we're leveraging our equipment business. By selling the equipment at the margins that we're selling them, we acquire customers and And then those customers attached to Journey. And you'll see in our advertising over time that Journey will go from having a cameo appearance in our advertising to a co-star to being the star over time. That's how it'll roll. And we're really leveraging that cost of customer acquisition for a highly profitable piece of equipment to acquire customers this way. And then, of course, we're doing these free trials as well. And we're doing free trials on the Select Tech stuff so you can go back to previous customers. And acquiring previous customers for Journey, much easier thing. You have their email addresses. You just send them a note saying, hey, we've got a great way for you to use your Select Tech that you've been waiting for. We probably should have had it earlier, but we have it now. Why don't you come try it? And then that product gets better over time. You know, we talked about the way acquisition and, you know, rep counting and form coaching and things like that on that. So that's the way we think about it. And, you know, it's still a challenge for all these businesses that have a direct component. But as I said, we are really, we're in a nice place where we have this digital business and this physical equipment business.
spk06: Great. Thanks for the color. And second question, just on – I think you've provided some longer-term margin targets, and it sounds like you're moving them one year ahead of maybe when you previously thought you would generate target margins. So I guess is this purely just a function of journey proceeding faster than expected, or are you changing any of the margin targets that you – gave before, and specifically, I think you said subscription margins run closer to 20-25%. Is that still the right way to think about that?
spk08: Yeah, I mean, we're thinking two ways. We're thinking about it earlier and accelerating it, and we also, as we've gotten to see how the early economics have worked out in our subscription business, we think we'll have elevated margins. Ina, anything to add to that?
spk01: No. When we were working it through at the beginning of the year, you know, we hadn't inked a lot of these contracts that we now have. So we have a lot more clarity, and we've acquired, you know, our first tuck-in and can see the underlying cost structure, and it's favorable to what we were thinking, and then the economics are improving faster than we had initially modeled.
spk06: Okay, that's helpful. And Amy, one Final question for me. I think you've said the 200,000 subscribers at the end of the quarter. Can you provide any context or color on how many of those are paying subscribers?
spk08: Just to correct it, we said members, which is a different definition than subscribers. Yeah, no problem. We'll demystify this over time. But as we said, we're actually providing a lot more about our subscription business than we plan to do. Our commitment is by the fourth quarter of this year, when we report fourth quarter, that we'll have a set of metrics that you can look at for our subscription business that will be robust enough for you to really look at the health of that business. Until then, we're providing selective information. and we've focused on this member amount. We're not saying what this churn is, but I am happy that it's really, it's coming down as we work on quality, as we get our analytics better, as we get our journey.com stood up, as we build more content, as we add new features. That's coming down, so that's it. And so we'll stay committed to giving you a robust set of metrics in the timeframe that we promised, but we're kind of leaking it a little bit early, And part of the reason for that is we wanted people to understand why we're making this decision to invest further into Journey.
spk06: Okay, gotcha. Thanks, Jim.
spk08: Sure.
spk06: Thanks, Mike.
spk02: Thank you. Our next question comes from the line of Sharon Zaxia with William Blair. Please proceed with your question.
spk03: Hi, it's Matt Curtis. I'm for Sharon, actually. Thanks for taking the question. The first question is on the product pipeline. I mean, you recently added the max total 16. I'm just wondering how many more product introductions you have scheduled for this fiscal year and roughly when those are expected to launch?
spk08: Yeah, I mean, we don't provide our complete roadmap for competitive reasons. They seem to just pop up. You've seen our competitors doing the same thing, so we don't warn people off our total roadmap. But we did the M9 recently, the 9-inch screen on the Max Trainer, and the M16, our new Max Total, as you alluded to. Last week, I talked about the BYOD Strength product in Journey. So basically, it's not a new physical product, but it's a new way to use our physical product. So you can buy the dumbbell and the training together. Or if you have the dumbbell, you can just get the training added to your account going forward and you'll be able to try it. So that's a big thing. And then, like I said, the way acquisition, we're going to continue building more features into that that will help you with those workouts. So that's kind of the early part of strength that we said in the call that that part is coming in the fourth quarter of this year. Beyond that, we're not commenting, but I will say we have a robust team pipeline of strength products. Now, we've kind of worked our way all the way through the cardio line and modernized that, and now we're focused on strength, which, you know, for Bowflex is really what the brand stands for. So we're very excited about several products we have in the pipeline, but I'm not at liberty to talk about them in detail right now.
spk03: Okay, understood. And then on the margin pressure, you're expecting to see in the second half of the year. Could you just help us flush out what quarter that pressure would be more weighted to? I mean, I would expect there would be more pre-holidays, but I'm just wondering if that's the case or if it's going to be more evenly spread out.
spk01: That's a great question. So let's start with the supply chain. That'll be more evenly spread out. Same thing with the fixed investments in Journey like OpEx. I mean, we're building like an infrastructure for that. It's the advertising that I think will be movable. And I can't give any more color than what I have now for the back half because we really want to preserve our agility and we will deploy that marketing firepower in the appropriate moment to like really drive membership growth and people to our websites and to our retail partners store so they can buy the equipment.
spk03: Okay, understood. Thanks very much and good luck during the holidays.
spk01: Thank you.
spk02: Thank you. Our next question comes from the line of George Kelly with Roth Capital Partners. Please proceed with your question.
spk04: Hey, everybody. Thanks for taking my questions. So maybe to start with your uh, your comments on 2023. So I was curious if you could, um, bridge, uh, if, if the second half of this year is, uh, I think it's 10 to 12%, uh, negative EBITDA margin. Can you help bridge the gap? Most of that margin to get to profitable EBIT done for all of it. So what else is, is, uh, is implied in that? And then also, Kind of similar question, but what about sales growth? Do you expect to hit positive sales growth at any point next year?
spk01: Great question. So I'll start with the margins. The big driver of our path back to profitability really is the expansion or the easing of the headwinds in gross margins specific to logistics. We have a very clear path on how some of these things will moderate. The most important would be as we work down our inventory and sell the inventory that we brought in early, we won't need as much of the storage and the extra transportation costs that we're incurring this back half. Secondarily, we've begun already the negotiations for a larger portion of our containers being under a fixed contract rather than being on the spot market. And then lastly, it's a small piece, but we're really pleased that Journey will actually begin to help us on the gross margin line next year. So excited for that to be helping us. So those are really the big drivers of us getting back to adjusted EBITDA profitability in fiscal 23.
spk04: And then, I don't know if you want to comment, but can you talk about your expectation on revenue growth for next year?
spk01: I think it's... Similar to everybody, right? We always planned, and we talked about this during Investor Day, that if there is a pandemic high, it would likely moderate and there'd be some sort of settling down. Again, not settling back down to where it was in 2019, but settling down and not continuing to grow at this frenetic phase. We're, like similar to other people, trying to figure out, is that now? Is that going to go on for a few more quarters? So our assumptions are pretty wide to get to that adjusted EBITDA profitability where we either model a slight decline, maybe a slight increase. But I'm not counting on massive sales growth to deliver the profitability.
spk08: And I'll just reiterate what I said about the market. That's why I really wanted to start this whole talk today with what we're seeing in the market. And we just really believe in the strong secular changes towards home fitness. It doesn't tell us where it's going to peak and what it comes down to, but it's not coming down to anywhere near where it was, as Ina said. We see that, and we see it not only in attitudes, but we see it in actual workout habits that we're monitoring. And then connected fitness, that's the other reason to believe as well, is that is just in its early innings. So many people found connected fitness during the pandemic. but not everybody's delivering great against that, and it's all very early relative to what we all think we can deliver for consumers. So I think no matter what you think the industry dynamics are, and even if it does crest and work its way down a little bit, the whole idea of connected fitness, I think, is another add on top of that. So we're feeling very strong about that. Obviously, it takes a crystal ball to know for sure. The other thing that's really tough is cutoffs, right? We just talked about We just got killed with this September 30th cutoff where we had enough to easily meet our guidance there on the sales side, but it didn't happen. So that holds us back a little bit, especially when we're talking about next year already. So we're providing the first half here, and then as we get closer, we'll let you know what we think about 2023 as things work themselves out. I guess another thing I'll just say is that the reason we changed our fiscal year, honestly, was so that we could take stock in the fitness season and how the results went before trying to predict the next year. And at the core of your question is exactly that. So we're just before Black Friday is when we start seeing seasonal pickup in both retail and the direct business. So we're kind of weeks away from knowing how that's going to begin. And then we're a fitness season away from knowing how it's going to actually play out. So hopefully that makes sense to you.
spk04: Yeah, that's helpful. Thank you. And then last question for me is, what was direct media spending in the quarter?
spk01: I'll send that to you. I have the total advertising for the quarter, but I don't have just direct. For the quarter Q2, it was $12 million, but it's primarily direct.
spk04: So most of $12 million. Yeah, most of $12 million. Thanks, everybody. Have a good one. Thank you.
spk02: Thank you. Ladies and gentlemen, as a reminder, if you'd like to ask a question, please press star 1 on your telephone keypad. Our next question comes from the line of Mark Smith with Lake Street Capital Markets. Please proceed with your question.
spk07: Hi, guys. Can you guys talk a little bit about the pricing environment and competition, you know, as we move into the important holiday and early, you know, January season? You know, what you're seeing, especially as people are using, you know, equipment for kind of member acquisition?
spk08: Yeah. No, that's a great question. And, you know, I think we're all seeing it, right? I think it's a combination of using the equipment to acquire members as we're doing ourselves and And also some of the competition having equipment, probably a lot of inventory equipment. I've seen it mostly in bikes, but I've seen it kind of across the board where the promotion, you know, nobody promoted much last year and everybody's promoting most things this year, in particular bikes. You know, we've seen iFit drop their primary bike down to about the $1,500 range. We've seen Peloton do the same. So we have to be competitive with that. We think the combination of journey trials, which we can afford to give away and bundle, I would say, it helps us to do that. And it doesn't hurt our P&L at this point as much. So that's part of our approach to that. But then we're also running promotions on our stuff as well. I will point out, though, that earlier when we had pricing power, probably more pricing power, we were not promotional, in fact, raised our prices. So that helped us kind of fight off this margin pressure a little bit longer. But now we have to look at the market and, you know, especially in these days where, you know, it's the high volume part of the year. I mean, we look at it almost every day about whether we should do a promotion or price change there. So we continue to do that, but I do think you're going to see a lot of promotion this holiday because I think we're not the only ones that said we better bring in inventory early. And so I think people have a lot of inventory. I'm just deducing that from what we said, and then we've seen what's been reported as well.
spk07: And on that, as we look at inventory within retail moving into this important season, how confident are you in your inventory that you have enough inventory out there, especially in kind of this pricing environment?
spk08: Sure. Yeah, I mean, we definitely have enough, I would say. We have stocked up, and we've stocked up on the best-selling products. Because we knew that we weren't actually going to be able to perfectly predict, as our results showed, what sells in what quarter, we invested in the inventory of our new and high best-selling products, and we're in much fewer SKUs than we were before this. We've cut a ton of SKUs. We're just focusing on kind of the fat part of the curve, you know, and that gives us a lot of confidence. So I think we have enough, and we believe it's in the right stuff. You know, that's always the second thing to try to make sure you have. So we've got it. It's all fairly new, nothing old and dusty. Nothing kind of at the tail of the curve. So we feel like as confident as we could feel going into this holiday season that we've made the right choices. And we'll see how it turns out. Anything to add?
spk01: I don't have anything to add in inventory, but I do want to correct what I said about advertising. So total advertising is 12, and we attributed 7 million to direct, and 5 million was brand. Because in Q2, we invested a lot of brand marketing in things like the Olympics. So $12 million in total, $7 million for direct, $5 million for brand.
spk07: I think that was perfect, Jen. Yep. No, that helps. Thank you. Sure.
spk02: Thank you. Ladies and gentlemen, at this time, there are no further questions. I would like to turn the floor back to management for closing comments.
spk08: Thank you to everyone on our call today for your continued support of Nautilus. We look forward to talking to you again on our third quarter fiscal year 22 earnings call in February. Have a great rest of the day. Onwards and upwards.
spk02: Thank you. Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.
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