Nautilus, Inc.

Thank you for joining us today. This program will begin momentarily. Please remain on the line. © transcript Emily Beynon Thank you. Greetings, ladies and gentlemen, and welcome to the Nautilus Incorporated fourth quarter 2022 earnings conference call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. It is now my pleasure to introduce your host, Mr. John Milk. Thank you. You may begin.

Thank you. Good afternoon, everyone. Welcome to Nautilus' fourth quarter and year-end 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 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. 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 now by going to NautilusInc.com, then click on the Investor tab, and then click on the Events and Webcast, and the presentation will be there for your viewing. I'd like to remind everyone that during this conference call, Nautilus Management will make certain forward-looking statements. These forward-looking statements are based on the beliefs of management and information currently available for 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 risk, 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 Nautilus' CEO, Mr. Jim Barr.

Thank you, John, and thank you all for joining us today. As we have closed out fiscal 22, I'm very pleased with the progress of our transformation, and we are well positioned to continue our momentum as we begin fiscal 23. On today's call, I'll cover four key points. First, why we believe in the long-term opportunity. Second, I'll update you on our Q4 and full-year results. I'll take stock in year one progress in our North Star transformation. I'll finish by discussing how we intend to navigate through the near term macro challenges. We have recently reinforced evidence that long term changes in habits favoring home fitness will persist. Pre-pandemic, about 40% of people for whom fitness is important worked out at home. Two years later, Even as more people headed back to the gym, that number is close to 70% and has now held steady for a full year. Consumers have adopted a hybrid model for fitness, similar to what they've done for work locations. In our new target consumer segment, which we call enthusiastic cross-trainers, the importance of home workouts is even more pronounced, with nearly 90% of them working out at home. They are building home gyms with multiple modalities and are becoming more brand loyal. As we predicted early in the pandemic, the home industry more than doubled to a peak, then regulated from its high point and has trended down to its new normal level. We continue to expect the natural demand settle point will be well above pre-pandemic. We believe in these long-term trends coupled with our well-known brands, strong product portfolio, differentiated connected fitness offering, and omnichannel go-to-market position us well to capture the elevated opportunity. Despite the strong long-term positive outlook, the opportunity for growth, current demand is less clear. Over the past several weeks, we've seen an uncommon and unexpected combination of factors conspire to slow top-line momentum. We have not seen normal retail orders due to their heavy inventory positions. Fearful of not having enough inventory after holiday 2020, retailers ordered early and at elevated levels beginning in our Q1 last year. Despite solid demand and seasonal sell-through in the most recent fitness season, some retailers still have more inventory to sell through. We are monitoring these inventory levels, sell-through rates, and are assisting our retailers in working through their inventory to enable reorders later in the year. We have also experienced a rapid deterioration of the macroeconomic environment with elevated inflation and interest rates and declining consumer confidence in stock market performance. Add in COVID resurgence in China and a war in Europe, and the current situation is both volatile and very challenging. We've reflected these short-term factors in guidance that INA will provide. Next, I will briefly review our financial results. We delivered fourth quarter and full year results that were in line with our guidance and underscored strong execution in the face of post-COVID demand and a tough macro environment. I am very pleased with our team's performance in fiscal 2022, another historic sales year, demonstrating strong demand for our products. For the fiscal year 22, net sales were $590 million, a 112% increase compared to the same period two years ago, excluding octane. Fiscal 22 was the second highest annual revenue in the last 15 years. Turning to the quarter, our overall financial results were in line with guidance as we achieved fourth quarter net sales of $120 million, down from last year's all-time record high, but 41% up versus two years ago, excluding octanes. Our omnichannel approach and assortment of strength and cardio offerings enabled us to strongly compete and meet fourth quarter expectations. Retail was up over 60% excluding Octane and Direct was up over 27% versus LLY. Our diversified product portfolio featuring a wide array of modalities and price points worked as designed and helped us better weather the regulating industry demand for IC bikes. For the fourth quarter, our research shows that we captured number one market share in unit sales, recording higher unit volume than any of our competitors, highlighting not only our popular products, but also improvements in supply chain capabilities. Journey membership growth was also a bright spot as we significantly eclipsed our fiscal 22 year-end goal, delivering 325,000 Journey members, exceeding our goal of 250,000 by fully 30%. We grew journey members by 200,000 for the year. I'll provide more journey highlights in just a few minutes. Our adjusted operating margin rate guidance was also in line with the results, even as gross margin continued to be affected by increased product costs, global supply chain costs, and discounting at the beginning of the fourth quarter. Ina will provide more color on these items shortly. Turning now to year one of North Star. The first fiscal year of our transformative Northstar strategy is complete. Our path to transform Nautilus into a leading digitally-enabled at-home fitness company is on track, and we are already showcasing what the future holds for the business. Our strategic decision to accelerate key investments in our technology platform and marketing initiatives is paying off. As we enter year two of Northstar, we are proud of the tremendous progress we've made. I'll cover important progress across all five pillars of our strategy. Consumer-led customer progress, advancing our connected fitness experiences embodied in journey, value and agility created by focus and disciplined execution as operators, improvement in the supply chain, and new capabilities and talents. Northstar is a differentiated strategy embodied in our mission to empower healthier living through individualized connected fitness experiences and our long-term vision to build a healthier world one person at a time. Our employees fully embrace the strategy and are passionate about our progress. The cornerstone of Northstar is transforming Nautilus from a product-led hardware company to a consumer-led digital company. Overindexed historically in a consumer segment that generally did not enjoy exercise and were seeking quick, often unsustainable results at minimal effort, we moved to a new segment we call enthusiastic cross-trainers, for whom fitness is a more important part of their lives. That pivot has turned out to be on target and highly correlated with those who favor home workouts post-pandemic. As a result, we are very proud to have acquired new customers at three times the rate compared to pre-pandemic, with nearly 600,000 new customers in two years compared to a pre-pandemic average of about 100,000 per year. We invested in our top of the industry Bowflex brand, began to modernize it, and as a result, purchase consideration so far is up more than 10%. We have already leveraged this growing customer list with a rebuy rate that doubled in fiscal 22 over fiscal 21 as our customers build their home gyms. We have nearly tripled the number of retail doors since the onset of the pandemic, added many more retailers, making it easier for consumers to buy directly from us or from a growing set of leading retailers. Notably, as I mentioned, we now believe we have recently become the market leader in unit sales. Finally, we have enhanced the level of research about consumers. These insights now drive all product and go-to-market decisions, and the results are exciting. A second pillar of Northstar is to become a leader in connected fitness. Journey, our early-stage digital membership platform, is being fueled by our successful equipment business, which bears much of the cost of customer acquisition and provides the funds to develop, improve, and scale Journey. To that end, so far, we completed a launch of a new full line of cardio machines, treads, bikes, and max trainers, all running our differentiated digital platform Journey. Once we built Journey to work with each of these modalities, this became the install base from which to grow our connected fitness business. Recently, we expanded the install base by making it possible to use Journey even if you do not own a connected cardio product. We have begun to include Journey and Bowflex advertising under the tagline Bowflex with Journey. Bowflex brings users to Journey, and Journey helps modernize the Bowflex brand. As a result of these actions, as mentioned, I'm delighted to say that we ended fiscal 22 with over 325,000 Journey members, surpassing our original goal. Because of the enhancements we made to Journey in fiscal 22, Members are realizing how Journey can help them meet their training goals through adaptive, personalized training. Journey acts as a personal trainer and provides you with progress tracking by measuring and analyzing your improvements and continually adapting to your fitness level and goals. In addition to the AI-driven individualized adaptive workouts, we have expanded our instructor-led content library and added more of our popular immersive Explore the World experiences. Journey brings an industry-leading level of variety to the fitness experience. It is available across both cardio and strength. It offers a variety of ways to work out, which is what our target consumer craves. In addition to now having hundreds of thousands of people doing millions of workouts a year on Journey, we have now begun to build our subscription business. While it's still early, I'm happy to be giving some additional Journey metrics now. Over 325,000 members, 20 times higher than fiscal 2019 when we had just one Cardio product, the max total connectable to Journey. Of the 325,000 members, 111,000 are subscribers. Our year-end subscriber count has increased nearly 20-fold since fiscal 19. One of the things I'm most excited about is the installed base we've built over the last two years. In the slide, we show how many units We've sold each of the connectable to Journey in 2020, a small number. And by contrast, at the end of fiscal 22, we had a much larger install base of connectable to Journey cardio machines and have recently connected Journey to our Select Tech weights. In fiscal 2022, approximately 80% of total units sold were connectable to Journey compared to only 22% in fiscal 20. Think of this chart as not only showing great progress, but also showing the potential for future growth. Churn has been improving. As we've shared, we've begun offering one-year trials in late September last year to scale our member count and get feedback from a larger number of users about which features they enjoy best and which ones need improvement. As these one-year trials begin converting to paid, we'll be able to share more meaningful information about churn. For now, churn will be a factor embedded in the subscriber numbers. We'll continue to update you and evaluate the best ways to provide visibility into Journey and expect to expand metrics as they become more useful to evaluate our progress. Looking forward, we believe investments we made in fiscal 22 will continue to drive membership growth. In particular, fiscal 23, in 23, we're really excited about additional enhancements to the Select Tech experience on Journey. Last fall, we acquired Way, a leader in vision systems. We have been focused on integrating Way's motion tracking capabilities into Journey to further advance and accelerate our highly personalized strength workouts, including rep counting and form coaching with our product offerings as well as others. We are on track to begin beta testing these features with consumers during the second quarter, further enhancing the Select Tech on Journey experience we launched last November. Bowflex has long been a leader in strength, and we ship more units of strength equipment than anyone else in fiscal 22. Select Tech dumbbells are wildly popular. We believe attaching Journey to 552 and 1090 dumbbell purchases will serve as a powerful accelerator of Journey memberships. We want to ensure that Journey continues to evolve and adapt to what our consumers want and love. Nautilus was late to Connected Fitness, but I'm incredibly proud of the progress. in pivoting the company towards a future where we're helping millions of people work out every week. Northstar included early focusing decisions that have paid off. We exited the commercial business selling Octane. We reduced SKUs by more than 25%, and we have narrowed our brand choices. While more than doubling our revenue at the peak, we increased our headcount by less than 20% and intentionally kept our cost structure variable to maintain agility in volatile times. We've managed our company through extraordinarily challenging times with disciplined execution. All of this will not only help us navigate the business through inevitable cycles, but provide wherewithal to invest in Northstar. Next, I'll highlight supply chain. We shipped a record number of units in fiscal 2022. Improvements in planning and execution across our supply chain were leading factors which contributed to this achievement. We made significant strides in delivery and cost for the quarter. For the quarter, we experienced significant improvement in on-time delivery at 95%, and we successfully implemented a 4% cost reduction across our top 30 products. We also successfully opened a new DC in Southern California to expedite our supply chain by being closer to larger ports. And lastly, we began diversifying our production facilities and expect By the end of this calendar year, we will be shipping product out of Mexico, cutting down on transit time and cost of Pan Pacific transportation. For fiscal 2023, we expect to actively manage the situation, including a line of sight on inbound freight and third-party storage costs. We also expect to capture cost savings from our distribution footprint consolidation with our decision to exit our Portland, D.C. Finally, and most importantly, We've made a lot of progress on our fifth pillar, creating organizational capabilities to win. We've enhanced talent to drive North Star transformation, recruited new leaders, including the company's first chief people officer, significantly refreshed our board of directors, added new capabilities and increased in-house expertise, expanded our talent pool given our hybrid work model, bringing in new skills and more diversity of thought, experiences, and backgrounds to drive our transformations. This gives me additional confidence that the company has the ability to navigate near-term volatility and ultimately deliver long-term goals. The opportunity in home fitness is strong, and we've positioned Nautilus well to capture it. We have the right strategy in North Star. It has taken root, and our people have delivered incredible and tangible results. I am proud of how we have moved the company to an exciting new place, and being nimble and agile, have delivered strong operating results in the face of an incredibly dynamic series of challenges. We are already a vastly different company compared to fiscal 20 and are emerging from the pandemic much stronger and well-positioned to navigate near-term challenges. We will draw on our experiences to keep our focus on the long run, continuing North Star momentum, while at the same time navigating a new set of unusual short-term challenges, including current retailer inventory levels and volatile demand macroeconomic conditions. We have several levers to actively manage these challenges, including gross margin improvement and efficient cost structure, focus, and disciplined execution. This approach will keep our long-term strategy moving forward and also put us on path to deliver positive adjusted EBITDA for the back half of fiscal 2023. I'll now turn it over to Ina, who will give us more detail on our fourth quarter financials and our guidance for fiscal year 2023. Ina? Thanks, Jim.