Nautilus, Inc.

Good day and welcome to the Nautilus, Inc. second quarter 2023 earnings results conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your touch-tone phone. To ajar your question, please press star then two. Please note today's event is being recorded. I would now like to turn the conference over to John Mills with ICR. Please go ahead, sir.

Thank you. Good afternoon, everyone. Welcome to Nautilus' fiscal 2023 second quarter in the September 30th 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 approximately 1.05 p.m. Pacific time and may be downloaded from our website at nautilusinc.com on the investors 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 we'll be comparing results versus last year fiscal 2022 and versus fiscal 2020, as we believe comparing to the last pre-pandemic period is helpful in demonstrating our growth and progress. For today's call, we have presentations that management will refer to during their prepared remarks. On slide two is our full safe harbor statement, which we will ask everyone to read. You can access the presentation now by going to the investors page on our website and clicking on events and webcast. 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 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 may 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 Nautilus' CEO, Mr. Jim Barr.

Thank you, John, and thank you all for joining us. I'd like you to take away three things from today's call. One, The profound and enduring shift in consumer fitness habits post-pandemic toward at-home workouts continues to enhance the long-term opportunity for our company. Two, Nautilus operating model is a strategic advantage to weather short-term top-line challenges. Our asset-light manufacturing, diversified product portfolio, omnichannel distribution, and variable cost structure that enables tight management of margin, operating expenses, and inventory levels is a model built to flex with the variation of market conditions. Third, we continue to enhance and scale our differentiated digital offering journey to better serve our customers and capture long-term revenue and profit. As proof points for this, this quarter, despite the challenge top line, we grew journey members and managed down our inventory on plan. significantly improved our gross margins and reduced our operating expenses, delivering a significant beat to analysts' adjusted EBITDA consensus. This resulted in cutting our quarterly loss in half sequentially, trending towards our goal to break even in the back half of the year. At-home fitness, like many other consumer-focused industries, is undergoing short-term macroeconomic challenges. but the long-term profitable growth opportunity for our company remains intact. Our research shows that consumers and particularly our recently defined high-value target segments are sticking with home workouts, even as they tighten their belts and watch their budgets. Consumers' long-term habits have shifted and solidified in the past two-plus years in favor of home fitness. Over 60% of U.S. adults recently surveyed say they consistently worked out at home, up from 43% who reported the same at the beginning of 2020. In our target segments, this trend is even more profound with nearly 90% working out at home. This is a long-term seismic shift and not as well positioned to take advantage of this opportunity. To weather the macro and retail challenges, we are staying grounded in our noble mission and unwavering in our dedication to build a healthier world one person at a time. We also remain steadfast in our strategy to provide consumers a broad variety of superior products and a wide range of price points via our omnichannel distribution models. And we continue to enhance the portfolio with our differentiated journey-connected fitness offerings. These advantages of a broad assortment of products and omnichannel distribution allowed us to offset areas of weakness in the quarter. Moving now to the second quarter financial results. Even in this tough environment, we saw solid end consumer demand for our products and for our journey digital offering. We delivered net sales of $65 million in the second quarter, with the direct channel up 51% compared to 2020, and the retail channel up 11% compared to 2020. While we saw a moderate level of retail sell-through, the widely publicized over-inventory and conservative position of retailers across many categories and their continued focus on lowering these inventories resulted in sales for the quarter. We added 40,000 members in a seasonally soft quarter and have passed the key threshold of 400,000 journey members. an increase of over 116% compared to the same period last year. Growth in our direct channel was driven by our strength portfolio as cardio, particularly IC bikes, lagged, reinforcing another strategic advantage, having a broad portfolio offering both high-quality strength and cardio modalities. As one channel or modality is soft, we could push the others. Further, 51% growth in our direct channel versus the same period in 2020 supports our belief that post-pandemic exercise habits favoring home fitness are here to stay. Retail channel growth was up 11% compared to the same pre-pandemic order in fiscal 2020, excluding octane. Yet retailers remain cautious about inventory levels across many categories, including home fitness. We are tracking and assisting in the destocking of existing retail inventories as they sell through And while we are seeing reorders from some retailers, others still have additional stock to sell before being comfortable in placing significant reorders. Given these conditions, when we saw softened reorders in retail, we pivoted with a focus on our direct channel for this past quarter. Driven by key actions we took earlier this year to lower supply chain costs, we improved gross margins by 480 basis points sequentially from the first quarter, and we expect continued improvement in the back half of the year and into fiscal 2024. While top line grew about 19 percent sequentially, we reduced our adjusted operating expenses by 19 percent, showcasing our operating leverage and variable cost structure. As a result, adjusted EBITDA loss for the quarter totaled $10 million, cutting the loss from the first quarter in half, delivering a significant B2 analyst consensus. We are demonstrating real improvement in adjusted EBITDA performance and expect continued improvement during the back half of the year. Lastly, we remain comfortable with our liquidity position, given the flexible nature of our cost structure and the fact that we're entering the seasonally stronger second half of the year, which we expect will deliver strong improvement in our adjusted EBITDA compared to the first half. Ina will provide more detail later in the call, along with diving deeper into quarterly results. Now I would like to discuss the other elements of our unique operating model. As noted before, our model is designed for agility with significant variability. Some examples of the variable parts of our business are as follows. An asset-light model and without source manufacturing. Utilizing contractors for sprints and surges in software development. Continuing to rationalize our product portfolio and focusing on fast-moving top sellers. SKU rationalization under Northstar has resulted in over 80% of the volume in the quarter concentrated in our top 25 products. Our approach to marketing and embracing digital media allows us to be nimble and shift marketing investments as needed. In the quarter, we focused advertising spend on transactional media to drive traffic with the best chance of converting to sales. We also made the decision to shift marketing investment from the second quarter to our peak season in the third quarter and in January, when more consumers are affected to shop and purchase in the category. And last, we continuously regulate non-media operating expenses, looking for efficiencies and savings. An additional focus of our business model and an important pillar of Northstar is our supply chain becoming a strategic advantage. We have made great progress here and are reaping the benefits with gross margins sequentially improving by 480 basis points this quarter. We expect even greater improvement in the back half of the fiscal year based on the following. We closed our Portland, D.C. at the end of October and have successfully transferred inventory to our Columbus and Southern California D.C.s, both strategically placed to optimize expedited deliveries. We renegotiated inbound freight rates as well as contract manufacturing costs for our top products. Once we sell through inventories, we will start to see the flow through of manufacturing and freight savings, possibly later this fiscal year. Let me now move on to providing an update on Journey. As I said earlier, we are pleased to report that we added 40,000 members in our seasonally-solved second quarter and are now at 400,000 total Journey members, a 116% improvement year over year. Let me highlight the important accomplishments that led to this growth. 80% of our units sold are Journey enabled now. Journey is now offered across the cardio portfolio, including treadmills, bikes, and our proprietary Max trainers, as well as available with bring your own device for our number one selling Select Tech dumbbells. We have enhanced several important aspects of the Journey platform. including usage analytics to help better understand what our members use and enjoy among our industry-leading variety of ways to work out. We've also added an enhanced member communication platform that permits us to more easily convey new features and benefits and coach and encourage members between workouts. We continue to enhance our instructor-led content library and added new Explore the World immersive experience routes to give consumers nearly 400 places to visit while working out. We are doubling down on our differentiated adaptive workouts that are unique to each individual member and expect to offer more features over the coming quarters. We continue working to integrate Journey with motion tracking with our leading 552 and 1090 dumbbells and are on track to start a broad beta test in the third quarter. Finally, we are excited that per typical early life cycles of subscription products, We are beginning to convert the very first of the 12 membership trials that were bundled with Journey-enabled cardio products. As more trial memberships come up for renewal and this data becomes more meaningful and useful, we will share information on conversion and churn. For now, churn is embedded in the member numbers. These advancements have us well positioned to grow our base and engagement of Journey members. We continue to expect to end the fiscal year with more than 1.5 million Journey members. And in addition to the digital capabilities in Journey, what do we have coming up for fitness season? Well, new products, of course. This week, we introduced the Schwinn 190 Upright and the Schwinn 290 recumbent bikes. Both bikes are connectable to Journey and feature terrain control technology, plus modern design elements and functionality suitable for all fitness levels. We also recently launched a new value-added treadmill, the Bowflex BXT 8J. which we believe is important this holiday as consumers shop with value in mind. This treadmill pairs with a user's phone or tablet and offers our differentiated adaptive workouts, Explore the World, Routes, Journey Radio, and hundreds of trainer-led workouts through the Journey app. It is available for online purchase at select retailers including Amazon, Best Buy, Dick's Sporting Goods, and Nebraska Furniture Mart. I would like to close with a few other important points. Due to the current economic environment and the conservative position of our retail partners, we are lowering our previous revenue expectations for the back half of 2023. Even with these lower expectations, we expect strong improvement in our top and bottom line results for the back half of 2023 due to third and fourth quarter seasonality, increased advertising spend to drive more demand, new products, and leveraging the advantages of our operating model. Ina will provide more details on guidance and liquidity in a few moments. Over the last two plus years, we've made tangible, lasting changes to our business where we leverage the shift in consumer fitness trends and set our company up for long-term growth. While we have temporarily slowed some elements of our North Star investment as we responsibly balance long-term ambitions with short-term objectives, we remain steadfast on our path to nonless digital transformation. Given the dynamic market environment and the tremendous long-term growth potential in the sector, as previously announced, our board of directors launched a comprehensive review of strategic alternatives to identify partner opportunities to accelerate the company's strategic transformation and enhance shareholder value. We have engaged Evercore, a global investment bank advisor, to assist in this effort. At this time, we have no additional information to share regarding the process or timeline. I will now turn it over to Ina, who will give us more detail on the second quarter results and the guidance for the full year.