Revolve Group, Inc.

Good afternoon. My name is Julianne and I will be your conference operator today. At this time, I would like to welcome everyone to Revolve's third quarter 2023 earnings conference call. All participants are in a listen only mode. After the speaker's presentation, we will conduct a question and answer session. To ask a question, you'll need to press star followed by the number one on your telephone keypad. As a reminder, this conference call is being recorded. I would now like to turn the call over to Eric Randerson, Vice President of Investor Relations at Revolve. Thank you. Please go ahead.

Good afternoon, everyone, and thanks for joining us to discuss Revolve's third quarter 2023 results. Before we begin, I'd like to mention that we have posted the presentation containing Q3 financial highlights to our investor relations website located at investors.revolve.com. I would also like to remind you that this conference call will include forward-looking statements, including statements related to our future growth and profitability, inability to generate cash flow, macroeconomic industry trends, our competitive position, our business operations and marketing initiatives and investments, average spending per active customer, category expansion, international expansion, our inventory balance and management, and our outlook for net sales, gross margin, operating expenses, and effective tax rate. These statements are subject to various risks, uncertainties, and assumptions that could cause our actual results to differ materially from these statements. including the risks mentioned in this afternoon's press release, as well as other risks and uncertainties disclosed under the caption risk factors and elsewhere in our filings with the Securities and Exchange Commission, including, without limitation, our annual report on Form 10-K for the year ended December 31, 2022, and our subsequent quarterly reports on Form 10-Q, all of which can be found on our website at investors.revolve.com. We undertake no obligation to revise or update any forward-looking statements or information except as required by law. During our call today, we'll also reference certain non-GAAP financial information, including adjusted EBITDA and free cash flow. We use non-GAAP measures in some of our financial discussions as we believe they provide valuable insights on our operational performance and underlying operating results. The presentation of this non-GAAP financial information is not intended to be considered in isolation or as a substitute for or superior to the financial information prepared and presented in accordance with GAAP, and our non-GAAP measures may be different from non-GAAP measures used by other companies. Reconciliations of non-GAAP measures to GAAP measures, as well as the definitions of each measure, their limitations, and our rationale for using them can be found in this afternoon's press release and in our SEC filings. Joining me on the call today are our co-founders and co-CEOs, Mike Karanikolas and Michael Mente, as well as Jesse Timmermans, our CFO. Following our prepared remarks, we'll open the call for your questions. With that, I'll turn it over to Mike.

Hello, everyone, and thanks for joining us today. I will begin with a recap of our third quarter results, followed by updates on some key operating priorities and multi-year growth initiatives, consistent with our focus on investing for the long term to maximize shareholder value. Net sales decreased 4% year-over-year to $258 million in the third quarter, a slight improvement from the 6% decline in the second quarter of 2023. We believe spending on discretionary products by our consumer demographic is being pressured by many factors, particularly in the U.S., including persistent inflation compounded by higher interest rates, reduced savings, and significant uncertainty in the macroeconomic and geopolitical climate. Net sales in the U.S. decreased 5% year-over-year, and net sales in international markets decreased 1% year-over-year. The relative outperformance in international was driven by exceptional growth in Mexico that was offset by declining sales in Australia and China, two regions impacted by economic challenges and currency headwinds. By segment, revolve net sales decreased 2% year-over-year, with going-out styles like dresses detracting from growth against difficult comparisons. It's important to keep in mind that, as previously shared, we have operated with new inventory buys down by a mid-teens percentage year-over-year through the first three quarters of 2023. A highlight of the revolved segment is our accelerated growth in beauty net sales that validates our long-term opportunity for category expansion. Michael will talk more about this exceptional execution of our beauty playbook in his remarks. Forward net sales decreased 14% year-over-year. within a luxury sector that is recalibrating after two years of extraordinary growth coming out of COVID. Aspirational luxury consumers who were flush with cash 18 months ago just don't have the same capacity to spend in the current environment. As a relevant benchmark, Bank of America recently reported that its credit card data reflects a 16% year-over-year decrease in luxury fashion spending by U.S. consumers in the third quarter. As we entered the year, a top priority was rebalancing our inventory. We achieved this objective in the third quarter as the spreads between our year-over-year inventory and sales trends were favorable in the third quarter for the first time in more than two years. This very important milestone was driven by the revolved segment, where the year-over-year decline in inventory was steeper than the year-over-year decline in net sales by several points. Shifting to the forward segment, while I'm thrilled with our successful effort to rebalance total company inventory, which has been beneficial to cash flows, the composition of our forward segment inventory is not yet optimal. As mentioned on previous calls, it will take longer to fully rebalance inventory at forward, considering the current challenges in the luxury industry, as well as markdown restrictions from luxury brands that extend the time frame for rebalancing our forward inventory. Moving to key metrics. As a company passionate about serving our customers incredibly well, I'm excited and proud that we crossed the 2.5 million active customer threshold in the third quarter. Notably, active customers increased by 52,000 in the third quarter, 53% higher than our growth in the second quarter of 2023. The improved results benefited from year-over-year growth in new customers and an efficient cost of acquisition that declined year-over-year. Most gratifying is that our net promoter and customer satisfaction scores were higher than in any prior third quarter for at least five years. Not surprisingly, average spending per active customer has decreased year over year in the current environment, yet we hear loud and clear that our customers absolutely love Revolve. We view the lower average spending per active customer as a temporary dynamic that will normalize over time as the environment improves. Shifting to Profitability. We are proud to be one of the only fashion e-commerce companies that generates consistent profitability and cash flow, a meaningful competitive advantage that allows us to invest through business cycles. Net income was $3 million, or $0.04 per diluted share, a decline of 73% year-over-year that was negatively impacted by an accrual for a pending legal matter equivalent to $0.07 per diluted share. Adjusted EBITDA was $9 million, a decline of 46% year-over-year, which reflects a lower gross margin and continued pressure on selling and distribution and fulfillment expenses, primarily due to the higher return rate year-over-year, partially offset by increased marketing deficiencies. Very important is our ability to continue to generate strong cash flows. Cash generated from operations and free cash flow were $12 million and $11 million in the third quarter, a year-over-year increase of 25% and 33% respectively. Our strong balance sheet enabled us to confidently invest our free cash flow into our $100 million stock repurchase program announced last quarter without sacrificing investment in the business. We deployed $12.6 million to repurchase approximately 907,000 shares of Class A common stock during the third quarter at an average cost of $1,387 per share. Since we view the current environment as a near-term headwind and remain confident in our longer-term opportunity to drive growth and profitability, we view stock repurchases as an attractive and accretive use of our capital. Moreover, in a time when many fashion e-commerce peers have significantly reduced investment to limit their cash burn, our long-term mindset, strong balance sheet, and consistent cash flow generation give us the confidence to continue to prudently invest throughout the cycle. Our long-term approach to investment decisions should allow us to emerge in an even stronger competitive position when the environment improves. With that in mind, I will now offer updates on our important growth and efficiency initiatives that we believe will further strengthen our foundation for profitable growth over the long term. We remain extremely committed to driving cost efficiencies within our global shipping and logistics operations. The successful launch I discussed last quarter of consolidated customer return shipments from Canada to the U.S. and local refulfillment for certain product returns in the U.K. have reduced costs as intended. but we're overshadowed in our financials by the higher return rate year over year. Building on our early success, in the coming months we plan to extend our local re-fulfillment of certain product returns to Europe. We expect this initiative to reduce shipping costs and provide even faster service for our valued European customers. I'm also excited by our innovation in establishing alternative shipping arrangements in certain US regions that have reduced our shipping costs in these regions, even further improved shipping timelines, particularly on the weekends. It is early days, yet we see great potential for our many initiatives to drive efficiency and even further improve on our exceptional service levels. With the increase in return rate year over year being such a headwind on our financial results, I'm spending a great deal of time and focus with the team on initiatives designed to reduce the return rate and make returns more efficient. A recent survey on our product returns indicates that nearly two-thirds of returns relate to size and fit. validating our opportunity to move the needle over time as we believe we can leverage technology to do a much better job communicating the fit and sizing before the purchase. Some early results are promising. The virtual try-on and size comparison feature tool launched last quarter on Ford for handbags and accessories has shown excellent results in reducing return rates for customers who engage with it. We are planning to meaningfully extend the tool's availability and have recently launched it on the Revolve site as an A-B test. We have also recently launched product videos on the product detail page for several brands, and very soon we will launch product fit guides to test additional efforts to reduce the sizing uncertainty. If these efforts prove successful, the financial benefits should be compelling. Consider that for every one point decrease in our return rate, we would expect to realize cost savings of approximately 30 to 50 basis points in reduced selling and distribution and fulfillment costs. A reduced return rate would also drive higher net sales due to a lower percentage of orders being returned. We're also very focused on further expanding our capabilities and growth opportunities within own brands. As shared on recent earnings calls, the softening consumer demand in recent quarters has led us to be more conservative in planning our own brand inventory buys, since own brand require a deeper inventory commitment per style than our third-party brands. And the lower mix of own brands year over year is a driver of the gross margin decline I mentioned, since own brands have a much higher gross margin. Nonetheless, we are excited by and continue to invest in the long-term potential in own brands, which offer huge potential for product differentiation and margin expansion. Consider that our revolved segment gross margin of 55% reported today was in the same zone as the revolved segment gross margin in the third quarter of 2019, even though the own brand mix of the revolved segment net sales in the third quarter of 2023 was roughly half of the own brand mix in the third quarter of 2019. This comparison illustrates the opportunity to drive margin improvement from home brand expansion in the coming years if we can continue to raise the bar through our ongoing investments. Lastly, we continue to expand the use of AI and machine learning across several key areas of our operations to drive growth and efficiency. I am excited about our current application of AI technology that allows our customers to visually search for similar styles without any keywords. Currently in beta testing, the compelling user experience is especially relevant for driving discovery among the tens of thousands of styles on Revolve. We're also gearing up to launch the personalized recommendations landing page for returning customers, leveraging outstanding development work by our data science team to tap into our deep data insights. We believe the increasingly personalized site experience will provide a more engaging and rewarding shopping experience, and based on prior efforts, could lead to improved conversion rates. I am pleased with our team's execution on these important initiatives that are key building blocks for our continued long-term growth and profitability. In summary, while we face a multitude of challenges in the current environment, we will remain on offense. We continue to focus on our competitive advantages of technology innovation, operating efficiency, and brand building to guide us through these uncertain times as we invest in the long-term opportunity ahead of us. Now, over to Michael.