Q1 2021 Chewy Inc Earnings Call
[music].
Good day and welcome to the Chewy first quarter 'twenty 'twenty, 1 earnings conference call. All participants will be in a 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 1 on a touch.
The sentence to withdraw your question. Please press Star then 2.
Note. This event is being recorded I would now like turn the conference over to Robert Lafleur, Vice President Investor Relations. Please go ahead.
Thank you for joining us on the call today to discuss our first quarter 2021 results joining me today on the call.
2 of our chewy CEO Sumit Singh the CFO Mario Marte team.
Our earnings release and letter to shareholders, which were filed with the SEC on form 8-K earlier today have been posted to the Investor Relations section of our website investor Dot Chewy Dot Com <unk>.
Inc to the webcast of today's conference.
Call is also available on our site.
On our call today, we will be making forward looking statements, including statements concerning <unk> future prospects.
Actual results.
The strategies investments industry trends and our ability to successfully respond to business risks, including those.
Call it to the spread of COVID-19, including any adverse impacts on our supply chain work force fulfillment centers all of the facilities customer service operations and future plans.
Such statements are considered forward looking statements under the private Securities Litigation Reform Act of 1095.
And are subject to certain risks and uncertainties, which could cause actual results to differ materially from those contemplated by our forward looking statements.
Reported results should not be considered an indication of future performance.
So no debt the forward looking statements on this call are based on information available to us as.
Relay today's date, we disclaim any obligation to update any forward looking statements, except as required by law.
For further information please refer to the risk factors and other information and Chewy is 10-Q, and 8-K filed earlier today and in our other filings with the SEC.
Also during this.
This call, we will discuss certain non-GAAP financial measures.
Reconciliations of these non-GAAP items to the most directly comparable GAAP financial measures are provided on our Investor Relations website and in our earnings release and letter to shareholders, which were filed with the SEC on form 8-K earlier today and in our 10-Q.
These non-GAAP measures are not intended as a substitute for GAAP results.
Additionally, unless otherwise noted results discussed today refer to first quarter of 2021, and all comparisons are accordingly against the first quarter of 2020.
Finally, this call in its entirety is being webcast.
In our Investor Relations website of.
A replay of this call will also be available on our IR website shortly.
I'd now like to turn the call over to submit.
Thanks, Bob and thanks to all of you for joining us on the call <unk>.
2021 is already turning out to be an exciting and busy year for us at chewy our.
Cost of momentum and strong customer engagement continue and that gives us the confidence to raise our full year 2021 guidance for net sales and adjusted EBITDA margin expansion, along with our financial results today I will share with you some exciting new launches that highlight our ongoing base of innovation and further strengthen our customer value proposition.
Our business I will also share with you some of the headwinds we are facing and update you on the actions we are taking to protect customer experience and business continuity of.
After that I will turn the call over to Mario to discuss our first quarter results in greater detail and share our updated guidance.
Let's start with our Q1 results Q1 net sales increased 30.
32% to $2.4 billion.
Continued growth in our active customer base and strength in purchasing behavior drove our top line results. While we are pleased with our net sales in the quarter elevated out of stock levels were a persistent headwind throughout the quarter and reduced our Q1 net sales by an estimated $40 million.
This is clearly a supply driven situation, which we expect to abate in the second half of this year as additional production capacity comes online.
Until then we will keep actively managing our inventory and using our recommendation engines to help customers find attractive alternatives.
Efficiently, adding new customers to our platform and then growing.
Wallet remains a key part of our growth strategy.
<unk> customers increased by $4.7 million of 31, 6% to end the first quarter at $19.8 million customers.
New customer additions remain above pre pandemic levels and as anticipated moderated against the peak pandemic levels of this past year.
Their share of further retention rates remained steady as the 2020 cohort matures into their second year on our platform.
Taking a broader view over the past 2 years, we have increased our active customer base by $8.4 million or 75% the practical.
The effect of this is that the weighted average tenure of our active customer.
Is just under 2 years in other words, our average active customer is still squarely on the left side of their lifetime spending curve with us for context, our customers historically spend of over $400 with us in their second year compared to approximately 700 in their fifth year, and almost 900 and their ninth year.
As such we believe that we still have significant future share of wallet gains left to realize from a substantial component of our customer base.
The first quarter net sales per active customer, our netback increased $31 or 8.7% to reach $388 a meaningful acceleration over our 2000.
Base 20 growth rate.
In reviewing the purchase behavior of the Q1 customer cohort. We saw the same kind of positive engagement levels and basket size trends that we saw throughout 2020, which helped drive of 13% year over year increase in Q1 average spend per new customer.
Topline momentum translated into improved margin performance.
Q1 gross margin was 27, 6% reflecting of 420 basis point increase approximately half of which is the result of our efforts to improve customer engagement and drive structural growth in our hard goods proprietary brands specialty and health care verticals.
The remainder came from normalizing freight costs.
Against the Covid related spike last year, and the muted pricing and promotional environment.
As we executed Q1 with rigor, we faced labor shortages in our fulfillment centers or FCS similar to those being faced by many companies nationwide.
To offset these headwinds we did a few things concurrently.
We invested in.
Wages and short term incentives, which to some degree helped overcome FC staffing constraints.
We also implemented other operating cost disciplines. For example, we developed algorithms, which enabled real time improvements in inventory receipts in order allocation, leading to increased density and pick and pack across our FC network.
The higher rate, we introduced part time shifts to better optimize interval level of labor forecasting and provide more flexibility options to our team members.
These activities helped keep operating expenses in check and the operating discipline when combined with our strong gross margin performance drove meaningful improvements in flow through as Q1 adjusted.
EBITDA came in at $77.4 million and.
<unk> EBITDA margin increased 340 basis points to 3.6%.
In addition to the strong financial results I'm also tremendously proud of the broader transformations underway at chewy.
In 2018.
Adjusted mostly of provider of food and treats today just 3 years later, we are delivering a multi dimensional customer experience that spans food creates personalized accessories health care and most recently services and.
And our pace of innovation and quality of execution has never been stronger.
With that in mind.
We would like to spend a few minutes sharing some of the many things that are going on inside chewy today.
We are excited about these because they represent continued progress in our effort to improve experience for our pet parents and partners.
And drive higher engagement with them Adil.
Additionally, the position us well to capture the large and growing opportunity in front of us.
I'd now we continue to make meaningful strides in upgrading our technology stack and architecture in Q1, 2021, we relaunched the chewy dot com homepage and other stops in the shopping funnel as single page applications. This enhancement allows us to offer a more targeted and customized shopping experience to our customers, which we are already starting to take advantage.
Once fully implemented across our website. These features will unlock hyper local and enhanced personalized recommendations that will improve the shopping experience and through the revenue enhancing functionality support our efforts to increase customer share of wallet.
We are also excited to announce our entry into the fresh and prepared pet food space with new selections.
From the segments, leading brand fresh debt and our premium proprietary brand Thailand.
Our highly trained and best in class customer service team, coupled with our personalized search and discovery features make chewy the right platform to drive customer adoption in this category given the increased level of education and awareness pet parents need when deciding.
<unk> among the many pet food options that are available today.
To date, we have already developed and patented new sustainable packaging that allows us to preserve product quality throughout the customer delivery process.
We are currently in beta mode, and we will soon launch our initial distribution in 3 geographies covering approximately 60.
The percent of <unk> customer base, and we intend to grow both our fresh catalog and expand geographic distribution as we scale of this business.
We are enthusiastic about the fresh and prepared foods categories, and the opportunity to serve new customers and expand the assortment choices for our existing ones.
With this launch fresh joins.
Connect with the vet and our compounding pharmacy on the growing list of recently launched offerings that expand our Tam.
Over the past few years, we have expanded our pet health and wellness offerings to include a wide spectrum of products and services, which now include OTC medicine, that's diet pharmacy and most.
Most recently pet scriptures compounding and telehealth.
Collectively we now call the still expanding effort chewy held.
Which consumers and veterinarians are starting to recognize is a brand that delivers innovative solutions designed to improve the health of every pet and empower those who care for them.
We continue to gain traction with our recently launched innovations connect with the vet compounding pharmacy, and <unk>, which is our proprietary prescription management system for veterinarians.
Recently, we enabled the video chat functionality for our proprietary telehealth solution and expanded its reach connected.
Connect with the vet is now available.
Text or video chat 7 days of week until 11 P. M. East Coast time, 365 days, a year, which provides important coverage on nights and weekends and holidays when care is often difficult to find.
These upgrades have significantly improved customer experience and are driving higher customer adoption of the service.
Via Twitter scores for connect with the vet remained strong and over 85% of customers who rated the service in Q1 gave US perfect 10 out of 10 scores.
Our compounding pharmacy business continues to expand we now published 800, compounding skus servicing dogs cats and as of April horses.
Net from also achieved a major milestone recently by earning RP cap accreditation, which is the gold standard for quality and safety compliance in the compounding industry as.
As planned our entrants into compounding is improving customer access to pet health and wellness services and growing our customer base.
Approximately 2 thirds of our compounding cut.
We are new to chewy help including over 20% that are new to chewy overall as anticipated compounding is also emerging as a strong recurring revenue driver with over 60% of outbound shipments already going through other ship.
And on pet scriptures, I am pleased to share that close to 7000 clinics and veterinarian partners.
<unk> are now utilizing this product to simplify and automate all prescription management tasks with an intuitive easy to use digital solutions.
This helps to reduce friction improve veterinary inefficiency reduced <unk> costs and enhanced customer experience for both the veterinarian and the patient we.
We will share more about our ongoing.
<unk> in this space in our Q2 call in September.
Chewy health is the only brand that blends technology and consumer innovation and pioneering modern pet health solutions for everyone.
Our mission within Chewy helped us to make pet health care more affordable and accessible by developing value added services and products that keep pet parents and veterinarians at the center.
<unk> work of Asia.
We are just getting started and we'll keep you updated on our progress.
The same spirit that elements of request to make pet health care more affordable and accessible also drives our charitable efforts through a program we call chewy gives back.
Chewy gives back operates under a mission to make the world of better place for pets, and the communities that sort of them.
Of the 2 this and last year, we made approximately $35 million of in kind donations to shelter and rescues providing them with the critical supplies the needed to perform their important work on the frontlines.
Additionally, I am excited to share with you that last week, we launched our nationwide pet adoption services that enables millions of chewy.
Mers and not yet chewy customers to discover and adopt of pet directly through <unk> web site.
As with everything we do we believe that customers will find this new service to be an engaging and bar raising experience over 6000 shelters and rescues have already signed up and the list continues to grow rapidly.
The launch of supported with full of Wishlist.
List integration, which enables shelter and rescues to lift their needed supplies on chewy dot com for customers to conveniently discover donate and have the ship directly to the shelter.
Our launch of the pet adoption service and features such as Wishlist again shows how our innovation with customers continues to extend to our partners.
Partners and service community and is in complete harmony with our mission of being the most trusted and convenient destination for pet parents and partners every day now.
Now before I wrap up lets quickly visit growth across our fulfillment center networks.
As our topline momentum continues we are investing in our distribution network to stay ahead of the growth curve and enhanced.
<unk> customer experience.
At the end of Q1, we opened our <unk> fulfillment center located in <unk>, Pennsylvania. This facility primarily specializes in carrying our bulkier assortment of items like categories, and downgrades and or items that ship in the original containers.
I'm also pleased to share the news that we're expanding the capacity.
The city of Phoenix, Arizona fulfillment center of the summer and also that we will open our third automated FC and 13th FC overall in Reno, Nevada next year.
This new facility along with the Phoenix expansion will further reduce ship times improve customer experience and help reduce costs.
I will end my comments by reiterating.
The rating my optimistic outlook for the balance of 2021.
We continue to execute against our growth roadmap by expanding our customer base, increasing share of wallet growing our tam expanding verticals and launching new ones.
The supply chain and labor market conditions remain challenging we are successfully managing.
These headwinds and still driving significant year over year improvements in gross margin adjusted EBITDA and free cash flow.
I am incredibly proud of the determination and focus of our teams and the ability to accelerate our pace of innovation, while consistently delivering strong topline and bottom line results for our shareholders with.
I will turn the call over to Mario.
Thank you Sumit, we continue to execute on our long term strategy and momentum remains healthy first.
The first quarter net sales were $2.4 billion.
Representing 31, 7% growth.
First quarter auto ship customer sales increased 34, 4%.
The $1.48 billion.
And auto ship sales as a percentage of net sales increase of 140 basis points to 69, 3%, which approaches the high watermark, we reached in the fourth quarter of 2019.
These results reflect the maturation of the 2020 customer cohort and the growing appeal of the auto ship programs of benefits, which.
Which include complimentary access to our first in the industry telehealth offering connect with the vet.
Auto ship is a powerful tool for reinforcing the customer value proposition and strengthening loyalty bonds with pet parents.
Net sales per active customer or netback increased $31 or 8.7% to reach 300.
The $8 in the first quarter.
Compared to the fourth quarter of 2020, netback increased $16 sequentially and marks the largest absolute single quarter net increase in the company's history.
Improved this capability and merchandising growth in any of those verticals and more spending from the 2020 customer cohort of.
<unk> hundred 80, <unk> Murray drivers behind the acceleration in <unk> growth.
Moving down the income statement first quarter gross margin was 27, 6% an increase of 420 basis points.
As Sumit mentioned approximately half of the increase came from structural business improvements and the remainder reflects normalized.
Out of the print logistics costs compared to the elevated investments we made during the peak of the pandemic last year to protect the customer experience and the muted price competition and promotional activity that we saw in the first quarter of this year.
First quarter operating expenses, which include SG&A and advertising and marketing were $557 million.
Freight 25, 8% of net sales scaling 50 basis points.
SG&A, which includes all fulfillment and customer service costs credit card processing fees corporate overhead and share based compensation totaled $406.2 million from the first quarter or 19% of net sales scaling 70.
Or basis points.
SG&A, excluding share based compensation totaled $381.4 million from the first quarter of 2021 were 17, 9% of net sales an increase of 80 basis points. This reflects the additional investments we've made in wages and benefits for our fulfillment and customer service teams that we outlined.
17 of our last earnings call as well as the impact of the higher recruiting and hiring incentives that have been necessary to address persistent labor shortages.
Absent the incremental wage benefit in recruiting costs related to the current disruptions in the labor market, our SG&A expense, excluding share based compensation would have been.
The line on a year over year as a percentage of net sales.
Launching 4 new FCS in 12 months, while keeping SG&A flat as a percentage of net sales aside from incremental expenses related to current labor markets demonstrates our ability to fund incremental investments in capacity by efficiently leveraging operating expenses across the network.
Flat first quarter of advertising and marketing was $144.4 million or 6.8% of net sales of 30 basis point increase versus the first quarter of 2020.
We expect this line to increase year over year on a percentage of net sales basis as input costs recover from the artificial lows. We saw early in the pandemic.
Adjusted EBITDA reached a new high this quarter totaling $77.4 million, improving $73.9 million versus the first quarter of 2024 of net sales to adjusted EBITDA flow through of 10, 5%, excluding the estimated $20 million negative impact that COVID-19 had on freight.
Costs in the first quarter of 2020.
Adjusted EBITDA margin improved 340 basis points to 3.6%.
In Q1, we also deliver our second quarter of positive net income, reaching $38.7 million improving.
The improving $86.6 million versus the first.
Quarter of 2020.
Our net margin was 1.8% for.
480 basis point improvement.
As we have shared in the past, we expect our expanding in profitable repeat business, coupled with the benefits of scale to drive increasing profitability over the long term.
Moving on to free cash flow.
The first quarter free cash flow was $59.5 million.
Reflecting $98.4 million of positive cash flow from operating activities and $38.9 million of capital expenditures.
The positive operating cash in Q1 was primarily a function of Q1 profitability and favorable working cap.
Capital, which mostly reflects a temporary reduction in inventory levels due to the ongoing supply chain situation.
Capital investments include ongoing additions of our fulfillment network, including cash outlays for our recently opened limited catalog facility in Pennsylvania, and our second automated fulfillment center in Kansas City.
We finished the quarter with $638 million of cash and cash equivalents on the balance sheet, which is our highest ever of level of cash on hand that concludes my first quarter recap. So now, let's discuss our second quarter and full year guidance, we are raising our full year top line and profitability outlook, but before I discuss the details I'd.
In a few moments on how we formulated the guidance.
As Sumit mentioned at the beginning of the call 2021 continues to be of busy and exciting year for us our strategy remains intact demand remained strong and we remain bullish about our future and our ability to maintain pace of execution.
At the same.
I'd like to prepare and ramp our network to handle the current and future momentum in our business. We are not immune to the labor shortages currently being faced across the country.
Even with the $60 million of enhanced the wages and benefits that we committed to last quarter labor markets remain constrained and it remains difficult to attract workers.
In an attempt.
Time job vacancies companies across the U S continued to invest in higher wages and benefits.
As these conditions persist, we may choose to commit an additional $30 million.
To recruiting and hiring incentives over the next 2 quarters.
Although we expect these types of expenses to be temporary in nature that ultimately depends.
To filter of labor markets respond to the end of extended unemployment benefits in September.
While these higher costs may put near term pressure on our ability to scale of SG&A. We are increasingly confident that these investments in our workforce and automation will increase engagement retention and productivity over the long run.
<unk> on when we net these headwinds and <unk>, we are more positive in our outlook than we were just 9 weeks ago. When we issued our initial 2021 guidance.
So with that in mind, we expect second quarter net sales to be between $2, 1.5 and $2, 1.7 billion representing.
Representing 26 of 28% year over year growth.
Raising our full year 2021, net sales guidance to between $8.9 and 9.0 billion.
Representing 25% to 26% year over year growth.
And finally, we are raising our full year 2021 guidance for year over year, adjusted EBITDA margin expansion to between 80% of 100.
We are races points.
As you update your models for 2021, please keep the following in mind.
First elevated out of stock levels are stronger headwind this year than they were in 2020, and we have not yet seen signs of abating.
While macro conditions are clearly improving on the pandemic front as vaccination levels.
20 of these.
Predicting how exactly consumers will behave post pandemic is not yet fully clear.
What is clear to us is that a compelling value proposition and the predictable and recurring nature of nearly 70% of our business provides us real and tangible advantages from today's marketplace.
Second.
The increase in the first quarter, our advertising and marketing spend remains disciplined as we adjust in real time to rapid changes in the advertising landscape.
As always we remain vigilant and ready to make additional investments to achieve long term benefits, even if they come at the expense of short term results.
And third as we have shared.
As you saw net customer assets year should look more like the data in 2019 prior to the pandemic, which reflects the normal retention patterns, we expect to see from the 2020 cohort as it moves from its first to its second year.
<unk> is expected to accelerate in 2021, as we annualize the 2020 cohort and as the many.
The initiatives that we of launch over the past 2 years continue to expand customer share of wallet.
2021 is off to a great start.
We grew first quarter net sales by 32% and our growing scale and operating discipline drove 420 basis points of gross margin expansion.
We also deliver our highest quarterly.
The adjusted EBITDA ever.
By increasing our net sales and adjusted EBITDA guidance, we are reiterating our bullish view on the <unk> market position and how we see the balance of 2021 playing out.
And with that I'll turn the call over to the operator operator.
We will now begin the question and answer.
Session to ask a question you May Press Star then 1 on your Touchtone phone if youre using a speakerphone. Please pick up of your handset before pressing the keys.
At any time of your question Thats been addressed and we'd like to withdraw. Your question. Please press Star then 2 in the interest of time, please limit yourself to 1 question and 1 follow up at this time, we will pause momentarily.
2 assembler of roster.
Our first question will come from Mark Mahaney with Evercore. Please go ahead.
Great. Thanks, 2 questions. Please the out of stock issue it sounds like Mario debt that's continuing.
Can you just talk about your level of confidence that that that will abate in the back half of this year and what you can do the helped out of beta of I don't know if that's completely out of your hands or not and then I want to ask about this of the statement about new customer acquisitions remain above pre pandemic levels. The net adds in the April quarter, we're actually below the net adds you had in the.
The quarter of 19, the does that mean that debt you've got elevated churn just related to all of the new customers you brought on during the during.
During the Covid the.
The COVID-19 year or am I misinterpreting. It I just want to I want to get back to this issue of whether your net customer adds can this year be like they were in 2019. Thank you.
Martin Good evening.
This estimate I will take the first question Mario will take the second 1 on out of stocks.
We believe as we've indicated in the Q4 earnings call.
The red can food capacity constrains, our production capacity constraints was married the started in primarily remains there and the other out of stocks that were facing were actually able.
It will do fairly mitigated given our extensive size of the catalog and given the substitute ability within non description of discretionary categories such as hard goods.
Or suppliers.
The primarily the area that out of stock issues are being trucked on industry wide. This is not of chewy thing. This is an industry wide.
The issue is consumables. So health care is also not as deeply impacted with this and you know while we don't have perfect visibility, obviously theres no perfect data coming in what we have heard and why we have confidence.
From our strategic suppliers and vendors and partners is that incremental investment is going.
Going in and.
And the incremental capacity is being unlocked and should be available in the back half of the fear that the rate of improvement of the 1 that is a little bit unclear right now and which is why we have consistently.
Starting from Q4 said that this is the headwind that we will continue to monitor but yes, we do expect it to abate back half of this year.
Hey.
Hey, Mark and I will answer the second the second part of your question first the Youre right. We added 600000 net active customers in the first quarter ended at $19.8 million active customers in Q1 and that was right in line with our expectations for the quarter and what we've mentioned over the last couple of earnings calls so.
I'll break it down and to retention.
And then gross customer ads I know you know the the dynamics of this.
For everybody else.
At the paint the full picture.
First we said before the retention rates for us our retention rates are multiples higher than traditional e-commerce platform.
And then any attrition that we see happens year.
Tension into year 2.
And the customers that stay with us after 2 years remain with us for a very long time. So the analyst talk about the Q1 'twenty cohort because that's really what's going to drive some of the year over year.
The impact here.
First our retention rate for that cohort is higher.
1 of the average retention rate over the last couple of years.
But even with the higher retention that cohort was so large that the normal attrition. We saw created a headwind to net customer adds this quarter.
Then if we look at the customer new customer adds this past quarter in first quarter 'twenty, 1 that was notably.
The higher than pre pandemic, but it was also higher than what we expected for this year just 18 months ago. So dollar back 18 months, what we projected this far out into the first quarter 'twenty 1.
Our pace of new ads was higher than than in higher than pre pandemic. So we are still acquiring customers at a very fast clip.
So if you think of it another way we don't believe that any of the demand. We saw in 2020 was pull forward from future years still adding a lot of growth new customers.
And then finally, the gift from a revenue perspective.
We expect the 2020 cohort to generate more revenue this year than they.
Did last year.
And in fact, when we look at all of the mature cohort so 2011% of 2018, let's say the.
They produce more revenue in 2020 than they did in their first full year on our platform. So we would expect the same thing for 2020 cohort coming into 2021.
Great that clears it up thank you Mario thank.
Yeah.
Thanks Mark.
Our next question will come from Nat Schindler with Bank of America. Please go ahead.
Yes, hi, guys I'm actually I'm wondering about some more of your longer term plans on growth and international expansion and what conditions and the what areas.
Thank you said look to go to and how you would enter new markets, particularly Europe, where similar size of the U S.
I know this is some of that I will take that question.
All of our <unk>.
Plans first of all are squarely centered on achieving.
All of our mission statement to be the most trusted.
Would you the median destination for pet parents everywhere.
And obviously, we've gone back and now out of the word partners. There because we believe we are effectively servicing and should service communities and pet that have not been serviced and of high quality manner in our opinion in the past.
So you know given that we have focused on the United States.
<unk>. We believe there is a ton of online growth that is being driven and will continue to be driven in the United States and we fully plan to capitalize on that growth given our investments across the multi dimensional experience that we talked about in the earnings script food creates personalized accessories health care.
And services.
The international the last word of our mission statement is to be present everywhere. We believe pet parents of more of the same day different. We also believe that our brand and our capabilities extensible outside the United States that being said focus has been important to us we've been focused on the U S and we've said international plans of roughly between 1 and 5 years and that.
At the point of IPO, we had said that and Thats still that statement remains true.
When we do explore international we would explore it.
Keep our options open and explore every possibility.
And in terms of whats specific country, we would enter on how we would do it as a matter of.
Working through how customers behave how markets are how do you do.
Marketing supply chain infrastructure.
The availability customer behavior of all of that and we'll work backwards from that to be able to figure out what markets. We enter but rest assured we're going to be thoughtful we're going to be diligent and we're going to be disciplined about the investments in our approach internationally.
Great. Thank you.
Our next question will come from Erin Wright with Credit Suisse. Please go ahead.
Great. Thanks can you speak to the traction you're seeing across the pharmacy business.
Sure.
Is the stickiness across that business playing out according to plan as you lap some of the Covid dynamic from last year from the that going back to does that chronic.
You mentioned, you're working with 7000 vet clinics now what sort of share do you have in terms of the percentage of scripts that your debt at those clinics that are getting filled through chewy.
Sure Hi, Erinn.
We believe a couple of things to be true first of all all of our data indicates that retention into our pharmacy and other.
The health care vertical remains strong our auto ship subscription rates into these verticals remains stronger than the core business.
Which is a net positive and you know all of our work with veterinarians and connecting customers into veterinarians continues to earn us trust and credibility in the space.
Recently.
<unk> conducted independent research driven by Mark suggested that 86% of of the veterinarian community.
No.
It would be open and favorable to working with chewy.
These are encouraging data points to us.
The pet scriptures as I mentioned is present in 7000 clinics.
I'll refrain.
I am from.
The number of scripts that you lost but what I will mention the 7000 is roughly equivalent to 30% of.
The veterinarian clinic penetration in the U S. At this point, which is something that we're tremendously proud of.
Okay.
Let me add 1 more thing just to point you back to our 10-Q because.
You'll see the the other the other segment of our revenue, which includes all proprietary brands pharmacy, other and specialty notice of the speed of growth for that part of the revenue is growing twice as fast as of the overall business. So that should give you an indication of of how we think about these.
These newest verticals.
Okay, great and 1.
Just a quick follow up just on the incremental spending associated with higher unit 10 is the $30 million, that's not or is that embedded in your guidance at this point or is that an incremental expense. It is fully embedded in our guidance.
Okay great.
Our next question will come from Brian Fitzgerald.
Gerald with Wells Fargo. Please go ahead.
Thanks, guys, we want to ask about the entry into the fresh market could you maybe provide some context share around the opportunity that the current size of fresh pet food market and maybe what happens with the <unk>.
Consumable spend as you move from personal.
The fresh but the margin uplift is there.
And then maybe really quickly on the on the adoption service it sounds like you've stood that up pretty rapidly.
<unk> done a really nice job there integrating with shelters, we know it's early on but.
What's the opportunity to build awareness there and then are you investing behind.
Net and any early early learnings with.
Kind of the attach rates and what those cohorts look like.
And maybe how the adoption cohorts maybe differ from traditional cohorts.
Okay, Hi, Brian Nice to hear from you there's a lot in there so let's try to unpack them to at least.
These 2 distinct areas of fresh and packaged foods and then shelter adoptions.
Fresh packaged foods, we believe you know we've always understood and.
Believe that Humanization and premium amortization of pet is very real and our customers as customers become more of there.
Given our ability to educate.
Get them and given their natural ability to engage with their pets categories, such as fresh and prepared foods.
You know as an attractive opportunity for us to get into and service customers and of high quality manner.
In other you know motivation for US is the fact that this is a category that requires education.
And they're.
There are barriers to adoption, if the customer isn't engaged or educated and we believe that with the high customer.
Care model that we bring to the pet industry as well as our focus on personalized care and experience building. We believe we can effectively educate customers and therefore drive customer.
<unk> fit into the category.
In terms of the size of Theres not perfect data available the market right now is likely between <unk>.
600 million to of $1 billion in size.
Growth rates also are hard to predict because again, it's not an easy category to drive adoption into and.
With all of that we can do an effective job in connecting customers with high quality products to be able to drive that adoption and you'll see us focus on debt of <unk>.
Force.
Any of any business new business that we've launched requires investment the investment of on a capex side all of the investments is already baked in.
We believe our guidance as well as the 1.5% to 2% Capex.
The spend that we are.
In our P&L.
And then.
We would expect the business to be to scale as we drive scale into the business and right now of the impact of margins are of any dilution is really immaterial.
And negligible.
So that's on fresh and packaged foods on pet adoption services again, yes, very proud to work across the.
The shelter community to bring this to life. It is our way of of giving back.
To the community and connecting pet parents, who are likely chewy customers.
And those who are not yet chewy customers to bring chewy top of mind consideration when there were the journey begins.
Over 55% to 60 per cent of the pets and the use of our adopted wire shelters and rescues and this is our way of connecting the 2 communities to be able to serve of greater purpose and to build brand awareness.
Consideration towards chewy, which then drives again future of loyalty and agenda as repeat.
Visits to our platform. So we'll continue to enhance our work in the space and.
And come back and share more as the program growth.
Awesome. Thanks Sumit.
Our next question will come from Steph Wissink with Jefferies. Please go ahead.
Thank you good afternoon, everyone I'm, Laura do you think the best suited for you, but the please jump in I wanted to talk a little bit about growth margin advancement because it is running several hundred basis points ahead of where we would have expected the model at the state I'm curious if you can talk a little bit.
Opportunity its still a growth.
To further enhance the margin whether that's true makes of leverage.
And then Mario question for you on cash and the cash flow in the quarter was outstanding I know that some of that was the benefit of working capital, but how should we think about cash flow for the year and how should we also think about your cash priority. Therefore is the cash.
About ways to build on the balance sheet. Thank you.
Hi, Steph all great questions I will take the first 1 on gross margins Mario will take the second 1 on cash.
Gross margin.
I would like to point you back to the roadmap that I have often shared on these calls.
3 buckets of growth margin improvement.
We can keep acquiring customers and growing share of wallet of bucket 1.
Growing our investing and improve.
The improved discover ability of merchandising and growing our of our sub penetrated newer verticals of proprietary health care et cetera bucket, 2 and then connecting the destination with services.
Yes, we believe we are making.
Incremental and encouraging progress in our gross margin. We are now net of the pricing muted environment, we believe they're sitting at right about 26%.
Which is slightly above the.
Low end of the long range guide and we believe there is a ton of headroom in front of us to be able to go to go achieve the long term guide.
On the 8% margins and perhaps even surpass that are you know as we continue to build behind gross margin.
We still have less than 1 third of chewy customers today are exposed to proprietary brands are less than a fifth of our customers today are exposed to health care and so theres a lot of opportunity in headroom as we.
Of that customer base to become full funnel shoppers with us and increase their basket sizes at the same time, you've seen us expand our addressable market by launching newer categories, such as fresh of packaged foods that we're describing today.
And at the same time, we're starting to uptick our focus on services.
Develop pounding and telehealth, which have great potential for us in the future. So net net I.
I want to give you the confidence that there is a lot of innovation that is going on inside the company, we're very disciplined and we're focused on and of rapidly improving customer engagement. So that we can achieve the high end of our gross margin targets as we've laid out.
With when we're ready to discuss any any updates in the future we will talk about debt on future calls.
Yeah.
And this is Mario so I'll answer the second part of the question in terms of cash. So you have seen us over the year be able to grow very rapidly.
Without assuming any cash in this year. If you look at the guidance we provided for net.
And then for <unk>.
The EBITDA margin.
You would see at the high end, we would produce over $200 million of <unk>.
Adjusted EBITDA.
So I'll, let you draw a conclusion on what that means for free cash flow since we don't explicitly guide to that but obviously those are 2 good components to how we while we expect free cash generation.
Net sales.
Say 2 other things about cash 1 is you.
You're right we benefited to a degree from from working capital of the fact that we drew down some of the inventory in the first quarter.
Certainly that's not the.
That would otherwise not have been on of our intention given that the there was more of the result of.
This year high out of stock and the.
Disruptions in the in the supply chain.
So you would expect us to build the inventory back up throughout the year to make sure that we can serve our customers.
When you look at the cash we have available to us and Youre right. We ended the quarter with the highest cash level. We've had in our history. We also ended the quarter with AR facility.
$300 million that's untapped.
So roughly $1 billion of of dry powder.
That gives us both strengthen the balance sheet and also flexibility going forward.
For things like incremental investments in technology automation potentially M&A.
And.
<unk> of train growing growing new verticals and expanding our Tam. So it's good to have the flexibility and I think we are in the right place in terms of the cash.
Thank you.
Our next question will come from Doug Anmuth with J P. Morgan. Please go ahead.
Great. Thanks.
And taking the questions.
Outlook, just in thinking about the $60 million potentially in the back half.
Is that essentially the reason for not seeing more flow through on a full year base.
Or is there something else or additional that we should be thinking about just on the EBITDA for 'twenty 1.
And then secondly, just on private label.
Thank you said about a third of the customers are exposed there.
Curious if you can help frame that.
Terms of where you are as perhaps the percentage.
<unk> net sales in <unk>.
Think of in relation to perhaps your ambitions that you have maybe mentioned in the past toward.
The 15% to 30% overtime. Thanks.
Sure Hi, Doug the system. It I'll take the second 1 Mario will take the first 1.
So starting with private brands.
Percentage that is after nearly 20 million customers that we now have on chewy.
1 of them have have.
The acquired or bought the private label from us or our proprietary brands from us. So 2 thirds of them haven't yet shot of proprietary brands and our efforts in improvement.
<unk> and search and discover ability.
And newer launches or assortment, we will continue to provide us debt exposure. We're actually we're pleased with the progress that we're making.
As you might recall from.
The previously shared fact, we've improved.
The double B.
What I mean, the number of assortment of the platform roughly 35000, new Skus added over the last day, 2 and half years and.
By the fourth of them have gone squarely towards building out proprietary and more so hard goods and in hard goods, we gained 500 basis points.
<unk> share on.
Over the year basis, reaching 18% penetration, therefore, bringing us closer to that goal of 15% to 30% debt. We're talking about we believe in hard goods, we should be able to reach 40, 45% penetration of net sales and proprietary and.
The balance coming from consumables that makes up the 15 and between 15% and 30% range.
The euro debt we've talked about.
Margin for proprietary is favorable to the core business, which is reflected in the overall gross margin improvement that were reflecting in our P&L or in the results and.
You should continue to expect us to build.
Assortment and expose more customers too.
To buy more.
Range of the 3.
Hey, Doug and I will take the first part of the question. So let me let me first start off with the with Q1 to sort of level set us but in the first quarter, we added half of $1 billion year over year, we increased gross margin and we had the discipline of the expense line and so we reported as you saw a record adjusted EBITDA of 7.
Probably $1 million.
And if you think about what that means the versus full year 2020.
Our EBITDA in the first quarter was higher than all of last year, if you adjust out the onetime tax benefit in.
Fourth quarter of 2020.
Now for the full year.
You saw the guide to an adjusted EBITDA.
77 increase of 80 to 100 basis points.
If you combine that with the sales projection that we that we provided would mean tripling the EBITDA and the full year.
And if you take that and you adjust the for the the wages and benefits that we've called out explicitly in our fourth quarter and then our free.
Margin recall.
You get to about a 9% to 11% flow through for the full year very much in line with what we saw in the first quarter. So so think about it in those terms, Doug and I think you'll get to about the same completion.
Okay, great. Thank you both.
Thank you our.
Our next question will come.
First quarter of <unk> with Wedbush Securities. Please go ahead.
Thanks, a lot of and good afternoon. My question is around advertising, how do we think about advertising as a percentage of sales. This year. I think you were commenting previously around 7% to 8% you did better than that in the first.
From the square do you expect the move to that range.
And had the opportunity to grow your gross adds even more gradually.
Yes, hi side of this estimate.
We believe.
The advertising and marketing will likely be in line with levels that we saw in 2020.
Right about the 7% range, plus and minus and the plus and minus driven by efficiencies. If we pick up like we did 20 basis points in Q1. So we came in at 6.8 and the the pluses is driven by we see more opportunity in the marketplace to pick up of new customers or of input costs.
Become further integrated.
In terms of overall.
The Q1 levels were actually quite pleased that's in line with our expectations, we've been continuing to scale marketing from 11% levels in 2018.
272% coming out of 2020, albeit given.
The commentary is due to the pandemic organic demand.
And on a net basis on a year over year basis, we still incrementally spend $35 million higher.
On the $500 million off net sales that we added so overall I believe we're spending appropriate levels on an absolute basis to be able to efficiently acquire customers and we remain.
Some of the weapon to opportunities to ensure that we're not leaving customers on the table.
Relative to 2019 are you expecting customer acquisition cost in 2021 to be higher.
It's a very good question, if you'll recall the Q4 discussion that we had it.
The main O pod to yet predict where marketing might end up this year. We've had a lot of platform changes that have come through across several of advertisers. We've also you know it is it is yet unclear to really predict how customers might behave as the country opens up so we're still a bit of an evolving situation, but our guidance.
It is now it takes that into account and therefore, I'm guiding or providing my perspective that we should be flattish to 2020 levels of net spend.
Thank you.
Sure.
Our next question will come from Peter Keith with Piper Sandler. Please go ahead.
Hi.
Good afternoon.
I was hoping you could just discuss a little bit more around the new homepage launch around some of the customization and localization features that you have maybe just provide some specific examples on how you think that can improve the customer experience.
Sure Peter.
So.
Thanks for the meta point that improves our ability to target it improves our ability to personalize the experience by showing you.
The content that is relevant.
And the dynamic and inspiring that speaks directly to the needs of of pet parent and the emotive state or their journey and their lifecycle of word.
Are there specific pet.
And so from that standpoint, we already offer of personalized.
The high touch model and this actually provides that on a virtual digital basis, which allows that targeting allows us efficiency of conversion.
You know are developed.
And efficiency and customer development, which allows us to then obviously grow basket sizes in the share of wallet customers. So that's how we're approaching it.
If you go to the homepage today, we have the ability to you know obviously target knowing if you have a dog what type of dog now and what other.
<unk>.
<unk> might be buying where specifically, we're tying it back into the knowing what could we recommend to you et cetera et cetera, So think of it as a data driven.
And behavior driven experience rather than a.
And authenticate of experience that we might have offered in the past.
Okay. Thanks, that's very.
Parenting.
The the follow up on the unrelated question I had was just around the the net customer adds I know this was asked earlier in the call.
But referencing back to the 2019 levels.
You did come in below that.
For Q1.
I would think that the net customer adds.
Moderate.
The interest of the year progresses, just from maybe gross adds slowing of 2020 cohort churn picking up and just sheer magnitude is my thinking incorrect.
Whereas the.
The $5.560000 kind of a good level to think about on a run rate basis.
Yeah, Peter I'll answer.
So look it's a I think the dynamics of net active that is exactly what I had mentioned before we do have the headwind of the very very large customer cohort of we acquired last year.
So even as the retention levels that we're seeing which are still high.
We still would have a net headwind.
The key to net active assets.
Of that so you have to think about it over a period of time over a longer period of time than just year over year. So you can see the the trend of of additions. The very large cohort of last year is going to have a headwind impact from this year, but of the.
But the the other side of that is how many more new customers we added.
<unk> is the chart that is how many of them we reactivate this year.
I think the take just the the.
The the 1 piece, which is customer retention is going to get the lead us to the to the wrong conclusion.
Yeah.
Our next question will come from Lauren Schenk with Morgan Stanley. Please.
Go ahead.
Great I just wanted to ask about.
What you're seeing from share of that co COVID-19 cohorts spending perspective F. Here.
End of year, 1 they were already spendings rip over that $400 that you typically see in the second of your customer and if that is the case what kind of gives.
The growth in the the Covid cohort will continue to expand spend at the same ranges as previous couple of weeks.
Learn as we highlighted the Sumit I'll take that as we've mentioned in the script, we continue to see positive and engage the behavior from the cohort.
There.
The the comp of frequency of purchase their subscribed rates into auto ship there.
Basket size attach rates all indicate positive momentum.
And we believe that the uptick is driven by as I've mentioned improved discover ability merchandising growth in our new verticals and.
Our work in.
In connecting these altogether. So we're still not planning on deploying marketing spend to retain customers, which is an important indication. If we believe that we're going to lose them. We don't believe so nor are we.
Spending time on other initiatives.
I drive customer development of an unnatural manner right now if I'm not answering your question.
Or if you have follow ups. Please please ask.
Yes, I guess, if you look at sort of the Covid cohort of customers is there is there spending because of just sort of the phenomenon that was COVID-19.
Is that already above where a year of a normal year to kind of why it wouldn't be spending or is there do you still think that the year over year of growth opportunity and their spending is similar to previous cohorts.
Yes, I think of understanding your question right Lauren I would expect it to be to follow the same pattern as historical cohorts where.
Is that first year is ex second years greater than ex.
So we were seeing that already and in fact.
Even if you just look at the first quarter.
The we acquired this year there their spend is 13% above last year's first quarter cohort and the last year I remember there was.
We're a bit of a.
Pantry loading and I wouldn't call it sort of panic buying really.
And last year's first quarter cohort spending was higher than the previous year. So we're seeing those curves and the overall lift in sales even in the first quarter of of new customer cohort so positive indicators on that day.
Hopefully we're answering your.
The day, we believe the LTV potential of our customer is stronger given the newer launches of the expansion of the assortment and all of the work that we're doing to develop our customer base and at the same time, we believe that we're capturing the share of wallet faster or sooner than we were with the older mature cohorts.
Okay great. Thank.
Yep.
Our next question will come from Nick <unk> with Raymond James. Please go ahead.
Yes, thanks for taking my question.
So you talked a lot about new customer acquisition continues to be strong, but out of moderating pace some of the headwinds from from year, 1 retention, but.
Net pack continues to accelerate.
How do you think about these drivers longer term so kind of of the.
The 5 year plus plan how much of your topline growth is going to come from each of those drivers how do you think about that.
Yeah, Let me, let me try to answer the question.
And then some of it can add anything if I, if I'm, if I'm, if I Miss anything but.
First I wanted to not break it down into into active customers of our netback, because I won't give you the debt won't even if we get it wrong, that's not going to give you the right answer right. There the right sort of for your models thinking about of more than in the sense of the average cost.
Today has a tenure with us that's less than 2 years and we've shown over time that the longer the customer stay with us the more they spend so not only do we expect our customers as a base to mature over time and spend more and more and in <unk>.
Fact, we've seen some customer cohort spending $800.900.
Similar to.
The older cohorts that is.
We also would expect us to continue to attract more customers to of the platform overtime. So you find the 2 tailwind working at once overall of the base growing and maturing over time spending more us capturing more share of wallet and are directing more more more customers.
Today form.
Add to that of the fact that we continue to innovate and launch new verticals 2 years ago. We had just launched at this point actually 3 years, we had just launched the pharmacy.
4 years ago, we had just launched our proprietary brands.
In the last couple of years, you've seen us grow our catalog.
Especially in the.
The hard goods and specialty categories. So.
So we continue to add more and more products and more categories for our customers to shift to more of the share of wallet to us and shifted faster. So you have a combination of.
Tailwind and I would say sort of.
Normal mature maturation of customers over time in shifting their spend.
With things that we're actively doing which is attracting customers of the site and also adding more and more categories and more.
Our catalog.
So hopefully that gives you an idea of how we think about it.
That's very helpful. And then just quickly on gross margin.
<unk> you.
You talked about obviously, a very strong quarter past the improvement was driven by.
The efforts to increase customer engagement primary brands et cetera.
<unk> from the normalization of some of the kind of more of 1 time or 1 time effects from last year promotional.
Current et cetera, so from a comparative perspective, as we move through the year.
How do the compares lineup.
Where that that half of that's coming.
Yes, Nick hopefully we didn't lose here you're still there.
Sure.
Hey, guys you cut off for the last day.
All of you were getting at how does the how does the the gross margin of sort of develop over time if.
If we look at first quarter.
Ill paraphrase the right yes.
Yes, and as we look to the balance of the year and kind of the comparisons from from prior year.
Yes, if you remember 1 of the things we called out you're right is that about.
Year over year improvement came from muted competitive environment, which is fairly new we sort of seeing that in the fourth quarter of 2020.
And part of it is the fact that we did not have the same.
Freight costs that we did in the first quarter of last year. If you recall the first quarter 'twenty, we experience a significant backlog of search and demand an imbalance.
Balance of inventory and therefore, we had higher higher freight costs. So that did not repeat because our inventory is more balanced today are more aligned with our customer demand.
So that benefit I would not expect that to continue it was a onetime right. It was a onetime event in 2020.
The did not reoccur and we don't expect.
The to be a driver going forward.
When it comes to promotional environment and in pricing and that will depend.
We've said that we expect the.
The the.
The out of stock situation of the capacity to come back online more or less in the second half of the year timing is TBD, but.
We don't.
Just as the out of stock continues to would move into a more.
More normalized state.
We potentially could see promotions and pricing to also move into a more normalized state. So think about it that way that might be temporary.
Great. Thanks very much.
This concludes our question and answer session I would like to turn the conference back over to submit Singh for any closing remarks.
Thanks to the chewy team remains busy and excited about 2021 to execute with rigor and take care of our customers have a great evening. It was great talking to you. Thank you.
The conference has now concluded.
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