Q4 2021 Sleep Number Corp Earnings Call
Semiconductor components soon enough to fulfill our planned deliveries in the quarter.
Electronic supplies remain constrained near term as semi conductor demand is still overwhelmingly global is still overwhelming global supply capacity.
The suppliers are adapting as they enter the third year of difficult operating conditions.
As we navigate the disruptive constraints from this industry, we have been agile in retaining our customers and generating demand.
Strong demand for our smart beds reflects the life changing wellness attributes of our innovations.
As evidenced by the events of the past two years, our purpose to improve the health and well being of society through higher quality sleep has never been more urgent or important.
Highlights of our 2021 performance as compared to 2020 results adjusted for the 50 <unk> week include net sales growth of 20% to $2 2 billion.
Earnings per share rose, 34% to $6 16.
Cash from operations increased to a record $300 million.
And our return on invested capital with nearly 28% more than three times our cost of capital.
Over the past five years, we have delivered an EPS CAGR of 41% nearly four times, the 11% compounded average sales over that timeframe.
We also generated a five year EBITDA CAGR of 14% further demonstrating the superior cash generating ability of this business.
Now let me elaborate on the capabilities that are enabling us to navigate the supply chain challenges, while driving demand growth.
We are utilizing numerous levers of our vertically integrated business model to anticipate and respond to dynamic business conditions and drive sustained demand.
Digitization efforts are enabling real time inventory visibility scheduling communication and customer fulfillment. For example, we can adjust first available delivery date for customers based on when a constrained component has left our suppliers' overseas factory.
As a result delivery windows are easily adjusted and aligned with the soonest smart bed availability, reducing the risk of waiting too long to schedule or needing to reschedule.
Currently more than 60% of our smart beds are available for delivery in one to two weeks, while others are requiring a six to 11 week lead time due to a semi conductor delay related to flex fit adjustable smart basis.
Our individualized communications delivered digitally via our customer engagement platform and personally by our sleep professionals are building trust with customers and increasing retention.
We continue to advance our digital tools, such as self scheduling and self service that simplify our customers' experience.
In addition by the end of 2022, we expect to complete the migration of our outbound distribution network, which will enable us to operate with a single enterprise wide manufacturing and assembly supply chain.
This network design enable scale and agility to support volume expansion and market share gains.
Temporary supply shortages are not unique to sleep number.
Our ability to navigate the complex dynamics fuel continued demand growth and retain customer trust and loyalty our strength of our vertically integrated model and support the long term sustainability of our consumer innovation strategy.
A great example of this is the sales and marketing advancements we've made since the onset of the pandemic.
Our digital ecosystem is driving efficient demand creation, including nearly 400 basis points of leverage, which we see as sustainable or.
Our 2021 performance includes record retail productivity with average sales per store of $3 $6 million, including a 13% contribution from online sales.
Nearly half of our sleep number stores average over $3 million annually with eight stores generating sales of more than $7 million, including two stores at the $9 million Mark.
We expect average sales per store in 2022 to approach $4 million, while adding 35 net new stores.
In addition, our metrics, including customer engagement high quality traffic conversion referral cancels and returns signaled continued strong demand growth.
More than 40% of consumers surveyed indicate they intend to purchase a new bed within the next 12 months.
Our digital ecosystem, which broadened consumer engagement and deepens, our smart sleeper engagement and referrals is a growth flywheel.
Sleep number's consideration has increased since September and referrals are at record levels.
Innovative life changing sleep solutions are the ultimate driver of sustained performance.
At the international Consumer Electronics show in January we revealed our newest most dynamic 360, smart bed technology platform, which will provide advanced monitoring personalized insights and be capable of health evaluations all from the comfort of your home.
We plan to introduce the climate 360, smart bed near the end of 2022, followed by introductions of our all new 360, smart beds and smart furniture's.
Mark furniture throughout 2023.
As we navigate in an inflationary marketplace, we remain focused on actions, including pricing that offset higher input costs without dampening demand.
Benefited by our vertical model with exclusive direct to consumer distribution. Examples include.
Managing price elasticity as we communicate the value of our smart beds with different promotional offerings.
Leveraging the entire P&L and continuing to find efficiency gains from our digitization efforts and actions and applying our disciplined capital and liquidity management, including contingency preparedness metric driven decisions and steady investment in our near and long term growth drivers.
While there is no delta sleep number like nearly every other business is operating in a challenging and dynamic environment. We are addressing the temporary disruptions while advancing our long term strategy in the near term, we will create value with our.
New innovations that are designed to support smart sleepers changing needs at every life stage and provide the highest quality sleep.
Through efficiencies from our single enterprise supply network and by capitalizing on opportunities as the global supply chain improves.
Longer term, we are positioning sleep number for continued market expansion through new sleep health and wellness revenue streams, including subscription programs.
We are also continuing to augment and accelerate our strategic progression into connected health.
At the heart of our purpose is our remarkable sleep number team with a dedication to our mission that is unmatched our strong retention and staffing are driven by a world via workplace culture.
<unk> individuality and prioritizes wellbeing.
Everyday this team finding smart ways to increase consumer value manage risk and utilize our advantage business model to effectively navigate the ongoing global challenges.
Because of their efforts, we have improved nearly 14 million lives and are improving the health and wellbeing of society through higher quality sleep.
David will provide additional financial details on our 2021 performance and 2022 outlook.
Thanks Shelly.
Here are four things I will cover today.
What happened in Q4.
Our long term bias drives performance.
Risks, we are addressing in Q1 implications.
And 2022 guidance assumptions and long term expectations.
Our teams and partners have applied all the tactics in Q4 that successfully closed supply gaps and led to very strong Q3 financial performance, including leveraging supplier relationships.
Bonus redesigns, finding alternate components and expediting shipments.
Despite these efforts a large well known global electronics supplier delivered one component too late in December .
This move more than $125 million of net sales about two five weeks of deliveries.
Out of the quarter.
Q4, net sales were $492 million.
Versus the $600 million to $610 million needed to reach full year EPS of $7 25.
While this demand is not lost the shift caused temporary inefficiencies across the business and lower delivered volume to leverage infrastructure.
Margin rate pressures in Q4 were significant unusual and temporary.
Importantly, 30% or more of these cost pressures are temporary while our pricing actions and efficiency initiatives are sustainable and will drive profit rate improvements over time.
We took three 'twenty, one pricing actions with $140 of cost pressures.
This strategy protects demand generation.
But pressures.
Gross margin rate by 440 basis points.
This was the largest driver.
At this point Q4 gross margin rate declined versus the prior year.
This dynamic conferred to 220 basis.
Sure explaining half.
And versus the prior year.
The remainder of the gross margin and MLP rate declines were driven by logistics inefficiencies and lower leverage due to the net sales shift.
We continue strong demand excuse me.
With continued strong demand and liquidity, we have positioned our infrastructure to drive accelerated financial performance when supplies improve.
We employed this approach in 2020 and delivered rapid profit acceleration following the temporary COVID-19 shutdowns.
Our business fundamentals are intact.
We intend to drive through these temporary global supply constraints and accelerate results as supplies.
Improve.
Our strategic steadiness and long term bias has driven superior shareholder value over time, including 41% five year EPS CAGR through 2021.
Within that timeframe 2020 included an extra fiscal week that benefited that year by $41 million in net sales of $11 million in NLP and 30.
EPS.
2020 also included significant COVID-19 related fluctuations I will highlight our 2021.
Versus 2020, excluding the extra week and versus 2019.
Technology enabled smart beds drove 2021 demand, 24% higher than the adjusted prior year and 36% higher than 2019.
Q4, two year demand growth of 32% was a sequential acceleration from Q3.
Even with the Q4 delivery constraint 2021 net sales were $2.
20% versus adjusted.
9% versus 2019.
The productivity of our go to market strategy is highlighted.
By the two year, 25% increase in average comp store sales, including online now three points.
$6 million.
Smart bed units increased 22% in two years with 5% increase in average revenue per smart bed 250 $100.
Throughout 2021, we continued to prioritize our drivers of sustainable value creation.
This bias drove volume velocity and operating efficiencies that significantly levered, our infrastructure for the year.
Gross profit expanded 2021 net operating profit grew 11%.
To eight 9% of net sales.
73% versus 2019.
230 basis points in two years.
Life, improving innovations efficient demand generation and strong retail conversion has driven 450 basis points of ex G&A leverage in two years more than offsetting 68% higher spending on sleep science focused R&D.
This prioritization more than doubled EPS in two years.
It also drove $580 million of operating cash flow generation in two years.
Over that time, we invested $104 million in capital projects repurchased $593 million of sleep number stock.
And grew our 2021 ROIC to nearly 28%.
Now, let's talk about supply risks, we are seeing and implications for 2022, especially Q1.
Beyond set of the <unk> variant in late December had an abrupt impact on society factories and global supply chain.
This is reflected in current weekly commitments from our electronics suppliers for the first half of 2022.
That schedule includes delayed receipt of a semiconductor for our flex fit adjustable bases that will constrain Q1 deliveries.
As a result, we expect our backlog to further.
We also.
Now have quarterly supply commitments for the back half of 2022.
Our teams continue to work with suppliers to get weekly back half visibility, while pushing for greater volumes.
While the global supply chain appears to be more stable in 2022 than last year supply continues to be a fundamental limiter of our deliveries.
As a result, our 2022 EPS guidance assumes no benefit from backlog reduction this year.
With constrained Q1 deliveries of our most profitable smart beds.
We expect Q1 net sales will be within 5% of the prior year with gross margin of about 56%.
Continuous improvement initiatives like our outbound logistics evolution increased velocity additional modest pricing actions and an easing of commodity costs are expected to improve Q2 gross margins back half to 60%.
And meaningful upside in the years ahead.
Here or more of our assumptions for 2022 supporting our guidance for 10 to 15 days.
Okay.
Overall, we expect a stable consumer environment with cost pressures easing later in the year.
We expect to drive mid to high.
High single digit demand growth versus 2021 to.
To translate to low double digit net sales growth.
With four to five points from new stores and contribution.
<unk> from pricing actions.
We continue to prioritize support of near and long term initiatives.
<unk>, a third more R&D to support breakthrough sleep science innovations.
The timing of these investments in concert with constrained deliveries will pressure Q1 financials, while catalyzing performance acceleration thereafter.
We expect full year net operating profit rate of approximately 8%. Despite Q1 constraints, resulting in low single digit Q1, MLP rate with high single digit rates the balance of 2022.
Our 2022 EPS guidance for 10% to 15% growth assumes Q1 EPS of 30 to 40 year the balance of 2022 with the strongest growth in Q2 and Q4.
For 2023 through 2026, we expect to drive mid to high single digit average top line growth with 15% to 25% average EPS growth.
It may not be a straight line.
We expect to generate about $300 million of cash in $2022 and capital projects.
Opened 282, new Adcs.
Five solar initiatives in California, Texas and Minnesota.
Build digital.
Sure equipment for future innovations.
We have nearly $403 million remaining share with the tremendous value in our stock.
The benefit from accretive share repurchases set headwinds from higher interest.
Just rates and an effective tax rate of 22% to 23% in 2022.
The external constraints from global electronics supply challenges are temporary.
Demand and the fundamentals of our business are strong.
Our team's resilience and ingenuity are driving exceptional performance over time as we embrace.
Our common goal to improve lives through proven quality sleep.
At this point Josh Please open the lines for questions.
At this time I would like to remind everyone in order to ask.
But the number one on your telephone keypad.
First of all first question.
Question comes from the line of Peter Keith with Piper Sandler Your line is open.
Hi, Thank you good afternoon.
I guess I just wanted to follow up on the guidance commentary so.
David just.
Last remarks.
Sounds like Youre, calling for demand growth of mid to high single digit.
Can you confirm that would be in line with what you guys were talking about last quarter and then your.
Correspondingly you're not factoring in a reduction of this backlog so you're basically carrying.
Of demand on the balance sheet through the year.
That's what's factored into the guidance.
Hey, Peter Thanks for the question you are right about the demand.
Generation, we do.
Demand growth in 2020 twos.
If we're thinking about last quarter for 2022.
Access backlog that we're carrying.
Into 2022, it's far more than that $125 million.
For the year.
Ill.
That we are managing our way through and the visibility that we currently have.
We're basing our EPS guidance.
On the shape of the year.
Largely on the commitments that we've got now from power electric.
And Peter.
Yes.
AD that we largely expect to have the same level of backlog at the end of this year as we did at the end of 'twenty.
Final point it sounds like the shortages are specifically with the flex fit adjustable basis. So.
So you are not making any deliveries whatsoever, if if a b.
As part of the purchaser.
You just deliver the bed initially and then and then follow on with a base. That's at a later date.
Yes, Peter.
In the fourth quarter.
The semiconductor component that came late impacted all.
Here in the first quarter. The delay is related to a chip that is associated with our high end flex fit three smart adjustable base.
So it's that one that has either a delivery right now of six weeks or 11 weeks. So we are delivering.
Right now if you purchased that that it would be six weeks or 11 weeks, depending on the specifics of the combination whether it's a queen or king.
Over 60% of our smart beds, including our opening price point flex fit adjustable base is available within one to two weeks.
Okay.
And one last question, just kind of outside of the quarter or more big picture.
So you've talked in the past, but having all of this sleep science data with the sleep 360 technology youre leaning into that further.
Could you tease out any plans to monetize this information or maybe provide some type of subscription service to your customers. It seems like you have something fairly proprietary theres a number of other competing devices on the market that are doing this type of subscription dynamic how are you guys thinking about the southern go forward basis.
Well.
Thanks for the question Peter.
That's a future a.
Future revenue new revenue plenty.
We're really.
Cited to introduce a cloud.
Late this year and then our our new all new at 360 smart beds. Our fall line. The following year. This will be a new platform are most dynamic platform that has expanded.
Ended monitoring.
Of additional factors, such as temperature, which temperature and weight and other factors and.
That enables even a much broader deliverable to our customers all of our customers and that that then puts us in a position not only for monitoring but also.
Potential to do health assessments, and as we expand that monitoring and things like health assessments those are all important.
<unk> for our subscription series.
Okay. Thank you very much.
Thanks, Steve.
Your next question comes from the line of Seth Basham with Wedbush. Your line is open.
Thanks, a lot and good afternoon.
Just wanted to better understand the backlog situation again, I think you said it was over $100 million exiting the third quarter.
Same range exiting the fourth quarter with $150 million shifting from the fourth.
Quarter and beyond is the backlog exiting the fourth quarter now $250 million, we expect to carry that through the entire year 2022.
Hey, Seth.
We haven't quantified the exact dollar amount in the backlog but.
It's safe to assume that it's the excess backlog is north of $150 million of net sales equivalent.
Is it north of a 115 months so it expanded only $150 million yourself going forward going forward.
Got it Okay, and then as it relates to.
Okay.
Improving that.
Backlog through 2022, it's just a matter of.
Supply of the chips more than anything else and when do you expect to make more significant progress later in the first quarter or is it really going to be our guidance includes the allocation we have today from those.
History.
For semiconductors.
Victor components, and we fight for additional allocation everything.
I would characterize it as a bit more stable than the back half because of the weekly allocations and <unk>.
Less disruption around them.
We head into the balance of the year and.
Our guidance includes what we expect to receive at this time, we do we do see these.
This industry being a little more stable there is certainly a lot more capacity coming on board through.
Additional factory.
In the back half, but by the time that flows through it's probably 2023. So we really don't expect to have any meaningful reduction in our backlog until 2023.
It will increase here in Q1 with the delays, but then we'll be getting after that in Q2.
By the end of first half, we expect it to be about where it was at year end and then.
Exiting this year so.
<unk>.
Cut and will be in 2023 as we sit here today now obviously, if we're able to.
To procure more we'll update and we'll update you on that on our next call.
Alright, thank you.
To follow up making sure I understand the dynamics in the fourth quarter. If your backlog expanded by $50 million more than you expected and unit sales expectations by over $100 million, what's the missing.
Piece there.
Well some of the excess backlog that went into the fourth quarter was going to be contributing to our delivered sales in the quarter. So we're talking about.
The cumulative ending backlog at the end of 2021.
The excess portion of that.
Based on the larger size of the company and the larger volumes of demand in that neighborhood is in north Dallas.
Sales equivalents.
Okay ill, let someone else.
His death.
Really important part.
Our demand is strong and does not seem to does not appear to be impacted by the supply constraints that we've experienced.
We had.
At a high single digit demand in the fourth quarter with the demand that we needed to be able to.
And it was only the.
Yes.
Last two weeks.
<unk> of deliveries that ended up moving at $125 million equivalent at the end and then.
Importantly demand continues to be strong here.
In this quarter.
Thank you.
Thanks, Andrew.
Your next question comes from the line of Bobby Griffin with Raymond James Your line is open.
Good afternoon everybody.
My question, I guess being a perfect answer.
Clarify make sure we've got the <unk>, you said within 5% of <unk>, Youre talking plus or minus 5% or you just want us minus 5% of revenue.
Just to clean that up real quick while we're on the line.
Yes, sure, yes within 5% means.
We're the.
The constraints are keeping us from.
From getting to that point, so it's on the downside as opposed to a plus or minus.
Okay. That's helpful Safra.
Better to ask Alvin.
Absolutely yes.
Pretty big range, if we're plus or minus I would've called that out yes.
Yes, so and I guess I wanted to circle back.
On how youre kind of managing the customer relationship given that they.
Our longer lead time to get that typically for sleep number and I guess are you guys pulling back on media because youre kind of splits out on capacity right now or are you still kind of running the meeting strategy as normal and are you getting from.
Discounts to customers that's the way for 11 weeks like what is what's going on to protect the brand value and protect the backlog because the one thing I said is unique for your business as your backlog more real than maybe some other backlog customer deposits.
Close control distribution network.
Yes, thanks for the question Bobby.
Absolutely.
Backlog is real.
This demand is not lost.
And while we talk about our backlog level similar at the end of the year as we ended this year with its a different backlog here and we are servicing our customers and in fact over 60% of our smart beds are available within seven two.
14 days right now.
So.
The advantages of our vertical model, Bobby really allow us to stay very tight with our customers, whether it's online or in person in the stores and the relationship our team members develop with their customers as well as the selling process and be.
Unable to meet the customers' needs.
Based on the right match for them and also that right match includes when they need the smart bed by.
We are full steam ahead driving our demand. This is such an important strength of our business.
For us to be in this situation, where we're constrained by supply that yet we're not losing demand because of the supply or demand is strong and we.
We talked about on the third quarter call that we expected mid to high single digits here in the 2022 and as we sit here today with February we just completed our all important President's weekend.
We had an outstanding weekend with a record performance and we are.
Here at high single digits in February month to date with that performance.
Yes, really exciting and it speaks to the strength of all of these attributes of our business model, we have steady returns cancels.
We don't see an increase there.
In fact slight favorability, we had strong conversion and a record level of traffic and that speaks to the advantages of this business model and the importance of our smart beds and the value of health and wellness that they provide our customers.
Yes, probably I would add on.
Shelly highlighted one of the great benefits of this vertical model and that is in this digital capability and the visibility that we're we're creating now to be able to manage our way through this and we can see where that inventory is deep into the supply chain. That's different that's new and that's helping us make better decisions on behalf of.
Of our customers while they are standing at the cash register and that makes a big difference when.
They just want us to do what we promise and Thats, we can commit.
Yes.
Several weeks and these are life changing improvements.
<unk> proven.
Okay, that's fine.
Youre welcome supply chain, and the new products and they have some compelling new products.
Climate control coming out of stock.
Are the new products in the system is going to be a simpler global supply chain or is this kind of risks can understand.
Hopefully the world back closer to normal.
Just kind of going to be embedded in how these beds are assembled in where you source.
Yes.
In the top.
I think suppliers in the world and our team is working closely.
Hopefully with their software developers.
One on the <unk>.
The necessary semiconductor chips for our new platform as well so.
Top to top end close relationship.
In the developers for our future.
It's really important to both our company and their company and then we also have.
A fairly.
Robust are significant.
Round, 30% reduction in an actual component skus.
As we transitioned to our all new line and that will obviously be helpful as well.
Thank you sorry that was back when I was looking for that's very helpful. Best of luck here in this environment.
Thank you thanks Ravi.
As a reminder, if you would like to ask a question at this time. Please press Star then the number one on your telephone keypad.
Your next question comes from the.
Indeed.
On what you know today, what is the risk of it.
Slide 10 is worse than what you've incorporated into your 2022 guidance that would cause you to Miss and basically just trying to understand how conservative you are with respect to your expectations here.
From supply chain.
<unk>.
Yes.
Well. Thank you for the question our guidance contemplates what we know today on our supply chain.
We have weekly allocations.
The semiconductor chips that we've talked about here in the first half.
Yes.
And then we have quarterly for the back half and yes. There is.
Why'd widespread belief that.
This industry starts to strengthen in the back half we didn't build that in we built in steadiness.
Delivery on the commitments expectation to be able to reduce the backlog on top of the demand.
Yes, Bill I would add.
2021 had some fits and starts in terms of Covid and we saw with AUM across.
Cron late in the year.
<unk> had a pretty big impact globally.
On People's performance and that was that was new information.
Something like that could happen again, we don't have that built into our guidance for 2022.
But those are real risk that still remain.
Got it and see if I had to frame the upside potential to your guidance.
<unk> to be stronger and that can cause upside are you really need supplies et cetera for there to be upside to your guidance.
The answers supply.
We're going to continue to drive strong demand and we're not we're leaning into the demand it's important.
<unk> demand, our business model and our strategy, but the.
The upside.
Short term near term.
Comes from supply now obviously any demand we create it will be delivered.
So there is there is still future upside by greater demand than our expectations as well and whether that happens in 2022 that'd be great. That's not built into our assumed dps guidance.
But we're trying to make that happen for sure.
Got it and then.
Our final question from me is on inventory was up 20% plus even as you call out any ability to fulfill demand.
So it seems a bit of a disconnect. So could you. Please.
Inventory increase was related to.
For sure about 60% of that was in components other than the electronics shifts shifts that we're talking about.
The constraining our performance.
The remainder of the 40% is really tied to the cost inflation that we had a pretty pretty significant PPV, which is part of why Q1 gross margin rate is so so low.
Understood that's very helpful and thank you very much.
Your next question comes from the line of Curtis Nagle with Bank of America.
Thanks very much.
So.
Okay.
Just wondering if you are just confirm we're covered.
Okay.
Past couple of quarters, you guys have not community.
Cancellation is that correct and then just.
I don't know.
Forgive me for being a little obtuse Europe , I'm still not sure I fully understood.
While the backlog.
Thank fully carry through to the end of the year.
Maybe that's not right is that just due to the <unk> issue.
<unk> reconciled to such a big number.
Right.
So on the cancellation rate, we have not seen any appreciable increase in the cancellation rates.
Despite the.
The lengthening of time that people are are sitting in the back book part of that as Shelly highlighted is the new communications that we have with our customers on a regular basis, keeping them warm weather and excited about their purchase.
And Thats another app.
A benefit of this vertical model that we've been talking about so cancels are not higher and we've been actually seeing some some.
Indications that.
That could go in our favor.
Because of these new capabilities so in terms of the backlog.
How do I describe it.
We're planning to drive demand growth I think we talked about that we want to drive through.
These short term supply challenges and what I mean by that is we're continuing to invest to drive demand, we're still spending against driving greater demand, which will increase our backlog in Q1, and so the benefit of our performance the balance of the year and how we're thinking about our guidance.
As we have not baked into our 10% to 15% EPS growth for the year any benefit of taking our backlog that we're carrying into the year.
Reducing that in any way in in 2022.
If we can guidance.
Okay. Thank you.
Okay.
There are no further questions at this time I will turn the call back to the management team for any closing remarks.
Thank you for joining us today, we look forward to discussing our first quarter 2022 performance with you in April .
Sleep, well and dream Big.
This concludes today's conference call. Thank you for your participation you may now disconnect.