Q2 2023 The Honest Company Inc Earnings Call
[music].
Good day and thank you for standing by welcome to the honest Company Q2 2023 earnings Conference call. At this time all participants are in a listen only mode. After the speaker's presentation. There will be a question and answer session to ask a question. During the session you will need to press star one on your telephone you will there.
Here, an automated message advising that your hand is right to withdraw your question. Please press star. One again, please be advised that today's conference is being recorded I would now like to hand, the conference over to your Speaker, Steve Austin cell.
Please go ahead.
Good afternoon, everyone and thank you for joining our second quarter 2023 conference call.
Joining me today are car, Lebanon, our Chief Executive Officer, and Kelly Kennedy, Our Chief Financial Officer.
Before we start I'd like to remind you that we will make certain statements today that are forward looking within the meaning of the federal securities laws.
Including statements about the outlook of our business and other matters referenced in our earnings release issued today.
These forward looking statements involve a number of risks and uncertainties that could cause actual results to differ materially. Please.
Please refer to our earnings release issued today as well as our SEC filings for a more detailed description of the risk factors that may affect our results.
Please also note that these forward looking statements reflect our opinions only as of the date of this call.
We undertake no obligation to revise or publicly release the results of any revision to these forward looking statements.
In light of new information or future events, except as required by law.
Also during this call, we will discuss non-GAAP financial measures, which adjust our GAAP results to eliminate the impact of certain items.
You'll find additional information regarding these non-GAAP financial measures.
And a reconciliation of these non-GAAP to GAAP measures in our financial results section of today's earnings release.
Oh I broadcast of this call is also available on the Investor Relations section of our website at investors Dot honest dot com.
With that I'll turn the call over to Carlos.
Thanks, Steve.
Good afternoon, everyone and thanks for joining us today.
I'm pleased to be with you to share our strong second quarter results.
Related performance drivers and our increased outlook for both revenue and adjusted EBITDA for the year.
Our brand strength is evident in revenue growth of 8% in the quarter and 14% for the first half of the year.
Was balanced across retail and digital channels and delivered through both volume and pricing.
Looking at tracked channel data, which covers approximately half of our revenue total consumption increased 24% this quarter.
Diapers, which continued to be the heartbeat of the honest brands are growing market share through expanded assortment of our exclusive designs and seasonal prints with delight our consumers.
And our portfolio of plant based wipes delivered the highest share growth in the natural wipes category in the second quarter.
They are beloved by our community for users ranking from wiping babies booties to cleaning kits and cookies.
In addition to being pleased with the top line growth with this quarter. We are also excited about the progress of the transformation initiatives, we introduced last quarter.
Our transformation initiative, which encompasses the three main pillars of brand maximization margin enhancements and operating discipline. We've launched earlier this year to drive improvement in our cost structure and margins.
And to support further investment in portfolio growth and brand building.
Each of these three pillars drove meaningful advancements in the second quarter.
Our focus on brand maximization drove improved marketing efficiencies and performance of our top items.
By eliminating our lowest return marketing investments and focusing our support on that selling hero products across our diapers wipes and beauty portfolio.
We were able to deliver revenue growth, while also reducing our marketing spend.
Our margin enhancement efforts were focused on structural cost savings initiatives and pricing actions that realign our pricing structure with the premium ingredients and our product in.
In the first half of this year, we negotiated significant operating cost improvements with our supply chain partners and completed pricing actions across baby and beauty, which are now reflected on shelf and online.
We have also exited Asia, and Europe , which significantly reduces the complexity in our business model.
These actions will improve our margin structure for the second half of 2023 and into 2024.
Additionally, we made progress implementing operating discipline as reflected in working capital improvements in inventory levels that now align with demand.
This has driven significant improvement to our cash position and resulted in positive operating cash flow for the quarter.
We believe honest portfolio strength combined with the benefits and discipline of our transformation initiatives will advance our ability to drive improved cash flow.
Profitability over time and drive higher shareholder value Kelly.
Kelly I'll turn it over to you to review the financials, including further details on our transformation initiatives.
Thank you Carla and welcome everyone.
Performance in the quarter reflected strong topline results.
And improved gross margin trends and positive operating cash flow all demonstrating strong execution against our strategic goals this quarter.
As Carl highlighted we also made meaningful progress on our transformation initiatives this quarter, which sets the foundation for higher gross margin in the back half and 2024 and provides fuel to invest in and accelerate growth.
Starting first with revenue results for the quarter.
Revenue was $85 million, which increased 8% versus a year ago.
Reflecting growth in both channels digital and retail.
This growth reflects healthy track channel consumption trends the impact of channel and category expansion.
<unk>, Walmart and honest baby clothing.
Strong consumption at our key digital retailer.
Pricing actions taken over the course of the last year.
For the quarter volume was the largest driver of growth.
Electing strong results across our biggest retail and <unk> customers.
Ported by new distribution added last year.
Partially offset by reduced revenue from low margin parts of our portfolio, including the club channel and international market.
Approximately one third of our growth in the second quarter was driven by higher pricing with the balance from volume.
Turning to key drivers by product category.
First diapers and wipes.
Our diapers and wipes business was up 6% with honest consumption significantly outpacing the category.
Looking at truck channel performance honest consumption growth in diapers and wipes in the second quarter increased 32% well ahead of the 4% category growth.
This reflects honest diapers growing eight times the pace of the category.
Honest wife's growing five times the pace of the category in the last 12 weeks.
In personal care declined 2% as we scaled back low margin products in the club channel.
We continue to see momentum and skincare and beauty with double digit growth across our key retailers.
Our household and wellness business increased 98%.
We continue to scale the baby clothing business as we approach the one year anniversary of its integration that smart.
We remain quite pleased with both the underlying growth of baby clothing.
As well as the co marketing benefits with our other baby products and gifting options.
Now turning to results by channel.
Digital channel revenue increased 10%, while retail increased 5%.
Similar to Q1 revenue in Q2 was almost equally split between channels with retail at 51% of revenue and digital at 49%.
Our omnichannel performance reflected recent retail distribution win.
Some highlights this quarter include.
Continued strong performance at target, which saw high single digit consumption growth versus year ago.
Double digit point of sales growth across diapers wipes and beauty items at Amazon.
And continued strength at Walmart following our launch in the second half of 2022.
As well as new distribution secured this year.
Following the success of our launch into Walmart in the third quarter last year, we have transitioned from being primarily featured on end caps.
Two an assortment of diapers wipes and personal care items now being shelved in line, which is the primary shopping destination for our categories.
Initial indications are positive and we are seeing velocity growth as a result.
Our analysis also indicates that revenue from the expansion into Walmart has been highly incremental.
Through this partnership we've been able to significantly expand our reach and introduce honest products to a new consumer.
Particularly in geographic regions, such as the South and southeast where honest has been underpenetrated.
Now turning to gross margin.
Gross margin was 27% in the second quarter compared to 30% in the second quarter of 2022.
This includes approximately 100 basis points of transformation initiative costs.
Gross margin versus the year ago quarter reflects approximately 550 basis points of higher input costs and supply chain costs.
Offset by roughly 350 basis points of benefit from pricing cost savings and trade promotion efficiency.
We expect the favorable impact of the transformation initiative.
Including recent pricing actions to accelerate as we move into the back half of the year benefiting gross margin.
Turning to operating costs and profitability.
Operating expenses increased $2 million in the second quarter of 2023 compared to the second quarter of 2022.
Reflecting a $3 million increase in stock based compensation due to accelerated vesting related to a prior separation agreement.
Operating expenses were also impacted by a $1 billion higher legal fees related to securities litigation expense.
And roughly a $5 million of restructuring expense offset by reduced marketing spend as we shifted towards higher return brand building opportunities.
Adjusted EBITDA for the second quarter of 2023 with negative $4 million, which.
<unk> 1 million in costs related to the transformation initiatives.
Turning to the balance sheet, we ended the quarter with $18 billion in cash cash equivalents and short term investments an increase of $6 million versus last quarter.
Operating cash flow was positive $4 million and the company continues to have no debt.
Our cash position improved in great part from our second consecutive quarter of meaningful reduction in our inventory balance which decreased by $16 million in the quarter.
Year to date, we have significantly exceeded our initial goal of reducing inventories by $20 million.
We believe our current inventory level is aligned with demand with a modest opportunity for further reduction as we complete transformation initiatives activities and move to unproductive inventory in the second half.
Now turning to our outlook for 2023.
Following strong consumption trends in the first half and the progress on our transformation initiative, we are increasing our full year 2023 outlook.
We now expect revenue to be up low single to mid single digits versus full year 2022.
Versus our prior expectation of being up low single digits.
The company's full year 2023 revenue outlook reflects continued positive track channel consumption and the benefit of mid year pricing actions offset by revenue growth headwinds in the second half as we lap significant new distribution shipped in 2022 and.
And the impact of exiting low margin and low priority product line.
Adjusted EBITDA is now expected to be in the range of negative $22 million to negative $26 million, including $8 million to $10 million in costs and charges related to the transformation initiatives that will impact adjusted EBITDA in 2023.
In total we now anticipate the transformation initiative to incur $10 million to $13 million in total project cost.
Slight reduction versus our prior estimate with the majority being non cash.
Year to date, we've recognized $8 million of transformation initiative costs.
Please see our earnings release for details on the P&L line items impact to date and for the balance of the year.
We continue to anticipate the transformation initiatives will generate an estimated $15 million to $20 million in annualized benefits starting in late 2023 as.
As we monetize pricing drive cost savings and reduced operating expenses.
As we look to the second half of the year, our company and leadership team remain focused on.
Realizing the benefit of the pricing actions taken to date, which were store our historical premiums in line with our brand positioning.
Improving our cost structure, including renegotiation of contracts and input costs across our key suppliers and vendors.
Driving efficiencies and higher returns from brand building investments to support higher margin gross and.
And finalizing the exit of low margin product lines and businesses.
These actions will set a strong foundation for margin improvement in 2024 and beyond.
With that let me turn it back to Karla before we open it up for questions.
Thanks Kelly.
To the second half of 2023, we remain relentlessly focused on delivering improved business fundamentals sure.
Through the three transformation initiatives pillars of brand maximization margin enhancement and operating discipline.
The great progress we've made so far on the transformation initiative and our strong first half revenue reinforces my conviction that the honest brand has a long runway for growth.
First consumers continue to value, our clean approach to product formulation and our commitment to the honest standard.
With over 3500 ingredients and chemicals, we choose not to use.
Second we have a differentiated and on trend brand in a growing clean and natural segment that is outpacing conventional offerings.
And third we are confident that we have significant runway for additional points of distribution.
While the overall HCV for the honest portfolio has increased from 53% a year ago.
285% at the end of Q2.
Many of our best selling items still have HCV levels of 30% or less.
Reinforcing the opportunity to grow our distributions and assortment.
If I could leave you with one thing it's that we remain committed to expanding margins and driving shareholder value as we continue to realize additional benefits from our transformation initiatives.
These improvements will establish the foundation upon which we will expand the honest brand to become a larger more vibrant and more widely available brand than it is today.
With that I turn the call over to the operator, and we look forward to answering your questions.
Certainly as a reminder to ask a question. Please press star one on your telephone and wait for your name to be announced to withdraw. Your question. Please press star one again, please wait while we compile the Q&A roster.
One moment for our first question.
And our first question will come from Laura Champine of loop. Your line is open.
Good afternoon, and thank you for taking my question.
It's really about the restructurings positive impact on revenues, which I just don't see that often is this the result of price increases or is there something else in it.
Yes, Laura this is Kelly. Thank you for your question is around pricing as we realigned our pricing to be back to historical premiums. That's really what we're talking about when we talk about the positive revenue impact of the transformation initiatives.
Okay.
Yes.
The initiatives that I would just mentioned its certainly marketing efficiency and leaning in and supporting some of our best selling items. So it's around focus we did do a SKU rationalization. So it's really leaning in and supporting some of our best sellers with both marketing distribution.
And just ensuring that we have the content to support the bestsellers.
Got it I know that honest was a little slower to raise prices or are you now in a position where you might be raising prices when competing brands lower prices or is that not happening at this point.
Yes, the pricing that is going out into the market in 2023 went in their work.
A few different ways, but 90% of our pricing is in asset.
At last months there is a couple of small skus in the standardization that will be repriced later in the year with the pricing that we have planned in 2023 is in market and John .
And is sufficient to offset the inflation that we experienced predominantly that was inflation in 2022, but we also saw some.
Increases in input cost with vendors in Q1, so now.
Once that is fully realize which we know that those when it mid year it'll be 2024, and we feel we've taken sufficient pricing to cover that inflation.
Great. Thank you.
One moment for our next question.
Yeah.
And our next question will be coming from Andrea Teixeira of JP Morgan Your line is open.
Thank you good afternoon.
Some of the I have two product questions I'm sorry.
One is.
Some of your obviously top selling products have been.
As you said Carla.
You are below or around 3% ACC I was wondering if you can comment on the path to actually improve that.
And then secondly in terms of consumption I guess shipments trends I can comment on that most recently and in particular as you implemented the price increases.
Small how youre seeing elasticity there.
On the third part of my question is on the on the gross margin called out a couple of things like including exiting portions of your international business and the sanitation.
Whereas the SKU rationalization. So I was wondering if that's reduction of 290 basis points year over year, how much of that was related to that and if you can also comment on the guide if the new guide includes the X. They took those businesses or if I could just about thank you.
Nice to hear from you Andrea let me kick it off this is Carla with your with the conversation about the opportunity to increase distribution.
Our existing portfolio of items that yes, we call them our hero items. So.
First and most importantly, what we're excited about is that our hero items are performing so strongly where they are are tracked channel data.
Grew by 24%.
And across all of honest items that is strongly led by our hero items.
That is so important because as we partner with our retailers to talk about the opportunity to increase the either the visibility of expanding assortment or even expand expanding basin in the in the aisles, where we are in the doors, where we are our strong performance opens up the opportunity.
We have really good conversations about the growth we can drive on those existing shelf sets by expanding distribution of our top item of course, you know thats kind of a key way that household in CPG and beauty items works with your top selling items. It is actually best in the categories. If the distribution is enough to.
Sure that as the velocity turn step supply is available of those most.
In demand items. So we are in conversations with retailers about that strategy. Additionally, though interestingly enough for some of our key retailers were not yet in all the doors on our top items. This has been a bit of a <unk>.
Learn as we go process. So for example, as you think about our entry into Walmart as you know and we've talked a lot of time, our entry into Walmart has really been led by our baby strategy. So as we now see the success and the relevance of the brand with the Walmart consumer there is opportunity to make sure. We say there are idled.
And categories, we have not even yet introduced at doors, where we're already in.
Those are I think two of the biggest ways and sometimes the third way is certain retailers know that some products are relevant both as you would walk through the baby aisle, but separately the adult personal care aisle that same product or a variation of that product might be relevant in two different places in the store so even <unk>.
Just against our hero item launch.
Okay.
In addition to that I would just say what we will layer on that is very exciting as the distribution growth. When you layer the marketing on top of more broad shoulder distribution not only does that improve the return on that marketing, but it ensures that as the brand has a bigger Billboard in store.
Driven also with a much more focused marketing category on those hero items.
I'll go ahead and take your second question your second question.
Andre.
Around consumption and the impact as we've taken pricing on the elasticity.
And it is just some of the pricing impacts just went in in the last 30 to 60 days. So we only have initial reads, but with the most recent consumption data even the data that came out. This morning were continuing to see the same trends.
And a slight acceleration in the tracked channel.
Which really reflects that new price on shelf, we tended to take a pretty.
Uh huh.
Cautious approach about what the impact could be on the last two C thinking around the back half.
It's still a little early but we've been pleased to see continued growth.
In both volume and pricing.
So far so good and we'll have a.
Better read after we get a couple more months under our belt.
And then finally your question around the gross margin exiting the low margin products. We did as we highlighted in our call. We did finalize kind of the terms and agreements with some partners as we exited the Asia and also close down or our operations in Europe and both of those.
Were reflected in the Ti impact you saw on the gross margin for the second quarter. So we highlighted there was approximately 100 basis point impact on gross margin.
As we highlighted there will be some additional impacts in Q3 still to come as we finalize some of the other portions of our initiatives in other areas outside of kind of exiting some of the SKU rationalization predominantly we are expecting that in Q3. So you can think about margin for the back half.
We expect to absorb kind of the biggest bulk remainder of that in the third quarter and then as we move into Q4.
And into 2024 will be a little cleaner as it relates to the impact of Gi on gross margin.
Yeah.
And then if I can.
Just go back to Kelly. This this point that you just made I think we all struggle to see where the margin will land.
We go and I. Appreciate that's you know that's that's a lot of emphasis that you have been putting in the cala as well in terms of the disappointing in the margin going forward, but can you give us an idea when you finish this transformation what would be the.
The target margin.
Yeah. So two.
2023, we've continued to have some impact on margin evening going into the back half, but sequential improvement what we highlighted were some short term cost headwinds both between the transformation initiatives and some of the transportation costs, which have come down just takes some time to flow through so we started to see some better.
We'll see benefit of that lower transportation costs in the back half as we highlighted both in Q1 and Q2 when you adjust for those impacts.
Basically the gross margin adjusted gross margin is kind of in that 28% to 29%.
And we did get the benefit.
Two two and a half.
It's related to the pricing can be taken so there will be some slight additional pricing as we move into the back half and we'll get the full benefit of <unk>.
All of those impacts which would be pricing.
Pricing that has offset the inflation a return to more normalized transportation costs.
Forward and then some.
<unk> due to cost savings that we've initiated in 2023 that really won't be that impactful until we move into 2024.
So sequentially that's super them.
But again predominantly hitting 2024, so the 2023 step up improvement will be marginal.
Yeah.
Great. Thank you very much I'll pass it on.
Thank you and I'm showing no further questions I would now like to turn the conference back to management for closing remarks.
Okay.
Okay, well it was a pleasure to be with you. This quarter. Thank you again for joining us and for your interest and support for the honest company. We look forward to be back here speaking with you next quarter.
Ladies and gentlemen. This concludes today's conference. Thank you for participating you may now disconnect.
Okay.
Hum.
[music].
Okay.
Okay.
[music].
Yes.
[music].