Earnings Call Transcript - BRLT Q2 2023

Operator, Operator

Thank you for standing by, and welcome to the Brilliant Earth Second Quarter 2023 Earnings Conference Call. As a reminder, today's program is being recorded. Now I'd like to introduce your host for today's program, Allison Malkin of ICR. Thank you. Good afternoon, everyone, and thank you for joining us for our second quarter fiscal year 2023 Earnings Conference Call. Joining me today are Beth Gerstein, our Chief Executive Officer; and Jeff Kuo, our Chief Financial Officer. For our call today, Beth will begin with highlights of our second quarter financial and operational performance and update the progress we have made on our strategic priorities. Jeff will follow with more detail on the quarter and share our outlook. Following this, we will hold a Q&A session with our presenters, Seth and Jeff available to answer the questions you have for us today. Before we start, I would like to remind you that management will make certain remarks today that are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially. Please refer to our SEC filings for a description of the risks that could cause our actual performance and the results to differ materially from those expressed or implied in these forward-looking statements. These forward-looking statements reflect our opinion only as of the date of this call, and 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 unless required by law. Also, during this call, we will discuss both GAAP and non-GAAP financial measures. You will find additional information regarding these GAAP financial measures and a reconciliation of these GAAP to non-GAAP measures in today's earnings release, which is available at the Investor Relations section of our website at investors.relat.com. A live broadcast of this call is also available at the Investor Relations section of our website. And with that, I'll turn the call over to Beth.

Beth Gerstein, CEO

Good afternoon, and thank you for joining us today. We are pleased to share our second quarter results, which met and in many instances exceeded the expectations we set at the start of the fiscal year, including growth in revenue, further expansion in gross margin and ongoing profitability. Our performance continues to demonstrate the increasing resonance of our brand, the agility with which we execute and the advantages of our asset-light data-driven operating model. The quarter saw us grow share in the highly fragmented $300 billion global fine jewelry market as we advance our mission to disrupt and transform the jewelry industry and to extend our lead as the jeweler for today's consumer. We begin the second half of the year with positive momentum, and we believe we are in a great position to deliver on our goals for the full fiscal year. I would like to thank our incredible team for their dedication and hard work to drive another strong quarter. I'll start with some highlights of our quarterly performance and update you on the progress we're making on our key priorities. For the second quarter, revenue was $110.2 million, increasing 1% from the prior year quarter with a 23% growth on a 4-year CAGR basis. Gross margin was 57.6%, an expansion of 450 basis points compared to Q2 2022, reflecting the strong resonance of our brand and proprietary products, enhancements to our price optimization engine and continued discipline in managing procurement efficiencies as well as benefits from our enhanced extended warranty program. Adjusted EBITDA was $7.7 million or a 7% adjusted EBITDA margin, reflecting our continued focus on balancing profitability and investing in support of our long-term growth. During the quarter, we made strong progress on our key priorities, namely to build our brand awareness, expand and refine our distinctive high-quality product offerings, expand and elevate a seamless omnichannel experience across our showrooms and e-commerce, and to invest in the technology and systems that enable our growth. Starting with our brand. As a digitally native company, leading in social continues to be an important avenue for building and expanding our brand through both awareness and engagement. During Q2, our social-first campaigns on Earth Day and Mother's Day were good examples of how we are building even deeper and more impactful connections with our core millennial and Gen Z consumers. By creating compelling and relevant branded product stories, we saw order growth across fine jewelry and bridal, and we delivered our best Mother's Day gifting period in our history. Speaking of bridal, we continue to drive order growth in this business. In addition to the always powerful word of mouth that Brilliant Earth inspires, we are growing our customer base by building a strong and compelling presence across social media. Recently, we benefited from influencers Dean and Calin of Bachelor fame as they shared content featuring their Brilliant Earth engagement ring as well as television personality Corey Brooks, who shared his experience shopping for wedding rings with Brilliant Earth. These efforts generate meaningful engagement with our audience. In fact, Dean and Calin drove more than 1 million views on social. These are just a few of many social and influencer activations that help to deliver another quarter of sequential increase in media impressions. As we continue to invest in building ever-stronger brand equity, we are pleased to find both new and existing customers seeking out Brilliant Earth for our proprietary trend-leading signature styles. These styles, which extend across both bridal and fine jewelry, are increasingly becoming must-have styles of the season. In Q2, we expanded our signature collections with new engagement rings, wedding rings, and fine jewelry. These signature proprietary collections are outperforming within the assortments in both bookings and productivity. This is a great example of how we are building proprietary differentiated, highly curated products across the breadth of our assortment. This quarter also marked the expansion of our quick ship assortment with ready-to-ship engagement rings, a convenient option for customers alongside our already strong custom product offering. Over the past several quarters, we've talked a lot about the trends we're seeing in consumer demand across bridal. As I said last quarter, we entered the year anticipating a degree of normalization in weddings, and we've continued to see that play out. During Q2, we drove growth in the sub-$10,000 price range, and we continue to capture market share as our brand demonstrates ongoing resonance with our millennial and Gen Z audience. During Q2, as we entered the ever-popular summer wedding season, we saw double-digit growth in wedding bands, even as we compared to a very strong quarter last year. We saw particular strength in men's wedding rings, demonstrating that our brand resonates across genders. Turning to fine jewelry, which, as you know, is an important and relatively new category for us, we're continuing to demonstrate strong growth. We're seizing the opportunity to attract new and repeat customers with a thoughtful balance of both classic and on-trend jewelry. Our distinctive and high-quality personalized jewelry, such as nameplate necklaces, have been some of our best sellers alongside reversible hoop earrings, wrappings, and layered novelty and accented chains. Finally, shifting to our omnichannel experiences. We opened four new showrooms in the second quarter, in Pasadena, Nashville, Fairfax, and the second location in Chicago. Year-to-date, we have opened eight locations and plan to finish the year with at least 35. We continue to test, learn, and refine our showroom experiences, and we'll soon open our first indoor mall-based showroom in King of Prussia, Pennsylvania, the first of three indoor mall showrooms that will open soon. Several of our recent openings further extend our reach in major metro markets like Los Angeles, Chicago, and Washington, D.C., in which we now have multiple locations and are realizing strong results. We're excited to test and learn from our showroom expansion as we work to continually refine and optimize our existing fleet. As we do that, you can expect that we will focus on elevating our brand experience to build upon what we believe is a best-in-class joyful and premium experience. We know that today's consumers expect a seamless experience across any brand's digital and physical platforms. Our ability to deliver an ever-evolving integrated omnichannel experience is core to what makes Brilliant Earth special. Also core to our company is our track record of leadership and innovation. As a mission-driven company, we place sustainability, transparency, and inclusivity at the center of everything we do. Last week, we again demonstrated our leadership by launching two new collections that highlight the heart of our mission. The Capture Collection, an extensive collection of Planet-Fit lab diamonds grown using carbon captured before it can be released into the atmosphere, and the Renewable Collection, featuring lab diamonds manufactured with 100% renewable energy. It's a new era for our industry, and we're very proud to lead it. Finally, before I turn the call over to Jeff, I want to introduce a new member of our team. Stephanie Layton has recently joined the company as our Senior Vice President of Investor Relations. She comes to Brilliant Earth with significant Investor Relations and ESG experience, most recently from Offerpad. We are thrilled to have her join Brilliant Earth as we aim to build a best-in-class investor relations program. Stephanie will be a valuable resource for the investment community, and we're looking forward to you getting to know her in the coming months. Here's Jeff.

Jeff Kuo, CFO

Thanks, Beth, and good afternoon, everyone. Thank you for joining us today to discuss our second quarter fiscal 2023 results. As Beth mentioned, we're pleased to report a quarter that was in line with our top-line expectations and that exceeded our expectations for profitability. We also continue to generate benefits from our asset-light operating model, maintaining our strong inventory turns and cash flow. Let me take you through the results. Revenue of $110.2 million represented a 1% increase year-over-year and growth of 23% on a 4-year CAGR basis. This result is consistent with our expectation of continued strong year-over-year order growth, which for the quarter rose approximately 21%, offset by a decline in AOV, which was down approximately 16%. Q2 gross margin was 57.6%, exceeding our expectations. This 450 basis point expansion year-over-year reflects the strength of our brand, our differentiated product offerings and enhancements to our pricing algorithm that have shown promising initial results and which we plan to continue refining in upcoming quarters. Our gross margin expansion also reflects our ongoing rigor and discipline in managing procurement efficiency and benefits from our enhanced extended warranty program. Adjusted EBITDA was $7.7 million or a 7% adjusted EBITDA margin, which exceeded our expectations, driven by our strong gross margin performance balanced by our diligent management of OpEx. Our profitability and capital-efficient operating model continue to differentiate us among direct-to-consumer companies. We ended Q2 with approximately $150 million in cash, an increase of more than $3 million compared to Q1 2023. We continue to maintain a strong balance sheet with no net debt. In addition, we operate the business in an asset-light fashion with efficient working capital and our inventory turns are among the highest in the industry. As I mentioned last quarter, our inventory model continues to evolve as we expand fine jewelry to be a larger part of our business and grow our showroom footprint. However, we expect to continue tightly managing our inventory turns through our data-driven approach and leveraging our strategic relationships with vendors, which allows us to have a vast assortment of products to meet customer needs while limiting the expansion of our balance sheet inventory. We are also able to dynamically rebalance inventory across our showrooms to maintain efficient inventory levels. These efforts continue to pay off as we have reduced inventory levels since Q3 of last year, even as we have significantly expanded our showroom count and driven strong growth in fine jewelry. Our plans for 2023 reflect the priorities as outlined earlier, coupled with our clear and focused commitment to delivering profitable growth. We've reiterated our annual top-line guidance, which reflects our ability to continue to gain share in a dynamic macro environment. Our guidance continues to be for full year 2023 net sales in the range of $460 million to $490 million, which represents 5% to 11% growth versus fiscal year 2022, a 4-year CAGR of 23% to 25% and a 4-year stack growth of 128% to 143%. As we've mentioned, we anticipate higher year-over-year revenue growth rates in the second half of the year as we lap lower comparative growth rates from the prior year and continue to see success in our showrooms and the performance of our fine jewelry assortment. Similar to our comments during the last earnings call, we expect the distribution of revenue in the remaining two quarters of 2023 to be generally consistent with the shape of these quarters in 2021 with a slightly higher weighting towards Q4, driven by the opening and maturation of new showrooms and the fact that Q4 is seasonally the biggest quarter for fine jewelry. We also expect to continue driving strong gross margin performance. We expect our second half gross margin percentage to be in a similar range as our first half gross margin percentage as we continue building our brand, refining the recent enhancements to our price optimization engine and continue our focus on disciplined cost management. We expect to reinvest a portion of the gross margin gains in both Q3 and Q4 in SG&A including marketing to further build brand awareness and position us for success during the holiday season. We expect to continue driving profitability this year as we focus on driving sustainable, profitable growth. We have increased our full year adjusted EBITDA guidance to $22 million to $35 million or an adjusted EBITDA margin of 5% to 7%, and we plan to exit the year driving leverage on a run rate basis in adjusted EBITDA. This reflects a balanced approach of continued prudent investments to gain market share while managing the business for profitability. In closing, on behalf of Beth, myself and our entire team, we thank you for your support, and we'll be happy to answer your questions.

Edward Yruma, Analyst

I guess, first, on the indoor mall showrooms, I know you historically tried to get lower rent, lower traffic locations. I guess kind of how do the economics potentially differ here? And then I know you guys had a call out on the kind of maybe softness or implied softness of over $10,000 engagement. Is this just the customer trading down? Or are there some other dynamics happening at the more premium price point?

Beth Gerstein, CEO

I can start off with the indoor mall showroom. As we think about the overall ROI that we looked at for the indoor mall showroom, we thought that financials were also very attractive. And while it is somewhat of a departure from our original offering, which is upper floor appointment-driven, even as we’ve gone on to see other ground formats, we’ve seen compelling economics. We think that this is going to give us a chance really to launch in some of the best malls in the country and help to see some of the other benefits in terms of driving awareness while still seeing very compelling economics and still offering a really premium customer experience. Overall, we’re still in a test-and-learn approach. But in these markets, this is really where the customers are shopping. So we feel good that the customer data supports us going into the mall. Our adjacency supports it, our demographic data supports it. So we have, I think, good expectations for what’s going to materialize there. As it relates to the $10,000-plus customer, I think we haven’t seen a real change there in terms of continued moderation in that $10,000-plus. One of the things that we’re really pleased with is as we look at the aggregate demand under $10,000, we’ve seen some nice improved growth there. I think this just goes to the strength of our product offering. We have compelling products across a variety of price points. So we’re really able to meet demand where we see it. That’s one of the things that distinguishes us.

Noah Zatzkin, Analyst

Obviously, gross margin came in quite a bit stronger than expectations this quarter. When we think about the long-term mid-50s target as it relates to the performance this quarter, has anything structurally changed there? Or do you think that mid-50s level is still the right way to think about gross margin going forward?

Jeff Kuo, CFO

So we're pleased with our gross margin performance from Q2. I think this reflects a number of different things, including the strength of our brand and our differentiated products, some technology enhancements to our price optimization engine, continued procurement efficiencies as well as our enhanced extended warranty program. We continue to drive strong performance there. We are still in the process of refining some of these enhancements to the price optimization engine. We'll be reviewing longer-term targets as we prepare our 2024 guidance. As we mentioned during our remarks, we expect that H2 gross margins will be in a similar range as H1 gross margins.

Noah Zatzkin, Analyst

Very helpful. You talked a little bit about the phasing of revenue between Q3 and Q4. Just wondering if you could share any color on the OpEx line as well.

Jeff Kuo, CFO

Sure. First, I can talk through the phasing of revenue and then OpEx. We do expect the distribution of revenue in the remaining two quarters of 2023 to be generally consistent with the shape of those quarters in 2021 with a slightly higher weighting towards Q4. We’re really excited about our preparation and positioning for a successful Q4. We have a number of compelling new upcoming product launches. We continue to open new showrooms, including our first three indoor mall locations and continue to see strong showroom performance. That will be a nice benefit going into our outperformance in fine jewelry, coupled with the fact that Q4 is seasonally the most important quarter for fine jewelry. We're also planning on launching some of our biggest brand building campaigns in our history in Q4 as we continue investing in the long-term growth of our business. One other thing to keep in mind is that we have lower comps in Q4 of 2022 and we do expect normalization of bridal growth rates towards the end of the year. In terms of how that shapes out in terms of the revenue shape for Q3 and Q4, we think about that as starting from H2 2021, looking at the percentage distribution between Q3 and Q4 amongst the second half, and then we expect an additional about $5 million move from Q3 to Q4, reflecting this slight shift towards Q4. For some of the OpEx, we see compelling opportunities to make investments in SG&A to drive growth and long-term brand awareness as we set ourselves up for a successful Q4. We expect to be investing some of the incremental gross margin in SG&A in both Q3 and Q4 while still managing the business to overall profitability and the increased adjusted EBITDA guidance that we provided.

Josh, Analyst

I was wondering if you could update us on what you see going on with the precious metals and diamond prices in the market? And how is this really impacting average selling prices?

Beth Gerstein, CEO

Sure, Josh. Nice to have you on the call. Seeing some of the input price changes is something that we’ve navigated really from the beginning of our history. I think we’ve developed internal capabilities to adjust our pricing dynamically based on the input costs that we see to optimize on margin. Another benefit we have is that we’re inventory-light. We don’t really carry a lot of the inventory on our balance sheet. We follow a virtual inventory model as well as make-to-order. As you see fluctuations relating to both metal and diamond prices, we can adapt dynamically, and we don’t have a lot of capital invested in those inputs. Overall, we’re going to see fluctuations over time. I think we are at a competitive advantage overall. The main drivers in terms of ASP are really some of that moderation above $10,000, as well as some of the acceleration that we’ve seen with fine jewelry. The Mother’s Day gifting period is our second most important holiday for fine jewelry after Christmas. We did a great job capitalizing on the holiday. We had some strong Mother’s Day campaigns and a compelling product assortment with signature offerings. All of that resulted in the overall ASP we achieved, and I think that’s a consequence of the strategic efforts we’re focused on.

Dylan Carden, Analyst

Just curious, I'm kind of looking at the cadence just for the first half and what's implied in the guidance. Do you feel either philosophically or just where the model is at this point that you're in a position to actually flow through more of the gross margin upside all the way down at this point?

Beth Gerstein, CEO

I think that I can start that, Jeff, and maybe that’s something that you can follow up with. As we’ve seen outperformance in gross margin, we’ve had a strong opportunity to reinvest in brand building efforts. Those efforts have seen success. We just had a launch yesterday with a designer Logan Hollowell that saw a strong response. It’s a fine jewelry collection that’s nature-inspired. We actually just received recognition from People magazine that we are the #1 brand to shop right now for fashion launches. That’s just a great example of how we think about brand-building campaigns that drive relevance and resonance with our millennial and Gen Z audience. Overall, we think about how to position the brand for the long term. The marketing efforts we’re reinvesting in are driving engagement and awareness. As Jeff pointed out, we are raising our overall EBITDA guidance for the year, so we are still capturing some of those profits.

Dylan Carden, Analyst

Would the idea then be that at some point you would want to reap some of the benefits of those efforts, right?

Beth Gerstein, CEO

Well, I think we are reaping some of the benefits by increasing the overall guidance for adjusted EBITDA. That shows you we are capturing some profits. As we see the opportunity to invest in the brand and strong ROI, we’re going to continue with a balanced approach.

Dylan Carden, Analyst

Just on the new store in Chicago, how you're thinking about urban area density and your longer-term store targets? Are those stores relatively close? Are you seeing much by way of cannibalization? Or do you think you may have more opportunities to infill some locations in older markets?

Beth Gerstein, CEO

We’re still early in the journey in terms of having a multiple showroom cluster for a metro market. I think we’ve been excited about the performance we’ve seen so far, but just recognizing it’s pretty early. Fulton Market launched just a few months ago. We are collecting data, but some of the early results we’ve seen are promising. We see a real opportunity for multiple showrooms within a metro. We already have several in the D.C. area and several in Southern California, and we’re seeing strong results there. We’re still in a test-and-learn phase overall, but so far we’ve been pleased.

Dylan Carden, Analyst

And then last one, just on the dynamic between AOV and order. AOV has been something that as you switch into fine jewelry is naturally going to decline. Is part of the AOV decline due to weakness in the higher $10,000 price points? Or anything else going on there driving some of the order growth?

Beth Gerstein, CEO

I would say what we've seen in the $10,000-plus price point is pretty consistent with what we've seen before. I think it’s more the fact that in the lower price point under $10,000 we’re seeing accelerating growth. This is actually a positive for the company overall. I wouldn’t say this is a new trend in the $10,000-plus. There’s still continued pressure in that customer, but it’s been more widely reported.

Oliver Chen, Analyst

Jeff, in the past, what you’ve seen is a more considered consumer. Just curious about what’s happening now with traffic relative to conversion and if there’s volatility or more stabilization? And then, Jeff, you commented earlier on the engagement and wedding trends. I would just love your thoughts on what your guidance assumes for the overall industry as we think about this year as well as next and if there’ll be a fair bit of volatility embedded in what you're seeing with the market.

Beth Gerstein, CEO

I can start in terms of just what we're seeing with some of the digital performance. We're seeing strong digital performance in traffic and conversion. I wouldn't say there's degradation here. We see strong traffic to the site, and it’s converting quite well. Our omnichannel overall strategy is effective with showrooms being very synergistic with the digital channel. Jeff, do you want to speak to assumptions on bridal?

Jeff Kuo, CFO

Sure. With respect to bridal trends, we anticipate a return to a more normalized industry growth rate towards the end of the year, and that’s embedded in our guidance for 2023. We're consistently gaining share in the industry, and this is reflected in the strong brand loyalty we have and our strong order growth rates. So that normalization, along with continued brand strength and traction with millennial and Gen Z customers, is embedded in our guidance. We haven’t yet provided a perspective beyond 2023, but we are very well positioned for long-term growth and share gains as we’re still early in this large $300 billion industry.

Oliver Chen, Analyst

You've made a lot of great progress with fine and some really nice proof points. What will happen over time in terms of net working capital efficiency and your thoughts on what you may need to do to continue the momentum in that business and also key catalyst in categories indoor price points you're focused on with fine that make the most sense for you in the earlier innings?

Beth Gerstein, CEO

I can start on the price points we're focused on. We have a full offering across different price points, which aligns with our company philosophy of meeting customers where they are and catering to their budgets. We’ve seen strong performance in certain price points, and we quickly increase our offerings to drive productivity. That’s part of our data-driven model; we are constantly analyzing customer sales and able to introduce products rapidly based on that. You’ll see offerings from about $250 up to over $10,000. Self-purchases tend to be a little bit under $1,000, and we have a compelling offering there. We have great options for gifting across several categories of our jewelry. Our signature offerings are doing well in terms of productivity and bookings. Jeff, why don’t you talk a bit about net working capital efficiency?

Jeff Kuo, CFO

We recognize that our inventory model will evolve as we expand in fine jewelry, which becomes a larger part of our business. However, we maintain tight visibility and management of working capital with our data-driven approach. A compelling proof point is our inventory level from the end of Q3 last year to the end of Q2 this year, where we saw inventory actually decrease, despite significant growth in fine jewelry and the opening of numerous new showrooms during that time. This illustrates our ability to efficiently manage working capital even as dynamics change, and we plan to keep that discipline going forward.

Amanda Douglas, Analyst

It's Amanda Douglas on for Matt. So Beth, can you elaborate on the positive momentum entering the second half of the year as you cited in the release? What do you believe is driving your recent market share gains across product categories?

Beth Gerstein, CEO

In terms of recent market share, many initiatives we've been working on are showing strong results. Driving brand awareness, growing our showrooms, leaning into fine jewelry—all of these factors are driving our performance. The differentiated product offering and highly curated styles contribute to our market share. We're leaning into these brand campaigns, and we see positive momentum as they build. Overall, I believe we exited the quarter with positive momentum, showcasing that many of our efforts are starting to yield favorable outcomes.

Amanda Douglas, Analyst

That's helpful. To follow up on your long-term targets, it seems like marketing is the largest opportunity for leverage multiyear. Is there a point in time or an inflection point when you believe marketing expenses could start to leverage? How best to think about that timeline?

Jeff Kuo, CFO

We think about our investments in marketing in terms of driving long-term sustainable profitable growth, balanced by efficiencies in our marketing spend. We see compelling opportunities to invest to gain share because we are still early in our journey. We are a growth company in a large and fragmented industry with many long-term opportunities. As for sources of leverage, we see an uplift that can drive accretive customer acquisition economics as we continue opening showrooms and maturing in the market. The growth of the brand is another area with leverage opportunities. We are balancing long-term growth with profitability in our strategic approach.

Operator, Operator

This does conclude the question-and-answer session of today's program. I'd like to hand the program back to Beth Gerstein for any further remarks.

Beth Gerstein, CEO

Thank you, everyone, for joining our second quarter fiscal 2023 earnings call. We look forward to talking to you next quarter.

Operator, Operator

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.