GoPro, Inc. Q1 FY2020 Earnings Call

Good day. And welcome to GoPro’s First Quarter 2020 Earnings Results Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Christopher Clark, Vice President of Corporate Communication. Please go ahead, sir.

Thanks, operator. Good afternoon, everyone. And welcome to GoPro's First Quarter 2020 Earnings Conference Call. With me today are GoPro’s CEO, Nicholas Woodman; and CFO and COO, Brian McGee. Before we get started, I'd like to remind everyone that our remarks today may include forward-looking statements. Forward-looking statements and all other statements that are not historical facts are not guarantees of future performance and are subject to a number of risks and uncertainties, which may cause actual results to differ materially. Additionally, any forward-looking statements made today are based on assumptions as of today, including by limited to the assumption that the COVID-19 pandemic does not materially worsen. We do not undertake any obligation to update these statements as a result of new information or future events. Information concerning our risk factors is available in our most recent annual report on Form 10-K for the year ended December 31, 2019, which is on file with the Securities and Exchange Commission and in other reports that we may file from time to time with the SEC. Today, we may discuss gross margin, operating expense, net profit and loss, as well as basic and diluted net profit and loss per share in accordance with GAAP and additionally on a non-GAAP basis. We believe that non-GAAP information is useful because it can enhance the understanding of our ongoing economic performance. We use non-GAAP reporting internally to evaluate and manage our operations. We choose to provide this information to enable investors to perform comparisons of operating results in a manner similar to how we analyze our own operating results. A reconciliation of GAAP to non-GAAP operating expenses can be found in the press release that was issued this afternoon. In addition to the earnings press release, we have posted management commentary and slides containing detailed financial data and metrics for the first quarter 2020. The management commentary in slides as well as a link to today's live webcast and a replay of this conference call is posted on the GoPro Investor Relations website for your reference. All income statement related numbers that are discussed today during the call other than revenue are not GAAP unless otherwise noted. Now, I'd like to turn the call over to GoPro's Founder and CEO, Nicholas Woodman.

Thanks Chris and good afternoon, everyone. Due to the high volume of companies reporting earnings today, we've chosen to post management commentary for the first quarter of 2020 to the GoPro Investor Relations page on our website. I'll now give brief remarks and then we'll go directly into Q&A. Brian's financial overview is included in our posted remarks. As we shared in the management commentary, which I encourage all to read, GoPro is adapting to these challenging times with a strategic realignment to transition to a more efficient and profitable direct-to-consumer business. It is important to point out that while our business slowed due to COVID-19, we're seeing a positive rebound in demand, and people have continued to buy GoPro cameras in significant numbers throughout the pandemic as our written commentary outlines in detail. We believe the decisive action we've taken to lower operating expenses and accelerate our shift to a more consumer direct model capitalizes on this continued demand in an efficient manner, giving GoPro a much improved cash-generating business model that sets us up for success in the near term with the potential to be more profitable than ever in the long term. Assuming that many of you on the call have already read our written commentary, we'll now move on to Q&A.

Our first question today comes from Jim Suva with Citi.

Good afternoon, Nick and Brian. This is Mike Cadiz for Jim Suva at Citi. So just one question for me. Though we appreciate that ASPs will continue to move in an upward trajectory, I question to what degree do you think consumers will still continue to spend in excess of $300 per product, for a GoPro product that's when unemployment data that we're seeing is increasingly getting so bad? Thank you.

Thanks for your question. Well, currently, we're seeing the trends to the high end continue. So that's a good sign, and given that historically, a GoPro purchase has been a mission-critical or passion-driven purchase for consumers, which has led the purchase to be a highly researched purchase. We know through our consumer research that consumers spend quite a bit of time deciding to buy a GoPro, deciding which model to buy, and they more often than not opt for the high end. We know through our research that their willingness to buy the best and buy the highest priced model is related directly to their purpose intent for buying in the first place. So, that's a long way of saying that GoPro is not a fad purchase. It's a purpose-driven purchase, and we see those trends continuing. As it relates to the economy and people's purchasing power diminishing, that's a very good question. I think that we would likely see people perhaps buying in fewer numbers, but still buying towards the high end because of what the product does for them. The performance at the high end is very meaningful to our customers; it's why they buy in the first place. So, we're confident about our ability to continue to sell at the high end. I think the outright total volume of sales is what would be in question, and that's even more of a reason for our shift to a more direct business, as we can be profitable with a much lower threshold of total number of units needed to be sold to achieve that profitability.

Yes, Mike, if you can hear me, I want to expand on what Nick mentioned. The trends are evident; looking back to 2018, 42% of what we sold was over $300, that increased to 70% in 2019, and now we're at 90%. This indicates a resurgence and stronger demand at the high end, not just for the 8 but also for the MAX, and we've seen interest in the 7 rise as well, which is significant. This trend is consistent across all deals and is particularly pronounced on gopro.com, where the mix skews even higher.

Our next question will come from Erik Woodring with Morgan Stanley.

Hey guys. Good afternoon. Thank you for taking the question. So there's just a lot of moving pieces here, obviously, as you transition more to a direct-to-consumer business, but at the same time you are seeing sell-through improve and that color on recent trends is very helpful. I'm just curious if there's a way that you can frame how we should think about the revenue trajectory in 2020 and 2021. I realize there's a lot of uncertainty, but with the moving pieces, I just want to make sure that I and the rest of us are all thinking about how you're thinking about the revenue trajectory, and I have a follow-up after that.

Yes, hi Erik. This is Brian. Let me begin and Nick can add to my remarks. We provided an initial commentary and expect sell-through to be between 2.8 million and 3.2 million units in 2020. Based on the demand we're observing in Q2, we're confident in achieving 600,000 units of sell-through, having reached approximately 700,000 in Q1, which puts us about halfway towards our annual goal, which is promising. Regarding Q2, we've noticed week-to-week increases in every region, with China now exceeding the year-over-year trend, Australia at around 85%, and on gopro.com, our volume is currently three to four times the amount we've experienced in recent weeks. This shows that we are making significant progress in our direct-to-consumer efforts. We indicated that gopro.com would represent about 40% of our total revenue in Q2, and in April, it exceeded 50%. As retailers begin to restock, we expect this figure to decrease to about 40%. It's also worth noting that our Q2 revenue on gopro.com will be very close to, or slightly below, our record in Q4 of 2019. This demonstrates our ability to scale and generate considerable business through our direct-to-consumer platform. In our earlier comments, we mentioned that we ended 2019 with around 1.4 million units in channel inventory, and we anticipate reducing that to about half by the end of the year. If we maintain a sell-through rate of about 3 million units, and channel inventory is cut down by half, our sell-in would then fall short of sell-through. Therefore, looking ahead to 2021, if channel inventories align appropriately with demand at 600,000 to 700,000 units, we could see revenue growth, as we would be selling more units in 2021 compared to 2020. With operating expenses reduced to $250 million and margins in the upper 30s, we believe we could be a highly profitable company.

That was incredibly helpful. I truly appreciate all the details. I’d like to ask a second question regarding your expectation for operating margins being in the high 30% range in the latter half of the year. I'm curious about how that may evolve in the next two to three years, particularly with the expectation that most of your business will be conducted through gopro.com, which you indicated has higher margins. What might be your long-term target for gross margins? Thank you.

Sure. No problem. Let me just start with why we think we can be in the 30 to 40 points of margin. As we think about how we're modeling through the business, in the opening commentary where we would provide some outside value to the consumers and do more obviously in D2C and with plus, taking that into account, our margins on our platform are anywhere from 5% to 10% or 12% better than they are at retail, quite frankly, and through distribution. And so, that mix of shifting more to our platform on a D2C basis would add about 2 to 3 margin points on an aggregate basis. We see margins expanding into above that or I should say expanding on a year-over-year basis from 2020 to 2021, and that’s because if we have a higher amount of volume, I’ve got fixed overhead coverage as well as a higher run rate of direct-to-consumer. As I said in our opening remarks, direct-to-consumer was about 10% of our revenue in 2019. We expect it to be around 45% in 2020 and to increase further in 2021 and be actually the majority of our revenue. So, you would see over time an expanding margin profile on a long-term model.

And we'll take our final question from Andrew Uerkwitz with Oppenheimer.

Hey. Thanks gentlemen for taking my questions. I appreciate it. If you could read through the transcript of the other remarks and you talked about the retail strategy there. Could you go to the bit more detail? I was a little confused; for example, are big-box retailers still getting the 300 plus cameras? What does the footprint store shrinkage look like? And then on these stores that are getting strong, how are those chosen? Was it by sales, strategic location, or was it branding considerations? Could you just give us a little bit more color on retail and what the new retail channels are going to look like?

Hi. Andrew. Yes. In North America, our flagships will be beginning in Q4 or our flagships will be sold possibly with some sales at some key strategic retailers for key periods. But by and large, you can expect the GoPro flagships being available at gopro.com exclusively and we will be primarily focusing on selling our mid and entry-level products with big-box retailers, which consequently for many of them, the majority of their business is in the mid and entry levels. So, that's not a big change for them. That's not the case for everybody, but for most of the big-box retailers that is the case. And then we're not sharing any information on the total number of doors GoPro will be available in, but as it relates to the big-box, it is important for us to be represented there with our mid and entry-level products in our accessory line, which is considerable business for them. And then specialty stores remain important to us provided that they reopen at the appropriate time. As far as decision-making goes around which stores to stay there, it's obviously related to revenue but also to importance from location in GoPro's brand. The specialty business isn't that big for us, but it's, as we've stated, important for our brand to be well represented at what we call passion epicenters, whether they be at the beach or at ski resorts or mountain bike resorts and the like, we'll be working with them again when they reopen, but obviously, that's to be seen when that will be.

Sure, I appreciate that explanation. However, could you help clarify something? Regarding the 300-plus camera sales, particularly for the Hero Black and Hero Max, if there has been a shift of upwards of 90%, should we expect that shift to decrease somewhat due to the strong retail emphasis on lower and mid-range products, or does the silver model fit into the category of products priced above $300?

Andrew, let me respond to that. Currently, regarding the 90% figure, we are talking about the Max Hero8 Black and Max Hero7 Black, which are at 29.

Got you. That's helpful.

So I got a little bit more color on top of what Nick said in his prior remarks. In terms of like last in Q4 when we were at the platform that had Hero8 Black, when we were able to relaunch the product, we saw outsize growth on year-over-year basis across all of our regions in Europe and in the US. And so we have very good data points on-demand profiles when we're able to have products at a pretty sole basis on gopro.com. So that gives us very good data to align this model on the high end with our platform.

Got it. That's helpful. Would having our flagship product less available at large retailers shift sales toward the mid and low end? We don't believe so because, as previously mentioned, our customer research clearly shows that GoPro is a highly researched purchase. Consumers don't typically buy GoPro products on impulse while shopping in stores. During their research process, most customers visit gopro.com to learn more. Therefore, having gopro.com as one of the few places where our flagship is sold won't necessarily deter consumers who prefer the convenience of in-store shopping. They conduct their research and then purchase the flagship wherever they perceive the most value, which is a crucial aspect of our strategy to primarily sell flagship products on gopro.com. We can provide much greater value to consumers through bundling, our subscription service, and other added benefits. This allows us to offer significantly more value for their money than we could in retail settings, which will help drive sales of the flagship on gopro.com. Ultimately, this approach benefits both the consumer and GoPro. Got it. That's super helpful. I guess my last question is regarding your sell-through based on the comments you've made; it's been roughly around 4 million units a year, very steady despite broader industry trends which are not steady. Your breakeven is now 2 million a year, and you're shifting to direct to consumer. I don't expect COVID will have a lasting impact; it might take a while, but one of the lasting impacts on travel and adventure. Do you think under the new structure you can achieve that 4 million run rate again in the future, or is there a certain loss of sales with the new business model?

No. I mean consumer interests and passions don't necessarily go away. They might get put on hold for a little while, as you say, and people have different priorities during a pandemic. Although, we continue to see robust sell-through; I think stronger sell-through of GoPro's during this period than people would have imagined. So that's good to see. So, no, we believe that the overall TAM for GoPro remains the same, but we're going to be serving that TAM in a more direct fashion and as I mentioned with more value offered to consumers at the time of purchase. So net-net, there’s going to be a balloon of value for consumers that wasn't there before, and there already was significant value. So that bodes well in terms of GoPro being able to capitalize and convert on that consumer interest in demand. And as you know, the more that the world returns to normal or the new normal, whatever that is, the premise, the promise, and the potential of GoPro remain the same for the consumer. So there's no reason to believe that over time we can't grow back into the types of volumes that we sold through with our older retail-based go-to-market strategy. But it's great that the threshold, the profitability is as low as it is and the signs that we're seeing is that we're going to be able to perform quite well during the pandemic and increasingly better as the impact of the pandemic lessens over time. So hopefully that answers your questions. I think it's a matter of when not if.

Thank you. That does conclude the question-and-answer session. I'll now turn the conference back over to management for any additional or closing remarks.

Thank you, operator. I'd like to close by underscoring how strongly we believe our strategy sets us up to succeed both during and after this pandemic. We can deliver significantly more value to consumers as a more direct company, which we believe will translate into expanded value for investors as well. I want to thank all of GoPro's employees around the world for their resilience during these difficult times. You've all come together and maintained an exceptional level of execution while keeping yourselves and those close to you safe. Your dedication and passion for GoPro gives me great confidence in our potential going forward. Thank you everyone. This is team GoPro signing off.

Thank you. That does conclude today's conference. Thank you all for your participation. Have a wonderful day.