Earnings Call Transcript - ONON Q3 2022

Operator, Operator

Thank you all for being here today. Welcome to the On Holding AG Q3 2022 Results Call. I will now hand it over to Jerrit Peter. Please proceed.

Jerrit Peter, Executive

Good afternoon, good morning, and thank you for joining On’s 2022 third quarter earnings conference call and webcast. With me today on the call are Executive Co-Chairman and Co-Founder, David Allemann; CFO and Co-CEO, Martin Hoffmann; and Co-CEO, Marc Maurer. Before we begin, I would like to remind everyone that the remarks during today's call will contain forward-looking statements regarding future events and performance within the meaning of the federal securities laws. These forward-looking statements reflect our current expectations and beliefs only and such statements are subject to certain risks and uncertainties that could cause actual results to differ materially. Please refer to our 20-F filed with the Securities and Exchange Commission on March 18 for a detailed discussion of such risks and uncertainties. Please further note that this call will also contain certain non-IFRS financial measures, such as adjusted EBITDA and adjusted EBITDA margin. These measures are not intended to be considered in isolation or as a substitute for the financial information presented in accordance with IFRS. Please refer to today's release for a reconciliation of non-IFRS financial measures to the most comparable measures prepared in accordance with IFRS. We will begin with David followed by Martin leading through today's prepared remarks, after which we are looking forward to opening the call for a Q&A session. With that, I'm very happy to turn over the call to David.

David Allemann, Co-Founder and Executive Co-Chairman

Thank you very much, and a warm welcome from here in Zurich to everyone around the globe joining us today. I'm delighted to be here to speak about another outstanding quarter, and the exciting recent progress and developments at On. As you will have seen in our release this morning, net sales for the third quarter increased by more than 50% to CHF 328 million, our strongest quarter in history. This makes On a CHF 1 billion net sales company. We're looking at the 12 months leading up to the end of September, and it allows us to increase our full year outlook. During our last earnings call, we talked about how we are focusing on building a company that is set up for durable growth with the goal of being the #1 brand on runners' bodies. Today, I delve deeper into the strength of the Young brand and our most recent innovation achievements, before handing over to Martin for a detailed review of our third quarter financial performance, and details on the outlook for the rest of the year. 12 years ago, On started from out of nowhere and has built a powerful grassroots movement of millions within a few short years. It fills me with pride that we continue to inspire and attract a record amount of new runners to On. There is simply an incredible amount of momentum around On right now, and I want to focus on 3 of the key areas that are driving this growth and setting us up for sustained success. Firstly, we are expanding the reach of the brand like never before. On has seen a record number of visitors coming to our website, with almost 10 million sessions per month recorded so far this year. Our Instagram followers just crossed the 1 million and engagement is high. We are attracting new consumers every day due to our ability to drive awareness and then meet their individual needs once we have gained their attention. We are doing this in a number of ways, not least, via our highly successful omnichannel approach. Our strategy connects us with consumers when and where they want to shop, either via our own physical and digital stores, wholesale partners or immersive digital platforms. In September, we began piloting a fully redesigned website designed to deliver a richer, more immersive shopping experience. The pilot and AP testing in the U.K. has delivered great results and we cannot wait to roll it out globally in the coming months for all of our fans to enjoy. We're also partnering with external digital platforms such as the WeChat e-commerce mini program in China. Chinese consumers can now seamlessly shop for On products without ever leaving the WeChat ecosystem. Our increasing brand visibility is also driven by powerful marketing campaigns that resonate with our core community and reach a new breed of runners. Runners who are inspired by an emerging run culture that elevates running to a lifestyle. The seed of this culture was planted during the pandemic and new habits have now been formed. These campaigns are hugely distinctive and impactful. During the Berlin Marathon, you couldn't escape our brand as we took over hundreds of key out-of-home sites across the city to support our Dream On campaign. We also partnered with the city's music festival to provide our unique take on how running inspires creativity. And during the New York City Marathon, runners joined us at 0.2, an immersive exhibition that explores the magical mind space that can only be accessed through running. October also saw the hotly anticipated second lower times On collection of performance footwear. It launched to much fanfare, particularly in the APAC region, where it was heavily featured in influential style media, such as Vogue Japan. Continuing to build the brand is also contributing to our momentum, namely by staying true to our focus on performance innovation. I'm thrilled to see how our newest performance products like the Cloudmonster, the Cloudrunner and the CloudGo are resonating with runners in a major way, becoming the fastest-growing product lines at our retail partners. These styles are now driving volume for us, not only in running specialty stores, but also in general sporting goods channels like big sporting goods. Crucially, our running shoes that resonate so well with consumers are powered by the very same technology you see on the feet of our successful professional athletes and the On Athletics Club, our lead track and field team. Athletes like the Norwegian titleholder Gustav Iden, who won the men's Ironman World Championship in Hawaii in October. He delivered an unbelievable performance with a new course record. But not only did Gustav set a new overall course record, we played a part in Gustav running a record marathon to finish off the race and secure the win in an On shoe specifically created to meet his needs. Of course, this groundswell of professional athletes wanting to wear our innovative products influences runners to choose On shoes for their daily runs and workouts. This was on full display around the New York Marathon, where our New York City store logged the strongest 2 days in history. Our product innovations aren't just confined to footwear. The potential of our apparel business has never been greater. We're doubling down on apparel and have recently made a number of key investments to strengthen our design and development team. In the last few months, we have also seen a great response from our community to new apparel products such as the Luma's collection of hi-vis reflective running gear and our latest sports bra line. Just last week, we had our global meeting where our team and key partners were introduced to our next lineup of products that we will bring to market in the fall/winter '23 season. We surprised the team with 3 all new footwear silhouettes and many new and exciting apparel pieces. As you know, brand and product desire builds lasting relationships with our consumers and turns them into loyal customers. We also create long-term partnerships with retailers to ensure we do everything we can to serve and inspire consumers together. But of course, we can't speak about lasting meaningful relationships without mentioning Roger Federer. Our partnership with Roger has never been merely an athlete endorsement deal. Instead, he has long been a partner, investor and co-entrepreneur of ours. He plays a truly instrumental role in the development of the Roger line and the Roger Pro tennis shoe, acting as a role model to all of his teammates at the same time. Like many sports fans, we have heavy hearts when Roger announced his retirement from the professional tennis game. But I'm delighted to say that he will now spend even more time with us to expand the professional On tennis business and our performance product offering as a whole. My last and final point brings me to durable growth, not just for On, but for our planet. We are making fast progress in innovations that drive a circular future. For us, durable growth means growing responsibly. As a brand born in the Swiss Alps, nature is our home and where we run. Our sustainability mission has always remained the same, namely, to make high-performance products with the lowest possible footprint and engineered for circularity. We focus on 3 core areas: recycle, reuse and reduce. On recent calls, we provided updates on breakthroughs we made against the first 2 ambitions, namely our cyclone subscription model. Today, I'd like to focus on the third area, carbon capture. I'm delighted to say that Q3 was when we finally realized our dream of reducing carbon impact when we unveiled the first ever shoe made from carbon emissions with our clean cloud material. This makes On the first company in the footwear industry to use carbon emissions as a primary raw material for a shoe's midsole, a huge milestone for the sports industry and something that seemed almost impossible when we first started developing it 5 years ago. CleanCloud will go from proof of concept to commercialization. Our ambition is to bring the technology to as many consumers as possible in the near future. Other notable sustainability achievements in the quarter included the introduction of Onward, our first-ever platform to shop and trade in pre-owned gear for On, where products stay with us longer. Onward is currently available in the U.S., and we're looking forward to seeing how our first foray into the resale market develops in the coming months. To summarize, we are incredibly pleased with the progress we have made over the past 12 months and are extremely excited for the next steps we'll take on our mission to decouple On's resource consumption from our strong growth. With that, it's my pleasure to hand over to Martin for the Q3 financial review and updated outlook for the full year. Martin, please.

Martin Hoffmann, CFO and Co-CEO

Thank you, David, and hello to everyone on the call today. Q3 has been another record quarter for On. Our net sales growth of 50.4% to CHF 328 million has exceeded expectations and marks an important milestone in our path towards sustainable growth. As many of you know from following us since the IPO, net sales growth is crucial for us, but we are equally focused on enhancing our profitability. By further minimizing our reliance on airfreight and despite facing foreign exchange challenges, we have achieved a record adjusted EBITDA of CHF 56.3 million, translating to an adjusted EBITDA margin of 17.2% for the quarter. The strong performance signals continued global demand for our brand and demonstrates our capability to scale and professionalize all aspects of our business. David highlighted some factors contributing to our record sales, such as the success of our products, our growing collaboration with wholesale partners, and our efforts to strengthen connections with our customers. The high demand we are seeing has tested our logistics network. Although our supply chain teams have performed admirably to manage record volumes, we faced temporary constraints in our U.S. East Coast warehouse in mid-August due to a system upgrade by our 3PL partner. Our team responded quickly, and the issue was resolved. However, we were unable to meet all the demand in the U.S., particularly in direct-to-consumer sales, where prolonged delivery times and increased cancellation rates led to lost sales. Additionally, the strength of the U.S. dollar relative to the euro impacted our gross profit margin significantly, and our adjusted EBITDA margin decreased by 250 basis points compared to last year's Q3. In total net sales, currency developments are mostly neutral, although regional sales are affected. Nevertheless, we achieved record results, reflecting our strong brand momentum and effective teamwork. Now, let me detail our strong financial performance for the quarter. We once again experienced balanced growth across channels, regions, and product categories. We continue to gain market share with existing retail partners while carefully expanding our distribution to reach the right customers, contributing to a 55.6% increase in net sales in wholesale compared to a robust prior year period. As previously announced, we launched a pilot at eight large sporting goods locations, and we are thrilled by how On has been embraced as a complete brand with apparel and accessories, which accounted for nearly 20% of units sold. The footwear segment has also proven effective in driving our mission to reach every runner, with products like the Cloudultra, Cloudmonster, and Cloudrunner significantly contributing to volume during the pilot. We have expanded our partnership with Footlocker to 150 locations in the U.S. for the launch of the fall/winter '22 season, which coincided with remarkable Q3 results and strong sell-through during the back-to-school sales. Our strategy continues to focus on establishing a presence in quality retail spaces, carefully managing inventory, and, where feasible, showcasing trends in On shop-in-shop areas. A prime example is our collaboration with Nordstrom, where we opened 12 dedicated On shops in September. Overall, our wholesale door count in our core markets reached 9,050 doors at the end of Q3, up from 8,000 at the beginning of the year, reflecting robust organic growth in existing stores with both old and new products while expanding distribution judiciously. In direct-to-consumer, we saw a 40.7% growth in net sales during the quarter. Without the restrictions in our U.S. warehouse, our D2C sales growth could have been even higher. Our growth in D2C has been diverse and fueled by strong interest from both our loyal customer base and many first-time buyers just discovering the brand. We are excited about the ongoing rollout of our new online experience, which will further improve engagement with our customers. We are actively investing in our data infrastructure to connect directly with them. Last week, I visited our new retail store in Los Angeles, which opened recently. The customer response has been overwhelmingly positive, with many customers declaring it one of the finest stores on the street. This location serves not only as a store but also as a community hub for runners. Our next openings outside of China will be in London and Miami, anticipated for early next year. In China, foot traffic in our retail stores has rebounded significantly after the broader lockdowns in Q2, with traffic at our existing Beijing store seeing a 40% year-over-year increase in August. Furthermore, we opened four new stores in China since early September: two in Shanghai, one in Beijing, and one in Chengdu. These stores continue to be a showcase for the potential of our apparel merchandising. For instance, our Shenzhen store achieved a 30% share in apparel in Q3. Overall, our D2C share stood at 32.5%, down from 34.7% in the same period last year, reflecting these dynamics. Now let's look at regional performance. Q3 net sales in North America surged 57.1% to CHF 176.3 million, driven by robust demand for our complete product line across retail and direct channels. As mentioned before, we could have reflected even greater demand from our D2C customers had we not faced the temporary warehouse limitations. In Europe, net sales growth accelerated compared to Q2, achieving CHF 116.5 million, a growth of 31.8% year-over-year, despite significant FX headwinds from a strong Swiss franc against the euro and British pound. Demand remains strong across key markets, and we are pleased to have solid partners in the region as we continue to grow. With JD's expansion, we recorded a record monthly sell-through of footwear in September, allowing the U.K. to double net sales year-over-year in Q3. Additionally, Q3 marked a successful launch with Footlocker in Europe, both in select stores and online. As for Asia Pacific, net sales rose 85.2% to CHF 24.2 million, propelled by a substantial recovery in China after extended lockdowns in Q2, along with positive momentum in Japan and Australia. Despite occasional local restrictions, China recorded a year-over-year growth rate of 90% in Q3. This trend has continued post-Q3, as On was selected to be the only new sportswear brand featured in Tmall's Double 11 online shopping festival, with high visibility throughout major cities for our Cloudmonster co-branded design. This exposure, combined with strong brand momentum, led to a 135% increase in items sold compared to last year's Double 11. With the opening of seven new retail stores in China and positive traction from our new WeChat mini program launched in October, we anticipate China to remain a key growth driver in the coming years. Our Rest of World net sales increased 150% to CHF 11 million, bolstered by our successful new distributor partnerships in Latin America, along with a significant demand surge in the Middle East. Regarding product performance, net sales of On shoes grew by 51.6%. In August, we launched the CloudGo, alongside the Cloudmonster and Cloudrunner, completing our revised range of performance running products that have driven significant market share increases. We've also expanded our undyed product collection to include the Cloud 5 and Cloudnova, and we are excited to showcase these sustainable options today. As we celebrate Roger's illustrious career, we have also rolled out a new mid-top version of the Roger line and commemorated Roger's final tournament with a special limited edition at the Roger Laver Cup, which attracted considerable attention at our booth in London. Apparel sales grew by 32.4% to CHF 15.2 million, slightly below our expectations, but we are steadily laying a foundation for future success through investments in our internal capabilities, product range, and customer experiences. Gross profit for the third quarter reached CHF 187.4 million, compared to CHF 131.3 million a year prior, yielding a gross margin of 57.1%, down from 60.2% in Q3 '21. We utilized additional airfreight to meet the high demand for some new products. Overall in Q3, we've further reduced our reliance on airfreight, and are now in a more normalized situation, which has helped drive sequential improvement in our gross margin compared to Q1 and Q2. Besides the expected airfreight impact, we've also faced pressure on our margin due to the lower D2C share from warehouse constraints and notably from the adverse year-over-year FX developments mentioned earlier. SG&A expenses, excluding share-based compensation and last year's one-off IPO transaction costs, were 44.1% of net sales in Q3, a decrease from 46.4% in the prior year. While we continue to make investments in various business areas, we are also enhancing operational efficiencies and economies of scale. Adjusted EBITDA reached CHF 56.3 million in the quarter, marking the first time we surpassed CHF 50 million. This is an increase from CHF 37.9 million in the previous year, which was the highest quarterly EBITDA we had seen at that point. The adjusted EBITDA margin of 17.2% saw a slight decrease from 17.4% in Q3 '21, mainly due to the previously mentioned gross margin impact, yet it significantly increased from 10.8% in the last quarter. Now, regarding our balance sheet, capital expenditures were CHF 22 million in Q3, representing 6.7% of net sales, primarily directed towards the buildout of our offices in Zurich and Portland, new On retail stores, and improvements to IT infrastructure. To elaborate on our inventory position, inventory rose by CHF 45.7 million or 21.1% since the end of June, and by CHF 118.2 million or 82% compared to the end of Q3 last year, which was exceptionally low due to COVID-related factory shutdowns. Excluding in-transit inventory, which has significantly declined due to our airfreight reliance, the inventory growth closely aligned with our net sales growth. We are currently better positioned to cater to demand during the upcoming holiday season than we were last year, although inventory levels hit a low point. Our inventory in transit and warehouses has been prepared to fulfill existing orders, which should persist into Q4 and early Q1. As a result of increased working capital and capital expenditures, our net cash at the end of Q3 decreased to CHF 493 million from CHF 557.7 million at the end of the second quarter. Our robust balance sheet enables us to pursue ambitious growth plans and make forthcoming investments. I am very pleased to share that we have secured a partnership with a third party to establish a highly automated fulfillment center in Atlanta. This facility will enhance our capacity beginning early next year and will replace our current East Coast warehouse by 2025, with the automation expected to significantly lower handling costs and lessen our dependence on manual labor, presenting an opportunity for further SG&A leverage and continued growth in our D2C business. This arrangement is supported by a bank guarantee, ensuring dedicated cash reserves. Moving forward, our financial outlook for the remainder of 2022 and into 2023 is positive. As we conclude an exciting and successful year, we aim to finish strong. Given our strong Q3 performance, we are once again raising our net sales outlook for 2022 by CHF 25 million, increasing it from CHF 1.1 billion to CHF 1.125 billion, reflecting our confidence in our ability to achieve stronger results in Q4 than previously anticipated. This new projection suggests a full-year growth of 55%, compared to the prior guidance of 52%. The revised outlook considers several factors. First, we have moved past the temporary restrictions in our Atlanta warehouse and are heading into the critical holiday season with robust momentum. While we have strong inventory levels, we may encounter out-of-stock situations for some popular styles, which we view as a valuable element in fostering positive scarcity. Importantly, our long product life cycles allow us to focus on full-price sales. Given our favorable momentum and supply situation, we are now positioned to fully normalize our reliance on airfreight and do not anticipate extraordinary impacts in Q4. Second, we continue to observe strong demand for On products, with October starting off very positively for the quarter. We are maintaining close communication with our retail partners and analyzing extensive customer data to closely monitor macroeconomic and microeconomic trends. Our order book for Q4 and the first half of next year supports our optimistic outlook, and we are strategically planning for continued strong growth. We are also committed to maintaining discipline in our cost structure to ensure we promote sustainable long-term growth. Third, we expect ongoing margin pressure due to the combination of a strong U.S. dollar and a weak euro relative to our reporting currency, the Swiss franc. Executed price adjustments in the U.S. and planned increases in Europe for early next year will help mitigate some of the margin compression. For 2022, we are raising our adjusted EBITDA target for the full year to CHF 148 million, reaffirming our aim for an adjusted EBITDA margin of 13.2% for the year, despite the heightened top-line outlook and the additional challenges outlined earlier. Finally, as previously noted, due to the structure of our pre-IPO equity plans, we will incur the bulk of the 2022 share-based compensation expenses in Q4. At the current share price range of USD 17 to USD 21, we expect a charge of approximately CHF 35 million to CHF 50 million. Every dollar shift in the share price from the current level at the time of granting in early December would adjust the share-based compensation charge by about CHF 3.5 million. In recent weeks, our senior leadership team has dedicated substantial time to establish a unified vision for the future. Our order book for the first half of 2023, current demand trends, and improved supply conditions place us in a strong position to sustain continued robust and durable growth in Q4 and beyond. We are also focusing on ensuring we protect our brand's position amid the prevailing uncertain macroeconomic circumstances. Notably, we remain committed to further enhancing both our absolute and relative profitability with ongoing emphasis on efficiency and improving adjusted EBITDA. David outlined some of the exciting initiatives surrounding our brand last month, which contributed to this being our strongest quarter ever and helped set an elevated outlook to end the year positively. We are fully dedicated to achieving this in the closing months of the year. None of this would be feasible without our strong culture and the exemplary team supporting it. Our new offices globally have become a fantastic source of energy. We are deeply grateful to everyone on the team for fostering a culture of high performance while prioritizing well-being. One of my highlights each month is connecting with our new starters to share our history as part of their onboarding experience, which typically spans two to three days. Understanding our past is crucial to shaping our future and allowing us to aspire for great things. With that, David, Marc, and I would like to open the floor for your questions.

Operator, Operator

The first question is coming from Jay Sole from UBS.

Jay Sole, Analyst

Great. David, you mentioned a lot of innovation that the company delivered over the last quarter, Cloudmonster, CleanCloud. Can you just talk about the new product pipeline and the innovation that you have planned for next year? Do you see this as robust as it's been over the last few quarters? And can you talk about the kind of investments you're continuing to make in product innovation to drive the brand forward?

David Allemann, Co-Founder and Executive Co-Chairman

I'm very happy to talk about that because our goal is to be the #1 brand on runners' bodies over time. It's super important that we continue to invest in innovation. You've seen that in the past that we regularly launch new technology platforms. Now you also see how we're working closely together with athletes. Just look at our collaboration with Gustav Iden and many of the other athletes from the On Athletics Club to name a group that has incredible followership around our core running consumer. For next year, and I think we mentioned that also in the previous call, we are introducing a whole new technology platform, which is Cloud X 3, developed with computer assistance, so that we choose the very best form factor to deliver the perfect product. That's just the next iteration of how innovation comes out of On. The foams we are using in shoes for our athletes, along with the Speedboard, can actually be fully bio-based. You see that in the Cyclon. In Cyclon, we'll be using very advanced foams and a fully bio-based and recyclable Speedboard. We can combine high performance for athletes, while at the same time, also achieve our goal of circularity.

Martin Hoffmann, CFO and Co-CEO

So the impact of the various constraints was mainly on direct-to-consumer because the omni-channel typically has inventory, so the impact there was less immediate. We would have seen a higher D2C share if we hadn’t faced those constraints. They really lasted for about half of the quarter. So the share of our D2C business would have been more in line with what we have seen in the past. As for the question on the FX impact on our regions, if you would look at the two key regions on a rate of last year, then the growth rate in Europe would be more around 41%, and the growth rate in the U.S. about 49% or North America.

Jon Komp, Analyst

Martin, if I can follow up. Could you talk a little bit more about what's driving your top line revenue growth assumptions in the fourth quarter? Since you commented directionally on the order book into the first half of 2023, could you just frame up what you're seeing in terms of the growth and the reaction from your wholesale partners, and how we should view those comments in the context of sustaining good top line growth here?

Martin Hoffmann, CFO and Co-CEO

Yes. Very happy. As we mentioned, we approached the fourth quarter with a very strong inventory position. We are out of the impacts from last year's factory closures. We started the quarter very strongly. We had a good start to the holiday season. We spoke about the success during the Double 11 festival in China with 135% growth. We have a strong order book and see continued strong demand from our retail partners as well as from our end customers. So we feel that the 41% growth implied in our guidance for the fourth quarter confirms that. We also believe we have similar strong momentum going into the next year. Our strong order book for the first half of the year means we are currently in the selling season to secure orders for the second half of the year, which will allow us to provide a more precise outlook on the full year in our next call.

Jon Komp, Analyst

That makes sense. And maybe just one follow-up on the margin outlook. If I look at the implied fourth quarter adjusted EBITDA margin, it looks near just slightly below the third quarter. I want to clarify what you're embedding in that outlook given the reduced freight usage. We don't have complete history to see the seasonality from the third quarter to the fourth quarter, but any comments directionally on what you're embedding in that fourth quarter margin outlook?

Martin Hoffmann, CFO and Co-CEO

That's really based on the top line that we see and the investments that we plan to make, along with the costs that we have built. The FX impact clearly leaves its mark on gross profit, and it shows we were able to mitigate some of the impacts. We benefit from the price increases we have executed, and we can manage our expenses very carefully, which is a strong message that we confirm the 13.2% EBITDA margin and have increased the outlook further. For next year, we see that we can drive some of the savings from our reduced airfreight share into the bottom line while also reinvesting some of those savings into brand investments, especially in marketing.

Michael Binetti, Analyst

Congrats on a nice quarter. Despite the disruption in Atlanta, can you tell us about your visibility today? What guardrails should we think about limiting upside? Besides airfreight, what other inputs do you have visibility on? What do you think is necessary to unlock apparel growth rates to move above footwear given that business's small base?

Martin Hoffmann, CFO and Co-CEO

I'm happy to start with your first part, then David can elaborate further on the apparel opportunity. As mentioned, if we look at the excess airfreight that we had, it's about 350 basis points, probably saving if we think about a more normalized year of airfreight use next year. That's the part we intend to reinvest into higher bottom line contributions as well as market share and brand building. We need to observe closely the currency developments. We were speaking about the FX impacts seen in the third quarter and also anticipated in the fourth quarter based on the current environment with a weak euro and strong U.S. dollar. We're approaching the year cautiously regarding building expenses and driving up our cost lines, allowing us to react to those impacts and protect both our gross profit margin and bottom line. In addition, we see the price increases are being accepted by our customers without slowing demand. We also benefit from economies of scale with our factory partners, so we do not expect an impact from inflation in raw material prices on our product cost. Most of that upside from higher prices will be available for compensating some of those FX impacts.

David Allemann, Co-Founder and Executive Co-Chairman

I'm very happy to take your apparel question. You mentioned that in our On stores, apparel is up to 20% of share, in China sometimes up to 30%. We feel that's super encouraging because it shows that we have clear product-market fit with our consumers. We continue that road, and we also see that when we partner with wholesale partners, we get to a similar share like we've seen recently in Nordstrom, where we have On branded shop-in-shops. So we feel the product-market fit is there. Now it’s about giving apparel a more substantial presence in the channels where we operate and expanding the portfolio in apparel because many of the pieces are fan favorites, providing stability and scalability for us. It's great to see that apparel is coming of age within On. If you’re speaking to Chinese consumers, they don’t see On as merely a footwear company; they already see On as a sportswear brand.

Jim Duffy, Analyst

Congratulations on crossing the CHF 1 billion threshold on a trailing 12-month basis. I wanted to start by asking about the wholesale business. The wholesale number is particularly strong. You've spoken about strong orders. Can you comment on channel inventories? Others are seeing cancellations. Is that something you've experienced? And I'm curious how the brand is faring against a more promotional backdrop. Has that had any impact on demand as others become more promotional?

Marc Maurer, Co-CEO

Yes. Welcome, everyone, also from my side. I'm currently sitting in the APAC region, so it's quite dark out here. But it's great to be part of this call. We've been very close to the channel, and we spent a lot of time with our biggest partners diving into what inventory is on hand and how they look at the next month. What we're seeing is that our inventory position in the channel is very, very healthy. It’s sometimes even too low due to the constraints we faced in the Atlanta warehouse. It's the case across the board—Europe, U.S., and Asia Pacific; Japan has very strong sell-through with some of our key partners. We're not seeing cancellations at all. The preselling meetings we had with the largest partners for fall/winter have been extremely positive. On is currently a $1 billion brand over a 12-month period, but there's so much more opportunity compared to some of the larger players. We are not dependent on macro environment shifts; we can gain significant market share. On has robust momentum with all key partners. Regarding our top customer opportunity, I can speak about the evolving composition of our business between performance running, performance all-day, and performance outdoor products, especially in the momentum of the latter two categories. We see quite balanced growth between the performance run category and the performance all-day category developing in line. Our core is how On develops at runners' bodies because that's our authenticity. We’re encouraged when we look at run specialty channels, where we're currently at about 10% market share, but we have very strong preorder growth of around 70% for spring/summer ‘23 in that channel. We're growing robustly with the products we've launched, like the Cloudrunner, CloudGo, and Cloudmonster, tapping into a broad market. We see a well-balanced growth in both categories, and on outdoor—which is a smaller business at this point—the trail category is developing excellently, especially on the apparel side, showing very encouraging sales figures.

Alex Straton, Analyst

Great. Congrats on another great quarter, guys. I wanted to drill down into Europe quickly. You guys saw a nice reacceleration this quarter. Can you talk about what drove that change and remind us what your biggest markets are there, as well as how you think about future opportunities?

Marc Maurer, Co-CEO

The biggest market is Germany, followed by the U.K., which is seeing remarkable growth and becoming increasingly important in Europe, particularly with our partnership with JD. We still have significant volume coming out of Switzerland and Australia, the markets we've been in longest. It's quite balanced, but we are tapping into many new markets. If you look at Italy and Spain, which are both sizable markets, Spain has just come in-house, while Italy will be next. There is a lot of potential there. The figures would have been even stronger without the FX impact, and we saw some order shifts between Q2 and Q3; however, consumer demand was always there. We’re particularly pleased with how sell-out has developed, especially in Germany and the U.K. We're also happy to report strong results for October in Europe, particularly considering the macro environment.

Alex Straton, Analyst

Great. That's super helpful. One more quick question from me. It sounds like the Cloudmonster and some of your other recent launches have received great press and acknowledgment for technical innovation. Can you share when exactly you launched those and what you've done differently with the shoe in terms of technical components or marketing?

David Allemann, Co-Founder and Executive Co-Chairman

I believe we are focusing on performance innovation by enhancing our advanced technology to make it more inclusive. For example, the Cloudmonster delivers outstanding cushioning through premium foams, while also incorporating highly visible technology like CloudTec in a nearly indistinguishable version. This feature attracts significant attention from our core running community and appeals to a wider audience. It’s about making performance running technology accessible to everyone.

Tom Nikic, Analyst

Quick clarification. Did you say that FX was a 250-basis-point impact to the gross margin in the third quarter? I thought I heard that but wasn't sure. Can you tell us what FX impact you're expecting for the gross margin in the fourth quarter?

David Allemann, Co-Founder and Executive Co-Chairman

Yes. It was a 250 basis points decrease compared to last year's rates in the quarter. If we look at year-to-date, it's a 170 basis points impact versus last year's rates. Our guidance for the quarter is based on current FX rates, and we expect a similar, strong impact for that quarter. As mentioned earlier, price increases will help us to offset part of that. We are observing where the dollar and euro develop compared to the Swiss franc. To summarize, we reiterated we are focused on ensuring we can manage both channels effectively. On is gaining traction in both wholesale and D2C. We must ensure the customer experience is strong in both channels, allowing us to attract new customers. The health of both channels is crucial for us, and we are optimistic about our growth opportunities in both directions.

Operator, Operator

There are no further questions at this time. Ladies and gentlemen, the conference is now concluded, and you may disconnect your telephone. Thank you for joining, and have a pleasant day.