Owlet, Inc. Q1 FY2023 Earnings Call

Hello and welcome to the Owlet Q1 2023 Earnings Call. My name is Elliot, and I will be coordinating the call today. I would like to hand over to Mike Cavanaugh from Investor Relations. The floor is yours. Please go ahead.

Thank you, Elliot. Good afternoon, and thank you all for joining us today. Earlier today, Owlet Incorporated released financial results for the quarter ended March 31, 2023. The release is currently available on the company's website at investors.owletcare.com. Kurt Workman, Owlet's Co-Founder and Chief Executive Officer; and Kate Scolnick, Chief Financial Officer, will host this afternoon's call. As a reminder, some of the statements that management will make on this call are considered forward-looking statements, including statements about the company's future operating and financial results and plans. Such statements are subject to risks and uncertainties that could cause performance or achievements to be materially different from those projected. Any such statements represent management's expectations as of today's date and should not place undue reliance on these forward-looking statements. The company does not undertake any obligation to update or revise forward-looking statements, whether as a result of new information, future events, or otherwise. Please refer to the company's SEC filings for further guidance on this matter. With that, I will now turn the call over to Kurt Workman, Owlet's cofounder and Chief Executive Officer. Kurt?

Good afternoon, and thank you for joining us for Owlet's Q1, 2023 earnings call. Before we dive into the details, let's revisit our objectives from our last update in March. Through category-defining products with FDA clearance and a focus on operational discipline and cost management, our goal is to position Owlet on a pathway to long-term sustainable growth and profitability. We believe that by focusing on these objectives, we can advance our mission to improve infant health and wellness and deliver value to our shareholders. Owlet has made significant progress towards these goals in reducing operating expenses year-over-year by approximately 50% on a run-rate basis, and including cutting marketing costs per acquisition by 80% year-over-year, resulting in a significant improvement in the adjusted EBITDA loss from Q4 to Q1. Despite these aggressive cost reductions, channel sell-through was up 36% year-over-year as we continue to see strong consumer demand for our products. From a revenue perspective, we typically see a sequential decline in revenue from Q4 to Q1. As you recall from Q1 last year, we had our first large initial load-ins for the Dream Sock late in Q1, so year-over-year selling comparisons reflect that impact. In addition, for Q1 2023, we managed channel sell-in specifically reducing in certain areas to support our goal of improving our channel health and stock levels. We have more work to do here, but we are making improvements. Overall, implementing continuous cost reductions and achieving marketing efficiencies, while achieving strong consumer demand and improving channel health will create a stronger, more sustainable business as we continue to work towards clearances and be in a favorable position to eventually accelerate in long-term healthy growth. As Q1 was the anniversary of our Dream Sock launch, I thought it appropriate to take a look back at the past year. Owlet has made significant progress with our new Dream Sock. Since launch, we've monitored over 1.2 trillion heartbeats, sold over 450,000 Dream Socks in 10 minutes, and achieved a Dream Sock NPS over 60, demonstrating high levels of customer satisfaction. Additionally, over 300,000 parents added Owlet to their registry in the last year, showing strong demand for our products. Owlet also remains the number one considered brand in the health and wellness monitoring category for multiple quarters in a row, demonstrating the strength of our brand and reputation in the market. We have ranked number one on Amazon for Smart Baby monitors here to date, further highlighting our market leadership and customer loyalty. We've also received hundreds of life-changing stories from parents who have used our products, reinforcing our mission to improve the lives of families. We are committed to driving technology that improves infant health and safety into the future. Turning to Q1 results. In Q1, we continued to focus on rebuilding our channel health, reestablishing our baseline operating expenses, and making progress towards regulatory approval for our 510(k) and de novo product applications. Revenue for Q1 was $10.7 million, down sequentially from $12 million in Q4 due to both seasonality and intentional focus on normalizing channel inventory with our retail partners. In addition, we faced growth sales headwinds in Q1 after a large retailer, buybuy BABY, announced financial trouble in January, and followed with its bankruptcy announcement shortly thereafter. As the largest specialty retailer in our space, it will take time for the demand to transition from buybuy BABY to other channels. We anticipate this will be a sell-in revenue headwind for Owlet for the balance of 2023, but we are working aggressively with other channels such as Babylist, Target, and Amazon to ensure recapture of this lost demand. We are pleased to report that our Q1 sell-through was up 36% compared to Q1, 2022, indicating continued strong consumer demand for our products since introducing the Dream Sock in Q1 last year. Additionally, we're continuing to focus on raising awareness and driving consideration through our organic activities. In Q1, we saw great success with over 25 million organic video views of our content through social media. We expect this trend to continue and drive further growth in Q2. Following some anticipated and unanticipated revenue challenges in Q1, we expect revenue to sequentially increase in Q2 as we begin to normalize our channel health and begin to see a healthier balance between sell-in and sell-through. Specifically in Q2, we are expecting seasonal catalysts to drive sell-in revenue growth such as upcoming events like Mother's Day and Amazon Prime Day in July. In Q1, gross margin was 39.3%. This was a significant sequential increase in gross margin and it's a testament to the hard work and dedication of the Owlet team as we continue to optimize our operations and focus on efficiency. While there's more to come, we are pleased to see our efforts paying off as we work towards stabilizing the business following the RTV activities of last year. Moving forward, we remain committed to driving margin improvement with the goal of returning gross margins to the 40% to 50% range, over time through optimizations in our warehousing and shipping and reduction in our PPV as we reduce inventory levels and improve our returns and lower discounts. Our adjusted EBITDA loss for Q1 was $5.8 million. We successfully brought down our operating expenses, cutting our adjusted EBITDA loss by more than half sequentially from Q4. We remain committed to continuing to identify areas of efficiency to create a leaner and more efficient organization. As we shared in our March call, we closed a $30 million financing round in Q1; we amended our loan and asset-based lending agreement with SVB to include an extension of our principal payback period and an increase to the eligibility in our borrowing base. Combined, this puts Owlet in a cash position that will enable us to continue moving the business forward, support our FDA clearances and ultimately get the business turning towards adjusted EBITDA breakeven in late 2023. I'd like to briefly touch on the letter of noncompliance we received from the New York Stock Exchange. We continue to evaluate options available to cure both the $1 minimum price rule, as well as the minimum market cap threshold. We have 18 months to cure the market capitalization listing requirement. We will be sure to keep you updated when we have material needs to share. Turning to our regulatory work, we've made significant progress towards pursuing FDA clearances for our monitoring platforms in 2023, including two distinct pathways for our submissions. The BabySat submission to the FDA is for a new medical device that will be available through prescription for babies who need home monitoring. While the health notification, de novo submission is for an additional software as a medical device to our existing Dream Sock product that will enable parents to receive real-time notifications about their baby's health status at home. We are currently in the review process with the FDA and are working to respond promptly to any questions or clarifications that come up. Additionally, we will be filing our European regulatory submission to a notified body in Europe in Q2. We are very pleased with our progress here and believe that achieving these regulatory clearances will unlock further long-term opportunities and growth for Owlet, allowing us to better help parents navigate the gap between the hospital and the home and use our large and growing data set as a critical tool for pediatric care. In conclusion, we made significant progress in the quarter towards our goals of profitability and FDA clearance on multiple fronts. These achievements include our brand health remaining at all-time highs with Net Promoter Score for our products at all-time highs. We've reduced and stabilized marketing spend and cost per acquisition by 80% from early 2022 levels. Our channel sell-through has grown over Q1 last year, and inventory in the channel is normalizing to healthier levels. Our corporate spending has decreased across the business, putting us on track to spend no more than $40 million on adjusted operating expenses excluding stock-based compensation for the full year. We've been in constant communication with the FDA on our two regulatory submissions, and we have a clear path forward for these clearances. And finally, we have secured critical capital, renegotiated loan agreements, and see a path towards profitability. We're excited about the progress we've made towards creating an efficient and profitable organization, and we are confident that we're building a strong foundation for sustainable growth as we move forward. We believe that the FDA clearances we are pursuing will accelerate the adoption of our products and position us to be the platform that bridges the gap between the hospital and the home. As we hold parents' hands through this journey, we are confident that our products and services will make a meaningful impact on their lives. We remain focused on executing our operational strategy and achieving our long-term goals, while continuing to deliver value to our customers and shareholders. Thank you for your time and continued support. We look forward to updating you on our progress in the coming quarters. Kate, over to you.

Thank you, and good afternoon, everyone. Kurt covered a number of our financial highlights in his overview. I will repeat a few items with some color and provide some additional financial commentary. Gross billings for the first quarter of 2023 were $12.4 million, down from $15.4 million sequentially. Q1 product promotions and discounts were $700,000, primarily associated with promotional activity for owlet.com and Q1 retail promotional discounts. Returns and allowances reserves for Q1 2023 were $1.1 million, 8.9% of gross billings. This compares to reserves sequentially in Q4 of $1.5 million, 10.7% of gross billings. Total revenues in the first quarter of 2023 were $10.7 million, a sequential decrease from $12 million in the fourth quarter of 2022. Total revenues were driven primarily by sales of the Dream Sock and Dream Duo. Cost of revenues were $6.6 million in Q1, resulting in gross margin of 39.3% compared to 27.5% gross margin in the fourth quarter. The substantial improvement in gross margin was primarily due to improvements in purchase price variance costs, prior period inventory adjustments, and declines in promotional activity. Operating expenses in the quarter were $15.1 million, including stock-based compensation of $2.8 million and transaction costs of $2.1 million, which was a sequential decline of 37% from $24.1 million in the fourth quarter. Excluding stock-based compensation and transaction costs, Q1 operating expenses were $10.2 million. The sequential decrease in operating expenses was primarily due to employee-related costs, bad debt reserves, and marketing expenses. Operating loss in the quarter was $11 million compared with an operating loss of $20.7 million in the fourth quarter, and $21.7 million in the first quarter of 2022. Net loss in the quarter was $11.9 million compared with $19.5 million last quarter, and $28.8 million in the first quarter of 2022. Adjusted EBITDA loss for Q1 was $5.8 million compared to adjusted EBITDA loss sequentially in Q4 of $15.2 million, and $18 million for Q1 2022. Our focus on operating efficiency has delivered multi-quarter improvements in our expense management. We will continue to identify areas to leverage as we work towards adjusted EBITDA breakeven later this year. Turning to our balance sheet, cash and cash equivalents as of March 31, 2023, were approximately $25 million. With the additional capital raised in February, we can continue to build our brand and execute on our growth initiatives, while at the same time, reducing our overall cost structure to extend our cash runway. Looking ahead, we will again refrain from providing specific revenue guidance for the year as we seek more visibility around both selling to retailers and software to parents, which we believe is approaching a healthy balance. As Kurt said, we anticipate Q2 revenues to improve sequentially from Q1 due to holiday and Prime Day promotional sell-in, although we are taking a more cautious approach than prior years to ensure a balance with sell-through channel inventories. We are continuing to focus on operating expense controls. We are forecasting expenses in Q2 to be relatively flat or approximately $12 million to $13.5 million, including stock-based compensation. Owlet's leadership in the market underscores our determination to empower more parents globally. For the areas that are within our control, we are focused on the core business activities in 2023 that will maximize supporting and achieving sell-through of our core products and therefore, driving balance in retail inventory for future selling opportunities, making strides in our medical device clearances, and efficiently managing our operational plan towards breakeven and profitability. Thank you for your time today. Operator, please let's open up the call for questions.

Thank you. Our first question comes from Charles Rhyee with TD Cowen. Your line is open.

Yes. Thanks for taking the questions. I wanted to start with the impact of the buybuy Baby bankruptcy. Can you give us a sense of what percent of your sales go through that channel or that retailer specifically? And then you said that it will take some time for this impact to materialize. Is that because the stores are still operating and there's still inventory there? Maybe if you could just give us a little bit more color on the dynamics going on.

Great question. I think buybuy Baby is our fourth largest retailer. So it's not insignificant, but also not one of the larger contributions in terms of revenue. Buybuy Baby was a key specialty retailer that assisted in customer education in our space. They were the largest specialty retailer in the category. That said, I think Owlet has fantastic customer awareness independent of the channel, because our product is so highly considered, and there is so much awareness around it. So most of the time, parents will do quite a bit of research outside of the channel before then deciding which channels to purchase in. And so, I think long term we will be very resilient to the changes in channel mix. I do think it will take some time for that demand to shift to new channels; specifically, in Q2, buybuy Baby will be liquidating inventory, so that will have some pull-in effect from other channels. And then as we get into Q3 and Q4, we're going to work aggressively with other channels like Babylist, Target, and Amazon to bring that demand back through other channel opportunities. So short-term, there are some headwinds with inventory liquidation and consumers finding their new shopping partner. I think long-term, this category will continue to grow, and we'll reinforce a great shopping experience with new partners. And we're excited about what Babylist is specifically doing to capture this demand. Amazon continues to grow as a channel, and Target, we're hoping will play a big role as well.

When a retailer liquidates inventory in this kind of situation, with your businesses, we're not going to get the sell-in into that retailer as they're just winding down. Is that the right way to think of it? So that's the headwind to 2Q revenue and the rest of the year.

That's correct. The sell-in for the second quarter will not align with the sell-through in terms of revenue. As we progress through the year, the inventory levels and sales calculations for other retailers will start to shift as demand transitions to different channels. We anticipate being able to redirect some of the sell-in revenue to these other channels as the sell-through begins to improve, especially with buybuy Baby closing down.

Okay. Does this impact at all your ability to reach adjusted EBITDA breakeven by year-end in your view?

I think we still are on track to do that, but I'll pass it over to Kate to answer that question.

Yeah. I mean, no one likes to have an additional headwind with what we're trying to accomplish this year, but it's a signal that we have here in May. And I think we see a lot of opportunity in Q2 with the holidays that we have coming up. We obviously have the prime opportunity with Amazon that's been very successful. We've been experimenting with some additional ways to maximize our own online presence with owlet.com. So, there is a lot of opportunity to be successful as we head into the back half of the year, especially as we see this momentum that's starting to improve with the sell-through. So not a headwind that we wanted, but it's at least a signal that we understand now that we'll try to overcome.

Great. The sell-through being up 36% sequentially sounds really impressive. Can you provide insight into what that looks like from a revenue perspective, so we can understand the brand's real selling power once we balance our inventory?

Kate, do you want to take that or do you want me to take that?

Go ahead, Kurt.

Okay. Yeah. So what I would say is that our sell-through in Q1 again outpaced the sell-in as we booked kind of rebalance inventory levels. Overall sell-through, we believe is on a healthy track. And keeping in mind that we've significantly reduced our cost per acquisition across the business, and we held that from Q4 into Q1, and we'll continue to maintain that efficiency this year. So we feel really healthy with that. Generally, Q1 sees a 10% to 15% decline in sell-through based on promotional activity. So we were sort of in that ballpark from Q4 as we reported in Q4, and then we'll see an increase as we move into Q2, and then finding Q3 and then you have the holidays in Q4. So we feel like we've got the revenue baseline to get to profitability this year.

Okay. Great. I will stop there. Thanks.

This is all the time we have for questions today. We'd like to thank you for your participation. You may now disconnect your lines.