Earnings Call Transcript - RENT Q1 2024

Operator, Operator

Welcome to Rent the Runway's First Quarter 2024 Earnings Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference call is being recorded. I would now like to turn the call over to Rent the Runway's Chief Legal and Administrative Officer, Cara Schembri. Thank you. You may begin.

Cara Schembri, Chief Legal and Administrative Officer

Good afternoon, everyone, and thanks for joining us today. During this call, we will make references to our Q1 2024 earnings presentation, which can be found in the Events and Presentations section of our Investor Relations website. Before we begin, we would like to remind you that this call will include forward-looking statements. These statements include our future expectations regarding financial results, guidance and targets, market opportunities, and our growth. These statements are subject to various risks, uncertainties, and assumptions that could cause our actual results to differ materially. These risks, uncertainties, and assumptions are detailed in this afternoon's press release as well as our filings with the SEC, including our Form 10-Q that will be filed today. We undertake no obligation to revise or update any forward-looking statements or information, except as required by law. During this call, we will also reference certain non-GAAP financial information. The presentation of this non-GAAP financial information is not intended to be considered in isolation or as a substitute for financial information presented in accordance with GAAP. Reconciliations of GAAP to non-GAAP measures can be found in our press release, slide presentation posted on our investor website, and in our SEC filings. And with that, I'll turn it over to Jen.

Jennifer Hyman, CEO

Thanks, Cara, and thank you, everyone, for joining. On our Q4 earnings call, I shared that 2024 would be focused on two major goals for Rent the Runway. One, getting to free cash flow breakeven for full year 2024; and two, reigniting the growth flywheel of the business. I'm proud to report that we believe we are well on our way on both fronts. As a result, we are reiterating our guidance for the year. Q1 2024 was a strong quarter for Rent the Runway. We hit the top end of our guidance on revenue at $75 million for the quarter, and we beat on adjusted EBITDA coming in at $6.5 million or 8.7%. This was our eighth consecutive quarter of positive EBITDA. Most excitingly, we reduced free cash flow burn to $1.4 million, a record low. Our Q1 free cash flow of negative $1.4 million marks an $11 million reduction in cash burn versus Q1 2023 and a $27 million reduction in cash burn versus Q1 2022. We've come a long way over a short time frame. One way that I look at our evolution from a heavily cash consumptive model to a business that is close to free cash flow breakeven is through the lens of operational rigor. We set a goal to achieve free cash flow breakeven for full year 2024, and we've been relentless in inspecting every aspect of our P&L while working to find operational efficiencies and opportunities for margin expansion. The other way I'd love for you to think about our profitability journey is by examining the strength of our core business model, brand, and position in the fashion industry. We believe our business model's competitive advantages have played a significant role in bringing us closer to breakeven and will enable us to reach our ultimate goal of becoming a highly cash-generative business in the future. There are two strong examples of the competitive advantages we've built over the last several years that we believe have set us up for continued profitability. First, we've transformed our inventory model into a more capital-light one, where we acquire nearly half of our inventory at zero or minimal upfront cost and revenue share with our brand partners only when the inventory performs. This eliminates fashion risk from nearly half of our assortment. How have we been able to accomplish this? Rent the Runway provides our brands with a platform to get in front of our young, educated, and upwardly mobile customer base. As customers use Rent the Runway for important everyday and special moments in their lives, they try new brands and develop authentic brand loyalty. We encourage brands to view Rent the Runway as a cheaper customer acquisition cost alternative to their paid marketing dollars. One unit of inventory on the Rent the Runway platform can be worn by dozens of women and seen across thousands when our customers post on social media. Our brand partners have shared that many of their full-price customers first came to them via a Rent the Runway experience. We believe that another crucial example of the strength of our business model translating into financial performance is the frequency and loyalty of our customer base. We generate significant revenue and profit per customer because many of our customers use our service frequently. They view Rent the Runway as a solution to their everyday fashion needs, whether for work or special events. This isn't by accident. It's because we've invested over many years in excellent operations and customer service that strives to put the customer first and in a product experience where we've innovated around fit and discovery to earn our customers' trust. Q1 ending active subscribers stood at 145,837, representing a record high quarterly ending active subscriber count for Rent the Runway and a 16% increase in ending active subscribers compared to Q4 2024. Subscriber growth was fueled by strong rejoiner and retention rates. Our Q1 '24 loyalty rate was at the highest levels in over 2.5 years, and we maintained strong subscription and total Net Promoter Scores. It makes sense that due to the year-over-year improvements we've driven in inventory depth and in-stock rates, our current and former customer bases would be the first to notice these changes, as these women are still engaged. They're receiving our marketing communications and are attuned to what's new with the brand. We're confident that the improved experiences we are delivering to our customers is the first step in reinvigorating our new customer growth. Now let us discuss what we've been up to since the start of the year. First on marketing. I founded this business with a mission to empower women to feel self-confident every day because I believe that confident women can change the world. Fashion is armor, and enabling everyone to access it, express themselves freely through it, and have fun with it is transformative. Designer fashion has historically been about exclusion and has led many women to feel they were never affluent enough, fit enough, or trendy enough to wear it. The Rent the Runway brand has always stood for inclusion and has a rebellious spirit where the old rules do not apply. The challenges posed by COVID reduced our ability to put our mission and brand at the center of everything we do. I am so proud that we're moving forward with a comprehensive strategy of building emotional relationships with our customers and prospects, ensuring that they not only consider us and love our service but also advocate for us. Customers only advocate for businesses they love and whose values align with their own. We see a significant untapped audience that is either aware of Rent the Runway and has not tried us or is not aware, and we believe we have the potential to reach them. We started with the team. I announced last quarter that we had hired a new Chief Marketing Officer who started in early March, and she quickly reorganized our team into different pods focused on acquisition, retention, creative, and go-to-market strategies, recruiting new talent with deep marketing experience and customer obsession into the company. We've moved very quickly. On acquisition, we expanded channels, adjusted some of our keyword tactics, and overhauled our creative across all bottom and mid-funnel marketing channels. As a result, traffic in April increased by more than 40% compared to March, reaching the highest levels in years. On retention, we have dedicated a team to segmenting our over 3 million lifetime customers and developing unique multi-channel life cycle strategies for each segment. This means that while we maintain a single-threaded view of the customer and strategy for her internally, we are utilizing multiple channels, including customer service, stylists, text, chat, push notifications, email, phone, and in-real-life events to communicate with her. The objective of the life cycle strategy is to drive more revenue from every customer cohort. Our lifecycle team collaborates closely with our tech team to develop automated strategies throughout the customer journey and integrate them into the digital product itself. Our early strategies are already demonstrating success. In April, our pause reactivation rate was 35% higher than our pause reactivation rate over the past 12 months. We are expanding our pause reactivation efforts to encompass churn win-back, and recent automations we've implemented have seen high levels of customer engagement. Expect some significant innovations, especially in the latter half of the year, relating to lifecycle marketing. The simplest way to observe what's happening in creative is to visit our app or website. Our 'Make it a Moment' summer campaign launched yesterday, and you'll see the site filled with new photography, coffee, and merchandise curations that we believe look significantly more aspirational, bold, and alluring compared to our historical creative. Given the premium nature of the brands we collaborate with and our brand ethos of living an unlimited life, our creative needs to reflect this and effectively generate demand for the fashion we showcase. We believe that the more aspirational our content and creative are, the more we will convert new customers to rental. Beyond the content residing on our own services, our summer campaign is primarily social-first and utilizes creator-led content across social platforms with nearly 100 fashion influencers on Instagram, TikTok, and Meta. Our influencer takeover is targeted to specific geographic and sociographic areas over a concentrated time frame, allowing us to create a swarm effect for a concentrated group of prospects, demonstrating to these women that our unlimited closet can assist them in dressing for every day and every occasion. For our brand focus thus far, we have been working on reigniting our in-real-life presence. We believe that in-real-life experiences, stores, and pop-ups must be a crucial aspect of our brand's growth moving forward. I do not believe that a brand in the fashion sector can expand through digital-only channels alone. In April, we invited the New York City Rent the Runway community back to our flagship store to view our spring fashion, receive styling advice, and interact with the brand once more. I was absolutely amazed by the line stretching down the block to get in and by the numerous customers who personally approached me to share how meaningful the Rent the Runway retail experience was in their lives before COVID and how much community they felt when entering the store to choose outfits for work or select outfits for a night out. The event also resulted in a surge in organic traffic to our site and generated over 22 million impressions across social media, PR, and in-real-life interactions. Interestingly, nearly 80% of those visiting the store were new to subscription at Rent the Runway. This past weekend, we held a second in-real-life event in Atlanta, one of our fastest-growing and highest potential markets, featuring TikTok, Phenom, Pookie, and Jett. Over 1,000 women attended, and the energy was palpable. We are planning more in-real-life events throughout 2024 aimed at leveraging the natural customer virality that propelled our business before the pandemic. Due to the success of the New York and Atlanta events, we plan to officially reopen our flagship New York City store this month. In our soft opening over the summer, we will allow women to try on looks in advance to familiarize themselves with fit and styling. We aim to conduct a major relaunch of the store in the fall, featuring new technology that will enable same-day rentals as we did previously. Pre-COVID, we operated five retail stores, which served as significant growth engines and brand builders in their respective markets. We have considerable ground to make up, and we intend to execute swiftly. For existing subscribers, the changes they have experienced in recent months are substantial. We are reinstating our fashion-first brand at the core of our operations. Imagery and styling have been enhanced with fresh editorial content, custom curations, use case hubs, and boutiques. We have upgraded our grids and product display pages to be much faster and to offer more filtering and discovery options. In the coming months, our customers can anticipate witnessing this creative overhaul across all our channels. For new customers, we are in the process of reimagining our prospect flow to create a clear path from traffic to conversion. The new flow is designed to spark interest in the fashion we offer on our platform, then excite the customer about rental overall, followed by steering her to a new checkout experience that minimizes friction and streamlines the process. Since the phased rollout began in April, we've already seen the subscription checkout completion rate increase by over 20%. I also want to provide an inventory update, crucial for fully grasping our growth strategies. We continue to believe that the fashion on our platform is the linchpin to our success. Our plan for full-year 2024 was to enhance our average in-stock rates compared to 2023 and boost the number of units available for rent per subscriber. So far, we have seen success. Inventory in-stock rates in Q1 '24 are 24% higher than Q1 '23, and inventory churn is down 20% relative to the same quarter last year. With such a solid inventory foundation in 2024, our team is now concentrating on further enhancing the inventory experience. For instance, we are investing in more exclusive inventory to significantly expand our special event rental business by better targeting customer segments where we can gain a larger market share, such as Gen Z, young professionals, and mothers of the bride. We continue to prioritize psychological comfort around fit as a growth driver. In Q1, we significantly increased the number of customer reviews per style through product improvements and user flow, boosting reviews per unit rented by over eight times compared to previous years. We believe that reviews are critical for improving way rates and rental satisfaction. Beyond improving our inventory position, the other major element we control regarding how our customers experience our selection is merchandising. We have a vast array of styles on our site, and we know that even long-term subscribers only see a fraction of them due to traditional e-commerce browsing behavior. Our merchandising strategy involves better content inspiration, which I referenced earlier, and ensuring that our customers experience greater diversity in our offerings, thus making it feel fresher to them. We plan to provide updates on our progress in merchandising during future earnings calls. Lastly, in Q1, we continued to grow our inventory resale business, which drove a 20% increase in other revenue year-over-year. This customer-focused strategy, as subscribers view try-before-you-buy as a key value proposition of the subscription program, will continue to generate strong margins and cash flow while enabling us to reinvest cash more swiftly back into fresh inventory for our customers. I'm excited about the strong momentum we have coming out of Q1. We spent the last year enhancing our inventory experience and rebuilding our cost structure to drive profitability. Our Q1 results display the remarkable strides we've made, and I am energized and excited about the year ahead. And with that, I'll turn it over to Sid.

Siddharth Thacker, CFO

Thanks, Jen, and thank you, everyone, for joining us. I'll begin by underscoring the key message from this quarter. Our business improved in nearly every dimension. Active subscriber growth, which had been negative for the past two quarters on a year-over-year basis, grew compared to Q1 2023. We added almost 20,000 subscribers quarter-over-quarter. Our reserve business has shown improved year-over-year trends this quarter compared to the past three quarters. Resales continued to show strength in Q1. Total revenue grew again on a year-over-year basis after declines in Q2 and Q3 of 2023, along with a 0.5% growth in Q4 2023. As I will discuss shortly, our Q2 guidance implies further improvement in growth trends next quarter at the midpoint of the guidance range. We made noticeable progress on profitability. Adjusted EBITDA margins for Q1 2024 were at their highest levels compared to Q1 in previous periods. As outlined in our Q2 adjusted EBITDA margin guidance, we expect the highest second-quarter adjusted EBITDA margin in the company's history. Free cash flow also improved this quarter, standing at negative $1.4 million in Q1 2024 versus negative $12.1 million in the same period last year. Today, we are reiterating our guidance to be free cash flow breakeven for fiscal year 2024 compared to free cash flow consumption of approximately $70 million in fiscal year 2023. Please refer to the detailed bridge we shared with you during last quarter's earnings call and included in today's slides for more information on our path to free cash flow breakeven. Rental Product purchases continue to become more capital efficient, with nearly 50% of new Rental Product units in fiscal year 2024 sourced through a revenue share platform, requiring no or low upfront cost. Indeed, combined with our exclusive design platform, we expect that over 70% of total new units will be sourced through cost-advantaged channels in fiscal year 2024. We made progress in our nascent advertising initiatives this quarter. First, we signed several exciting sampling partnerships that will introduce brands to our affluent and highly coveted customer base. We also explored new ways to work with advertising partners, including co-marketing utilizing a network of influencers. We possess a powerful brand and engage customers dynamically. We believe there is ample opportunity to build a meaningful advertising business. In summary, Q1 demonstrates the positive progress and momentum across our business. As Jen outlined in her remarks, there are several important marketing, product, and customer experience improvement initiatives that we expect will continue to drive further progress this year. Let me now review our financial results for the quarter. We ended Q1 '24 with 145,837 ending active subscribers, up 0.4% year-over-year. Average active subscribers during the quarter were 135,896 compared to 135,966 subscribers in the prior year, showing a slight decrease of 0.1%. Ending active subscribers increased from 125,954 at the end of Q4 2023, primarily due to seasonally stronger acquisitions combined with solid and better than expected customer retention. Total revenue for the quarter was $75 million, up $0.8 million, or 1.1% year-over-year, but down $0.8 million, or 1.1% quarter-over-quarter. Subscription and reserve rental revenue decreased by $0.7 million or 1% year-over-year in Q1 '24, primarily due to a decline in the reserve business. Other revenue increased by $1.5 million or 20.3% year-over-year due to a growing focus on our retail business, which drove incremental cash flow and customer loyalty. Fulfillment costs were $20.6 million in Q1 '24 versus $21.9 million in Q1 '23 and $20.1 million in Q4 '23. Fulfillment costs as a percentage of revenue were lower year-over-year, constituting 27.5% of revenue in Q1 '24 compared to 29.5% in Q1 '23. Fulfillment costs benefited from a new transportation contract with UPS and ongoing warehouse efficiencies. Gross margins were 37.9% in Q1 '24 versus 42.3% in Q1 '23. Q1 '24 gross margins reflect higher Rental Product costs resulting from increased investments in Rental Product in fiscal year '23 and higher sales through our resale channel. These increases were partially offset by the fulfillment benefits discussed earlier. Q1 '24 gross margin decreased quarter-over-quarter to 37.9% from 39.4% in Q4 '23, primarily due to higher upfront revenue share payments and seasonally higher promotional spending. Operating expenses were approximately 15.3% lower year-over-year due to reduced stock-based compensation expenses and the favorable impact of our cost reduction efforts. As a reminder, in January 2024, we announced a restructuring plan expected to reduce our workforce by around 10% by the end of Q2 '24. Total operating expenses, which include technology, marketing, and G&A, accounted for 55.2% of revenue in Q1 '24, compared to 65.9% in Q1 '23 and 55.9% in Q4 '23. Adjusted EBITDA for the quarter was $6.5 million or 8.7% of revenue, compared to $4.5 million and 6.1% of revenue in the prior year. Adjusted EBITDA year-over-year reflects lower fulfillment costs and the impact of our fixed cost reduction initiatives, partially offset by higher revenue share payments due to a greater proportion of revenue share units. Free cash flow for Q1 '24 was negative $1.4 million, compared to negative $12.1 million in the first quarter of fiscal year 2023, primarily due to higher profitability, improved working capital, and lower Rental Product expenditure. I will now discuss guidance for Q2 '24 and fiscal year 2024. Let me start with Q2. We expect revenue to be between $76 million and $78 million and adjusted EBITDA margin to be between 14% and 15% of revenue. Our full-year 2024 guidance remains unchanged, as we continue to expect revenue growth of 1% to 6% compared to fiscal year 2023. We also continue to anticipate adjusted EBITDA margins of 15% to 16% of revenue. Our guidance for Rental Product acquisition remains steady at $48 million to $50 million. Finally, we expect to be free cash flow breakeven for fiscal year 2024. As outlined last quarter, there is some seasonality in our Rental Product purchases this year, with a greater proportion of Rental Product acquired in the first half of the year compared to the second half. This is naturally expected to impact the timing of free cash flow generation throughout the year. We will now take your questions.

Operator, Operator

Thank you. Our first question is from Andrew Boone with JMP Securities. Please proceed.

Andrew Boone, Analyst

Thanks so much for taking my question. Jen, I wanted to ask about marketing. It sounds like you guys have a lot of hirings and the structure there. Can you speak to the opportunity with untapped audiences and increasing awareness across the entire population, as well as resurrecting users? And then Sid, you guys had a bunch of qualitatively positive things related to subscribers for Q1. Given that Q2 seasonally is typically a step down, is there any way we should be thinking about ending active subs for Q2 in relation to the guidance and the cadence for the rest of the year? Thanks so much.

Jennifer Hyman, CEO

Thanks, Andrew. So first, on marketing. There's a huge opportunity to increase general awareness for Rent the Runway. Our offering, which includes special event rental and subscription, can appeal to a broad spectrum of customer demographics because the over 800 brands we carry have wide appeal. Given the price point, especially for special event rentals, where we're renting at around 10% of the retail price, it's a price point accessible to the mass market. You heard that we are building multiple engines within marketing. Number one, we're reigniting our brand and ensuring that we build emotional connections with women through real-life events, store experiences, and rebuilding our ambassador network—essentially all the efforts that previously drove organic virality for our business were fueled by our brand initiatives and the customer experiences we delivered. Thus, making a major investment in shifting our dollars away from bottom-of-funnel strategies more towards mid-funnel and top-funnel initiatives, where brand is an essential component, is key. Creative is critical. We now understand that whether on a paid channel or in how creative appears on our app or site, their impact is significant. This has led us to increase the effectiveness of our ad spend.

Siddharth Thacker, CFO

Great. And on the second part of your question, Andrew, I'd highlight three things. First, we are not guiding specifically to subscriber growth on a quarterly basis. However, the most important takeaway from the guided expectations is that we are confident about the business. We expect an improvement in year-over-year growth in Q2 relative to Q1 at the midpoint of the guidance range. As you noted, our business is seasonal, so we anticipate higher acquisitions in Q1 and Q3. Nonetheless, the key takeaway here is that we feel confident about the trend of the business.

Operator, Operator

Our next question is from Ashley Helgans with Jefferies. Please proceed.

Blake Anderson, Analyst

Hi, it's Blake on for Ashley. Thanks for taking our questions. So I wanted to follow up on the cadence question regarding top-line growth and subscribers. It sounds like you've made significant progress on initiatives. Can you discuss the monthly trends you're observing or provide insight into what gives you confidence that trends could potentially continue to build to reach the high end of the revenue guidance for the year?

Siddharth Thacker, CFO

We are not going to comment on any specific monthly trends, but I think you can infer from the guidance we've issued. As previously mentioned, the strength we observe in our business isn’t just confined to a single facet. If you consider the reserve business, we indicated that we are seeing improved trends year-over-year in relation to the past few quarters. We are observing very strong rejoiner activity, excellent customer retention, and engagement with our resale business, all contributing to our confidence in the guidance we have provided. Positive trends across essential metric areas give us assurance of our trajectory.

Jennifer Hyman, CEO

One of the things we highlighted on this call is that we noted significant improvements in our loyalty rates and our rejoiner rates in Q1. We indicated that typically, when an experience changes, especially in businesses like ours where behavior is frequent, the first customers to notice the improvements are your current and former customers. They will signal one way or another how they perceive the changes you've made. The fact that both our active customers, who are paying us, and former customers who hadn't been paying but are now returning, show that they believe the inventory experience has improved. Our inventory churn has decreased significantly, and we have received high levels of Net Promoter Scores, which are greater than in many years past. This signals that we are on the right path, which allows us to confidently reach out to new customers.

Blake Anderson, Analyst

And a follow-up on that would be, how do you perceive the importance of word-of-mouth referrals right now? I know you're implementing many digital marketing strategies, but can you discuss the balance between those sources for growth in customer acquisition moving forward?

Jennifer Hyman, CEO

The majority of our growth over the past 15 years has stemmed from word-of-mouth referrals. Women openly share this experience with their friends, colleagues, and wear items they love to various events, leading to conversations and sharing this incredible Rent the Runway secret. Previously, this business was almost a secret, but now, it’s something widely shared. I believe that this is the primary driver of growth for our business. We are very actively reallocating our marketing expenditures away from bottom-funnel strategies toward mid-funnel and top-funnel strategies because these approaches will help build stronger relationships with customers while marketing the brand.

Siddharth Thacker, CFO

If you've followed our progress over the last 1.5 years, you'll see that much of our energy has been focused on ensuring that both our existing customers and new customers have an excellent experience. This is critical for driving referral behavior and cultivating positive word-of-mouth. Last year, we allocated a significant budget to enhance inventory while improving our debt structure. We also elevated our customers' inventory experiences through styling services, better product experiences, more aspirational imagery, and content, all of which were discussed earlier. We expect that this focus will persist and manifest in referrals and positive customer behavior.

Blake Anderson, Analyst

That’s very helpful. If we could ask one more, Jen, could you share your insights on current fashion trends and what customers are requesting? Additionally, how do you view the changes in casual wear since the pandemic, and what is your current perspective on casual use cases?

Jennifer Hyman, CEO

Yes. Our use cases haven’t changed significantly since 2023, in the sense that close to 50% of cases are for casual everyday occasions, about a quarter are for evening events where customers want to dress up—this could include parties, weddings, or galas—and roughly 25% pertains to work attire. We consider this a healthy balance in our business, and we have adjusted our assortment accordingly. Regarding fashion trends, a unique aspect of our model that I will reiterate is that nearly half of our inventory is procured at little to no upfront costs, and we only pay based on performance through a revenue share mechanism. Therefore, for nearly half of our assortment, we experience no fashion risk, which is a significant advantage. This significantly differentiates our business model. The additional point to mention is this model aligns our interests with those of our brand partners; the more a product rents, the more profit we both make. Overall, this positions us well to respond rapidly to market trends. This unique business model eliminates fashion risk while allowing us to efficiently respond to the market. This responsiveness, along with our mutual incentives, allows us to gain reorders and replenishment units, ensuring our platform features the best inventory. We can adapt quickly to what’s trending, which is a significant benefit. Thank you.

Operator, Operator

Thank you. There are no further questions at this time. I would like to turn the call back over to management for any closing comments.

Jennifer Hyman, CEO

Thanks so much for joining us today. We're genuinely excited about our performance in Q1. This is shaping up to be a milestone year for Rent the Runway, so stay tuned.

Operator, Operator

Thank you. This will conclude today's conference. You may disconnect your lines at this time, and thank you for your participation.