Adore Beauty Group Limited (ABY) Earnings Call Transcript & Summary

Thank you for standing by. Welcome to the Adore Beauty Group Limited FY '23 Results Conference Call. [Operator Instructions] I would now like to hand the conference over to Ms. Tamalin Morton, CEO. Please go ahead.

Thank you. Good morning, everyone. I'm Tamalin Morton, CEO of Adore Beauty Group. I'd like to begin by acknowledging the traditional owners of the land on which we meet today and pay my respects to their elders past and present. Thank you for joining us today to discuss the Adore Beauty's results for the 2023 financial year. We will be referencing slides from the investor presentation uploaded to the ASX earlier this morning. Here with me is our CFO, Stephanie Carroll. Slide 2. FY '23 has been a challenging year for retailers, marked by interest rate increases, high levels of inflation and subdued consumer sentiment. In this volatile operating environment, Adore Beauty's return to growth in the second half reflects our compelling customer value proposition and the strength of our loyal returning customer base. H2 FY '23 revenue increased 0.5% over the prior corresponding period, driven by multiple record promotional events, including Afterpay and Click Frenzy Mayhem. Importantly, these events were well supported by our brand partners. We also saw the early benefits of newly implemented cost and margin optimization programs in the second half with improvements to gross margin, profitability and other key financial metrics. We expect to see an increased impact from these initiatives this financial year. Moving to Slide 3. Full year revenue of $180.6 million declined 9.6% on the lockdown impacted prior corresponding period, however, increased 14% on a 3-year compound annual growth rate. Active customers of 801,000 were down 8% on the PCP, reflecting the cycling of large volumes of new customers acquired during COVID lockdown, whilst also noting that our customer base has grown at an annual rate of 11% over the past 3 years. Importantly, we continue to increase the number of returning customers, up 4% over the prior period to 490,000, and up 31% on a 3-year CAGR basis. Gross profit margin of 32.8% was down 0.5 percentage points on the PCP, however, improved in the second half, and Stephanie will provide more detail on this shortly. Reported EBITDA of $0.6 million reflects reinvestment in the business, lower operating leverage and cost inflation in key input lines. Adore Beauty has a strong balance sheet of $27.8 million in cash and no debt. Now turning to Slide 4. This slide shows our revenue breakdown by new and returning customers. Revenue in FY '23 was underpinned by our valuable returning customers who contributed 76% of all revenue, up from 70% in FY '22. The graph on the right shows that despite the challenging retail environment, revenue contributions from returning customers remained relatively stable and over a 3-year period grew at 27%. Turning out to active customers on Slide 5. Customer loyalty remains resilient, and we now have almost 500,000 loyal returning customers, representing just over 60% of all active customers. Since FY '20, we have more than doubled our returning customer base. These customers spend more on the platform than new customers. And as I mentioned earlier, contributed 76% of all revenue in FY '23. Annual revenue per active customer declined as average order frequencies dropped from 2.1x to 2x per year. Encouragingly, this was offset by record average order values of $111.60. I'll now hand over to our CFO, Stephanie Carroll to take you through our financial performance.

Thanks, Tamalin, and good morning, everyone. As Tamalin has outlined, Adore Beauty's full year results reflects the challenging high inflation landscape over the past year. These 3 graphs show the performance of the company prior to lockdowns, during lockdowns are now in the post-lockdown environment. As you can see, Adore Beauty post-lockdown performance is significantly higher than pre-COVID levels, and we are now growing off this elevated base. Revenue of $180.6 million declined 9.6% compared to the prior period. Over the past 3 years, Adore Beauty has grown revenue at a compound annual growth rate of 14%. Gross profit margin of 32.8% was down 0.5 percentage points on the prior year. And as Tamalin mentioned, reported EBITDA of $0.6 million reflects reinvestment in the business and the impact of subdued revenue and higher cost of sales. Encouragingly, we saw improvements to gross profit margin and profitability in half 2, despite challenging operating conditions with revenue returning to growth and cost and margin initiatives having an early impact. Slide 8 shows our profit and loss statement for FY '23 compared to the prior 3 corresponding periods. Revenue of $180.6 million was supported by key sales events, including Cyber, Click Frenzy and Afterpay and a record number of returning customers. These higher-value customers spend more on the platform underpinning growth in average order values, up 3% on the PCP to $111.60. As I mentioned, gross margin of 32.8% was down on the PCP although half 2 improved 0.5 percentage points on the prior half. Moving down the P&L. Marketing as a percentage of sales increased 0.7 percentage points over the prior year to 14.8% due to higher customer acquisition costs. More effective marketing saw this metric improve in half 2, which is something that we continue to be very focused on. Moving now to our balance sheet on Slide 9. Adore Beauty is well capitalized with a strong cash balance of $27.8 million and no debt. In half 2, we invested in inventory for higher turnover products to reduce missed sales resulting from out of stock. This approach has already had a positive impact on sales. And given the long shelf life of Adore Beauty products carry minimal inventory risk. Our strong balance sheet provides the flexibility to invest in long-term growth drivers and pursue potential M&A opportunities. I'll be happy to take questions at the end of the presentation. But for now, I'll hand you back to Tamalin.

Thanks, Stephanie. Turning now to our strategy on Slide 11. Adore Beauty is focused on delivering on our ethos of beauty done better. We provide our customers with an authentic and relatable shopping experience that focuses on high-quality products, a wide range value and convenience across beauty and wellness. We entered the new financial year with a refined strategy that ensures the customer is at the center of our business. We are focused on further building our brand awareness and optimizing our operational efficiency and effectiveness. These 3 pillars of our strategy support sustainable long-term growth. I'll now talk through some of our key initiatives underway as part of this strategy. Slide 12. The first pillar of our strategy is customer centricity. We use many data sources and inputs to inform our strategy. And this year, we have further augmented our approach. To better understand our customers' evolving needs, we collaborated with SOON Future Studies to develop a State of Beauty 2023 report, which outlines key themes and trends shaping the Australian beauty category. Launching next month, the State of Beauty 2023 combines survey data of more than 2,000 of our community members with insights from industry leaders. Data insights from this report have reaffirmed our strategy, brand offering and commercial opportunity. Now turning to Slide 13. The high level of engagement and sales from our loyalty members reinforce the underlying consumer trust in the Adore Beauty brand. We're continuing to enhance our loyalty program, investing in user experience and increasing personalization, targeting and conversion. As you can see here, customer acquisition unit economics show average customer lifetime value growing at almost 7x the acquisition cost by year 5. New initiatives are underway to engage loyalty members and returning customers, targeting increases in order frequency. On Slide 14. Our mobile app continues to be valued by our customers, accounting for 1/4 of all sales in quarter 4 FY '23, up from 15% for the same period last year. The graph at the bottom right shows revenue contribution on a quarterly basis. The app continues to deliver significantly higher average order values and frequency compared to web at 14% and 34%, respectively. While app revenue is nearing our 30% revenue target, we see further opportunities to increase our adoption and are investing in tools and technology to support product selection. Further building our brand is our second strategic pillar. Brand awareness remains a significant opportunity. Over the past year, we continued to improve awareness in the 25- to 45-year female demographic, up from 59% to 62% from June '22 to August '23. In FY '24, we'll be expanding our target audience with a focus on the 41 to 50 year female demographic, a strong lifetime value customer segment. There is growth in both brand awareness and a higher volume of orders from this cohort in FY '23, and we see opportunities to further increase revenue contribution from this demographic. We'll also be bringing the Adore Beauty brand to life and increasing awareness through physical activations coming across the year. Moving to owned brands now on Slide 16. In FY '23, we significantly increased our owned brand portfolio, more than tripling our SKU count to 38 products across our 3 brands, the Adore Beauty, AB Lab and Viviology. While these brands are still in our infancy, our private label products are already delivering a gross margin substantially higher than third-party brands. In FY '24, we'll continue to expand our product offering under these brands, and we are exploring a potential fourth brand in another category. We're also continuing to evaluate and review M&A opportunity. Now turning to Slide 17. We continue to expand our product range and adjacencies, onboarding 20 new brands during the year and adding complementary wellness and fertility categories. We're also looking to grow our cosmetics and pharmacy ranges to address target customer concerns such as menopause and hair thinning. New brands, which include Dior and Huda Beauty accounted for 2.6% of total FY '23 revenue. While fragrance continues to experience strong annual growth, skin and hair care remain our largest category. Moving now to our third strategic pillar, operational optimization. Initiatives to drive operational optimization and marketing are underway. Adore Beauty's content is an authentic and entertaining voice on beauty and personal care with a loyal and highly engaged community. Over the coming year, we will look to commercialize our marketing assets and opportunities, including digital retail media. During the year, we continued to grow our content-driven impressions, up 23% on the PCP, supporting traffic to our organic marketing channel. These include multiple podcast, blogs and follower communities across Instagram, YouTube, TikTok and Facebook. Engagement with our content is compelling with our 9 podcasts now downloaded a combined 6.2 million times, representing opportunity for our brands. Now to our market opportunity on Slide 20. This slide highlights our addressable market and growth runway. Adore Beauty is the leading pure-play online beauty retailer in Australia, operating within the nation's $12.8 billion beauty and personal care market. Euromonitor forecast the Australian online segment will grow to be a $2.9 billion market by 2027, representing 18.4% of the total Beauty and Personal Care category. This growth is not linear. We subdued online market growth forecast for calendar year 2023 before ramping up in 2024. The graph on the right shows Adore Beauty has a significant growth on rate with online category sales in Australia still years behind more mature markets such as the U.K. and the U.S.A. at 43% and 36%, respectively. Turning to Slide 21. Increasing profitability is a key focus in FY '24. This slide outlines the main levers of margin expansion, revenue growth, improved gross profit margin and reduced expenses, scale, improved brand awareness and initiatives to target average order values and frequency will support top line revenue growth and deliver operating leverage. Longer term, we will continue to evaluate opportunities to drive further revenue growth through M&A. Gross margin improvements will come from further pricing and promotional review, partner support, adjacency expansion and owned brands with higher margins. And finally, our cost optimization program will reduce expenses, while our growing own media channels and retail media will enhance our marketing efficiency. Turning now to our outlook. Slide 22. Adore Beauty remains focused on driving top line revenue growth from returning customers, cost effectively acquiring new customers and building our own brand portfolio to expand margins. Sales momentum continues into FY '24 with year-to-date revenue up 5.9% on the PCP. Trading conditions are expected to remain challenging given higher costs of living pressures and also subdued consumer sentiment. Over FY '24, we will continue to leverage our healthy balance sheet to phase investment in key strategic initiatives. These initiatives will be supported by broader market growth with online sales expected to gain pace in calendar year 2024. Continued focus on margin and cost improvements will support profitability with Adore Beauty aiming for an EBITDA margin of 2% to 4% in FY '24. Thank you for your time today. Before I hand back to the operator for questions, I'd like to acknowledge the hard work and the dedication of the entire Adore Beauty team. Our achievements over half 2 in a challenging retail environment reflects their passion and their innovation mindset, and we look forward to delivering value for our customers, partners and shareholders over the coming years. Stephanie and I will now take any questions.

[Operator Instructions] Your first phone question comes from Apoorv Sehgal with UBS.

First question, just on gross margins, please. The second half margin has ticked up a bit on the first half, as you mentioned. Can you just explain firstly what drove that? And then secondly, with sort of input costs, hopefully trending a bit lower private label and the new adjacencies coming through, can we expect gross margins to tick up a bit in FY '24 compared to second half '23?

So thanks for the question. So first off, the key point around your question, improvements in gross margin in the second half? And what do we think that relates to, if I'm right.

Yes.

So I think, firstly, we saw -- and if I can reference Slide 2 from the deck also, we saw revenue growth in half 2 FY '23 of 0.5% on the PCP, which was really pleasing. And we saw gross margin improvement at 0.5% coming in at 33.1% gross margin. So there are a number of things that contributed to that. We were looking at greater partner support. We're looking at our promotional effectiveness. And then in tandem with that, as we go through the lines, we also saw improvement in marketing as a percentage of sales and other operating expenses come down. So that was -- they were really the key drivers of the improvement half 2 versus prior year and also in terms of the half 1 improvement, I should say. Anything to add to that, Stephanie.

Will you specifically are for marketing about gross margin improvement? Or was it overall?

Sorry, Stephanie, say that again. I missed it.

Was it specifically gross margin improvement that you were asking about or overall?

Yes, just into FY '24 gross margins just versus second half '23, given some of the initiatives around private label and the like coming through input cost for trading down. Can we -- what's the sort of trend for gross margins into '24 versus the second half of '23. Could it potentially pick up a bit?

Look, I mean, we've called out that we continue to actively work with our supplier partners on optimizing terms. That's where we've absolutely worked through and have grown, knowing that we also had -- we went backwards this year, but the focus is absolutely to grow that, but there has been an inflationary environment as well.

Okay. Maybe then just one on the trading update. So clearly, the quarterly momentum into the September quarter is up on the June quarter. Can we expect improved momentum again into the December quarter results just given the natural seasonality with the business that presumably there's some key promotional events coming up in the December quarter that will be, be to your benefit versus the September quarter?

We're not really giving guidance in terms of future quarters. We do, as you say, however, have key promotional activity in that quarter. So we -- we've had some really good promotional success, I would say, in half 2. We also expect to -- we're certainly hoping to see that continuation in positive sales momentum.

Sure. And just on some of the longer-term targets out to like FY '27 on margins and private label, I appreciate on these targets were from before your time. Have you got any views on those prior targets?

So at this point in time, we've been very much focused on our short- and medium-term plans and ensuring that we're generating positive momentum around those. We're continuing to evaluate our longer-term goals, and we're also reviewing M&A and other opportunities. So that is work that we're continuing to look at.

Next question comes from Joseph Michael with Morgan Stanley.

The first one I had was just around market share. I know it's hard to track, but do you have a sense how you're tracking from an online perspective?

So in relation to market share, we -- it can be challenging in that a number of our competitors are private, so we don't necessarily have an up-to-date data with respect to their performance. We do have a number of different proxies that we refer to, to try and understand share. From what we can see, where of the deal, we had a good quarter 4 in particular, and we continue to focus on building on that.

Okay. Great. Next question, just on inventory. It was sort of up 20% year-on-year. So maybe can you talk us through the thinking behind the strategy of investing in higher turnover stock? And should we expect that to continue into FY '24? Should we expect inventory growth to continue outpacing sales growth?

So our investment in just [indiscernible] inventory was absolutely a strategic investment. We saw an opportunity around missed sales, and so we did invest in higher turnover inventory lines, and we have already seen the direct sales benefit following on from that. A few points on that is our inventory, we've been historically good at managing inventory. And we have inventory which isn't of a short expiry isn't fashion. So it is very minimal risk in holding more inventory. What we found that it's doing is growing sales, but also ensuring that our customers are able to access the products that they want, they're not disappointed. We don't lose customers on that basis. So we're certainly very comfortable with our increased inventory. We are finding it's helping us in terms of driving sales. And at this point, we're very comfortable with the level that it's at. Is there anything you wanted to add, Stephanie?

Yes. So I think -- I mean, that's absolutely right. I think the other thing is that we continue to track very closely. We continue to track the missed sales opportunity, and we will be flexible up or down on that opportunity. So I think it's not just the measuring of they come and they find one product that's out of stock. We might lose them in entirety as a customer, if we're not in stock on one of the items that they really want. So being in stock on high turnover products that our customers really love is very important to us.

Okay. Great. That's helpful. And then just a last question around sort of, I guess, marketing leverage. If you look at marketing as a percentage of sales, it's steadily been increasing over the last couple of years. So just wondering if you could talk to the outlook for marketing as a percentage of sales and tax? My understanding is they have moderated from elevated levels. So do you think you can get leverage going into FY '24 on the marketing line?

Yes, that's a great question. So marketing as a percentage of sales in half 2, you would have seen from the again from the [ DAC ] came down. So we saw a 0.5% improvement to 14.5% of sales. We have also -- we would also agree in terms of the moderation at a cost level. So we do feel that we can continue to build on that and that we will see increased impact of the work that we've already carried out through the rest of the financial year.

Your next question is a follow-up question from Apoorv Sehgal with UBS.

I just want to like ask few more. The new brands at 2.6% of sales, can I read that as effective new brands that will launch provided the 2.6% boost to sales? And would it be typical to expect a similar rate of brand onboarding in FY '24 at all? I'm just wondering if that 2.6% is kind of like a bit of a rough building block we can use going forward and just trying to build out the profile for growth in '24?

Yes. Thanks for the question. It's -- the 2.6% is of total sales. So that's how it should be read. We continue to focus on onboarding great new brands to offer to our existing customers, but also to entice new customers to us. And we launched 20 brands in FY '23, and that is a continued focus for us to continue to get those great new brands on board. So you should absolutely expect more of the same in FY '24.

Okay. Cool. And then just on the app, that's been growing nicely, 25% of sales now. Maybe firstly, anything specifically you've done to really try and drive that as a growing portion of your business? And then secondly, you obviously mentioned in the presentation, the kind of superior unit economics, right, of the app. But what about the operating cost benefits? Like is that part of the marketing efficiency, but are there any other operating cost benefits as well as that becomes a bigger part of the sales base?

No, you're quite right, it does offer a number of efficiencies and savings through the app, and we have done a number of things to promote the app and make it attractive to customers, some more [ taxable ] activities to entice people to use the app for those very reasons because it is commercially attractive to do that.

Okay. And just a quick follow-up. When we talk about gross margins. In the slide pack, you mentioned adjacencies and how that would help. So maybe I just completely missed it. Would you just mind explain the adjacencies opportunity and why that helps gross margins?

Adjacencies. So I think we've talked about -- we've moved into fertility. We've talked about menopause. We talked about [ hair loss ]. And where we can, we would higher-margin categories, then that will help improve the gross margin position.

Got it. Okay. And then just another one is some quick on gross margins. The private label, you've obviously substantially higher gross margin than third-party brands. Are you able to roughly give us an indication of what kind of gross margin private label generates?

I mean I think we've -- it's significantly more than the gross margin that we see on third-party brands.

Okay, sure. And maybe just last one then. Just on the M&A opportunity, would you mind just give me a bit more detail on what kind of opportunity you see in M&A?

So this is something we're actively reviewing. And we do see and the kind of opportunities we're looking at are really around opportunities that will help us achieve our long-term goals. So opportunities that would address margin expansion as well as top line growth.

Got it. Okay...

And in line with our strategic pillar.

Absolutely, yes.

Yes. Actually, can I take a little bit to ask one more. Average order value is up 3% and average frequency marginally down. Is that a function of prices just generally gone up?

Yes. So from a price point of view, we are primarily a third-party brand distributor, we sell our third-party brands. And when price increases come through, they're generally market-wide and reflected in the retail value -- or sorry, the [ RRP ] and they are passed on. In terms of, yes, that's what you would see in average order values increasing from a frequency point of view. I mean I don't think we've called out, we saw that decline, but we're pleased with the average order value improvements that we've seen.

Now across the webcast questions. Your first question is from Tom Beard with Taylor Collision. Congratulations on a great result. How do AOVs and order frequencies look like for the outlook period? Are these broadly in line with historical's and your expectations?

Is that -- I'm not quite sure whether that is in relation to the trading update we've currently provided. Look, I think we would comment on the first 6 weeks, it's probably over 7 weeks. I think it's probably too early to tell. But our average order value historically have increased, and we've seen some stabilization in average order frequency...

Next question is from Marco Fantozzi. Do customers preference AB private label brands versus third-party brands?

That's a great question. I think they serve a certain purpose, they fill gaps in our range, and we obviously get margin expansion opportunities through that offer. So I think we have as a business that's all about focusing on our customer and providing great alternatives in a wide range. There's a place and a lot of value in both.

And I think I'd add to that to say, we're not looking to be -- that our whole portfolio is own brand. Absolutely, people come to us because of the wide range that we have. And the range includes -- is now including owned brands.

The next question is from Louis Josephs. Will the company consider capital management incentives such as a buyback given the high net cash levels on the balance sheet and very low market valuation on metrics such as price per customer?

So the Board continues to evaluate the best use of capital, and we're continuing to evaluate M&A opportunities. There's nothing further to report at this stage.

I have another follow-up question from Avado, a private investor.

Can you hear me okay?

Yes. Thank you.

Yes.

Yes. Okay. I just wanted to just clarify something on the trading update. So the revenue is up 5.9% on PCP. Do you mind unpacking that for us? So is that increasing in the -- is that an increase in returning customers? Or is that also an increase in new customers? Anything on average revenue per customer?

We haven't -- so we're not providing further detail around the 5.9% at this point. It's really 6.5 weeks of trading. And so at this point, it's giving a sense of the momentum that we have, but we're not -- we haven't gone into a great level of detail in terms of analyzing that 6.5 weeks...

Okay. What about in terms of just that EBITDA margin target 2% to 4% in FY '24? Obviously, that's a significant improvement from where the margins are now. Can you provide any assumptions? What are you -- is that basically operating leverage on the revenue growth that you're obviously expecting in FY '24?

I think it's a function of a few things. We're certainly looking to increase, as I've highlighted, to increase our revenue, increase scale, looking at our GP margin, what we can do to continue to build and improve that. And then the cost optimization program that we've highlighted. So it's a function of all of those things to get there.

Okay. And is there anything on -- can you give us any more details on that cost improvement, any of those cost initiatives? You're obviously expecting some cost savings somewhere. Can you elaborate on that?

So some of the cost savings that we've seen has been in marketing, which we highlighted through enhanced marketing efficiency and effectiveness. We have been looking at some of our customer fulfillment center costs, and we've seen reductions there as well as in other team and also other costs, I would say. Anything, Stephanie to add?

So in terms of specific things, so more specific things at the customer fulfillment center. I think we've spoken time earlier, we reduced the Sunday shift. We also have -- since then, we have moved back to just 1 shift during the week. So we've got rid of our afternoon shift, the full impact or the impact of that will be seen through the full year of FY '24.

I think the key thing in the reduction of the afternoon shift is that we were very careful to ensure that there was no impact to our service levels.

Yes.

So where we are being cost efficient, it's not ever at the expense of our customer experience because customer centricity is our key brand pillar, and we remain very focused on ensuring that every aspect of our customer experience, including fast fulfillment is absolutely paramount.

Right. Okay. And maybe just one final question. I just wanted to understand just the step-up in just cash burn in half 2 versus sequentially versus the half 1. You sort of had negligible cash burn in half 1, but then it sort of increased to $2 million in half 2. There's -- looks like there's a tax benefit there. So I think underlying is maybe $5 million in cash burn. Can you unpack that for me? I think there's obviously an inventory investment in that second half, but I think there's also some more additional costs there, which I can't really reconcile.

Yes, it will be -- thank you for the question. Look, you're right, there's the inventory step up. So that will be one element. There's also the -- we continue to invest in our IT infrastructure or our IT systems, website and mobile app to name a few. And it's likely to be a timing influenced as well.

We have another webcast question from Isabella Tu. Are any Australian such global brands stocked exclusively at Adore assigned from private label? Do you see any opportunity to pursue this in the future?

I think we do have a few that are exclusive, and we definitely see more opportunity for that in the future, absolutely.

The next webcast question is from Brett Williams. What can you tell us about the competitive environment that you face for online sales? Are competitors expanding their online sales? Are any brick-and-mortar retailers moving into online sales? Over the last year, has the pricing behavior of competitors becoming more of a constraint on your own price setting?

Okay. There's a few points in that question. So let me just unpack that. So with respect to the competitive environment, I think we've spoken around that it is a competitive environment. There has been the return to bricks and mortar. So that has been a feature of the -- the last financial year, I should say. Competitors expanding our online sales. So we have seen some competitors expand in that space, and we continue to focus on having a very differentiated and strong customer value proposition to continue to grow our business. Therefore, we lead the key thoughts that. Anything to add, Stephanie?

No.

There are no further questions at this time. I'll now hand back for closing remarks.

Fantastic. Thank you. Thank you for joining us today and for your continued support. Adore Beauty's strong customer value proposition and low returning customer base, ensure we are well placed to navigate the current challenging operating environment. We have a clear strategy focused on 3 key pillars: customer centricity, further building our brand, and operational optimization to grow our business within a market benefiting from the structural shift to online. I'll look forward to seeing many of you over the next few days, and we'll now close the call. Thank you so much.