Frontdoor, Inc. (FTDR) Earnings Call Transcript & Summary

Hi, everybody. Thanks for joining us. I'm Ian Zaffino. I am the Equity Research Analyst covering Frontdoor. I've been outperforming rating on this. I've covered the stock since it's gone out. I'm very pleased to have both the CEO and the CFO of company with us. Rex Tibbens is the company's President and CEO, he's going to be joining us. Same thing with Brian Turcotte. He'll be joining us. He is the company's CFO. So with that, what I'm going to do is, I'm going to kick it off with questions. We're going to run it as a fireside and what I would love to may get -- I'd love to include questions from the audience. So if there are any questions, you can either e-mail me or you could put it in the dashboard. I have access to both of those. My e-mail is just ian.zaffino@opco.com or again just put it in the dashboard and I'd love to kind of ask the management team any questions you have and make sure everyone gets their questions asked. So with that, Rex, Brian, thank you very much for joining us.

Thanks for having us.

So you had a very good quarter. Just give us the broad highlights of the quarter. What particularly stood out to you as progress you've made? Where were your successes? And maybe just anything else you'd like to point out to us?

Sure. So I think Frontdoor is performing very well. Our margins were stronger than we expected, even -- we're not quite out of the pandemic as it relates to our supply chain yet. 11% revenue growth for the quarter. And we're still targeting our highest fiscal year revenue growth as a company since we spun the company. We have a lot of initiatives in place as we have the start to year, certainly around revenue trajectory, we continue to automate the company. We just -- our oldest brand, American Home Shield has turned 50 this month. So a lot of opportunity from an automation perspective. We continue to be focused on customer retention and then really growing our emerging businesses of ProConnect and Streem. I think both of those things are still on target. And so we continue to work towards double-digit sustainable revenue growth.

Good, good, good. So I know since you joined, you've been very focused on technology being much more nimble or bringing a nimbleness to the company. And I think one of the ways to manifest itself is through dynamic pricing. Tell us just a little bit about dynamic pricing? You kind of pointed to that as a way to handle some of the moving dynamics that we've seen post-COVID or towards the end of COVID or whether you want to call it. So how is your inflation, et cetera. So maybe walk us through that a little bit, tell us how you've been successful there?

Sure. Sure. So data pricing, when we started the company, the -- from a pricing perspective, everything -- when I joined the company, everything was priced on a state-wide level. So you can imagine how different labor costs would be from San Francisco to Stockton or Poughkeepsie to Manhattan. So I saw a real opportunity to really get down to a much more granular level or [ ZIP Code ] plus 9 or sub division type of level as it relates to pricing. So we put that into place about a year ago, and it's really beginning to bear fruit, certainly through the pandemic and you think of dynamic pricing really as the fulcrum between pricing and cost abatement, if you will, right? So we can kind of set what gross margins we're looking for. If you look at customers in terms of their usage, the risk that might be associated with that home and that contract and really get down to a much deeper level or more granular level of both cost and, therefore, price. So it's been very great win for the company as we're able now to price very differently than we have been able to price. And our data models just keep getting better and better. So we kind of look at our retention on kind of that customer [indiscernible] type of view. And now we're looking at other variables can we put into place to look at how that drives down the pricing. So it's been a great win for the company.

Yes, it seems that way. And as you -- sticking on the subject of the topic of pricing, can you maybe talk about your pricing opportunities maybe across the channels vis-a-vis inflation, actual real pricing? And then how do you juggle that with retention levels? And where sort of your -- you guys head now as it relates to pricing versus retention?

Sure. So we look at retention. I think I mentioned before kind of on the almost a decile type of basis. And so our models we can predict to and as we raise price, what the impact will be on inflation or inflation -- it will be on retention. And we've been really accurate as it relates to kind of understanding. Our customers are primarily inelastic. It depends on kind of what decile they're in. But we have the ability now to really look at how pricing is driving that. Now as we come out of the pandemic, obviously, we raised prices last year to capture some of the costs from the supply chain related inflation that we saw from COVID. As that comes down, there -- hopefully there's now an opportunity to adjust pricing again as we continue to look at gross margin. So I think we're always kind of month-on-month are going to be looking at kind of where are we from retention versus pricing. And that's what dynamic pricing allows you now to kind of convert back and forth. So still somewhat -- we're still seeing supply chain-related costs as it relates to COVID. But again, those things begin to abate, I think there's an opportunity to look at pricing again.

Okay. Good. And maybe dovetailing off of that question. Where are you seeing the cost increases, maybe break it down between labor, parts, any other issues?

Yes. Labor, it's all like fixed as it relates to our annual contracts with our preferred providers. But we are certainly seeing or, we saw some increases that relates to parts supply chain and replacements. And Brian is on the Zoom here with us, can answer that far better than I can. Brian, do you want to talk about some of those areas?

Sure. Thanks, Rex, and thanks, Ian. Yes, regarding parts and equipment availability and pricing, it's been getting better since the pandemic struck early last year. But it's still not back to pre-COVID levels. Inventory levels are still really low for both parts and equipment. And where you've got inflation is anything to do with some metals, for example, steel, tin, copper, shortages there. So we've had some price increases for things comprised of those metals. But our supply chain team has been doing an excellent job of managing those price increases and mitigating them wherever they can. And to do that, we've been expanding our supplier base, prepositioning some inventory, integrating parts or we're doing a lot of things to mitigate some of this higher price. As Rex said, we're not back yet, but I think we see light at the end of the tunnel regarding parts and equipment availability and thus maybe lowering inflation a bit. And once parts are more in stock, we'll have less equipment replacements as we actually replace the parts rather than the full units.

Okay. And maybe you talked about the parts side. What you could do to mitigate some of the increases expanding the supplier base. But can you do similar offsets on the labor side as well, maybe expanding your preferred network. Maybe walk us through some of the things you could do on that side?

Yes. I think there's a couple of things. One is really proud of the team in terms of -- we continue to grow our preferred contractor base. So even during the pandemic and hyper pandemic as well as through the summer months. We haven't dipped below the 80s as it relates to our preferred percentage of use for preferred contract. That's certainly a great win from us from a cost perspective. Our preferred contractors are about 20% of our total contractors, they make up 80% or 80-plus percent of the volume. And the reason why it's great for us to have preferred contractors is we're able to guarantee them volume and in return we get much lower labor rates, generally half of what the retail labor rate would be. So that certainly is going really well for us. We continue to improve our algorithms as we look at dispatching more preferred contractors that starting the network of total contractors. Beyond that, I do see one of the big benefits of our integration of Streem is that we should be able to, instead of having to roll a truck to kind of see what's wrong. We should be able to have a video call with the customer kind of walk through the issues and only a role a truck once to be able to show up with the right part to make the repair. [indiscernible] the future should provide additional labor savings because we're doing less truck rolls. It's also a great ESG benefit for the company and that certainly reduces our carbon footprint as we move forward. So early days for Streem in terms of the benefit it can provide to the company. And then we're also very focused on our percent to prefer as it relates to our dispatches.

Okay. Good. And I know you also talked about investing in the business and ongoing investment in the business. Where are you doing that? What are the areas that need investments? And how do you balance that with just free cash flow generation and maybe what the market wants to see or hear?

Yes. So as I alluded to you before, we're a 50-year-old company. So we have a lot of investments in kind of digitizing the business. As I mentioned in our last earnings call, 2 earnings calls ago now. We have a new appliance portal, so make it easier for customers to select their replacement before you had a call -- a series of phone calls to get that done. We have a new contractor portal to make it more seamless for contractors to tell us what's wrong into get the parts ordered on their behalf. In terms of deeper opportunities, I talked about Streem for one, but also just I think, if we think about artificial intelligence at the company, our processes for authorizing parts, and they could even be even better than they are today. So I think there's a lot of opportunity there. If you look at our gross margins, that's essentially parts of labor, right? So we see a lot of opportunity there. And then we continue to see opportunity in automating rest of the business as it relates to -- we've made some good headway in terms of sales for our customers, but we have to do more. We're still, as a percent of revenue, higher than one be as it relates to customer care. So a lot of the opportunities still in front of us as it relates to automating the business. I think the benefits for investors are that it should be not only a better customer experience, which drives retention, but also reduce -- further reduce costs over time. And I think that's why we're seeing some of the stronger margins on a little lower revenue. So we continue to be very focused on automation.

Right. And I guess now you touched on the margin question. I guess you've increased your margin released the range. You were at 48% roughly, and I think now you're at 48% to 49%. And this is also kind of in an environment where you see inflation, right? You see labor or maybe not labor because you're locked in, but you definitely see parts and availability and supply chain. What is driving that? And how do you actually do that? And I guess maybe this circles back to my original questions, but how is it actually working out?

Well, it's not any one thing. I think it's a series of things that we've been working on over the last couple of years. Certainly, dynamic pricing has helped us a lot as we are able to get a lot more scientific in terms of the customers where we're attracting, and we think the expected cost should be. I give Brian and his team a lot of credit in that. We've worked really hard on mitigating some of these supply chain challenges that the whole industry is seeing, not just from parts but from replacements as well. That's certainly been a major headwind for the company in the industry for that matter. And then as we continue to really focused on the technology of the business, again, improving a lot of the algorithms that run the business and then being really focused on how do we automate pieces so that we don't need the associated headcount and maybe old processes we can automate a lot of those things. That's how you get to being able to kind of outpace some of the inflationary things that we've seen. So that -- and I think from an incidence perspective, we got a little lucky as it relates to weather, as Brian mentioned on our earnings call, although it was very hottest June's on record. Certainly, in the West, we saw rain cooler in the south, right? So we're able to kind of mitigate those things as well. But I give a team a lot of credit and then really trying to balance the several factors in order to drive margins.

Okay. Good. And maybe this kind of again dovetails off of my last question is when you look at like long-term margins, where do you want to be when it comes to margins?

We still -- our goal still continues to be roughly around 50% gross margin and around 20% from EBITDA margin perspective. Again, as we see some of these improvements, that's why we're able to change our guidance, we think that we see a line of sight there, especially as supply chain issues get better. And then from an EBITDA perspective, as we continue to be focused on automation and balancing that with growth, we think those are the right longer-term targets.

Okay. Good. And actually, we have a question from the audience that I'll just throw it out there. And anyone else who wants to add anything into the chat, please do with a dashboard, I'll ask it. So our question is -- and maybe we talked about this a little bit, but maybe you could give us a little bit more color is, given the delay in parts and replacement availability, how certain are you that the customer satisfaction and retention will not decline? What are you doing to ensure that?

Yes, Certainly, this is something that we all, myself included, to wake up every day working on that this is a serious situation as it relates to the pandemic. I think we continue to -- it gets better and better every day. From a retention perspective, certainly being flat where we thought we would grow retention, I think, speaks to some of the other things that we've been doing to kind of help mitigate the supply chain issues. Certainly, as we've been focused on moving and sold as we've been focused on removing the friction from renewing for customers. There's a lot of little things that we've done in the background, continues to be a major focus for us as we focus on retention. Certainly, we do think that supply chain gets better every day. And so for those customers who had to wait for appliances, I think those customers become less and less. So we think that will be -- should provide a tailwind for us from a retention perspective. Also, as we focus on direct-to-consumer customers, they tend to renew at 3:1 to a first-year real estate customer. So that should also -- as our mix begins to change, should also help drive retention going forward as well.

Okay. Good. And then if we were to look at the different channels, and we were to talk about real estate a little bit. How are you guys doing there as far as market share? And what's the competitive environment like there?

Well, certainly, when inventory drops 20%, it makes tough market. But we're not just throwing our hands up. Certainly, we've been -- we look at -- we try to triangulate into share in a multitude of different ways. We don't think we're losing share. We think that the amount of attachment of home service plans is down. Our -- the inventory is 17 days on market versus 24. And from all the realtors that we talk to, there's a lot of multiple offers and what we call clean offers and that they don't want to attach anything, no contingencies, no inspection for example, is another big thing. So we are actually -- we think that by targeting from a direct-to-consumer perspective, real estate buyers, which is something we haven't really been able to do in the past. We're hopeful that, that will begin to bear fruit. It will leverage the data we have from our realty partners to go after the buyer, new home buyers through a direct consumer channel. We continue to be focused on our brokerage efforts. And then the other thing that we really focused on is expanding our partnership. So although small, I mean, our partnership with Mr. Cooper has been going very well. And the team is very focused on growing the number of partnerships we have in the entire real estate space.

Okay. And I guess the next question would be on ProConnect, which is sort of the next area of growth, the next area of excitement, call it. When do you think as far as timing, can you talk maybe about the ramp, what you're seeing there as far as what investors should expect with that ramp? And then maybe just talk maybe audience size, TAM, penetration rates, et cetera.

Yes. So if you think about home service plans, we were about 4% penetrated for U.S. homes. We think that the TAM for ProConnect is all U.S. -- single-family U.S. homes. So we think the TAM is actually larger. Our kind of first full year in ProConnect. We're in 35 markets. We started in appliances. We're growing that with electrical and plumbing over the course of the year. We're committed to our $20 million target for this year. Yes, I think we're in good shape there. The other thing that we're focused on and noticed is that as we cross-sell to our current 2-plus million customers, they really like maintenance services. So we offered HVAC tune-ups in the spring, and it was through ProConnect, and it was greatly received by our customers. So as we contemplate next year, we're also going to be focused on growing our maintenance services for existing customers as well as ProConnect or new customers to ProConnect. The other thing that we're focused on is we grow the trades, and we grow the number of services that should lower your overall customer acquisition cost because you should be pinging those customers multiple times or they should be using it multiple times. And so as we continue to prove out that business case over the course of this year, that kind of sets you up for further expansion and kind of validating our acquisition costs as we move forward.

And do you think as you look at your take rates, are they more heavily focused on less emergency? So what you're doing right now is call it, an emergency, right? Not in ProConnect but in your core business, right? You [indiscernible] brakes, they need you over ASAP and you got to get there. Same thing with most of the brakes. But are you seeing it much more about like preventative services like you've mentioned, the HVAC, tune-ups and more maintenance? Or do you think it's still going to be heavily emergency or I need it now type of jobs?

I think we're going to play it out a little more. I mean certainly, maintenance services has done very well. That might be more in line with where people were with taking care of their homes. But we still see strong demand for kind of break/fix work, if you will, as it relates to appliances and plumbing.

Okay. That should be interesting. And then as you look into 2022, what [indiscernible] ProConnect and if you were to look into 2023 as well, what type of ramp should we expect? And how are you going to scale the business?

Yes. So we're still focused on growing ProConnect, certainly can't provide next year's revenue guidance for a couple of years out. But we made some public statements around where we thought the growth rate would be. We're still very much focused on those and as we continue to grow the business. So excited about the maintenance services, excited about getting additional trades into those markets and proving out the repeat rate and kind of the CAC costs. I think that will continue to inform how fast we want to go into the next 2 years.