Solo Brands, Inc. (SBDS) Earnings Call Transcript & Summary

Welcome to the Share Series Monday management update. I'm Peter Keith, Senior Research Analyst at Piper Sandler and today, I have the pleasure of introducing Solo Brands, representing Solo Brands today are CEO, John Merris; and CFO, Somer Webb. John, Somer, great to see you. Thanks for joining us.

Thanks, Peter. It's great to be here.

So before we get started, I just want to remind the audience that if you'd like to ask a question during our session, there's a button at the top right video player to submit questions, and we'll respond to those during today's session. So with that, let's kick it off first to John. John, could you provide us with an overview of the Solo Brands business and the business model?

Absolutely. So fittingly, I warn my T-shirt with the smiling face. We are about putting smiles on faces. And a lot of people ask us what is this platform that you've built? Or what do all these companies have in common, and that truly is it. We are on a mission to put more smiles on people's faces. And ultimately, how that translates is we really want to help people create good moments and lasting memories. And if you just think about it in terms of that and then finding brands and companies that are experiential in nature that do that, our biggest portfolio company is Solo Stove from a revenue perspective. It's a stainless steel, cylindrical smokeless, fire pit. A lot of people have seen them on social media, Facebook, Instagram, things like that. But if you're not familiar with the Solo Stove brand, you should look at up a lot of Ingenious products. We've since extended beyond smokeless fire pits to backyard pizza ovens, patio heaters, tabletop fire pits and the list goes on. In 2021, Solo Stove via the mechanism of just generating lots of free cash flow and being a very profitable enterprise started looking at acquisitions of other businesses. We first acquired a company called Oru Kayak. It's an Origami Kayak business. It's a kayak that literally folds into the size of a box -- it fits into the back of a [ Prius ] or in a closet, but it unfolds and becomes the Kayak, weighs 20 pounds, really cool business and then followed that up with the acquisition of a company called ISLE paddleboards and surfboards. That business is out of San Diego. The longest standing in our portfolio, it actually has been in existence since 2004, but a direct-to-consumer sub business or stand-up paddleboard business and surfboard business. And then finally, in September '21, we acquired a pretty well-known men's apparel business called Chubbies. People often ask me, how did Chubbies fit into this? You got the stoves, you've got the paddleboards, you got the Kayaks that makes a lot of sense. But apparel come on, what do you guys know about apparel until they've actually worn Chubbies and then immediately they start smiling. And I go, remember that whole thing about memories and putting smiles on faces. Chubbies does that better than any brand that I know, but really great brand focused on men's apparel at leisure, swim, very well known, especially for their swim. We've been talking about it a lot with their relationship with DICK'S Sporting Goods. And then fast forward a couple of years, we didn't do anything in 2022 from an acquisition standpoint. But just in the last 2 weeks, announced the acquisition of a company called TerraFlame, -- very excited about this. TerraFlame has helped Solo Stove now extend to the indoor. So we've been an outdoor business, but long wanted to get indoors, allow people to do [indiscernible] in their kitchen in their family room, and now we're able to do that. TerraFlame, especially well known for both their capabilities with concrete but also with biofuels, so very clean burning fuels, again, hence the indoor nature of it, so you can now take that flame indoors. It's food safe, indoor safe and being able to extend even when it's really warm or really cold and you might not want to be outside with your Solo Stove. So today, our platform is made up of those 5 businesses, Solo Stove, Oru, ISLE, Chubbies and TerraFlame.

All right. Well, fantastic. Well, let's talk about the distribution of those products. So as your stock ticker would suggest DTC, your roots are in the direct-to-consumer distribution, but I know you have been evolving a bit more towards wholesale. So could you just talk about that evolution from DTC to wholesale and then maybe even highlight some of your notable wholesale distribution partners.

Yes, absolutely. You're spot on. So in our roots and really from the beginning, direct-to-consumer, that model has been something that we've touted and been proud to really execute well in. We've always known that omnichannel was the direction that the business wanted to go. The question was how omnichannel, how deep would we go with retail wholesale? And what does that look like? What is the right balance? The key for us has always been to really understand and appreciate what D2C stands for. And for us, that direct-to-consumer is less about channel and more about relationship. And as we build that relationship directly to the consumer, we've learned a lot about the consumer where they're shopping, what they're looking for, what products specifically and which channels seem to do really well. And ultimately, last year through some work that Somer did after she got here also unlocks this knowledge that contribution margin, which ultimately leads to EBITDA looked very similar between our wholesale business or our retail channel and our direct-to-consumer online channel. Some of that's because customer acquisition costs online have changed, the iOS changes that happened, obviously, in a post-COVID environment, we're getting a more normalized look at where consumers are shopping and how much it costs to acquire that customer. But today, as we see it, we went public at 2021, 92% direct-to-consumer, 8% wholesale retail. We finished 2022 at roughly 80-20. And now we're guiding this year to up to 25% wholesale retail, so it's 75-25. We like where that's living. Again, we're still majority direct-to-consumer. We love that channel. We love the model, high gross margin, high free cash flow conversion because of the nature of customers paying for the transaction in real time. So there's some real strength on that side of the business, but there's real strength to find that balance with omnichannel. And right now, our retail partners are leaning in really hard to us, and they're excited to have our product on the shelves -- in fact, just in the last couple of weeks, we were up at DICK'S Sporting Goods and doing some showcase work with a lot of their -- they had a big training where their store managers were coming in. And the feedback I heard from the team was the store managers are saying, "Gosh, we need more solo because customers are coming in and asking for the product and asking where is this product and where is that product? Why didn't you carry this?" So we see a big opportunity to continue to expand with those key retail partners, what we consider or call internally Tier 1 partners like DICK'S Sporting Goods.

Okay. Great. And what other maybe Tier 1 partners do you have for viewers is to go see the products themselves [indiscernible].

Yes. So just in the last 6 to 8 months, 9 months, Solo Stove in particular, has leaned into a strong relationship with Costco, one that we're being very careful about the one we're excited about for sure. And they're leaning in DICK'S Sporting Goods. There's a regional outdoor retailer called Scheels. A lot of people are familiar with, but Scheels has also been leading in quite heavily. And then ACE hardware, which was a big one for us. In fact, one of our earlier Tier 1 retailers, but if you think about a direct-to-consumer business that's focused online and you know what Ace Hardware's customer base looks like, it's a much more rural customer, one that doesn't shop online as much. And so we've been able to gain a lot of exposure with -- just kind of new eyeballs through via Ace Hardware. So if I have to summarize our kind of top 5, it'd be Costco, DICK'S, Scheels, Ace and Academy -- those 5 would probably be our top tier. And then from there, a couple of additional aspirationals, Cabelas, Tractor Supply, a couple that we have our eyes on, but pretty excited with what's going on with those top 5.

Okay. Great. Well, I also just want to ask about household penetration. Clearly, I think COVID was a great launching point catalyst for consumer adoption. But it still feels like Solo Stove is pretty early in its adoption cycle. So where do you think you are today from a household penetration standpoint? Where do you think you could be over time?

Yes. Several years ago, we started doing some market research and some market work, just trying to understand what our addressable market look like domestically, forgetting about international for a moment. And we had taken total U.S. households roughly 125 million to 128 million households in the U.S. You've got to obviously start discounting with Solo Stove, now this is pre-TerraFlame. So we'll come full circle on this. But the first thing we did was say, okay, well, we've got to eliminate the houses that don't have backyards, right? That don't have spaces where you could burn an outdoor fire pit. So we discounted that down and discounted for ultra-low income that's outside of our demographic. And ultimately, we came up with a household size -- a rough household size of around [ 75 million to 80 million ]. Rewind 2021, which is after we had done that market research, you'll remember the year we went public, it was in the fall of '21, because that summer, the grilling businesses, Traeger and Weber had both gone public. And so a ton of data came out about those 2 particular companies in their market sizes, and we learned that 84 million households in the U.S. own a grill, -- so the 84 million households are cooking in the backyard. Well Solo Stove as a natural appendage to people that enjoy outdoor cooking, they enjoy spending time outside, and we become kind of this natural add-on product. And so we looked at that and said, "Gosh, we were not very far off at that 75 million to 80 million that we had come up with. And so ultimately, that's what we believe our market size was, again, pre-tabletop fire pit Mesa, pre-TerraFlame acquisition. I think now that we're going back in doors, we believe virtually every household in America could be our market, although we're not so bold to say there's not some cohort of customers that maybe don't fit. But it's probably somewhere in the 90 million to 100 million household range. To put it in perspective, Solo Stove has sold about 1.3 million to 1.4 million fire pits. So very, very early in our story as you kind of alluded to, we believe, even if we were just -- we were the first mover, we obviously have the largest penetration of any fire pit company that we're familiar with or aware of in the space, getting to 10 million, 20 million households, seems like a very achievable goal over the next 3 to 5 years, and that's kind of what we're after.

Okay. Fantastic. And you had referenced outdoor cooking. I said, you guys have done a nice job of new product innovations and introductions in the last couple of years you've referenced Mesa on the tabletop side. Could you just give us maybe a high level of some of your big wins with product innovation, whether that's with Solo Stove or Chubbies or any of the other brands?

Yes, absolutely. Even in the recency, there's been several nice wins. But if I rewind a couple of years, one of the things that we're really proud of that we've done a great job at, I think, both at Solo Stove and really and the other brands as well that I'll highlight Solo Stove as the largest brand is we've been very focused on retention. How do we get customers to come back. One of the big question marks has been, gosh, it's stainless steel, you guys kind of [indiscernible] your lifetime warranty. So I mean they buy it once and it's kind of a one-and-done thing and they move on. How do you get customers coming back. And one of the things that we leaned into heavily several years ago was finding accessories and products that would draw customers to come back to us and continue to participate with the brand. So we think of product development really in 2 ways. There's accessories and then there's categorical expansion, some marquee foundational type product launches. And we try to be pretty balanced in both of those areas. If I were to take a big win as an example from the accessories side, just last year, at the beginning of last year, we launched the heat deflector, which is a product -- an accessory that sits on top of the fire pit and essentially hit -- the heat hits it on the way out and then pushes it sideways. It actually makes it so that when it's really cold outside, you can still create a 75 to 80 degree temperature at roughly a 6 to 8 foot radius around your fire pit. So something that makes it more enjoyable to be outdoors for longer, especially in the colder months. That product was an exceptional hit with our customers. We were almost taken back by how popular that product became. And again, the direct-to-consumer model is actually what influenced it. We had a customer reach out and say, "Hey, I made this home heat deflector, -- it's certainly going to last so long, which you guys maybe take a stab at this, you guys tend to make better products than I make at home." And so we were able to take that idea and basically developing into something really special, and that's frankly something that we've done time and time again. But what that has done, in addition to launching, as you were talking about these kind of new categorical expansion type lines like Pi Pizza Oven or tower patio heater is it's changed the dynamic of the business as it pertains to retention. We've gone from roughly 18% to 20% repeat purchase rate pre-public as we were going public, we had gotten that up to about 40%. Today, we're about 55% repeat purchase rate. So we are driving customers back to the brand. They're showing that, that loyalty matters. And as we launch new products, they tend to trust us and come back and open their wallets to us. So product innovation has been a big deal. The Pi Pizza Oven has definitely been a mover for us. Mesa was a big hit last year. We're excited about TerraFlame, although it's early but getting customers to really understand that biofuel component and the ability to take it indoors, we think, is a big opportunity for us as we look at '24 and '25.

Okay. Wonderful. As someone who bought the heat deflector, I can vouch that it's a great attachment item, and I do recommend it. Let's turn it over to Somer. So Solo Stove, Solo Brands, as a company, is actually very nicely profitable. I think that's something we should talk about. Somer, could you give us a sense of what your current EBITDA margin target is for this year and maybe where you think the EBITDA margin could go longer-term?

For sure. Yes. So we're very intentional about our profitability, and it starts with gross margin. We've mentioned that we believe that even with the retail mix kind of shifting up that we believe that we can maintain 60% plus gross margins. And then [ flowing ] to EBITDA. This year, we're expecting 16.5% to 17.5%, but with the path in the next 18 to 24 months to get back to 20%. And 20% EBITDA margins is our target and kind of our long-term target. We feel like that has a good balance of what we do from a gross margin standpoint, but also being able to make investments in long-term and innovation, et cetera, we believe that we can still maintain a 20% EBITDA margin long-term.

Okay. And how about just unpack that a little bit. As we think about the next 18 to 24 months, what are some of those key margin drivers to get you up close to 20%?

For sure. So the biggest driver -- so gross margin, we've mentioned that we should have a tailwind in the back half of the year from freight. Obviously, freight rates have come down. And we have a little bit of a headwind kind of in the first half of '23, but we believe it becomes a tailwind in the back half. And then we also know going into '24, we're going to have some favorability on raw materials, specifically stainless steel as we've renegotiated kind of our contracts around the raw materials. So we believe those 2 will help, but then just getting fixed cost leverage. So we made investments in data, innovation and international. As we continue to expand in international, we'll get the leverage on kind of the fixed cost components, i.e., the fulfillment centers, et cetera. We're also investing in data and data has allowed us to get even better on our marketing efficiency. So we're leaning in when we have the ability to lean in and we lean out when we see that maybe it's not being as effective, but the data investments are paying off as well. And then where we're really getting a lot of leverage is going public, we spent about $10 million extra dollars between D&O insurance and all the investments that we had to make to become a public company, and we'll continue to get leverage as we scale revenue.

Okay. Great. So maybe could you kind of package that all up for us and we think about for investors kind of what your longer-term growth targets are when we think about that EBITDA margin expansion, top line revenue growth, what could that look like if we think about total EBITDA growth or even down to EPS growth?

Yes. From a top line kind of our long-term algorithm and where we expect to be is 10% plus on the revenue growth side. Again, I mentioned 60% gross margins and 20% EBITDA margins. And that's where we're targeting. John mentioned, you've mentioned we do have really strong free cash flow conversion. In '23, we're in a unique position where we're tightening up inventory and probably will have over 100% EBITDA conversion to free cash flow. And those are our biggest focuses. We have a low debt. Right now, our term loan is less than $95 million. We expect to pay off our revolving credit facility by the end of the year. So from an interest standpoint, we're paying very low interest -- and so I think we're going to continue to maximize the EPS growth as well as we drive into this kind of long-term algorithm of top line growth and EBITDA -- strong EBITDA margins.

Okay. Great. Well, so we -- this is a good segue talking about cash flow. Starting to get a couple of questions from the audience. So I did want to address the stock price action. I think if anyone looks at the stock price over the last 2 weeks, they can see that there was a fairly notable sell-off. And at the same time, there was some insider selling. So maybe could you just address kind of what happened to the stock? Why were insider selling at the current price? And could there be more selling in the future?

Yes, I'll jump in here. There's been a lot of activity, both internally and externally. So just to kind of lay everything out there for those that haven't been paying attention to press releases or haven't follows us closely. So I think the first thing that was going on is we had this TerraFlame, I just talked about TerraFlame acquisition going on. We were back in New York ringing the opening bell at the New York Stock Exchange, celebrating that acquisition and almost in parallel with that, we actually had to be careful with the timing of the announcements of all these things. We also had -- there's some historical context here that would probably be helpful too, but we had a couple of private equity investments on our cap table, investors on our cap table that we were looking to take off. So one of the things that's been very consistently talked about with investors since we IPO-ed is what are the intentions of your private equity shareholders? And how can we increase liquidity and maybe reduce some of the overhang that those private equity shareholders are putting on to the stock. So we, for the last year or so, have been trying to figure out a way to work through that dynamic and figure out the right timing. And ultimately, Summit Partners is still our largest shareholder. They're our largest private equity partner as well. But they have this kind of first right -- shareholder right where no one else on the cap table could sell until Summit was selling, but the problem is Summit is not a seller. And so ultimately, we had to kind of work through the dynamics of that and get them to release that shareholder right to allow Bertram and Neuberger who had co-invested together the first time. So several years ago, they were the first private equity partner in the deal to allow them to sell down their position. So ultimately, just in the last week or 1.5 weeks, we ran a formal follow-on process, and we're able to take out Neuberger and Bertram from the cap table. Obviously, we're excited about what that does from a liquidity standpoint. It also narrows down our private equity shareholders to just a single with Summit Partners remaining, which we also think is very positive overall for the long-term look becomes more predictable with what's going to happen and what the intentions are of Summit. I'll talk about that in a second because I'm sure it's going to be a question that's followed up. But ultimately, that -- all of that action, particularly the activity of doing the formal follow-on, we went into knowing that it was going to create some downward pressure on the stock. The banks -- the investment bankers were very open about that and kind of from the get-go. I think we probably saw more downward pressure than we were anticipating. We didn't expect to see a drop as much as it did. We became pretty significant buyers during that period. So I think other notable point to make is the company purchased roughly $30 million of stock back, 5.6 million shares during that same time. So ultimately, the company sent it signaled Summit send its signal via the cash use of the company and buying back some shares. But we got that done. Obviously, it's creating some more liquidity. We almost double liquidity pretty quickly, and we think that it will take a little bit of time for those shares to kind of funnel through the markets and everybody to settle out on their positions, and then we're excited to kind of use that as the foundational growth point to then provide some more confidence for investors to lean in.

Okay. So this is another question that's coming in from the audience, just to clarify. So from the secondary selling from about 1.5 weeks ago, there were no proceeds that came to the company -- and in fact, because you have a lot of cash flow, you bought back a portion of the shares that were offered up by the insiders?

That's right. Yes, with secondary -- 100% secondary that went to those -- to Neuberger and Bertram capital and then the company purchased shares back, but there were no proceeds to the company.

Right. This Somer addressed, I think you have pretty healthy free cash flow. And I'm guessing you think your stock is a value, that's why you were able to buy some stock back at current prices?

Yes. We believe the stock is cheap right now. It's had a nice year so far. I think even the week prior to the offering, I think we peaked out at like [indiscernible] a share or something like that in intraday trading. So obviously, at [ $5.25 ], I think is where the offer price ended up at, we definitely felt like it was quite a discount.

Okay. All right. Great. And so we'll just stick on the cash theme. That's something that I've been dialoguing about with investors. Maybe this is a question that Somer could address. So Solo Brands by nature has an asset-light model. You've talked about reducing inventory this year. By my calculation, that should generate about $100 million of free cash flow. Those are my numbers, not your guidance, but I feel pretty confident in that. So you've used some cash here recently, but what -- how do you think about that capital allocation priority for the cash flow that's going to be generated in the future, buying back stock, acquisitions, et cetera?

Yes. I think we -- it's a big focus of ours. We obviously just showed our intention to buyback shares, and we thought it was cheap. We made -- we thought that, that was a good investment in cash. I also mentioned that we are going to pay off the revolving credit facility. So we don't have a desire to pay off into the term loan, but we do, as of the end of Q1, we had $15 million drawn. So we do plan to pay that off. And then lastly, TerraFlame, I think, is -- shows our intent to continue to be acquisitive. So we're constantly looking at deals specifically tuck-ins. We want to be right down the fairway. We think that there's a lot of products that complement our already existing brands. And that's what our focus has been this year. So that is probably one of the highest priorities this year is looking at M&A targets. We took a break in '22. We wanted to make sure we had the foundation and we had a flywheel to make it easier to do those acquisitions. And so '23, we're going to be looking at deals that make sense. So that's probably the biggest kind of highest priority of use of capital. But we want to use our capital that's going to give the best return to our shareholders, and that's been our focus.

Okay. Maybe that's a great way I did want to ask about M&A. So you made the TerraFlame acquisition, we'll turn this one over to John. How should investors think about your M&A strategy? What types of companies are you looking at that you'd like to add to the Solo Brands platform in the future?

Yes. Some are just alluded to it, and I think, you said it well. Tuck-ins are interesting to us. TerraFlame was still obvious. One of the cool things for us is to see how -- especially our customers react, what is their response whenever we make an announcement. And when they go, Oh, this is obvious, Oh, this makes so much sense. Those are the types of things we love to hear because, again, that direct-to-consumer relationship is so important to us. Obviously, if the customer gets it, eventually, if not initially, investors get it too, right? And that's the goal is for these to be acquisitions that are super obvious. And what that tuck-in really looks like for us is, is it driving one of those 2 key metrics? Is it driving repeat purchase rates? So is it something that we can go and market to our existing strong loyal customer base? Or is it something that's TAM expanding that allows us to reach customers that we weren't reaching previously. So those are the 2 things that we're very focused on retention and then ultimately referral and getting people out there talking about our products -- we think, again, we're so early in our story that there are lots of tuck-in opportunities. The last point that I would make that Somer talked about, we think that this is a great use of cash. We weren't acquisitive in '22. So not only did we spend '22 to really set up the infrastructure that we needed to bring these in, but we also are seeing improvements in valuations. So valuation expectations are starting to come down. Companies are in more need than they were a year ago for free cash flow and access to capital. We obviously have that. We're very profitable. We generate free cash flow. And that puts us in a pretty strong position as we look at potential M&A activities for the remainder of the year. But I think that you generally -- not to say that we wouldn't do larger strategic deals, but I think that if I were to weight one direction or another, I'd say that our interest is probably in smaller tuck-in TAM expanding, repeat purchase driving type acquisitions -- versus something completely new that we don't understand that we have to go figure out.

Okay. Great. So we've got about 1 more minute left. We'll squeeze in one last question. You had referenced international. Maybe just give us a quick overview of where you stand today with international as a percentage of sales? And where are your key countries that you're targeting for further growth?

Yes. So we haven't disclosed it as a percent of revenue, although I think that it can be backed into somewhat if you get into the detail. It's less than 10% today, not significant enough that we have to segment report out our international business, but it is growing. And we've been pleased. Last year was our first full year, having Europe and Canada opened in a localized fashion, meaning we're fulfilling locally with our own fulfillment centers based in Toronto and Rotterdam. We have localized websites, so customers can go on to a [ .CA ] or they can go on to a [ .DE ] or whatever it might be for the U.K. or Germany, Canada and so forth. But it is growing. The customer base there is interested. They're engaging. We're also dealing simultaneously with the macro environment that we're dealing with. So we recognize and are being careful about how hard we're investing. But if we had to thematically talk about it, I'd say that deeper versus wider is kind of our motto internally, meaning we want to show the strength in Europe and in Canada before we just start opening crazy amounts of markets. We do have Australia open today. We're looking at that one closely. It's a smaller market. It's a big geography, but a small population. Whereas Asia has much more population and not -- you don't have to go very far to find that population. We also have pretty strong operations already in Asia because of our factory relationships and our boots on the ground that we employ over there, managing those relationships. So I think if we were to say that there's one that's kind of on our radar that we're not in today, it would be the Asia market overall -- particularly China, Japan, Korea, which our countries, particularly Japan and Korea, where we already have distributor relationships, and we've seen strength and interest from our customers in those countries. So those are the areas we would look to potentially extend. But otherwise, I think that what you're going to see from us is more investment and going deeper into Europe, deeper into Canada in particular. We think that there's a big market opportunity in those 2.

Okay. Well, that's great. It's already been 30 minutes. So I really appreciate the discussion. It's gone quickly on my end. Really appreciate you guys taking some time to talk about the business. Certainly an exciting story. So John and Somer, thank you so much.

Yes. Thanks, Peter.

Peter.