Yahoo Finance Chewy, Inc. (NYSE:CHWY) Q4 2023 Earnings Call Transcript
Chewy, Inc. (NYSE:CHWY) Q4 2023 Earnings Call Transcript March 20, 2024
Chewy, Inc. beats earnings expectations. Reported EPS is $0.11, expectations were $0.1. CHWY isn't one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Hello, and welcome to the Chewy Fourth Quarter FY 2023 Earnings Call. My name is Elliot, and I’ll be coordinating your call today. [Operator Instructions] Now, I’d like to hand over to, Jen Hsu, Vice President and Head of Investor Relations. The floor is yours. Please go ahead.
Jennifer Hsu: Thank you for joining us on the call today to discuss our fourth quarter and full-year results for fiscal year 2023. Joining me today are Chewy's CEO, Sumit Singh; and CFO, David Reeder. Our earnings release and letter to shareholders, which were filed with the SEC earlier today have been posted to the investor relations section of our website, investor.chewy.com. On our call today, we will be making forward-looking statements, including statements concerning Chewy’s financial results and performance, industry trends, strategic initiatives and the environment that we operate in. Such statements are considered forward-looking statements under the Private Securities Litigation Reform Act of 1995 and are subject to certain risks, uncertainties and other factors described in the section titled Risk Factors in our annual report on Form 10-K and 8-K filed earlier today and in our other filings with the SEC, which could cause actual results to differ materially from those contemplated by our forward-looking statements.
Reported results should not be considered an indication of future performance. Also note that the forward-looking statements on this call are based on information available to us as of today's date. We disclaim any obligation to update any forward-looking statements except as required by law. Also during this call, we will discuss certain non-GAAP financial measures. Reconciliations of these non-GAAP items to the most directly comparable GAAP financial measures are provided on our Investor Relations website and in our earnings release and letter to shareholders, which were filed with the SEC earlier today. These non-GAAP measures are not intended as a substitute for GAAP results. Additionally, unless otherwise stated, all comparisons discussed today will be against the comparable period of fiscal year 2022.
Finally, this call in its entirety is being webcast on our Investor Relations website. A replay of the webcast will also be made available on our Investor Relations website shortly. I'd now like to turn the call over to, Sumit.
Sumit Singh: Thanks, Jen, and thank you all for joining us on the call today. Before we cover our fourth quarter and full-year 2023 results, I'm thrilled to welcome David Reeder, who joined us in February as our Chief Financial Officer. Dave is a key addition to our leadership team, and I look forward to having many of you engage with him in his new role. I would also like to thank Stacy Bowman for her support as Interim CFO. Now, let's review our results. The team delivered a strong finish to the year with our fourth quarter and full-year 2023 performance demonstrating our ability to deliver market share gaining growth, while simultaneously expanding margins and accelerating free cash flow generation. I will provide an overview of our performance, followed by some perspectives on the pet industry and Chewy's strategic priorities as we embark on 2024.
Dave, will then discuss our financial results in greater detail and share our guidance for the year. Q4 net sales increased by 4% to $2.83 billion resulting in full-year 2023 net sales of $11.15 billion representing 10% year-over-year growth. Our favorable mix of non-discretionary consumables and health categories continues to be a pillar of strength for Chewy, representing approximately 85% of full-year 2023 net sales. Additionally, our Autoship subscription program, which delivered $8.5 billion of Autoship customer sales in full-year 2023, continues to provide unparalleled convenience for pet parents, while enhancing customer stickiness for Chewy. Growth in Autoship customer sales meaningfully outpaced overall topline growth increasing by 8% in the quarter and nearly 15% for the full-year 2023.
We continue to deepen our engagements with existing customers and delivered compelling wallet share growth. Net sales per active customer or NSPAC grew to $555 a year-over-year increase of approximately 12%. We believe there is significant runway for further NSPAC expansion, particularly as we continue to expand our product and services offerings across our pet platform. Progressing through the P&L, we are incredibly proud of our ability to deliver consistent profitability expansion over time. Our gross margin exceeded 28% for both the fourth quarter and the full-year 2023, representing an improvement over the prior year period. Our performance throughout the holiday season was in-line with expectations, including as it relates to promotional activity.
As planned, our sponsored ads program also continued to ramp throughout the latter half of the year and increasingly supported our gross margin performance. We achieved an adjusted EBITDA margin of 3.1% for the quarter and 3.3% for the full-year, a continued improvement relative to full-year 2022. Our results reflect our ability to deliver improved profitability on a steady and consistent basis, even while concurrently investing in planned growth initiatives that we expect will deliver long-term value to shareholders. Finally, expanding margins coupled with disciplined capital spending has allowed us to generate meaningful levels of free cash flow. We exceeded our 2023 free cash flow expectations and generated more than $340 million of free cash flow, nearly three times our 2022 free cash flow.
We have reached an exciting inflection point in this area and expect to generate substantial free cash flow on a go forward basis. As we close the curtain on 2023, let me now spend a few moments framing our view on the pet industry and Chewy's outlook. We operate in the approximately $144 billion U.S. pet market, comprised of pet food and supplies sized as roughly $87 billion pet health contributing roughly $47 billion and pet services representing roughly $10 billion. On top of that, following our expansion into Canada in Q3 of 2023, we now also participate in the roughly $10 billion Canadian pet market. The pet category is a recession resilient above GDP growth industry that is increasingly moving online. Chewy has been and remains a key driver and beneficiary of this trend.
As we enter the new fiscal year, it is helpful to characterize 2024 industry expectations in the context of historical performance. Over a multi-decade period, the overall pet industry grew at an annual rate in the mid-single-digits. This growth was predicated on low-single-digit unit growth in addition to low-single-digit pricing growth, with further growth supported by a secular premiumization trend. Looking ahead, the pet category is projected to grow at a similar rate over a multi-year forward period. However, in 2024, year-over-year growth for the industry is expected to be lower than historical average. Unit growth is expected to be muted due to pet household formation trends that remain below historical levels. As it relates to pricing, while we are not anticipating a deflationary environment, we expect no material pricing benefit on industry growth in 2024.
These inputs will most likely result in a year of modest growth for the industry, setting up the industry for a return to normality in 2025. Irrespective of the industry environment, we expect to continue to gain market share in 2024. Speaking to our profitability expectations, we expect to deliver continued adjusted EBITDA margin expansion this year, irrespective of the macro and industry growth backdrop. As a foundation, our well established Chewy retail business is benefiting from economies of scale. On top of this, our fast growing Chewy Health business and important Chewy retail initiatives such as sponsored ads are expected to continue to drive gross margin expansion. Additionally, this year we expect our ongoing automation efforts and OpEx discipline to positively offset our investments delivering SG&A leverage in full-year 2024 relative to full-year 2023.
These collective efforts are expected to drive increasing adjusted EBITDA flow through in 2024. When coupled with our high-levels of capital efficiency, enabled by the critical mass we have reached with respect to our distribution infrastructure, we expect to generate meaningful and increasing levels of free cash flow in 2024 and the years ahead. Now, let me provide commentary on some of our newer strategic initiatives that we believe will drive sustainable growth and profit in the future years. We are excited about strategic priorities, such as our recently announced Chewy Vet Care clinics, which allows us to expand our TAM by another approximately $25 billion to address the entirety of the $47 billion U.S. pet health market. Chewy Vet Care has the potential to drive both NSPAC and active customer growth over time, while also offering a steady state margin profile materially above our current business fees.
We believe Chewy Vet Care is a natural extension of our ecosystem and that our thoughtfully designed clinics will be unlike anything in the market, thanks to our proprietary first-party health tech platform and the seamless vertically integrated connectivity to all aspects of the Chewy ecosystem. This includes our B2C e-commerce platform for products such as core and veterinary diet food, pharmacy and supplements, our emerging B2C services such as telehealth and insurance as well as our B2B solutions for veterinary practitioners to streamline their operations. We anticipate opening four to eight clinics this fiscal year, with our first location slated to launch in Florida, close to our company headquarters and several additional locations scheduled to open in the first half of 2024.
We are very excited to share that our first clinic is already accepting appointments from family and friends, and we expect it to be open to the public imminently. Two key leading indicators of success that we plan to track closely include vet hiring and customer demand generation. As it relates to vet hiring, we are encouraged by the early signals around our vet recruitment processes and already have our first site full start. We look forward to keeping you informed on our progress around this initiative as we progress through the year. Elsewhere, Canada continues to ramp for our expectations and overall will remain immaterial to 2024 financials given that new markets take some time to achieve scale. We are encouraged by the initial customer and supplier response that we have received.
We continue to expand our offerings for customers with assortment significantly increasing since our launch only a few months ago. We are further excited by the launch of many customer facing shopping features such as our mobile app and additional customer friendly payment and basket building mechanisms, which are forthcoming in the first quarter of 2024. Success metrics that we are tracking closely, such as basket sizes and Autoship sign up rates as well as other customer experience metrics such as delivery speed and reliability remain healthy, providing positive indications for the business we are building in Canada. In summary, we remain highly focused on advancing our enduring mission of being the most trusted and convenient destination for pet parents and partners everywhere.
And we are incredibly excited about the opportunities ahead for our business. We believe we are well-positioned to continue driving innovation across the pet category, while simultaneously creating significant value for our shareholders. With that, I will turn it over to, Dave.
David Reeder: Thank you, Sumit. Before covering our quarterly and annual results, I'd like to take a moment to explain why I'm so excited to be part of Chewy. First, I'm a passionate pet parent and one of Chewy's 20 million loyal customers. We believe that the level of service that Chewy provides to customers is unmatched in the industry, and I wanted to be a part of the company that is the most trusted and convenient destination for pet parents and partners everywhere. But besides being passionate about the Chewy brand, I'm incredibly excited about the company's opportunities. We have a highly predictable, attractive business model where more than 75% of our approximately $11 billion 2023 sales was driven by Autoship customer sales, resulting in a subscription like revenue stream.
With our world class infrastructure now having reached critical mass, we expect to deliver increasingly higher adjusted EBITDA margins and free cash flow. In summary, Chewy appealed to both my heart and my head. I couldn't be more excited about the road ahead, and I look forward to getting to know many of you over the many quarters to come. Now, let's review our financial results. Fourth quarter net sales grew 4.2% to $2.83 billion bringing our full-year 2023 net sales to $11.15 billion representing 10.2% growth year-over-year and exceeding the high-end of the guidance ranges that we provided last quarter. Autoship customer sales came in at $2.16 billion in Q4 and $8.49 billion for the year. Growth in Autoship customer sales outpaced overall topline growth by 390 basis points in Q4 and by 450 basis points in full year 2023.
Autoship customer sales represented 76.4% and 76.2% of our total net sales in Q4 and full-year 2023, respectively. Chewy continued to consolidate share of wallet with NSPAC reaching a new record of $555 representing a $59 increase and 11.9% year-over-year growth rate. Active customers declined slightly on a sequential basis in Q4, in-line with expectations, ending the year at 20.1 million. Moving down the P&L, we reported Q4 gross margins of 28.2% and full-year 2023 gross margin of 28.4%. On a sequential basis, Q4 gross margin decreased by 30 basis points, reflecting of the promotional calendar and peak surcharges typical for the holiday period. Gross margin for the year expanded by 40 basis points, aided by our newly launched sponsored ads initiative which had its strongest contribution in the fourth quarter of 2024.
We expect continued growth from sponsored ads throughout 2024. Moving to OpEx, please note that my discussion of SG&A excludes share-based compensation expense and related taxes. SG&A totaled $565.4 million or 20.2% of net sales. In the fourth quarter, SG&A in the quarter included approximately $14 million of severance related expenses associated with the corporate restructuring actions taken in the fourth quarter. For the full-year 2023, SG&A represented 19.7% of net sales. Fourth quarter advertising and marketing expense was $194 million or 6.9% of net sales. For fiscal year 2023, advertising and marketing expense was $742.5 million and represented 6.7% of net sales. Fourth quarter adjusted net income was $80.3 million and full-year 2023 adjusted net income came in at $296.2 million.
We reported an adjusted EBITDA margin of 3.1% for the quarter and 3.3% for the full-year or 30 basis points of margin expansion relative to fiscal 2022. We continue to be proud of our ability to invest in strategic growth initiatives, while concurrently delivering higher adjusted EBITDA margins. As Sumit noted earlier, Chewy has reached an exciting inflection point as it relates to free cash flow generation. In the fourth quarter, we reported free cash flow of $67.2 million and in fiscal year 2023, we exceeded our free cash flow expectations and generated $342.9 million of free cash flow, representing nearly three times our free cash flow generation in 2022. Our full-year 2023 free cash flow reflects $486.2 million of net cash provided by operating activities and $143 million of capital expenditures.
Capital expenditures for the year were primarily driven by automation related investments made across our fulfillment center network and ongoing technology projects. We remain highly disciplined with respect to our capital spending and with 2023 CapEx representing approximately 1.3% of net sales, slightly below our target range of 1.5% to 2% of net sales. We ended the year with $1.1 billion in cash and cash equivalents and marketable securities, over $450 million higher than our ending balance in 2022. We continue to remain debt free and maintain a strong liquidity position of $1.9 billion. Now, that I have concluded our fourth quarter and full-year 2023 recap, I'd like to discuss our first quarter and full-year 2024 outlook. Let me start by saying that we have a high-degree of confidence in our ability to deliver on the strategic roadmap and the long-term financial model that the team outlined at Chewy's Investor Day in December.
We continue to manage Chewy for the long-term and are focused on executing through the near-term macroeconomic environment. In December, we detailed our pathway to continue delivering market share gaining growth, margin expansion and meaningful free cash flow generation. We expect to make progress across all three of these areas in the coming year as we did in 2023. With that, we anticipate first quarter net sales of between $2.84 billion and $2.86 billion or approximately 2% year-over-year growth and full-year 2024 net sales of between $11.6 billion and $11.8 billion were approximately 4% to 6% year-over-year growth. This range includes the impact of a 53 week 2024 fiscal year and the 53rd week will be fully reflected in the fourth quarter of 2024.
As it relates to the components of our net sales growth, we believe our 2024 growth will be primarily driven by net NSPAC expansion. In light of the continued macro headwinds and subdued pet household formation trends, we expect active customers to be approximately flat in 2024. Moving to profitability guidance, we anticipate full-year 2024 adjusted EBITDA margin of approximately 3.8%. This will be driven by both continued gross margin expansion as well as SG&A leverage. We continue to expect capital expenditures in the range of 1.5% to 2% of net sales taking together with our increasing adjusted EBITDA flow through, our collective efforts are expected to result in meaningful cash flow generation in 2024 with free cash flow conversion remaining above 80%.
As you update your models for 2024, also keep in mind, we expect full-year 2024 share-based compensation expense, including related taxes, to be approximately $330 million and basic shares outstanding for the full-year to be approximately $440 million. Before we open the call to questions, I'd like to conclude by saying that the team continues to execute and innovate across our key strategic factors, and we remain incredibly optimistic about Chewy's role in shaping the pet industry. Strategic initiatives such as Chewy Vet Care are expected to, over time, unlock both top and bottom line benefits as well as broader cross selling opportunities throughout the Chewy ecosystem. Our operating discipline and many efforts across margin accretive verticals are producing attractive and increasing levels of profit flow through, expanding margins, free cash flow and ultimately, positioning us to deliver increasingly attractive returns for our shareholders.
With that, I will turn the call over to the operator for questions.
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