a.k.a. Brands Holding Corp. (AKA) Q1 2022 Earnings Report, Transcript and Summary

Greetings and welcome to a.k.a. Brands Holding Corp. First Quarter 2022 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn this conference over to your host, Ms. Emily Goldberg. Thank you, ma’am. You may begin your presentation.

Good afternoon. Thank you for joining a.k.a. Brands’ first quarter 2022 conference call to discuss the results we released this afternoon, which can be found on our website at ir.aka-brands.com. With me on the call are Jill Ramsey, Chief Executive Officer and Ciaran Long, Chief Financial Officer. Before we get started, I’d like to remind you of the company’s Safe Harbor language. Management may make forward-looking statements, which refer to expectations, projections, or other characterizations of future events, including guidance and underlying assumptions. Forward-looking statements involve risks and uncertainties that could cause actual results to differ materially than those expressed. For a further discussion of the risks related to our business, please see our filings with the SEC. Please note we assume no obligation to update any such forward-looking statements. This call will contain non-GAAP financial measures, such as adjusted EBITDA and adjusted EBITDA margin. Reconciliations of these non-GAAP measures to the most comparable GAAP measures are included in the earnings release furnished to the SEC and available on our website. The call will also contain certain numbers presented on a pro forma basis, which includes the impact of Culture Kings as if we had owned it for all periods and comparable periods described. Now, I will turn the call over to Jill.

Thank you, Emily and thanks everyone for joining our call today. I would like to start by recognizing our brands and teams for their impressive and agile execution for what continues to be a challenging environment. I am extremely proud of our first quarter results, which exceeded our expectations, reflecting the strength of our brands and the agility of our business model. First quarter net sales grew 116% to $148 million. Pro forma net sales increased 24%, which is on top of an incredibly impressive 98% growth last year on a pro forma basis. Importantly, we continue to deliver on our unique combination of growth and profitability with adjusted EBITDA margin ahead of expectations at 7.2%. Equally exciting is the continued expansion of our customer base, with a 46% increase in active customers on a pro forma basis to over 3.8 million customers. We are laser-focused on growing awareness with Gen Z and millennial customers and remain confident that there is tremendous potential for our brands to drive continued market share gains in the U.S. and globally. Our U.S. business outperformed expectations with incredible net sales growth of 64% on a pro forma basis. I am pleased to share that the U.S. now makes up the majority of our volume and is by far the fastest growing region. Our international region also had a robust quarter with 30% growth on a pro forma basis. Turning to Australia, as we shared on our last earnings call, this region experienced an unprecedented Omicron surge in January and February, resulting in a disruption in consumer behavior and a decrease in demand. While trends improved as the quarter progressed, net sales were down 6% on a pro forma basis in the quarter. As expected, Culture Kings was disproportionately impacted due to the current penetration in Australia and their physical store footprint. I will briefly share some highlights from our brands in the first quarter before turning it over to Ciaran. Across our brands, we saw a strong start to spring and summer in the U.S., which is when our brands truly shine. First, Princess Polly had another great quarter of momentum and growth, particularly in the U.S., where we continue to gain awareness and market share as demonstrated by the recent Piper Sandler Taking Stock with Teens survey. Princess Polly has remained in the top 10 teen online shopping destinations in the U.S. for the last 3 years and has now steadily climbed to the ranks to reach third-favorite e-commerce site among upper-income female teens in this year’s survey. Princess Polly continues to excite customers with our high-quality, on-trend merchandise. Dresses, matching sets and festival wear drove outsized growth in the quarter as Coachella and other festivals and parties came roaring back for the first time in 2 years. We are particularly pleased with the expansion of Princess Polly’s sustainable Earth Club assortment and we remain on track to meet our target of converting 40% of their assortment to more sustainable fabrics by the end of the year. And our recently launched extended-size collection, Curve, also continues to perform well and we are excited about the many new customers we are tracking with this assortment. Princess Polly remains an industry leader in marketing efficiency due to their expertise optimizing across social media, paid performance, in-house and emerging marketing channels. Our micro-influencer strategy continues to be a differentiator and a critical part of our growth. We execute more than 1,000 collaborations a month across a vast and dynamic network of influencers. We are excited by the level of engagement and growth we saw on TikTok in the first quarter, with 16% growth in followers or 50,000 new followers since the start of the year. TikTok is a top priority for our brands and we will continue to improve efficiency on the platform by optimizing content and balancing across organic and paid. Princess Polly’s College Ambassador Program also continues to exceed our expectations with over 1,000 new weekly ambassador sign-ups. We held several successful campus events at top universities in the first quarter, which drew large crowds and further bolsters our confidence in this strategy. Princess Polly is constantly testing new platforms and new tactics to ensure we are always in front of customers wherever they go, whether on dating apps, streaming services, gaming platforms or elsewhere. Today’s Gen Z and millennial audience is constantly shifting between platforms and migrating to new ones and we are committed to staying ahead of them. As we discussed on last quarter’s call, reaching customers via text message marketing also continues to be a key priority. This important in-house marketing channel delivers a 16x return on spend and we grew our text message subscribers by approximately 20% since last quarter. Across social media, paid performance and in-house channels, we actively manage over 20 marketing platforms, which allows us to be flexible, gain new customers, and optimize our marketing efficiency. On the customer experience front, Princess Polly’s loyalty program continues to outperform expectations with the average spend for loyalty customers being 45% higher than non-loyalty customers. And we are excited to add a new base tier to opt in all customers to the rewards program later this year and anticipate this will drive further engagement in this segment. Princess Polly is also developing personalization capabilities to enhance customer relevance even further. For example, in the first quarter, Princess Polly pilot-tested a dedicated Curve home page, which targets shoppers who engage with extended-size content. We saw conversion rates more than triple when prospective Curve customers were redirected to the Curve landing page. We are just scratching the surface with personalization and are excited to expand this capability in the coming quarters. We also continue to execute on our international plans, primarily in the UK. We are very excited by the continued momentum and potential for Princess Polly worldwide. Moving to Culture Kings, the brand performed as expected given the impact of Omicron and supply chain cancellations that we discussed last quarter. We were very pleased to see traffic sequentially improve throughout the quarter, especially in stores, as COVID cases have come down from peak levels. Unique amongst our brands, Culture Kings has 8 stores that put on incredible live events, many with celebrity appearances. These live events are key to the Culture Kings business model, because they drive engagement, energy, and hype in our stores and generate great content that we amplify out on our digital properties and social media. And after nearly a 2-year pause on live in-store events, we were thrilled to welcome back events and celebrities in our stores, starting with an appearance by DJ Steve Aoki during the first quarter. And we look forward to welcoming Shaq and other iconic celebrities to our Culture Kings stores in Australia in the coming months. We are particularly excited to be opening our first U.S. flagship store in a premier location in Las Vegas, which is on track to open by year end. Culture Kings will leverage their unique and highly experiential store format, live in-store events and an assortment of global brands and Culture Kings’ world-exclusive streetwear brands to drive traffic to the Vegas store. We believe this incredible flagship concept will generate buzz on social media and be a key building block to drive growth in the U.S. To-date, we are excited to have approximately 40 confirmed highly recognized brands slated for the Vegas store and are actively lining up in-store celebrity events. I look forward to sharing additional details as we get closer to the opening. We are confident that the store opening will be a key awareness accelerator for Culture Kings in the U.S. Our Culture Kings in-house brands and print on-demand merchandise represents the majority of our assortment and growth and continues to exceed our expectations. These exclusive merchandise segments are the fastest growing and our key competitive differentiators in streetwear fashion. As a reminder, the print on-demand capability enables us to quickly jump on top culture trends and license designs to print on tees and hoodies to produce new merchandise for customers within days. This allows us to quickly test trends and scale printing production only as needed, keeping our inventory efficient and our gross margins high. With the acquisition of our new facility outside of L.A., we are doubling down on this capability and have already seen great results. Some recent successful print on-demand collaborations include popular throwbacks and latest trends such as Squid Games, Dennis Rodman, Naruto, Attack on Titan, and the return of 90s TV hits like Teenage Mutant Ninja Turtles and Bel-Air. While Culture Kings’ strategy is focused on exclusive in-house brands, third-party brands helped to strategically build credibility within the streetwear category. We have a broad range of over 200 brands. And while third-party brands make up less than half of the Culture Kings’ volume, as discussed last quarter, we have seen order cancellations and supply chain impact on some third-party brands, which disproportionately impact the Australian business. As a reminder, we expect this to be a $10 million impact to sales in the first half and a $10 million impact in the back half. We remain confident in our ability to navigate these challenges, especially as our in-house Culture Kings exclusive brands continue to drive the majority of our growth. We are confident about the long-term and global potential of this incredible brand and are excited to expand Culture Kings’ presence in the U.S. and internationally. Culture Kings brings together fashion, music, culture, and lifestyle unlike anyone else in streetwear and combines this with a powerful and unique experiential store format. We can’t wait to launch our store and introduce more U.S. customers to this brand and see it grow for years to come. Turning next to Petal & Pup, our fastest growing brand in the U.S. this quarter, the acceleration in growth curve at Petal & Pup is further proof of our model and gives us complete confidence that we can replicate the same success scaling the brand as we did with Princess Polly. Petal & Pup was well-positioned to meet the changing fashion trends in the U.S. as customers returned to social events. As we noted last quarter, 2022 is set to be the largest wedding year in nearly 40 years and Petal & Pup is well-positioned with wedding guest dresses, vacations, and date-night collections, which all grew at 2x their overall growth rate in the first quarter. Petal & Pup’s strategy of strong seasonal focus, test and repeat buying and a growing mix of exclusive product is working, as evidenced by an 80% increase in customer repeat rate for the first quarter compared to the first quarter last year. Petal & Pup is just getting started on increasing the penetration of exclusives and we are excited to launch 6 new exclusive capsules in the second quarter. We continue to see great success with our micro-influencer strategy in terms of new customer acquisition and conversion. During the quarter, Petal & Pup more than doubled the number of influencer collaborations and we are excited for an upcoming collab with top Australian influencer, Georgie Stevenson, which we believe will meaningfully drive engagement and excitement. Petal & Pup is also expanding marketing efforts to new channels with a heavier focus on TikTok and Pinterest. We have seen particularly strong growth in TikTok with followers growing nearly 5x over last year. Turning to Mnml. Mnml had a solid first quarter, driven by sales in denim and bottoms, a strong core competency of the brand. Mnml has already benefited from both the a.k.a. platform as well as learning from our other brands in the brief 6 months post acquisition. We helped Mnml transition to an a.k.a. preferred fulfillment provider in April, which increased operational efficiencies, lower costs, and importantly, improved experience and the lead time to customers. And the team is already leveraging the shared knowledge from the a.k.a. platform to develop new merchandising strategies, recruit and onboard talent, and launch new customer acquisition channels. As mentioned on our last call, Mnml is launching on Culture King’s Australia website in the second quarter, and we look forward to scaling this great brand, both on the Mnml site as well as the Culture Kings site and stores. We are also pleased with the Rebdolls first quarter performance and strong sales growth. Rebdolls has an exciting collaboration dropping in June with notable influencer Denise Mercedes, which will be a great brand awareness builder. Rebdolls continues to both benefit from the a.k.a. platform synergies and learnings from our other brands, such as focusing on organic TikTok content, which led to a triple-digit boost in TikTok engagement in the first quarter. Turning briefly to our operations the global environment remains challenging with continued elevated airfreight costs, supply chain disruption, and inflationary pressures. We’ve been able to mitigate these challenges with our strong relationships across a diversified vendor base and our flexible business model. Additionally, we have been able to raise prices without impacting demand, which is a testament to the pricing power of our brands and the importance of our exclusive merchandising strategy. Ciaran will discuss our first quarter performance and guidance in more detail shortly, but we remain confident in our full year outlook. While we anticipate a softer second quarter as we lap monumental growth in the same period last year, we believe the fundamentals of our business remain strong, and we are well positioned for the back half. We are very excited to accelerate the growth of Culture Kings in the U.S. with the opening of the distribution center, which is on track for the second quarter, and the opening of the Vegas store in the fourth quarter. Princess Polly continues to build awareness in the U.S., and we are positioned better than ever for the back half or the back-to-college season with our ambassador program. And at the same time, we will continue to execute our scaling playbook for all our other brands. In summary, our first quarter performance exceeded our expectations and reaffirms our confidence in our competitive advantage, our powerful business model, and our strong brands. I recently spent time at several of our brand offices, and I’m more confident than ever that we have the best next-gen talent on our team. They are energized, engaged, and will truly take our brands to the next level of growth. Beyond our expansion in the U.S., we continue to see massive opportunity for organic growth in international markets, and we have a robust pipeline of direct-to-consumer fashion brands to add to our portfolio when the time is right. I’m excited for the quarters and years ahead and look forward to executing our strategy. With that, I’ll turn the call over to Ciaran.

Thank you, Jill, and good afternoon, everyone. We are pleased to have delivered sales and adjusted EBITDA above our expectations in the first quarter despite the ongoing macro challenges. Our strong performance can be attributed to the flexibility of our business model and the strength of our brands. For the first quarter, net sales grew 116% to $148 million as compared to $69 million last year. On a constant-currency basis, net sales rose 121%. Adjusting for the inclusion of Culture Kings in the prior year, our pro forma net sales increased 24%. Pro forma average order value decreased 6% to $83 compared to the prior year, mostly due to lower FX rates. The total number of orders increased 29% to $1.8 million compared to the prior year on a pro forma basis. For the quarter, active customers during the trailing 12 months grew 46% on a pro forma basis to $3.8 million compared to last year and grew $120,000 on a sequential basis. The strong growth across both orders and active customers reflects the continued momentum in our brands, as well as the success of our business model. Now I will provide a few highlights from our three key regions, including on a pro forma basis, again, assuming Culture Kings within last year’s results. First quarter net sales in the U.S. increased $78 million, up 81% from the first quarter last year and increased 54% on a pro forma basis. Our largest brand, Princess Polly, continues to be the primary driver of our growth in the U.S. as we continue to build brand awareness. As Jill mentioned, we are seeing the benefits of our platform through the continued growth of Princess Polly, and we remain pleased with the performance across all five of our brands. Australian net sales grew 173% to $52 million from $19 million in the prior year. With the inclusion of Culture Kings, net sales decreased 6% on a pro forma basis. The 6% decline was primarily driven by changes to the FX rate. In terms of supply chain cancellations, as discussed in our last call, we anticipated a $10 million impact to sales in the first half. We saw $2 million of this impact in the first quarter, driven primarily by cancellations coming out of Vietnam impacting Culture Kings in Australia. And overall, we saw effects of the COVID-related sales slowdown with the surge in the Omicron variant, as previously discussed. Turning to rest of world, net sales of $19 million increased 30% from the first quarter in the prior year on a pro forma basis, which was impacted by the Omicron surge in New Zealand, where there was a similar consumer reaction of Australia. Moving to profitability, our gross profit for the first quarter increased 107% to $84 million. Our gross margin rate was 56.8% as compared to 59% in the same period last year and was better than expected. The 220 basis point decline in gross margin rate was largely the result of higher air freight, which had a 360 basis point impact; and the inclusion of Culture Kings due to lower-margin, third-party product assortment, which had a 240 basis point impact. These factors were partially offset by targeted price increases as we remain committed to maintain our strong gross margins. Selling expenses in the quarter were $40 million, compared to $18 million in the prior year. The increase in selling expenses during the quarter was due to the increase in the number of orders shipped, as well as the inclusion of Culture Kings and Mnml. As a percentage of sales, selling expense deleveraged by 70 basis points to 27.2%, compared to 26.5% in the first quarter of 2021. Marketing expense increased to $16 million from $6 million. As a percentage of sales, marketing expense was 10.6%, a 160-basis-point increase compared to the first quarter of 2021. This increase was primarily due to Culture Kings’ higher level of advertising spend and an increase in Princess Polly’s marketing spend. As Jill mentioned, we continue to balance our investments in performance and influencer marketing to reach our customers in the most efficient way. Our G&A expense of $25 million increased from $13 million in the prior year. The increase in G&A expense was primarily due to the inclusion of Culture Kings and Mnml. Additionally, there was an increase in salaries and related benefits and equity-based compensation expense relates to increases in headcount across functions to support business growth, as well as additional insurance and professional service fees. This was partially offset by a decrease in transaction costs. As a result – as a percentage of sales, G&A was 16.7% as compared to 19.5% in the same period last year. For the quarter, adjusted EBITDA was $11 million versus $8 million in the prior year. As a percentage of sales, our adjusted EBITDA margin of 7.2%, compared to 12.1% in the prior year first quarter, which exceeded our expectations. Our net income attributable to a.k.a. for the quarter was $1.5 million or $0.01 per share, compared to $1.5 million or $0.02 per share in the prior year. On an adjusted basis, our net income attributable to a.k.a. was $2 million or $0.02 per share. Our weighted average shares outstanding were approximately $128.7 million for the first quarter of 2022. Turning to the balance sheet, we ended the quarter with $41 million in cash and cash equivalents and $133 million in debt. At the end of the quarter, we had total liquidity of $66 million, including $25 million available on our credit facility. Inventory at the end of the quarter was $121 million, compared to $87 million at the end of the first quarter of 2021. Turning to our outlook, for the full year, we are reaffirming our guidance with net sales expected to be in the range of $785 million to $805 million. We remain pleased with the strong demand for our brands in the U.S. market, as evidenced by our strong sales growth. On the top line, we are coming up against exceptional growth in the second quarter of last year in both the U.S. and Australia. Pro forma net sales grew 85% in the first half of last year. In the second half of 2021, our net sales growth was 44% on a pro forma basis, so we are lapping less robust growth as we move throughout the year. As a result, we continue to anticipate that growth in the back half of the year will be much stronger than the front half of the year. In addition to compares easing in the back half, we also anticipate improvements in sales trends in Australia. For the year, adjusted EBITDA is expected to be in the range of $90 million to $100 million. We expect weighted average diluted share count of $128.8 million for the full year and $128.7 million for the second quarter. Capital expenditures are expected to be between $18 million to $20 million for the full year. For the second quarter, we expect net sales to be in the range of $173 million to $177 million. In addition to lapping extremely strong growth in the second quarter of last year with the U.S. reopening, we were up against an unfavorable FX impact of 7%, which equates to an additional $3 million headwind compared to what we saw in the first quarter. In terms of supply chain cancellations from third-party brands, we continue to anticipate $10 million impact to sales in the front half and $10 million in the back half. We saw $2 million of this impact in the first quarter and anticipate the balance of $8 million impact in the second quarter. We expect gross profit margin in the second quarter to be impacted by the continued elevated freight costs and slightly higher promotional activity, partially offset by continued price increases. For the second quarter, we expect adjusted EBITDA to be in the range of $16 million to $17 million. We remain bullish on the continued momentum of our brands and the opportunities to drive market share gains as we manage through the current macro challenges. We expect a much stronger back half of the year as a result of lapping slower comparable growth in the second half of 2021. Our strong inventory position, Princess Polly’s continued momentum in the U.S., and our team’s progress on executing Culture Kings’ growth strategy, as we look beyond 2022, we remain confident in our ability to deliver on our long-term targets, which include net sales growth of approximately 20% annually, excluding acquisitions; the addition of one to two acquisitions per year; and long-term adjusted EBITDA margins in the mid-teens. With that, I will turn the call over to the operator for Q&A.

[Operator instructions] Our first question comes from the line of Randy Konik with Jefferies. You may proceed with your question.

Yes. Thanks, guys, and good afternoon. I just wanted to get the commentary around the slight rise in promotional expectations. Is that more of a function of supply chain because you talked about – in the other part of the sentence, you talked about pricing power or price increases, if you will? So I just want to kind of clarify what you’re saying there because I think it feels like the demand side across all the brands is pretty firm, and the consumers still kind of [indiscernible]. So I just wanted to double-check on that first. Thanks.

Yes. Hey, Randy, thanks for your question. So we have seen just a little bit of increase in promotional activity as everyone is comping last year’s incredible growth and momentum in the front half up against stimulus vaccine rollouts and the reopening. Look, we are very committed to being very efficient with our marketing spend and across 20 different marketing channels as well. Our brands are selling at a really strong full price sell-through of over 80%, and we have quite a bit of pricing power to really continue to increase prices, as needed, to offset any inflationary pressure. But we are committed to our strategy of being really efficient with our marketing spend.

Yes. And maybe, Randy, just to – on gross margins, we kind of – we did a 56% for Q1. We would expect it to be pretty close to that for Q2. I think we expect gross margins to improve slightly in the back half to get to that kind of overall number at the 57% rate that we did last year, and that will really come from continued price increases. We have done some already in Q1 targeted across the brands, and we will continue to do some more in Q2.

Thank you. And then just my last question is can we just go back in time a little bit on Australia from last quarter and just kind of rehash what happened there? I think you talked about COVID stuff at that point in time. And maybe kind of talk to us about where we are today, I think you said that you expect improvements in the back half of the year and I am sure in 2023. I just want you to give us that kind of perspective on that region of the world and how you see things kind of playing out, how things are changing from only 3 months ago today and beyond? Thanks guys.

Yes. So, we have had a little bit of noise in Australia in the front half of the year. Let me break that down for you a bit. As we talked about on the last call, as the Australia market got hit with Omicron earlier in the year. They did see some consumer disruption from that. We have seen the consumer really rebound back to stores and back to regular behaviors. Even though case levels still remain a bit high in that market, we are seeing Australia really move into living with Omicron much the same way the U.S. market has. So, we have moved past that a bit. The market, though, is still a bit noisy from an FX headwind perspective, about seven points of headwind there as well. We have talked about it on the last call and today, the cancellations that we saw have fallen across H1 a little bit in Q1 and more of that anticipated in Q2. When you adjust for the FX noise and the cancellations, the Australian market is growing mid-single digits, and this is up against really high comps from last year, 70% in Q1 and 41% in Q2. As we look to the back half, we will – those comps really ease in Australia back to a 7% in Q3 and 12% in Q4, and we anticipate the Australian market really accelerating a bit to high-single digits. It is important reminder that the majority of our volume is really coming out of the U.S. now. That is our focus. We see all of our growth coming out of the U.S., and that’s really where we are focused. And as we look at our long-term growth algorithm in the ‘20s, it’s going to really be led by the U.S. with Australia more moderate single-digit growth.

Super helpful. Thanks, guys.

Our next question comes from the line of Lorraine Hutchinson with Bank of America. You may proceed with your question.

Thank you. Good afternoon. I just wanted to follow up briefly on the second quarter guidance. Is there any change in the 2Q guidance versus when you initially gave your full year outlook? And then what gives you the confidence in the back-half acceleration? Are there any signs you can point to aside from easier comparisons in the back half?

Sure. Thanks, Lorraine. First, I would say, really, for us, the changes, as we thought about the Q2 guidance compared to where we talked a few months ago, really was just the increased headwinds that we have from FX. We talked about that being 350 basis points. It’s now moved to about 700 basis points. And then the second one is we had thought cancellations would be about $5 million in Q1, $5 million in Q2, it’s now going to be $8 million in Q2. And so they are really the big changes. When we look at the sequential build that we would normally have from Q1 to Q2, I would say, excluding the kind of impact of those changes and the effects and cancellations, we are kind of – we are right where we need to be. And so kind of that’s where we are there from Q2. As we think about the back half, obviously, kind of growth rates are important, the 85% in the front half versus the 44%. Related to that, the FX headwinds that we have been seeing of the 5% in Q1 and 7% in Q2 pretty much go away for us in the back half as we are kind of – we are actualizing right now at the same rate that we were in the back half of the year. They are the big changes from a modeling perspective. I think maybe Jill will cover some of the things that are going on in the business that give us confidence as well.

Yes. Look, we are really excited about the back half as we look across our group of brands. With Culture Kings, we are setting up all of the building blocks for real acceleration in the U.S. We will get our distribution center launched in the end of Q2, which really sets us up for the back half. As well, we are really excited about the store opening in Q4 and have a great marketing activation plan that will go along with that, anticipating that to be a big accelerator of awareness and growth in the U.S. And Princess Polly is really better positioned than ever for a great back-to-college season with incredible marketing activation and their new College Ambassador Program, so really well-positioned there. And Petal & Pup also really well-positioned to capitalize on the wedding season that is anticipated to be the biggest wedding season on record. And as well, we are making progress and excited to lean further into international growth with Princess Polly, really looking to accelerate that more in the back half. And we have got Mnml launching on Culture Kings, so really excited to continue scaling that great brand on its own site, but also through Culture Kings. So, we will start to see that goodness in the back half as well.

Thank you. And then you talked about global supply chain challenges built into your guidance. Understanding there is the $10 million for Culture Kings is there anything else coming out of the COVID lockdowns in China or any further supply chain disruption that would turn the availability of the product?

Yes. Lorraine, we certainly haven’t seen any other challenges in getting products. I would say the inventory that we have, we have been able to get it. We have been able to get it when we wanted to. I would say we are planning a little bit ahead of where we have normally done, but we are well used to that kind of at this stage, 2 years into COVID. From a supply chain perspective, we are continuing to see the elevated airfreight rates that we have seen over the last six months, and that continues to be a headwind of over 300 basis points on gross margin. Although obviously with the pricing increases, we are able to offset that across the brands. We did see higher outbound air freight – or sorry, higher outbound freight costs from just fuel surcharges, particularly in the U.S. But I would say all of that is built into the model for our guidance for the rest of the year.

Our next question comes from the line of Dana Telsey with Telsey Advisory Group. You may proceed with your question.

Good afternoon, everyone. As you think about inflation, how are you thinking about price increases by brand? Where have you been? Is more price increases being taken? And what do you think that will be for each brands? And that freight impact to the $360 million in the first quarter, I assume that’s the second quarter also. How are you planning that for the back half of the year? And then just a follow-up.

Sure. Maybe let me take freight first. And that $360 million for Q1, we have got that in there for the rest of the year, Dana. At this point, we are not planning any moderation in that. The overall year-on-year impact decreases as we go through the year as we did see airfreights go up pretty significantly in Q3 and Q4 of last year.

And from an inflation standpoint, we have been able to offset that through pricing increases across our brands. Our brands have incredible pricing power due to the high mix of exclusives. So, we have been able to really surgically test and learn our way into prices that can offset that. We have executed those across our group of brands, Culture Kings earlier this year. As well as Mnml, Princess Polly, and Petal & Pup had done some at the tail end of last year. They are now looking at another wave of those. That is all factored into our outlook already. But we are very agile and now very adept at making these price changes and committed to saying our – committed to our mid-50 gross margins and being really agile to offset whatever we need to from an inflation standpoint.

Got it. And then the active customer number of 3.8 million was better than expected. Any update there in terms of what developed there, how you saw it? And then with the China lockdown and Vietnam, inventory levels of nearly $121 million. How do you think about that going forward? Thank you.

Sure. Let me cover inventory first. I think it’s – inventory for us is up about 38% year-over-year versus the sales growth of 29%. So, I would say kind of a little bit ahead from an inventory perspective, and that’s really just as we see the kind of volatility in supply chain. We are continuing to make sure we just have the right inventory and have it kind of in place for the customer. So, I think we are continuing to pull ahead there a little bit from an inventory perspective. We are also building inventory in the U.S. now for the Culture Kings fulfillment center that will open in Q2 of this year, and that also brings up a little bit. I think as we think about inventory, we should see a kind of moderate growth rate versus sales growth rate in the back half as we kind of balance out from building out that fulfillment center.

And Dana, let me pick up on a couple of other aspects of your question with regard to any China lockdown impact, not seeing any significant impacts from that. We have had a weak delay here or there. But on our business model, that hasn’t really caused any net impact to us. And we have been actually able to navigate that now for the last couple of years. Those have been sort of ongoing, off-going weeks or so delay. Vietnam, though, you asked about that is where we have had some of the footwear cancellations that are factored into the model that Ciaran spoke about earlier. Also you asked about active customers. We have seen incredible momentum and growth really led by U.S. awareness expansion and really largely on Princess Polly. We were really proud of the Piper Sandler results and that Princess Polly just continues to be gaining ground and awareness with its young teen audience and just have great brands that customers love and continuing to gain market share and awareness as we continue to scale them in the U.S. So, anticipate active customers continuing to grow in the U.S. and then also internationally as we push further along on that as well.

Thank you.

Our next question comes from the line of Oliver Chen with Cowen & Company. You may proceed with your question.

Hi, Jill and Ciaran. Good afternoon. Marketing expenses, so they increased due to testing new marketing opportunities. Can you elaborate on what you did there and also what you are seeing ahead with acquisition costs and the IDFA navigation. Second question, dual hemisphere is a unique proposition of your business model. Would love your thoughts on how that’s synergizing and what kind of strategies are being employed with respect to that and given all the volatility that we are seeing. Thank you.

Yes. Hey, Oliver, thanks for the question. We obviously have a very efficient marketing strategy that is optimizing across a number of platforms. The marketing landscape is very dynamic, and it continues to evolve across performance, social media, and the influencer landscape. And we are playing across all of those. We have seen a little bit of shift. On the performance side, we actually saw prices come down a bit from Q4 into Q1. And then on the opposite side, we have actually seen a little inflationary pressure or just some pricing increases in the influencer space, but we are really committed to our micro influencer strategy and overall see that as still really a very efficient acquisition channel for us. And as we delve further into that and rolling out our college ambassador program, we are continuing to find really great new sources of influencers to continue to add and very focused on efficiency there. Overall, it’s just a good reminder. Our brands are just constantly out there innovating across all of the marketing platforms. We really like to get out ahead of others and ahead before critical mass hits the platform. We have been testing and learning on TikTok for some time now, really tuning our content and getting that balance of organic and paid just right. So, this is our really diversified marketing strategy and innovative being out ahead of others really gives us that efficient marketing spend and has insulated a bit from the impacts of iOS changes. We saw a little bit of impact from it but a lot less than others because of our marketing strategy. On our dual hemisphere, we really saw a lot of advantage of that as we were moving through the impact of COVID. We have been able to shift marketing spend between the hemispheres as we saw one market stronger than another, let’s say, during Omicron. We have also been able to use our dual-hemisphere advantage with inventory optimization, shipping between the hemispheres. And as well, we are able to monitor and leverage trends and seasonal being out ahead of six months ahead on the seasonal curve. So, we are using those every day in our business model, and that just continues to be a really unique competitive advantage that we have.

Thank you. Last question, return rates and what’s incorporated in your guidance in terms of what you are seeing? Has that stabilized and/or which we know about with the banners and/or product mix as that is quite contingent upon how that manifests overall? Thank you.

Yes. So, from a guidance perspective, we have mid-teens in there through the rest of the year. Oliver, we did see our return rate at 16% in Q1, and that’s a little bit just our women’s brands growing a bit faster than Culture Kings, in particular. So, we would expect that to kind of stabilize back below or kind of at 15% in Q2 and as we go through the rest of the year. I think we have seen across the brands that we still have kind of best-in-class return rates across all of the brands. The brands continue to make customer improvements to the product, to the experience to lower our return rate and keep it down at that level. And we have seen some changes just kind of as we go through from the seasonal aspect with mix changes. But overall, we are committed to being at that mid-teens return rate.

Thank you. Best regards.

Our next question comes from the line of Ike Boruchow with Wells Fargo. You may proceed with your question.

Thanks. Hi everyone. This is Jesse Sobelson on for Ike. First, we just – we did some math on pro forma growth, including Culture Kings versus organic. We are estimating the Mnml contributed about $14.5 million in revenue in the quarter. Is that correct? And then adding on to that, what should we expect from this brand going forward for the rest of the year?

Hey, Jesse. We actually disclosed in our 10-Q that the revenue for Mnml was about $10 million for the quarter, so – and we will be disclosing that through the rest of the year of the Mnml and the Culture Kings revenue. So, you will be able to model that more accurately. We would expect it to be kind of at that volume or a little bit higher as we go through the year, and they are seasonally strong in Q3 and Q4, and that will continue to build through the year.

Thank you.

Our next question comes from the line of Youssef Squali with Truist. You may proceed with your question.

Hey, this is Daniel on for Youssef. Just wondering if you could comment on the capital allocation strategy and M&A pipeline, just if it’s changed at all in the last few months given the market environment. Thanks.

Yes. Go ahead, Jill.

Yes. So, from an M&A perspective, we are just – I would say, broadly speaking, we are constantly shopping for great brands with great potential to add to the portfolio. M&A is an opportunistic game and a long game. You have got to build relationships. It’s not something you can kind of start and stop. We are really excited about some of the brands we have been talking to in our pipeline. That said, valuations are coming down a bit and moderating. The private markets are following a bit the public markets, and we are excited and committed to adding a high potential brand when the timing is right. And I will let Ciaran comment on that, the capital allocation.

Yes. So, at the moment, our leverage is about 1.4 at the end of March. I think as we have talked about, we would be happy for it to be higher than that if we see the opportunity to get the right acquisition, as Jill talked about. So, there is more than enough potential there to take on more debt and leverage up using the existing EBITDA that we have. Obviously, that will go first to the continued growth of the brands that we have, and we are obviously spending some capital this year on the store in Vegas for Culture Kings. But after that, acquisitions are a key part of our strategy.

Thanks.

Ladies and gentlemen, we have reached the end of today’s question-and-answer session. I would like to turn this call back over to Ms. Jill Ramsey for closing remarks.

Yes. Hey, thanks everyone so much for joining our call today and have a great rest of your evening.

This concludes today’s conference. You may disconnect your lines at this time. Thank you for your participation. Enjoy rest of your day.