Aterian, Inc. (ATER) Q3 2019 Earnings Report, Transcript and Summary

Good afternoon ladies and gentleman and welcome to the Mohawk Group Holdings Q3 earnings report conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions]. I would now like to turn the conference over to your host, Mr. Ilya Grozovsky. Please go ahead.

Thank you for joining us today to discuss Mohawk's third quarter 2019 earning results. On today's call are Yaniv Sarig, Co-Founder and CEO and Fabrice Hamaide, Chief Financial Officer. A copy of today's press release is available on the Investor Relations section of Mohawk's website at mohawkgp.com. I would like to remind you that certain statements we will make in this presentation are forward-looking statements and these forward-looking statements reflect Mohawk's judgment and analysis only as of today and actual results may differ materially from current expectations based on a number of factors affecting Mohawk's business. Accordingly, you should not place undue reliance on these forward-looking statements. For a more thorough discussion of the risks and uncertainties associated with the forward-looking statements to be made in this conference call and webcast, we refer you to the disclaimer regarding forward-looking statements that is included in our third quarter 2019 earnings release as well as our filings with the SEC. We do not undertake any obligation to update or alter any forward-looking statements whether as a result of new information, future events or otherwise. In addition, the company may refer to certain non-GAAP metrics on this call. Explanation of these metrics can be found in the earnings release filed earlier today. With that, I will turn the call over to Yaniv.

Thanks Ilya and thanks everyone for joining us today. I will begin today's call by reviewing the highlights of our third quarter results followed by further explanation of Mohawk's differentiated business model and then I will briefly discuss our long-term growth opportunity. Fabrice will then review our financial results and a few items related to our outlook in more detail. We once again grew at a rapid pace as third quarter revenue increased approximately 65% to $40.6 million from $24.7 million a year ago. Strong growth of our existing product portfolio in our direct channel combined with contributions from our successful product launches in the second half of 2018 and in 2019 fueled our topline performance. At the same time, adjusted EBITDA improved to a loss of $2.7 million from a loss of $4.5 million in the third quarter of 2018 driven primarily by significant fixed cost leverage and more efficient product fulfillment. During the third quarter, we launched three new products including our portable washing machine and laundry dryer. We remain on track to launch 20 new products in the back half of the year for a total of 31 in 2019 compared to 11 in 2018. Fabrice will go into more detail about the timing and financial impact of our Q4 product launches in a moment. At Mohawk, we are building the CPG company of the future to provide tech-enabled business model driven by data, automation and artificial intelligence. Our third quarter and year-to-date results underscore the progress we are making disrupting an industry that has been slow to adapt the changes in consumer purchasing behavior. For those new to the Mohawk story, let me spend a few minutes reviewing the key the elements of our unique business. Our proprietary technology analyzes massive amounts of data and automates various aspects of e-commerce, namely rapidly identifying new product market opportunity, managing fulfillment and executing sales and marketing strategies. We call our proprietary software platform AIMEE. What is traditionally an 18 to 24 months go-to-market cycle for incumbent CPG companies, Mohawk executes in approximately a third of that time due to AIMEE's data driven opportunity and trend tracking capabilities combined with our agile sourcing, quality and logistics organizations. Each of the products we launch under our portfolio of owned and operated brands, typically goes through four phases, procurement, launch, sustain, products that are dominant under what's called the milk phase and those who do not succeed move to liquidate. Our goal is for every product we launch to transition to the sustain phase and become profitable within approximately three months post launch. I am happy to report that after several years of refining AIMEE, based on our early learnings, approximately 80% of product launches over the last 12 months have reached the sustained phase in approximately three months on average. What makes our business model so compelling as compared to traditional CPG company is that AIMEE's automation allows us to manage a growing number of products without having to meaningfully increase costs, specifically headcount. Looking ahead, we are on track to a busy finish to the year with 17 new products launching over the course of the fourth quarter. Long term, we believe we have multiple opportunities to drive sustained growth and to improve profitability. Those include increasing our product launch capacity, further optimizing unit economics on our existing product portfolio, expanding into new domestic and international marketplaces, pursuing SaaS partnerships and opportunistically adding new products and categories through acquisition. We are pleased with the recent progress we have made on a number of these fronts. Specific to increasing our new product launch capacity, we have been investing in people and resources, primarily in areas such as quality control and product procurement in order to provide seller [indiscernible]. As I said earlier, we are on pace to launch approximately 31 products this year and we are aiming to approximately double that number in 2020 while continuing to optimize for growth and pathway to profitability. In terms of M&A, in September, we purchased the assets of Aussie Health, a personal wellness company, for $1.3 million. Based on strong ratings and positive reviews of its product portfolio, AIMEE helped us validate Aussie Health as an attractive acquisition candidate. Upon further due diligence, it was determined that the quality and financial profile of Aussie Health product met our internal thresholds and we could easily integrate the business with our advanced tech platform. We added no headcount as part of the acquisition, which is consistent with our strategic approach to acquisitions. With worldwide e-commerce now is projected to increase from $2.8 trillion in 2018 to $4.5 trillion by 2021, we continue to believe our future growth prospect as significant. We believe our proprietary technology, strong supply relationships and advanced fulfillment capabilities has Mohawk well-positioned to profitably capitalize on the numerous opportunities ahead and generate increased value for our shareholders. With that, I will hand it over to Fabrice.

Thanks Yaniv and good afternoon everyone. I will begin by reviewing the details of our third quarter results. For the third quarter of 2019, net revenue increased 64.6% to $40.6 million from $24.7 million in the year ago period. The increase was primarily attributable to increased direct sales volume of $15.6 million or 63.9%, from growth of existing products as well as new products launched in 2019 and late 2018. Gross margin for the third quarter improved 100 basis points from a year ago to 43.2% and were up 450 basis points on a sequential basis. Our margins were impacted by a number of factors including a lower number of new product launches in the quarter as compared to Q2 2019, our decision to lower product prices on a number of our environmental appliances as we now benefit from the full effect of our direct fulfillment platform allowing us to reinvest the benefits in part in price competitiveness and keeping the remainder for improved contribution margin, accrual reversals and new accruals associated with our recall program that is materially complete, a governmental agency penalty associated with certain non-core products and a charge due to the liquidation of certain older products that we have discontinued which positively impacted third quarter 2019 gross margins by $800,000. Excluding these one-time items, our gross margin for the quarter would have been 41.2% as compared to 38.7% in the second quarter of 2019. Turning to expenses. It is important to note that a large driver of the increase in total operating expenses on a year-over-year basis was a $7.6 million increase in non-cash stock-based compensation expense related to restricted stock and options granted during December 2018 as well as in the first half of 2019. Excluding non-cash stock-based compensation, operating expenses as a percentage of net revenue improved 1,150 basis points to 49.8% from 60.7% in the same period last year. The significant improvement in operating expense leverage highlights our ability to launch new products and grow revenue while keeping fixed costs essentially flat, thanks to the high degree of automation in our business model. The remainder of my expense review excludes stock-based compensation expense. For the third quarter, sales and distribution expenses as a percentage of net revenue decreased to 38.6% from 46.8% in the prior year period. The improvement is attributable to the higher percentage of sales fulfilled through our third-party logistics partners versus e-commerce platform service providers combined with a platform effect of growing sales while keeping fixed cost relatively flat. Contribution margin continued to improve for the third quarter of 2019 at $3.2 million compared to $0.3 million in the third quarter of 2018 and $1.7 million in the second quarter of 2019, reflecting both the increased revenue and improved unit economics. With respect to other expenses, research and development expenses increased $0.5 million to $1.3 million due to an increase in the number of developers to support growth, while general and administrative expenses increased $0.7 million to $3.4 million due primarily to costs associated with being a publicly listed company. Net loss for the third quarter of 2019 was negative $11.3 million compared to negative $5.1 million in the third quarter of 2018 and $7.6 million in second quarter of 2019. Excluding non-cash stock-based compensation, third quarter 2019 net loss was $3.6 million. Adjusted EBITDA for the third quarter of 2019 improved to a loss of $2.7 million from $3.7 million loss in the second quarter of 2019 and $5.6 million loss in the first quarter of 2019. This is the results of growing sales, lower variable costs resulting in improved unit economics and flat fixed costs in line with our model. Adjusting for the one-time items mentioned earlier in gross margin, adjusted EBITDA for the period would have been a loss of $3.5 million as compared to a loss of $4.3 million in the second quarter of 2019 and a loss of $6.3 million in the first quarter of 2019 while adjusting those earlier quarters for a full quarter's worth of costs for our public company D&O insurance for comparability purposes. Turning to the balance sheet. As of September 30, 2019, we had cash of $35.7 million compared with $39.5 million as of June 30, 2019. During the third quarter, we acquired the assets of Aussie Health for $1.3 million. We used $1.1 million in cash and a $0.2 million promissory note to fund the purchase. On a trailing 12-month basis, as of September 30, 2019, Aussie Health revenue was $2.2 million, with operating income of $0.4 million. As Yaniv noted, no headcount was added in connection with this acquisition. Cash provided by operating activities for the third quarter was $3.1 million compared to cash used in operating activities of $4.4 million in the second quarter of 2019 and our overall cash burn improved to $2.4 million compared to $4.3 million in the prior quarter. Our total debt at September 30, 2019 was $30.1 million consisting of borrowings under our revolving credit facility and our $15 million term loan. This compares to total debt of $35.4 million at the end of the second quarter 2019. The combination of total cash used of $3.8 million including the $1.1 million spent on acquisition and despite a lowering of the debt level while revenue growth is strong highlights the strong cash cycle structure implemented and allowing the company to grow quickly without burning cash at working capital level. With respect to the remainder of 2019, we are on track to achieve our target of 20 new product launches during the second half of the year, subject to the ordinary course of reliability of importing goods from overseas. To ensure all of our new products meet our high quality standards, we made the decision to move the majority of our back half launches to late in the fourth quarter. Though delaying the revenue recognition by a quarter, we believe it will provide for high success ratio as quality is paramount. Providing best value at the best possible quality is at the core of our business model and value proposition and we will continue to prioritize great quality. Having bolstered our product sourcing and QA/QC competencies over the course of this year, we are confidence that we can continue to accelerate our new product launches in 2020 and believe that we can double our new product output in 2020 as compared with the 30-plus products launched in 2019. On the SaaS front, considering the nascent nature that market segment, we do not plan on any significant increase of revenue yet. With that I will turn it back to the operator to open the call for your questions.

[Operator Instructions]. Your fist question comes from the line of Dave King from ROTH Capital. Your line is open.

Thanks. Good afternoon guys or evening. So maybe first off on the Q4 product launches you have planned. How many of those have you launched as of November 5, as we sit here today? And then, are these big-ticket items or small ones? And then, given that they are going to be coming in late Q4, when should we start to anticipate them contributing to revenues? Is that sort of a Q1 timeframe or is that a little bit later in the year? Thanks.

Fabrice, you want to take this or should I do it?

Yes. Sure. So to-date, in the Q4 launches or in the half, we have launched, I think, a total of seven products as of today. The rest will be further late November and in December. They all are roughly about the same size on average that we try to actually go after, $1.5 million or so, more or less analyzed sales products. In the quarter in which you launch products, as you know, you don't get to the sustained run rate of sales over the significant, their run rate sales will start actually impacting some of them for the ones that were launched through me now in a little bit towards that would be maybe in December will actually hit some run rate though of course the December month is highly impacted by the Christmas sales and lot of products that we launch are not necessarily Christmas gifts. So that may temporarily shift spending from consumers. But otherwise, they will build their run rate in Q1. And the ones that are launched December will, per our launch cycle, which is, as you know, we are trying to actually hit three months on average for the launch process. That means that they will be at their full speed towards the end of Q1.

Okay. That helps. And then, on Aussie Health acquisition, congrats on getting that done. Have you put their products on AIMEE yet? And then more importantly, how should we think about the ability to ramp revenue for Aussie from the, I think you said, $2.2 million level as we progress into 2020?

Yes. Sure. Go ahead.

Sure. On the first part, you know, Aussie Health was a great example of the type of acquisitions we want to do where the data as part of the due diligence and AIMEE showed the potential long term. And then as we described earlier in the call, we basically took over the asset and didn't bring anyone from that team. What was fascinating to see is that it really was very simple to add the business on to AIMEE to add it into the portfolio of products and that's exactly why we are excited about these opportunities, right, the ability that we have to integrate that business into our portfolio using the tech and the platform that we have built without having to incur the extra headcount that comes when typically acquiring a business. From that perspective, from a purely technical perspective, that was really as we wanted to see it. In terms of thinking about the growth of these products, the portfolio is obviously mixed, right. Some of the products, I would say, are more mature than others and have more growth than others. It's not like the typical approach of taking apart from zero and getting them to sustained where we have kind of like a replicable model, right. Every one of the products in the portfolio might have a different path. In general though, we look at these products as having a very long term sustainability, proven track record in terms of social proof and in some cases in the SKUs that are part of Aussie Health portfolio, some more significant growth than others but overall the traditional growth that we see when we achieve sustained for our products is there as well.

Okay. Perfect. Well, I will step back. Thanks for taking the questions and good luck for the rest of the year.

Thank you.

Thank you Dave.

Your next question comes from the line of Brian Kinstlinger from Alliance Global Partners. Your line is open.

Hi guys. Great to see the adjusted EBITDA loss narrowing. Can you break down the revenue from SKUs you have been selling for at least a year compared to new SKUs that don't have a year-over-year comp?

So we don't provide that that level the detail, as you know. But the math is, in many ways, quite simple. We launched in the trailing four quarters some 19 products, right, 80% success rate, on average $1.5 million per and during that, of course, some of them were launched at the different periods and therefore you should account for all the six months of average revenue impact for the year for those products, right. So that would generate some $11 million or so, right, on a full-year basis, just from the launches in the Q, where you need to divide by four, of course, to get the Q level. But of course, there is seasonality levels in there. So in the $40 million-plus that we did in the quarter, approximately $8.5 million or so of the revenue came from the products that were launched in the trailing four quarters and the rest was revenue that was generated from products that we had the prior year. And in that, I am also including the products that replace newer versions, for example, rights are actually included in there.

Got it. That's helpful. Thank you. And then can talk about where you are in terms of capacity today of releasing new products, whether it's per month or per quarter versus where your goal right now is to be in 12 months?

Can you repeat the question? I am sorry.

You will take it, okay, right.

So as you heard in the call before, we are expecting to launch 20 new products in the second half of 2019 and then we are accelerating the pace to approximately 20 in the first quarter of 2020, right. Eventually, what we are targeting right now is to get to up to 30 products per quarter. And again, as we mentioned, as Fabrice mentioned on the call, it's important to always note that the timing of these launches can vary and it's really a matter of the seasonality. As you know, we adapt the product launch to the basically the bottom part of the seasonality to gain more traction at a cheaper cost of marketing. And then of course, more importantly than everything else, the quality of the products, right. We always aim to provide the best value and so therefore, if some products might be delayed to get to the best possible quality with the manufacturer, that might happen as well. But in general, we are, as I mentioned, targeting 30 products in 2020 and the investments we have made in our team on procurement and quality are aimed to do that. So we are excited about those events.

Great. And then a follow-up on the Aussie Health acquisition. Can you talk about how many SKUs they have? And then are they a market leader in most of the products they have? Or are they a lagger where you saw or AIMEE saw the opportunity to correct some of the feedback to become a market leader?

Yes. Let me take that. So in terms of market leader or not, right, what we look for is really long-term opportunities where we can create basically better scalability through AIMEE, right, with the overall optimizing the business and using the automation that we have got in place to drive the business to be more efficient, right. Particualrly, in this case, some of the SKUs are world market leaders already and had the type of quality that we expected, that we were excited about, that we thought we could takeover and manage more effectively. Some of them have great potential and are not yet market leaders and we definitely can drive more growth there. Overall, we are talking about 10 SKUs in this business. So it's a first kind of go at this and we are excited about the results we are seeing so far.

Moreover, on M&A, are you looking to buy market leaders, meaning the top two products say on Amazon? Or are you looking for products that you see, that AIMEE sees potential if some tweak or some change is made?

That's a great question. And the answer is both, right. It's always that, for us, one of the best value in these acquisitions is that the quality is already proven, right. As you know, our model is very much hands on this ability to get the customer the best value for their money and where quality is essential and you can see that through the reviews. And oftentimes, what will happen is the portfolio of a company that we target has already some products that have proven great quality and also great market share and some might have a great quality but no market share control here. And that's even more exciting because there is more growth to be driven there, right. But at the end of the day, it's about efficiency and yes, in some cases also in a varied portfolios of SKUs there will be always be a lot of opportunities to create more growth and those that might not be as optimized as we can optimize them through AIMEE.

Great. I have two more. Amazon is moving a lot more towards one-day shipping on certain products. Are any of your products seeing the need to move towards one-day shipping? And if so, how does that impact your margins? Or is that passed through to the customer?

That's a great question. So as you know, some of our products are sold through Amazon logistics but a growing number are going through own fulfillment, right. So when it comes to, obviously, the product that goes through Amazon logistics, Amazon has taken most of the burden there. But as you know, we are excited about what we have been building within AIMEE, which is our ability to create own fulfillment and grow it up to the last mile shipping. We actually believe the move to one-day shipping with our own fulfillment platform which we are working on right now, will be a huge positive impact for us in the long run. We are in the process of adding more warehouses to bring the total to nine 3PL warehouses which will cover 93% of the U.S. population and bring down the shipping cost. So we are excited about where that is going on and because we are tech-enabled, I think we are able to react more quickly to these things and gain advantage where others might see it as a challenge. So in the long-term, we see it as a very positive thing.

As a follow-up to that, how much capital is going to be required to have that many warehouses [indiscernible]?

I will answer that question, maybe Yaniv. So remember that we use a network of 3PLs. So we don't build warehouses. We don't own warehouses. So from a CapEx perspective, it's zero. It's going to increase a little bit our inventory level, of course, in order to make sure that we have minimum quantities in each of the warehouse. But again, because of the ABL line and the and the structure of our payment terms with the vendors, it should not actually use any significant cash of more to build that.

Yes. I forgot that, sorry. Last one. Can you just talk about how you prioritize revenue growth versus reaching profitability? And then, are you still expecting to achieve profitability at some point in one of the quarters next year?

So we are managing the business, as we said, taking as many of the opportunities of growth that we can because as you know we are building multiple moats one at a time by product. Within the constraint of us reaching profitability, we are still aiming and looking for a getting to profitability in the early second half of 2020. And that's the balancing of us launching as many products as we can but at the same time reaching that profitability level, which means also improving on unit economics on an ongoing basis, right. No change from that perspective.

Yes. Wonderful. Thank you.

Thank you.

So that brings us to the end of the Q&A session of this call. I will now turn the call over to management for closing remarks.

This is Yaniv. Thank you everyone for joining. We are looking forward to speaking to you again in the next quarter. Thanks everyone. Take care. Bye, bye.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.