Ladies and gentlemen, thank you for standing by, and welcome to The Honest Company's Third Quarter Fiscal 2021 Earnings Call. At this time all participants are in a listen-only mode. After the speaker’s presentation there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would now like to turn the conference over to Mr. Sung Kim, VP, Finance & Strategy at The Honest Company. Please go ahead sir.

Good afternoon, everyone. Thank you for joining us for our third quarter fiscal year 2021 conference call. Joining me today are Nick Vlahos, Chief Executive Officer; and Kelly Kennedy, Chief Financial Officer. Before we start, I would like to remind you of our legal disclaimer that we will make certain statements today that are forward-looking within the meaning of the federal securities laws, including statements about the outlook of our business and other matters referenced in our earnings release issued today. These forward-looking statements involve a number of risks and uncertainties that could cause actual results to differ materially. Please refer to our SEC filings as well as our earnings release issued today for a more detailed description of the risk factors that may affect our results. Please also note that these forward-looking statements reflect our opinions only as of the date of this call, and we undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements in light of new information or future events. Also, during this call, we may discuss non-GAAP financial measures, which adjust our GAAP results to eliminate the impact of certain items. You will find additional information regarding these non-GAAP financial measures, and a reconciliation of these non-GAAP to GAAP measures in today's financial results earnings release. A live broadcast of this call is also available on the Investor Relations section of our website at investor.honest.com. With that, I'll turn the call over to Nick.

Thanks, Sung. Good afternoon, everyone. We're excited to speak with you today. Honest is dedicated to providing safe, clean and effective products to consumers around the world. We continue to work tirelessly to drive our mission of inspiring everyone to love living consciously. As noted in our earnings release, we delivered a solid quarter with top line growth versus the third quarter of 2020 and gross margin expansion from the first half of 2021. Revenue growth was primarily driven by volume reflecting increased productivity in existing distribution and new omnichannel expansion. Honest grew market share in the quarter across our core product categories and accelerated household penetration reflective of our brand values and efficacious products that resonate strongly with consumers. Overall, we're proud of our team's contribution to our results. We delivered on our brand mission while navigating headwinds stemming from a dynamic operating environment with significant inflationary pressure and supply chain challenges. We recorded our eighth consecutive quarter of year-over-year revenue and volume growth, delivered 20% year-over-year growth in our Diapers and Wipes and Skin and Personal Care categories and improved gross margin performance by 40 basis points from the first half of the year. Our financial results demonstrate the ongoing strength of our business. Our priority continues to be executing against our strategic initiatives. We are focused on broadening awareness of our brand, introducing breakthrough innovative products and expanding our digital and retail presence. Now I'll provide an update on our progress across these initiatives in Q3 2021. Starting with marketing innovation, we continue to expand brand awareness and consumer touch points through the use of marketing campaigns, leveraging our Content Community and Commerce strategy. By inspiring authentic dialogue and creating lasting connections, we increased our household penetration to 3.5% this quarter, up over 10% as compared to…

Thank you, Nick and welcome everyone. This quarter reflects our eighth consecutive quarter of year-over-year top line growth. We also delivered consistent gross margins and EBITDA profitability performance despite a challenging macro environment including significant levels of cost inflation and supply chain disruption. This quarter's performance reflects the positive momentum of the Honest brand as well as our team's strong execution against our strategic priorities. Starting with our financial results and key drivers. Third quarter revenue totaled $83 million, a 6% increase over Q3 2020. This was 47% growth as compared to the third quarter of 2019. Combined year-over-year revenue growth in the third quarter of 2021 on the Diapers and Wipes and Skin and Personal Care businesses, which represented 96% of total revenue, was 20%. Diving into key drivers by product categories. Diapers and Wipes grew 16% as we saw strong double-digit growth across both diapers and wipes. Our Diaper business grew significantly behind the continuous adoption of our Clean Conscious Diaper innovation launched earlier in the year. Our wipes also saw strong growth, especially in the retail channel. Based on third-party data for the third quarter, our diaper consumption was up 24% and our wipes consumption was up 23% with both achieving market share gains. Skin and Personal Care grew 28%, driven by higher sales volumes within the retail channel. Omnichannel demand for our Skin and Personal Care products was driven by additional retail distribution, incremental assortment and consistent investments in our Content Community Commerce strategy. Based on third-party data for the third quarter, our personal care consumption was up 25% year-over-year, driving higher market share penetration during the quarter. Household and Wellness, which represented 4% of total revenue declined 71%. The launch of our new sanitizing and disinfecting products in Q3 of 2020 fueled Household and Wellness…

[Operator Instructions] Our first question comes from Andrea Teixeira with JPMorgan.

Thank you and thank you for taking my question. So as we think about like the -- and I appreciate Kelly all the background information on the guidance. Not a formal guidance, but in terms of like how we should be thinking at the components. How you're seeing like you said double-digits for Diapers and Wipes? You also said for the beauty continued strength with this restaging. Should we be thinking therefore of a high single -- low double-digit top line growth for the year? I think that's kind of like where we can at least a low double-digit growth in the fourth quarter, which leads to about high single for the year? And then how we should be expecting as you commented that it seems that like the -- pretty much the inventory levels at retail have been normalized within the diapers and the category and you're gaining a lot of share. Do you see that continue? And how you see the responses in passing on some of the price of the cost increases that you suffered into the next fiscal year?

Yes. I'll start just -- we're not giving specific full-year guidance. But given that there's been no change kind of the overall trend that kind of we're guiding to would be consistent to what we had in the last call. So, no change at all to the full year outlook. I mean, certainly we like where the business is trending. You'll have noted that we grew 20% in Q3 combined between Diapers and Wipes and Personal Care. And certainly, currently in the business, we're trending double-digit growth as you've seen in consumption data between Diapers, Wipes as well as our Personal Care. Regarding your second question, we have seen really strong acceleration in the Diapers and Wipes. We feel we've got a really strong traction through the launch of the Clean Conscious Diaper. But as well a lot of our marketing kind of innovation influencer campaigns and general kind of traction that we're getting overall with the brand, we think has created some kind of continued positive trending above what historically has been more of a single-digit growth. We've seen stronger growth there than what we've seen historically. And one of the things certainly we're keeping our eye on very closely are birth rates and there are some early indications that there is that trend may be changing slightly. But clearly, the story behind our consumption growth within diapers and wipes and our ability to increase market share and household and penetration has been the overall growth in the category, which is the natural category outpacing in total. For the quarter, our diapers as we highlighted the category was 14%. Our consumption in the 12 weeks ending 10/3 was 24%. So between diapers consistent with our wipes and our personal care, we are well outpacing double what we're seeing overall with the category. Your last question was about price. Or did you have a follow-up?

Yes. No, that's super helpful. And I think the guidance kind of implies a 35% to 35.5% if I understood it correctly for gross margin for the year. That would place you if my math is correct that you're going to have an expansion in the fourth quarter. And I understand that the costovation kicks in and you have more of the beauty coming in in the fourth quarter. Is that the way -- it implies a pretty nice uptick vis-à-vis last year? And that's the way it's probably the mix impact that we should aware of that will help you despite all these cost pressures?

Yes. I -- we are -- when you think about our year-to-date versus what we're guiding for the margin that is below where we are year-to-date. So the year-to-date we're at 35.6 -- 35.6%. And we're guiding to 35.0% to 35.5%. And that the reason for that is that we are seeing some additional headwinds versus what we talked about a quarter ago. And those come in further cost increases in transportation, particularly ocean freight which impacts our Wipes business. We talked a little in the call about the price promotion which we're seeing a lot of support to grow demand in sanitizing and disinfecting. And you'll see us as well, really promoting to kind of build that business. And then, we have also seen some price -- limited price increases from our contract manufacturers as they're passing a few cost increases that they're seeing. And that would come in areas such as packaging as resin prices have increased and their own transportation costs of their components that are coming in. So we're actually saying that we're seeing some additional headwinds in margin versus what we saw and talked about in the Q2 call to the tune now that we've got about 35% to 35.5%. And when you go into your model you'll see that that actually kind of creates a pretty wide range for Q4. But the top end to the range would be kind of at the year-to-date results with a broader -- certainly with the volatility in the market and kind of what we're seeing right now, we thought we could pass some of the cost increases that we experienced particularly in transportation. We thought they had leveled off, but we saw further -- we've seen further increases in Q3 and going into Q4 as well.

Yeah, I think I can totally see that in the model. I was just more referring to the level against last year. I think last year you had a 33.6%. So that was probably the beginning of the pressures and some of the mix effects of having more diapers vis-à-vis the beauty restaging. So it was more like on a year-over-year basis but I can take it off-line.

I think that's correct. You're exactly right, Andrea. I mean the key takeaway here is we like how the business is trending. Diapers and Wipes Skin and Personal Care core businesses that we've been talking about growing 20% combined here in this Q3. We see that trend that pacing of double-digit continuing, so we feel really good about that. And then, this past quarter we faced in this kind of supply chain space, input costs. We had about roughly $2 million to $3 million in supply chain disruption this past quarter largely in Wipes and Personal Care. So to be able to drive that top line at the level that we did and mitigate that $2 million to $3 million of pressure in the system based on the supply chain disruption we're pleased with where we stand today. And again, similar to what we talked in Q2, based on kind of the trends we see, and again positive numbers, when it comes to the core business there's still continued volatility in the supply chain. We just want to be conservative and maintain those expectations for the year. That's the takeaway.

Thank you very much. I'll pass it on.

Thank you.

Our next question comes from Laurent Grandet with Guggenheim.

Good afternoon, Nick and Kelly. Well, maybe a first would be a follow-up from the previous question. So could you maybe share with us what the level of inventory you do have in Diapers and Wipes at retail? Are you selling as much as you -- as consumers are buying from you from retailers? So, I'd like to understand this first.

Yeah. Good question yeah. We have nothing to call out. The level of orders, have been reflective of the underlying kind of consumption. So we're not seeing any disconnects. I know that was something that we talked about in the second quarter, but we haven't seen -- they've been running generally in line and there's nothing to call out there.

Thank you. And then in Personal and Skin Care so it was strong, almost I mean 30% growth on top of 45% last year, but a bit lower than probably what we were expecting. So is there a reason why? And if you can give a bit more color about the growth in that segment that would be good. I mean you mentioned about 4,000 stores additional. That's probably more I mean on Personal Care. So, where what kind of stores if you can give us some more color here? As well as if the growth was coming from volume, mix, or price?

Yes, I'll take the first part and I'll let Kelly add some additional color. We're really pleased with the beauty restage and the progress that we're making with this initiative. And as we had discussed this last quarter there was a lot of transition that took place as it pertains to short stores setting the new product line. Target, which is a key strategic partner of ours was in the process of setting and making those transitions this past quarter. And based on the performance to-date that's why you see them also adding an incremental 385 doors which is roughly around a 30% increase to take us to 1,600 doors. So, that 385 is going to get added in Q1 of this year. So, that's a good example of hey, we're pacing well. We see the retailers taking that product on and expanding it. Walgreens, which has been a strategic partner of ours, as they kind of reinvent themselves through this health and wellness lens based on the new leadership that they have within their organization, they've partnered with us to be able to introduce really the product line. There are seven new items that are going to go into 3,000 stores in Q4. And then we also have solidified 1,500 end caps with 15 of our core items in Q1 that's going to take place. So, when you put that together, we like the progress that we're making against the beauty restage. There's always a timing component of when these stores get set, old inventory comes out, new in. But I think the way the consumption is pacing when you look at kind of the Skin and Personal Care business, consumption being up 25% that doesn't lie. So, we like the progress. And as we look at kind of this next year going beyond Q4, there's a large commitment in this space with our key strategic partners and you're going to continue to see us kind of drive that part of the business. The other interesting point here is we also from an honest.com perspective when you look at Skin and Personal Care, we actually source from a number perspective, 41% of our new folks that are coming into honest.com came in through Skin and Personal Care compared to 34% a year ago. So, again, a testament to the new innovation and the new news within the marketplace. Kelly anything else?

No, just so far the B2B stage is still kind of early innings. We feel it's really well received by consumers and customers. The retailers really believe in it. Certainly, it's gaining us distribution wins as Nick highlighted that they really see us as leaders in that space. So, we're pretty excited but it does take -- it does tend to take a little time to get its legs under it.

Thank you guys. I'll pass it on. thank you.

Thank you.

Our next question comes from Steph Wissink with Jefferies.

Thank you. Good afternoon everyone. Kelly I wanted to go back to your comments on taking price action now. I think in the last quarter, you talked about deferring, it sounds like you will be taking. Is any of the fourth quarter margin pressure in the guidance just the timing effect of having not taken price yet and still seeing some costing increases real-time?

Yes, I mean certainly the cost -- the new pricing goes into effect in early January and so that doesn't benefit the quarter. When we kind of took a step back, we kind of took a look at our portfolio. And the pricing is actually going to be impacting about 35% to 40% of our portfolio. Again we mentioned the majority is diapers and some select baby wipes and some other personal care items. So, absolutely, one of our considerations was really around our ability to cover our input of headwinds, not just that we're seeing in Q4, but we expect and anticipate continuing into 2022 being very thoughtful on just price value relationship. The competition in diapers that has already taken pricing. We feel we've gotten what we set out to do for the year, which is the market kind of share gains by being kind of not the leader, but a follower on pricing. And we feel that kind of the timing is right now and the price value relationship is still there for the consumer for us to implement that new pricing early in 2022.

The other thing that I would add Steph when it comes to this space as you think of kind of pricing and kind of the choices we made strategically that we've measured, we didn't take price and we wanted to capture incremental share on Diapers and Wipes as well as Skin and Personal Care. And when you look at our household penetration numbers, we've added about 450,000 households over the last year which as you know from a strategic perspective is a key area for us, as we drive new consumers into the Honest brand. We're currently in about 4.5 million households and to add an incremental 450,000 is a testament to kind of the marketing strategy that we have around Content, Community and Commerce. And we think that bodes well for us as we look. And as we go into next year, we will be taking price around 35% to 45% on the portfolio. But again, the price value relationship should maintain based on the suggested retail pricing within the market. And based on those new households that we've also captured selling that second third item etcetera and making it an Honest lifestyle household is the opportunity in front of us.

The only other thing I'd add Steph is, certainly when we think about 2022 and look at the input costs overall pressures, the pricing that we're proposing is sufficient to cover that. The key areas as you know the majority of our of cost structure is not subject to cost inflation. We have about 1/3 of our of structure that is -- will be impacted by cost inflation in 2022. But again, the key areas are the same ones we talked about in the past: Transportation in small parcel and also warehouse labor rates which has started to creep up and started certainly over the course of 2021.

Okay. That's really helpful. One more Kelly on the margins. I wanted to just understand a little bit about what's short term versus the bigger picture. You also mentioned promotions in the sanitization category. It sounds like there's some excess inventory that needs to be worked down. So also wondering how much of a burden that is on the fourth quarter margin relative to what would be more structural? It sounds like that's quite transitory not something that you expect to carry forward into the full year?

Yes. I mean certainly the price promotion we're kind of expecting and planning for Q4 and into Q1. But we do feel that we're kind of -- again price following. That's what a lot of the industry is doing. And we want to be competitive. And we felt the pricing that we were at wasn't in the place that made it competitive. We have seen some good acceleration kind of in the overall velocity now that we've taken some pricing promotional pricing on that. And so, we feel we'll be in a great position to kind of work through that but that would be transitory in nature.

Yes. And you see it within the market Stephanie when you look at hand sanitization for example. Consumption within the market you look at IRI the latest 13 weeks down about 64%. So, you're seeing the market right now and then the market react around more price promotion as retailers are looking to move through inventories in this space because they've been again pretty backed up in this area. And you're going to see again kind of this element that Kelly highlights since it's a point in time. But long term, we've got a commitment to Household and Wellness as we look at the innovation cadence as I think you saw in September when we did our Innovation Day around new news within a variety of segments as we get into this next year.

Very helpful. Thank you, both.

Thank you.

Our next question comes from John Keephold [ph] of Bank of America.

Hi, thanks for taking the question. Hey guys. I think you've answered this already. I just want to be pretty explicit. The benefit we saw in Diapers and Wipes in 3Q there was no timing or quarterly impacts that are worth calling out that may or may not reverse in 4Q right? That was just consumption all the way?

Yes, you're seeing consumption all the way. When you look at the diapers like we said 24% increase in consumption this last quarter that you're seeing. The other piece is from a diaper perspective, this Conscious Diaper we're also gaining share within the marketplace right now. So, the consumption's solid market share growth overall. And as we've highlighted going into Q4 we continue to see kind of the trends that we've seen in Diapers and Wipes Skin and Personal Care continue from a double-digit growth perspective.

Okay. Thank you. And then if you guys could shed some light on quarter-to-date trends you're seeing, is that a worth calling out specifically. I mean I guess you just covered the Diapers and Wipes still up double digits. And if you guys have anything else that might have been glossed over?

No. I would just say all we can say quarter-to-date based on the data that's out there in the market and we're feeling good about where things are trending and not just Diapers and Wipes, I want to also highlight Skin and Personal Care from a trend perspective. There's really been a positive reaction around our conscious diaper. There's also, again, early but a good feedback especially when you look at some of our ratings and reviews as it pertains to our new beauty restage in Skin and Personal Care. And at this point, we're executing exactly against the plan that we've discussed around Diapers and Wipes, Skin and Personal Care. So we feel good where we stand today.

Yeah, the sanitizing and disinfecting, we did call that out on the Q2 call pretty much in line with our, kind of, in terms of what we called. I think some of the promotion will mean more volume, but doesn't really change that overall perspective on where that's trending for the quarter.

Right. Fair enough. I guess, just lastly in terms of marketing as a percent of sales, I appreciate the guidance on the year. It seems like you guys have maybe taken a little bit of a more bullish approach more emphatic on marketing willing to spend a little bit more. Are we -- are you guys thinking about like 15%, 16%, 17%? Just sort of even high level where you guys are thinking that number will be trending as a percent of sales longer term?

Yeah. We've already said that we thought steady state was roughly 15% of sales. We have leaned in as you've seen because we were supporting what we had really strong innovation with our Clean Conscious Diaper launch in Q1 and the beauty restage. We did lean in, which is why this year we'll be landing at roughly 17% of revenue. And again as we go forward we will lean-in in pockets as needed to support particularly category extensions or other bigger innovation projects. We just happen to have two very large initiatives -- launch innovation initiatives launched in 2021. So that certainly got us on the high end of the range. You would -- you could expect going forward between 15% to 17%. And where we'll land within that will depend on level of innovation that's launching within the year.

The only thing I would add to it is when we look at the ROI and the investment profile in this space, because we have a lot of work that we did through our Honest Omni-Analytics, seeing the household penetration number go up and adding 450,000 households and obviously seeing 20% combined growth on Diapers, Wipes and Skin and Personal Care off of some pretty aggressive comps a year ago is a testament to that marketing strategy and that investment profile working for us right now. So that is something that we're going to continue as Kelly highlights. Not only are we micro managing it from the ROI perspective, we're seeing the results on top of some pretty aggressive comps on the top-line, as well as when you look at the household penetration component of 450,000 adding to the 4.5 that we currently have, it's working.

Right. Thank you.

[Operator Instructions] Our next question comes from Laura Champine with Loop Capital.

Thanks for taking my question. It's a follow-up on the marketing side. So you've, obviously, expressed a willingness to keep spending at high rates. Will that remain focused on the launches in Diapers? Is it about expanding beauty, or is this just kind of evenly spread across the board on your products?

Yes I think from the top level really we're really trying to kind of extend our positioning as a lifestyle brand. So when we think about the consumer, we have products that range from diapers up into beauty. We're really looking to kind of increase touch points throughout that consumer by kind of this halo of lifestyle. Within it as we invest clearly, you do proportionately spend in areas of growth. So outpaced investment behind our beauty, our personal care certainly, we're seeing the results in driving growth there. But we will continue to kind of share across our product portfolio to ensure that we have of all of our product categories get some of the marketing investment. For us as, you've talked -- you heard us talk about increasing the touch points, increasing the share of wallet and getting a consumer that already knows and loves Honest products, to be aware that we have all this breadth kind of even within Q4 -- Q3 and Q4 we have some new products that we're excited about from the holiday gift sets, we have the launch of hand creams and some great innovation that is launching. And so really we'll utilize some of that marketing to really engage the consumer to ensure that they're aware of our products where we have products. And there will be a little bit of outpaced investments behind new areas of where we're seeing growth and new product launches.

Got it. And then if I can follow on on your price increases that you mentioned we'll start to see in Q1. Historically, I think Honest has tried to charge a 10% to 20% premium on mainstream brands. Will that sort of umbrella stay at about that same range even as you raise prices into next year?

It's a great question. What's really important for us and this is why we were strategic in kind of monitoring, kind of where pricing would net out within the marketplace. So as we've seen, for example, in the diaper category, pricing start to be reflected in the marketplace. We're going to be able to maintain based on the increases that we're targeting that price value relationship versus the competitive set. So the percentages will be equivalized versus competitive set. And thus far, as we've had discussions in the space with our key partners, we believe that that reflection within the market based on the suggested retail prices should be balanced based on historical.

Great. Thank you.

Thank you.

And I'm not showing any further questions at this time. I'd like to turn the call to management for any closing remarks.

Yes. Thanks everybody, for taking the time to listen to our story. We obviously, are happy to be able to deliver against the commitments that we've made against this quarter. We wish everybody, a happy safe holiday season. And we look forward to visiting with you next quarter. Thank you.

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect and have a wonderful day.