REAL - NASDAQ

Good day and thank you for standing by. Welcome to The RealReal's Third Quarter 2023 Earnings Conference Call. [Operator Instructions]. I would like to introduce your host for today’s call Caitlin Howe, SVP of Finance. Please go ahead.

Thank you, operator. Joining me today to discuss our results for the period ended September 30, 2023 are our Chief Executive Officer, John Koryl; President and Chief Operating Officer, Rati Levesque; and Chief Financial Officer, Robert Julian. Before we begin, I would like to remind you that during today's call, we will make forward-looking statements which involve known and unknown risks and uncertainties. Our actual results may differ materially from those suggested in such statements. You can find more information about these risks, uncertainties and other factors that could affect our operating results to the company's most recent Form 10-K and subsequent quarterly reports on Form 10-Q. Today's presentation will also include certain non-GAAP financial measures, both historical and forward looking for which historical financial measures, we have provided reconciliations to the most comparable GAAP measures in our earnings press release. In addition to the earnings press release, we issued a stockholder letter earlier today which are available on our Investor Relations website. I would now like to turn the call over to John Koryl, Chief Executive Officer of The RealReal.

Thanks, Caitlin and welcome to our earnings call. Today, we reported financial results for the third quarter of 2023. Today, we reported financial results for the third quarter of 2023. Revenue and adjusted EBITDA exceeded the highend of our Q3 guidance range and GMV exceeded the midpoint of our guidance range. The third quarter of 2023 was our best quarter of adjusted EBITDA since the company's IPO in 2019. The improvement in our financial performance was largely driven by the consignor commission structure update we made late last year, our strategic decision to reduce direct revenue, and continued improvements in operational efficiency. If you recall, we overhauled our consignor break card in November of 2022. This change helped us to do a couple of things. First, we were able to limit lower priced items, which in turn reduced our variable costs and improved our contribution margin per item. Second, on the remaining portion of the lower value items and our mid value items, we increased our take rate. You can see the impact of this change flowing through our P&L. The result in Q3 was that we grew consignment revenue by 10% while we purposely limited direct revenue, which over the course of the past few quarters has dramatically shifted the mix of our business and driven significantly higher gross margin. Finally, our operations team and our authentications centers delivered efficiencies through improved processes. In Q3 these actions combined to deliver a higher average order value, higher gross margin rate, higher gross profit dollars, lower variable costs, reduced company owned inventory, and a significantly improved adjusted EBITDA result compared to the prior year. Over the past few quarters, we have made significant changes to our business strategy and tactics, and we are seeing the benefits of these changes and our operational and financial results. I couldn't be more proud of this team for the fantastic work they have put together throughout this year. In September, we announced that Robert Julian will step down from his role as CFO at the end of January or when a new CFO assumes the position. As a result, this will likely be Robert's last earnings call. I want to personally thank Robert for his many contributions to the business and wish him the best in his future endeavors. I am pleased to report that the search for his replacement is well underway. Looking forward, we continue to project that we are on track to deliver positive adjusted EBITDA on a full year basis in 2024. In summary, our strategic shift to refocus on higher margin portion of the consignment business is delivering significant progress in our results. Overall, I'm excited about the trajectory of our business. We are well positioned to capitalize on our consignment business model as we continue to be the market making leader in luxury resale. With that, let's open the call for questions.

[Operator Instructions] Our first question comes from Mark Altschwager from Baird. Mark, please unmute your line. If your line is muted, please unmute. Please rejoin using the CallMe feature. Our next question comes from Marvin Fong from BTIG.

Good evening. Thanks for taking my questions. So I guess I'd just like to start with, maybe just, drilling a little bit deeper. Maybe you could just give us an update on the new revenue streams. So for example, I believe this past quarter, you tested, advancing some of those initiatives, like increasing traffic and things like that. So maybe you could just kind of give us an update on where things stand in terms of advertising and maybe the partnership, strategy?

Yep. Marvin, thanks for the question. I'll start with that one. From an advertising perspective in Q3, all we did was really we launched in July, and we did a lot of experience experimentation.It's still not any material result in Q3 whatsoever and we have yet to launch, warranty return insurance as well. We're looking more towards Q4 for both of those and then what we've referred to in past conversations as virtual inventory that is actually not planned to launch or make any material impact until 2024. So if you really look at it, this is a story that is all 100% about our core business and in getting our core business where we want it to be and building from that position of strength.

Terrific and maybe just as a follow-up, I mean, it looks like in reflection of all the improvements you guys made. So ops and tech costs was down quite a bit, even though orders, I think, was up sequentially a little bit. So sounds like you're processing orders at a lower cost per order. Just could you drill down into that a little bit further? I mean, is there more that you can do there, in terms of automation or whatnot, or should we kind of think about you having to kind of achieve your cost objectives there?

Hey, Marvin. This is RobertI'll take that one and you're right. We have seen very considerable deficiency in productivity, in our operations, including in tech we've invested a lot in new technology and automation and so on and you're seeing it in our results. I don't know if there's another huge step function improvement from where we're at. We're always looking for productivity and efficiency. We've talked about in the past that 3% to 5% of productivity is a reasonable range and we'll always be driving for that sort of in the spirit of continuous improvement, but you're right we have seen good efficiency and productivity, and we've seen the results of the investments we make we've made.

Okay, great. Thanks for that Robert and good luck on your next endeavors.

Our next question comes from Mark Altschwager from Baird.

Good afternoon. Can you hear me alright? Wonderful. Thanks for taking the question and Robert best wishes to you. So I wanted to ask about active buyer growth that did decelerate this quarter, I think, close to flat or up 1% Year-over-Year. I know that's a metric that has been positive in recent quarters and cited as perhaps evidence that the resale buyer isn't slowing down. So I guess a couple of things. One, are you surprised, by the trends? And maybe can you elaborate on any changes in buyer behavior that that you're seeing? And two, any implications regarding how you're planning 2024 and the level of profitability you expect to achieve expect to achieve given some of the shifts that are happening there?

Yes. Hi, Mark. I'm going to take the first part of the answer and I'll pass it along. So as far as active buyers are concerned, we did see a meaningful deceleration, but it was also expected.So remember the changes we made in the back half of 2022 were purposely decelerating our growth and shrinking kind of those unprofitable categories and those unprofitable units. So a lot of those items under a $100 and some of that volume, and category. So again, it was expected that we would shrink our active buyers and again, driven out of that low value.

Hey, Mark. And the other thing, this is Caitlin. The other thing that I would just add is, you know, one of the other that we look at, health of the business is just new members, right? And so that was up again, a million versus last quarter and so we feel good, like, we still have momentum in the business and as Rati mentioned, the active buyer's piece was something that we did expect in the near term.

Mark, you did ask at the very end of your question about how that might impact our expectations for 2024 and I would just say that we continue to reiterate that we're on track to being positive adjusted EBITDA in 2020 for all things considered.

Yes. And to add on a little more to that, we are looking at to Caitlyn's point, the health of the business as far as the quality of those buyers, how much are they spending? What are they looking at mid and high value and so forth? So there's other measure we can look at there, as far as the health of the buyer.

Okay and as a quick follow-up, and apologies if I missed that I was redialing in during the first question, but just regarding the Q4 outlook, you essentially held the EBITDA guide while the GMV and sales are a bit below what was implied in the prior outlook. I was hoping you could pack that a bit more and just in terms of the unchanged EBITDA, how much of that is some incremental cost efficiencies you're finding versus any shifts in revenue mix or other factors?

Yes, Mark, this is Robert. I'll take that. I would just say that our guide for Q4, there is a certain amount of uncertainty in the markets today. There's a lot going on globally geopolitically with the economy. So we're just being a little bit prudent and cautious, I would say, in taking that all into account. There's nothing in our expected results for Q4 that indicates some kind of change in trend or any backtracking or anything else that might be negative other than just a little bit of uncertainty and, we'll see how things progress, but, just again, trying to be prudent and taking all of that into account, but the things that have improved our results and you saw in Q3 are expected to continue and they're largely structural what you've seen in our results in Q3 and so there's nothing to be gleaned or nothing hidden in terms of the Q4 results. In terms of that progression going from Q3 to Q4.

Our next question comes from Ike Boruchow from Wells Fargo.

Couple of quick questions from me. Congrats on the gross margin this quarter, above 70%.That's great to see. Is that, I know there's some seasonality, but now that you've kind of improved the efficiencies in the business, and got the gross margins up there, is that a run rate we should use. I think 3 months ago, you said you thought you could get to the high 60s exiting the year. Just kind of curious how we should think about gross margin in the fourth quarter and then my second question is, another reiteration of the adjusted EBITDA profitable by next year. Just be helpful if there's any APIs you can kind of give us that underpin that, whether it's AOV or gross margin, or just anything to kind of help us understand what what's underpinning that assumption that you guys continue to reiterate.

This is Robert. I'll take that. Regarding the gross margin in Q3, as I mentioned earlier, the changes we made are largely structural and so we had a rate card change back in November, structural change. We have reiterated eliminating the direct business and that is a permanent shift to a much lower proportion of our total revenue coming out of direct, which improved our mix and improved gross margin. We've also seen in Q3, beginning of a return to the margin within the direct business improving and when we had some quarters, as we were trying to get rid of the work through the old inventory and work our inventory down, we were doing some pretty significant discounting of that direct inventory that direct owned inventory and we had some quarters where we had zero or even negative, reported gross margin and what you've seen is a return to positive margin for the direct business and that's also a return to normal and more structural. So the idea, and I kind of think it's around and maybe or it's a little bit coy about the potential of our gross margin and maybe we can scare a 7 handle in terms of gross margin and I think that this level of gross margin is the new normal and in fact, as we continue to see a little bit of improvement in the direct margin within that category, you may actually see a little bit of improvement in gross margin from this level, but I think it's largely something that you can model and expect in this low 70s range for gross margin.

Yes, I couldn't agree more, Robert.And also, as it relates to your 2024 question, Ike, I think basically what you can take what you've seen from us in terms of gross margin and the efficiencies that we've introduced to the core business and say, okay we've said low double digit growth, so somewhere around 10% growth you add with that, the new revenue streams, you add with that virtual inventory that complements our core business so well and that's where we are very pleased with the potential progress that we can make and deliver on that commitment.

Our next question comes from Tom Nikic from Wedbush Securities.

So the changes you made to the model, I guess, we're pretty much lapping it now. Do you think that you'll continue to see benefits from the changes? Like, do you think you'll continue to see a pay grade move higher, you'll continue to see lower mix of the, low value items or now that we've kind of lapped it, we've kind of picked the low hanging fruit and then from here, you know, further improvement is going to come from other initiatives?

Hey, Tom. This is, this is Robert. Thanks for the question. One thing that I would say embedded in your question is idea that we are now lapping the changes that we've made and I'm not sure that's quite accurate. If you think about some of the changes we've made, and I do think that even Q1 of 2024 is going to have comparison to a Q1 from this year, there is still pretty big year-over-year change. We made the commission structure of the rate card change November 1st. We've been working down our direct revenue as a percentage of revenue pretty consistently for the last few quarters, but not fully lapped on that either and so I do think that there's still improvement and we talked about, at the beginning of this year, the changes that we have made, you're going to see really impact the second half of 2023 and that has proven to be very true and accurate and so the first half of 2023 still has some impact on a year-over-year basis going into 2024. So you should expect some improvement with what I would call rollover effect of getting the full year effect of the things we made we did in 2023 reflected in the 2024 results and that'll come in Q1 and Q2. So there's still a little ways to go in terms of lapping the entire impact of the changes we've made to the business model.

Thanks very much and Robert, best of luck in your future endeavors.

Our next question comes from Edward Yruma from Piper Sandler.

Hey, good afternoon, guys. Thanks for taking the question. I guess first, now that you're pushing fewer units through the authentication facilities, are you seeing any kind of disefficiencies as a result of that? And then just as a follow-up back on the macro commentary, were you actually observing softer trends quarter to date, which drove the guidance revision or is it simply just lots of stuff in the press and just concern about holiday spend overall? And then maybe one other follow-up. I know historically you have out of out-of-policy returns that kind of juice the direct numbers post the holiday season? Have there been any changes to return policy?

So I'll start with your last question first. Out-of-policy returns because that's an easy one. We're not seeing any changes there at this time, so pretty flat, to what we've seen in in the past as far as historic numbers go. The first question on less units coming through, are you seeing less efficiencies? No. We are not seeing less efficiencies in specifically our operations, and I'm talking about and that's because a lot of what we did and a lot of the investments, like Robert mentioned earlier, was around, accelerating operations their efficiencies. Transportation, you've heard us talk about carrier diversification. All of that is coming into a fruition. Inventory control making sure that we're getting tighter about each item coming through the process, also adding efficiency. So just making things a little bit tighter throughout the process.So we really feel good about the direction and the impact that we've had there with our investments and then as far as on the macro, piece, and I'll let Koryl and Robert add in, as far as the prudent kind of guidance. So it's a little bit of a mix as far as what we're seeing, on buyer behavior. First of all, I want to say supply is really healthy and good. We always said we were a supply constrained business. That is solid right now, and we're feeling really good about where we're going there. The consumer is quite healthy in buying jewelry, watches, handbags that mark key product. So that is good news. Where we are seeing some softness is in ready to wear. So it's kind of a category specific answer, and we're seeing the consumer be a little bit more promotion, kind of sensitive to that. So we're watching for that and again, nothing that we're alarmed about, but we think it's the right thing to do to be kind of prudent in our guidance.

Yes. No, I think it's a real opportunity. Honestly, Edward, for us to like, we were a lot more precise in the promotions we were running to juice supply. When we made the commission changes, we really saw a pullback not only in low value, but we also had some softness and some mid value. So we got a little bit promotional there. We have a little bit of a blunt instrument approach. We're a lot more surgical now talking to specific customers about specific actions and with that capability, it was built in such a way that when we're building the personalization, we can use the exact same personalization capabilities to solicit demand. So you haven't heard us talk about demand much, not at all since I've been here, where we've always talked about being a supply constrained business now. There are certain elements in certain categories and certain price points where we actually do have to adjust our prices, right, and where we do have to actually become a little bit more promotional but the good news is we have a very large pool of members to draw from, and we can actually see a lot of their behavior, even in the absence of transactions, we can see many people who are obsessing certain products, how many people are visiting the site on a regular basis. We're observing all those macro and micro trends together to see what we have to see what we have to do to make sure that we keep the throughput going through the business at the right pace.

Maybe just as a follow-up to that, does that mean you're adjusting kind of the payouts? I mean, not the grid obviously, but kind of what you initially expect to pay out to the, consignors?

When we had to be a little bit more promotional to drive supply earlier in the year, we had some promotional activity there. This is more on the actual buyer side now. So to reinitiate a lapsed customer, to get somebody to buy in a category that they haven't bought before, that's the type of promotions I'm talking about Edward.

Our next question comes from Ashley Owens from KeyBanc Capital Markets.

Hi. Thanks for taking the question. Just wanted to ask about marketing dollars as they came down during the quarter. Was this an intentional pullback or did you see some efficiencies? And then just any color on how we should think about the rate going forward would be helpful as well.

Yeah. So, thank you for that question. As far as marketing efficiency, that wasn't intentional, pullback some of the areas, but again, driven out of efficiencies. So we were able to segment out our base, again, from low value, mid value, high value, consigners and customers really target them in the right areas. You have heard us talk about mid value and how that was soft. Looking at the supply specifically. So the marketing team is doing a great job to, continue to find those efficiencies in general.I'm sorry. Was there a second part, a question?

Oh, yeah. Just how we should be thinking about the rate going forward.

We continue to offer, offer, operationalize that and find efficiencies. So, you know, like any other department, whether it's operations, marketing, sales, we'll continue to find efficiencies there.

[Operator Instructions]. Our next question comes from Rick Patel from Raymond James.

Good afternoon. Can you talk about what guidance assumes for the size of the direct business in the fourth quarter? And any thoughts on the right way to think about the size of the direct business in 2024 and to what degree you see it impacting GMV and revenue going forward?

Rick, this is this is Robert. I'll take that one. You saw in Q3 that our direct revenue as a percent of total revenue was in the low teens and to be honest that's gotten down to a pretty low level. As we have mentioned before, there will all be always be some direct business. There's out-of-policy returns to drive direct business, there's found inventory and sometimes it creates direct business. We have more or less stop the open to buy generally, although there are some very specific items, very high demand items, whether it's Rolex Watches or Hermes handbags or so on, that we may continue to do some purchases and so there'll always be some direct revenue, but this current level in the low teens is probably getting to be around the new normal and so I think what you should expect is something very similar to that in Q4 and also going into next year.

And then you touched on certain categories that are doing well. I think you mentioned fine jewelry handbags and watches. Can you touch on your supply of inventory for these categories that are working? How do you feel about how you're positioned to monetize this demand that's working?

The good news about us is that we're quite dynamic when it comes to supply. Our sales team does a really nice job of bringing in the supplies that the merchant need or the customers need at the right time. You know, we are - have definitely changed the way we're looking at supply versus units, like we've talked about in the past to retail value. So that quality, that higher end product, the sales team gets more points for, for example. So as far as watch as their concerned, handbags, jewelry, you know, quite healthy when I look at, again, mid and high value product Year-over-Year as far as inventory to sell. So, the team does feel good about supply through the end of the year. So that’s puts us at good place in Q1 as well.

I am showing no further questions.I would now like to turn the call back over to John Koryl for closing remarks.

Thank you. Thank you for joining us today. Before closing the call, I want to take a moment to thank our team at The RealReal. I am humbled to work with such a dedicated, passionate, and professional workforce. Thank you for your daily efforts to fulfill our mission of sustainability lives out our values of excellence and moves our business forward. I'd also like to thank our more than 34 million members that are joining us on our mission to extend the life of luxury and make fashion more sustainable. Thank you.