TDUP - NASDAQ

Good afternoon, ladies and gentlemen, and welcome to the thredUP Q1 2023 Earnings Conference Call. [Operator Instructions] This call is being recorded today, Tuesday, May 9, 2023. I would now like to turn the conference over to Lauren Frasch, Head of Investor Relations. Please go ahead.

Good afternoon, and thank you for joining us on today's conference call to discuss thredUP's first quarter 2023 results. With me are James Reinhart, thredUP CEO and Co-Founder; and Sean Sobers, CFO. We posted our press release and supplemental financial information on our Investor Relations website at ir.thred.com. This call is being webcast on our IR website, and a replay of this call will be available on the site shortly. Before we begin, I'd like to remind you that we will make forward-looking statements during the course of this call, including, but not limited to, statements regarding our earnings guidance for the second fiscal quarter and full year of 2023, future financial performance, including our goal of reaching adjusted EBITDA breakeven, market demand, growth prospects, business strategies and plans, our ability to track new buyers and the effects of inflation, increase interest rates, changing consumer habits and general global economic uncertainty. These forward-looking statements are not guarantees of future performance, involve known and unknown risks and uncertainties and our actual results could differ materially from any projections with the performance or results expressed or implied by such forward-looking statements. Words such as anticipate, believe, estimate and expect as well as similar expressions are intended to identify forward-looking statements. You can find more information about these risks, uncertainties and other factors that could affect our operating results in our SEC filings, earnings press release and supplemental information posted on our IR website. Any forward-looking statements that we make on this call are based on assumptions as of today, and we undertake no obligation to update the statements as a result of new information or future events. In addition, during the call, we will present certain non-GAAP financial measures. These non-GAAP financial measures should be considered in addition to, not as a substitute for or in isolation from GAAP measures. You can find additional disclosures regarding these non-GAAP measures, including reconciliations and comparable GAAP measures in our earnings press release and supplemental information posted on our IR website. Now I'd like to turn the call over to James Reinhart.

Good afternoon, everyone. I'm James Reinhart, CEO and Co-Founder of thredUP. Thank you for joining thredUP's First Quarter 2023 Earnings Call. We are excited to share thredUP's financial results and key business highlights from our first quarter. In addition to our financial results, we will provide an update on the current conditions for resale and how the thread of customer is faring in a stubbornly challenging macro environment. Will then discuss key company-specific initiatives we're pursuing to enable sustainable profits and growth, and we'll provide an update on our Resale-as-a-Service business and remix. I will then hand it over to Sean Sobers, our Chief Financial Officer, to talk through our first quarter 2023 financials in more detail and provide our outlook for the second quarter of 2023. We'll close out today's call with a question-and-answer session. Let's begin with our Q1 results. We kicked off 2023 with a strong Q1, delivering revenue that exceeded the high end of our guidance. We achieved revenue of $75.9 million, increasing 4% year-over-year and gross profit of $51.1 million, increasing 2% year-over-year. Our consolidated gross margin was 67.3%, down from 69.1% a year ago. We attribute this to the continued growth of Remix in the more challenging promotional environment in Europe. However, we're proud to report record U.S. gross margins of 74.5%. Active Buyers and orders in Q1 remained steady quarter-over-quarter at $1.7 million and $1.5 million, respectively, with both declining slightly year-over-year. Importantly, we have seen active buyer trends improve each month of this year, and we expect buyer growth to turn positive year-over-year in Q2 and throughout the rest of 2023. We're proud to share our Q1 adjusted EBITDA of minus 8.7%, which was an improvement of over 900 basis points or $6 million year-over-year. And to put a fine point on our improving operating leverage. Our operations, product and technology costs were down by 8% year-over-year, while our revenue grew 4%. And typically on these calls, I'd like to take a moment to share our perspective on what we're seeing in the apparel landscape. For several quarters now, we based a combination of budget shoppers pulling back on discretionary purchases at the same time that retailers have been over performing with apparel and leaning into promotions to get rid of excess inventory. As a result, Resale's value proposition has been weakened by the exceptional bargain being offered for new clothing. We've been running the business under the assumption that these headwinds did not abate in the near term. But despite this backdrop, we are managing the variables that our control across our marketplace. We are leveraging our data-driven insights to optimize our unit economics. We're evolving our consumer acquisition and retention play books to drive customer growth and focusing product and technology investments in areas we believe drive margin expansion. I'd also like to spend a few moments speaking to the budget shopper specifically. A few quarters ago, we provided insights on the budget shopper from our own data, I'd like to provide an update on what we're seeing today. After pulling back on discretionary spend at the midpoint of last year, we've observed that by and large, the budget shopper has continued to fit on the sidelines into Q1, compared to the midpoint of last year, we've seen a 300 basis point decline in the number of big shoppers on thredUP. Comparatively, we've seen a 700 basis point increase in the number of upscale shoppers buying with us during that same time period. We're also continuing to see a clear bifurcation of thredUP customer purchasing behavior. With more premium shoppers leaning in and more value shoppers leaning out. Year-over-year, the average order value of our deep discount subsegment of thredUP customers declined 24% and while our upscale shoppers' average order value increased 6%. So while we are benefiting from some shoppers, trading down. We're also facing the headwinds of budget shoppers sitting out. While thredUP still offers excellent value to budget shoppers, we have been adjusting our strategies in the near term to target the non-budget segment as they are currently more engaged in the apparel market. When macro conditions improve, the retailer promotion normalize, we anticipate budget shoppers will return to our marketplace and provide a nice tailwind for growth. As I noted at the top of our call, we are beginning to see the green shoots of this budget shopper momentum with sequential improvements each month of this year. Now let me turn to the specific initiatives we're implementing to improve monetization in our marketplace and to optimize our unit economics. First, we're experimenting with a variety of levers around inventory acceptance. We've recently started testing a new fee for our Clean Out Service to improve the quality of supply in our marketplace. Initial results indicate that our bag yield of resellable items and the sell-through of items we received have both increased since an [acting] has changed. We're also selecting high-margin fees that enable us to invest in a better Clean Out service for our sellers. Importantly, we've seen no reduction in demand for our Clean Out service. And this is no small feat. Better supply, better yield, better sell-through, higher fees. Second, in conjunction with these fees, we're shaping inbound supply through seller incentives and messaging around the type of clothing we want. And when that supply is being processed at our distribution centers, we're sculpting the inventory more aggressively to list a more desirable assortment online. Third, as we branch processing of cleanout kits, while becoming more selective in our acceptance and merchandising, our bag backlog has come down, now sitting at an average of 6 weeks this as low as 1 week if you paid for our VIP services. This is the lowest our backlog has trended since before the pandemic. With a tighter backlog, we can better incentivize the right sellers, flex our fees and payouts to accelerate the right mix of goods and lower the overall tax of managing long backlogs in terms of storage, customer service and seller satisfaction. Fourth, we're shaping a new vision for customer retention and returns reduction using our data platform. It's called us thrift guarantee. And with it, we boldly envision a customer journey that aims to achieve the highest levels of customer satisfaction on thredUP. The thrift guarantee enables this by intercepting customers when they are most likely to be unhappy with their experience on thredUP, offering them easy, immediate and automated resolutions that drive them back to shop. Our first project for thrift guarantee has been centered around reshaping our returns experience with a feature called Keep-for-credit with Keep-for-credit, we're offering customers who would like to return low-priced items, the options to keep those items in exchange for shopping credit. With the keep-to-credit approach, we've seen a positive impact on customer satisfaction and repurchase rates as well as fewer cost of returns for items, whose price points don't justify the return and reprocessing cost. Across [thrift guarantee] and [keep-for-credit,] our overarching goal is to delight our customers, drive attention and improve the margin profile of our business. Early signals show these strategies have been very effective in accomplishing these goals. So to summarize, through the implementation of cleanout fees, supply shaping and thrift guarantee experiments, we are unlocking new and better ways to acquire and retain our customers while simultaneously bolstering our unit economics and positioning our business for sustainable growth. We believe that continued execution of these initiatives will result to enterprise value creation over time. Let me turn to Remix, provide an update on the progress we're making with our European resale business. It's been nearly 2 years since Remix became a part of thredUP, and we're impressed with how resilient the business has been and it's high inflation, high energy costs and the War in Ukraine. Q1 was a strong quarter for Remix. They continue to grow active buyers and net revenue year-over-year. Remix also officially launches their consignment offering in Q2 and our goal is to shift an increasing portion of the business to consign that over time. This marks the start of a long-term strategic shift for Remix that we expect to improve Remix gross margins, generate further gross profit that contribute to long-term free cash flow. All in all, we remain excited about Remix positioning to take share in the secondhand market in Europe, a market which GlobalData expects to grow to $95 billion by 2027. Now I'd like to turn your attention to our Resale-as-a-Service business, also known as RaaS, we closed out 2022 serving 42 brand clients through RaaS, and strong momentum is carried into 2023 as more retailers look to adopt more circular business models and to track and retain customers. Notably, we're seeing more global brands entering the Resale ecosystem. We recently launched new programs with American Eagle, H&M, TOMS and SoulCycle as one of the lead end-to-end Resale providers, we're thrilled to enable Resale for brands across the apparel ecosystem. We also recently announced an exciting partnership with the Container Store, where shoppers will be able to get a thredUP Clean Out Kit from any of the container stores, 97 retail locations across the country. It's exciting to venture outside of the fashion industry and work with a nontraditional retailer to extend our impact by reaching a broader swath of American consumers looking to be more sustainable. This further cements thredUP RaaS as the go-to destination for Resale apparel, and we hope to expand our client roster with more strategic partnerships like this one. As a reminder, RaaS enables the world's leading brands and retailers to offer scalable resale experiences to their customers by leveraging thredUP's marketplace infrastructure, RaaS amplifies our supply advantage, increases our sell-through and return on assets and expand our long-term profitability metrics by adding sources of recurring high-margin revenue. Next, I'd like to provide an update on our goal of reaching adjusted EBITDA breakeven. We have made significant progress each quarter since we announced our intention, and I want to reiterate our plan to achieve EBITDA breakeven on a quarterly basis and specifically in Q4 of 2023. The performance we've had in Q1 and what we're seeing in Q2 only confirms our confidence in achieving this milestone and importantly, increases our confidence in achieving free cash flow breakeven shortly thereafter. With that in mind, I want to emphasize that as a management team, we have turned more of our attention to the opportunities in front of us to grow faster and to delight more customers over time. We see a number of ways to invest in growth this year that we believe create improved free cash flow dynamics in the future. We've played good defense over the past year, and we look forward to sharing more of our offensive playbook in the quarters to come. While we remain steadfast in our progress towards profitability, we recognize that profits alone do not encompass the entirety of our mission, thredUP is a company that also has a strong sense of purpose which is evident in the impact we're making on the fashion industry in the planet. We take pride in our business and brand align ESG strategy. Today, we reaffirm commitment to balancing purpose and profit by dual listing on the long-term stock exchange or LTSE. The LTSE was designed to align businesses like ours with investors who support long-term value creation and good governance with a social and environmental conscience. Given the growth of the secondhand market, we see an opportunity for thredUP to make an outsized impact. We believe the next phase of generational enterprises will lie at the intersection of purpose and products and we are excited to be at the forefront. So let me wrap up. But before I turn it over to Sean, I want to close by restating the strength of our Q1 results despite a choppy environment out there. In particular, I want to highlight the flexibility and strength of our marketplace business model. It is precisely the fact that we run a marketplace that has allowed us to react and flex everything from the customer mix to the supply mix to our monetization. Second, as I said in our earnings from a year ago, we will continue to balance the demand for near-term scrutiny with our commitment to investing for long-term value creation. I believe we are delivering on this commitment. And while we aren't done yet, I'm immensely proud of our progress. And I want to take this opportunity to applaud the whole thredUP product team for their incredible work over the past 9 months, meeting every challenge with grit and grace. I want to give a high five to each of you for your creativity, your resilience, adaptability and the relentless pursuit of profit for the purpose. I am looking forward to what we will invent next, be offshore in a more sustainable future for fashion. It's an exciting time to be a thredUP right now, and I'm fired up about the road ahead. And with that, I will turn it over to Sean to go through our financial results and our guidance in more detail.

Thanks, James, and again, thanks, everyone, for joining us on our first quarter 2023 earnings call. I'll begin with an overview of our results and follow up with guidance for the second quarter and full year. I will discuss non-GAAP results throughout my remarks. Our GAAP financials and a reconciliation between GAAP and non-GAAP are found in our earnings release, supplemental financials and our 10-Q filing. We are very proud of our Q1 results. For the first quarter of 2023, revenue totaled $75.9 million, an increase of 4% year-over-year. Consignment revenue was down 2% year-over-year, while product revenue grew 17%. The outsized growth in product revenue is attributable to a mix shift driven by the growth in our European business and our RaaS supply. Currently, the majority of revenue from both RaaS and the European business falls under product revenue. But we are at different points in the process of transitioning of each of these businesses towards consignment. We expect the majority of our RaaS clients to operate on a consignment basis by the end of the year, through the process of transitioning Europe to U.S. Levels of consignment will take place over the next few years. As a result of these changes, we would expect consignment trends to improve in the second half. While the transition of these businesses to consignment should be a tailwind to gross margins over time, we would expect it to slightly mute revenue growth due to the accounting treatment. As a reminder, consignment payouts used net revenue, while on payouts are in COGS and reduced gross margins. Active buyers declined to $1.7 million, a decrease of 3% for the trailing 12 months, while orders declined $1.5 million, a decrease of 8%. These declines were due to a difficult macro environment in which our budget customer remains on the sidelines as well as a reduction in our Q1 marketing spend. As we expect to see the promotional environment subside and the return on these dollars improved in the second half, we plan to increase our marketing spend on a year-over-year basis. For the first quarter of 2023, gross margin was 67.3%, a 180 basis point decline over the same quarter last year. We are proud to report that our U.S. gross margin reached a record 74.5% despite an aggressive promotional environment. The decline in our consolidated gross margin was entirely due to dynamics driven by our European business. The continued outperformance of Europe's lower-margin operating model continues to pressure our consolidated results as it becomes a larger portion of our total revenue. We are excited to preserve the meaningful growth opportunity in Europe even though it will come with a near-term drag on gross margins. However, when we look down the road to expanding our consignment revenue base and driving sustainable profits, we believe this is the right strategy for our long-term goals. For the first quarter of 2023, GAAP net loss was $19.8 million compared to a GAAP net loss of $20.7 million in the same quarter last year. Adjusted EBITDA loss was $6.6 million or negative 8.7% of revenue for the first quarter of 2023, this represents an approximate 910 basis point improvement compared to the same quarter last year as we tightly manage expenses and leverage our investments on higher revenue. In fact, we are proud to report that our hard work drove a 4% year-over-year revenue increase on a 7% decline in operating expenses. Turning to the balance sheet. We began the first quarter with $111 million in cash and marketable securities and ended the quarter with $99.5 million. Our cash usage from operations was $4.5 million, while we spent $5.7 million on CapEx as we wind down the first phase of investments in our Dallas DC. Based on our Q1 progress and strategic initiatives we are executing in our business, we now believe that we'll be able to reach adjusted EBITDA breakeven in the fourth quarter of 2023. For us, reaching breakeven is just a waypoint on our path to free cash flow and profitability. And we believe this time line balances our commitment to breakeven with foundational investments in our long-term goals of growth and expanding profits. When modeling our cash flow, adjusted EBITDA and our CapEx spend are the key drivers of positive cash flow, given that our working capital needs are minimal. We believe that both of these will improve materially in the second half of 2023. We significantly reduced our cash burn by nearly half in Q1 versus the previous quarter and expect this spend level to decrease even more significantly in the second half of the year. Our plan to reduce cash usage will be driven by diminishing CapEx needs and improving EBITDA as we implement a number of strategic initiatives across our business, streamline our cost structure and leverage our investments. After spending $43 million of CapEx in 2022, we continue to plan to significantly reduce our CapEx in '23 to about $15 million and then to maintenance levels until 2025. We currently expect to spend approximately $6 million in Q2 and then ramp down to maintenance level of about $1 million per quarter in the back half of the year. Due to our significantly reduced CapEx needs and our ability to manage our expense structure, we expect to be able to fund the core business through our existing cash. As a result, we want to reiterate that we do not anticipate our cash and marketable securities balance falling below $50 million before reaching free cash flow positive nor do we expect to turn to the capital markets or draw on our existing debt before them. We are pleased to provide guidance that reflects both our ability to operate in a challenging environment and the strengths of our marketplace model. So the promotional landscape remains competitive and the stability of our consumer remains uncertain, we are not only flexing the advantages of our marketplace, but also executing on strategic improvements and managing expenses to ensure that we adapt to this environment and emerge a stronger, more profitable business. Turning to guidance. For the second quarter, we expect revenue in the range of $80 million to $82 million; gross margins in the range of 64.5% to 66.5%, due to our growth in our European business. An adjusted EBITDA loss of 9.5% to 7.5% of revenue and basic weighted average shares outstanding of approximately 104 million. For the full year of 2023, we now expect revenue in the range of $320 million to $330 million. Gross margins in the range of approximately 65% to 67% as we now expect our European business to grow faster than originally anticipated and adjusted EBITDA loss approximately 7.5% to 5.5% of revenue and weighted average shares outstanding of approximately $106 million. In closing, we believe that our first quarter performance demonstrates our ability to flex our marketplace model in response to a highly dynamic environment. Our model allows us to react to the environment in which we find ourselves a feature which we believe has allowed our results to distinguish themselves in the current landscape. We are also excited to deliver a Q2 outlook and a full year guidance that convey confidence in our ability to make substantial progress towards breakeven and ultimately profitability. We believe that Q1's results and our Q2 plan demonstrate our capacity to execute on a variety of strategic initiatives that enable us to control our destiny even amidst the challenging consumer environment. James and I are now ready to take your questions. Operator, please open the line.

[Operator Instructions] Your first question will come from Ike Boruchow at Wells Fargo.

One for James, and I have a follow-up, I think, for Sean. But James, just at a high level. So clearly, retail environment out there is slowing. People are struggling, but you guys seem to be kind of inflecting bucking the trend, guiding up the revs for the year. So I guess -- can you just maybe speak to the confidence that you're gaining in real time? And then also, what gives you the confidence to the expected -- further inflection in revenue growth that you're guiding for the second half of the year?

Yes, sure. Yes, I mean, I think, look, we've said for a number of years, we don't think about ourselves as a retailer. It really is a marketplace. And I think what's working is all the elements of our marketplace business model. And so I would say it's all the stuff we're doing internally around everything from sellers and improving the merchandise, to how we're changing the mix to address what buyers want, to the curation that we're working on the site, the improvements we've made in returns with our keep-for-credit initiative. So I think it's really just showing the power and flex of the business model at a time like this, which I think is causing that distinction from a traditional retail environment. And I think all those things are still relatively early in their cycle -- for how they're impacting our P&L. And so I think all those internal improvements compounded with what we're seeing with sequential improvements on the buyer front, I think are giving us increased confidence that the pieces are coming together for the business to really work quite well, even despite really a choppy environment in the back half. So I think the team is pretty confident in the guide and what we're thinking for the back half of the year. You said you had a follow-up.

Yes. And James, I'm not sure if this is for you or Sean. But I'm going to make sure I understand the ins and out of the P&L. So you've been talking about now for almost a year about the run rate of $80 million, $85 million kind of getting you to that adjusted EBITDA breakeven in terms of your -- making sure you're confident on that for Q4. But -- so you're guiding $80 million to $82 million in Q2 and still there's an EBITDA loss there. So I guess I'm just trying to reconcile -- I kind of thought that run rate of revenue, there would be an ability to break even, but maybe I'm just trying to understand like why you wouldn't see that sooner? Or is there something seasonally about the second quarter from a cost perspective, it's different in the back half. So that's kind of my question.

Yes. I'll take it, and Sean, you can jump in if there's anything else. But I just think, as we said in our prepared remarks, we see opportunities to invest in the business, specifically on sort of the customer acquisition and at the macro level and what we're seeing with budget shoppers coming back sequentially to the platform opportunities to invest further and what we're doing on the operations side that I think drive unit economics improvements over the next several quarters. So I think we thought we could pursue 2 strategies. I mean, one would be to be much more conservative and achieve those breakeven targets based on the prior communication. But frankly, we see opportunities to build a better business, not just for the next quarter, but for the next couple of years. And so given our confidence in the cash position and breakeven in Q4, I told the team, and we feel confident we can step on the gas -- and so I think that's what's driving it like -- but we certainly could have done it in those context, but I think the strategy is to lean in here.

Your next question comes from Tom Nikic at Wedbush.

James, Sean, it sounds like you're pretty happy with how Remix is progressing. And I think you said that you expect Remix to grow faster than you previously thought. How should we think about the profitability of Remix, I guess, maybe relative to what you thought it would do? I know when you made the acquisition, you kind of said that -- the gross margin was lower, but that they were actually EBITDA profitable because they're -- maybe we're a little under invested. Are you finding that you're able to drive growth of Remix with less investment than you originally thought, and that's contributing to the path to profitability?

Yes, Tom, I mean, I think Remix continues to exceed our expectations. And I think given the relative size of that business and the opportunities for the size of the market in Europe, we see continued ways to deploy capital to grow that business and very similar to what we did in the U.S. because there was a time line, thredUP wasn't a fully consignment business either, we could acquire a lot of customers and then sort of expand margins over time as we move more and more to consignment, and we see a similar playbook can come to fruition in Europe. And so we don't want to turn down opportunities to really grow that business given the paybacks that we're seeing and how the customer LTVs are playing out. And so I think we're leaning in to the European business and believing that we have the playbook to convert -- improve gross margins over time. I don't know, Sean, if there's anything on that.

Yes. I mean I would just double down on the fact that they are exceeding our original expectations -- in a very tough environment. And I think, James, you pointed out is just like paybacks on their marketing spend is really pleasing, and it looks really good. So that's how we're being able to do it.

Your next question comes from Dylan Carden at William Blair.

Just wanted to dig in on the fees business. Can you just give us a sense sort of how broad that trial has been? And then it's a bit counter intuitive, I think, for people to the comments about that hasn't really impacted demand -- is that kind of on a net basis, just given the improvements that you've seen in the business? Does anything to kind of help understand how that impacts the model and how broad it is and how maybe -- broad it could be, given kind of what you've seen initially from it?

Yes. Dylan, it's still early in the deployment of fees across the business. So we expect to continue to generate more fees over time from sellers, but I would still bucket it in the experimental phase, but we are seeing really promising results. And I think what it points to is just how strong a product market fit, the thredUP cleanout experience really is. Consumers are willing to pay the fees because they value the service so highly. And so I think we're starting to really be able to process more bags, increase our processing times and so sellers really appreciate that. And so we see the fees as a nice tailwind over the next few years. And yes, while it seem counterintuitive that there would be no pushback. Remember that people really value the cleanout service for its convenience and it's not necessarily just about making money. And so I think for a period over the last few years where we had to turn sellers away on a regular basis, I think so many are really glad to have the service available at all times for them, even with a little bit of this fee involved itself. So yes, I think it's all around really positive for our seller community and it impacts the P&L in a positive way.

Dylan, I would probably add in to just to give you a little clarity on for all those out there trying to model it and see how it works. Remember, Europe doesn't charge fees and then our RaaS suppliers don't -- we are charging them fees as well. So there's a piece of the population that is just not covered from a fee perspective. And we're still in the kind of the testing phase too, so it's not at 100%. But as you look forward into '24, '25, I think those two things -- keep those 2 things in mind as you model out what fee revenue could be for sellers.

And it's on the back end, right? So it's actually deducted from -- I guess, functionally, how does it work as well. There's some nuance right?

So you don't give your credit card upfront or anything like that. It comes out of your payout. So that there is no friction on the front end other than you get to know that you're going to pay -- some of your payout for the seller fees or the supply piece. And what's really good about that is we found out is -- not only does it really create more items at given kit or a given bag, this is actually higher quality items. So what we're able to accept out of a bag is a higher number. So it's been really fruitful not just from a fee generation test, but also on the quality of supply and the amount we get out of per shipment in.

Great. And then just quickly on the sort of budget versus higher income customer. Can you just remind us kind of how your customer bases historically skewed between those two buckets? And I guess following on from the fee initiative, is the intention here? Or is the actuality that you're kind of shifting that further up the [indiscernible].

I mean I think when we talked last year, I think we communicated that about 1/3 of our customers fell into that budget shopper segment. And I think now the budget shopper makes up a smaller portion of our customer base because I think many of them are getting squeezed on a discretionary basis, given inflation. So a number of those, I think, are sitting out. But the goal isn't to become a luxury business by any means, but subtly shift the mix of goods that we're getting to be a slightly more premium shopper. And again, I think that speaks to the power of our marketplace, which is we can evolve subtly the customer mix both on the buyer side, the seller side, we can subtly shift the mix of goods, the price points to meet sort of the moment of where we are in the cycle. But we feel very confident that as the budget shopper returns, we will have an incredible assortment to meet their needs as well. But I think it speaks to the power and flexibility in the business right now.

Your next question comes from Anna Andreeva at Needham & Company.

We had two quick questions, I guess, to Sean first. I wanted to understand the gross margin pressure a bit that you're expecting in the second quarter. Is that entirely driven by Remix and the U.S. gross margins are expected to be up? And then what's driving the recovery in the back half as implied by the annual guide. I guess, especially if Remix now is growing faster than expected, which is great. And then secondly, with processing times, I think you're at 6 weeks currently. Is that the right number to think of for the second quarter? And curious on the fees, what are some of the learnings when the seller picks up the rush option. I think that's about $23 in cost currently, is the rush growing as a percentage of the mix.

Thanks, Anna. I'll start and then James can finish. But on the gross margin pressure, I think you said it, it is really the Europe mix -- is driving pressure in Q2 and a little bit for the full year. And it's not just the size of the business, it's the promotional environment that's in Europe as well. So I think there's kind of a double hit there from Europe. But when you look out into Q2 -- into Q3, into Q4, you start to see the gross margins improve in Q3 and really it's from the fact that U.S. business starts to become a bigger portion compared to Q2. So that is the driver there. As well as Europe overall, we're improving gross margins generally. So that helps. I think once you -- if you're thinking it out to how we get to Q4, the other side of it is in maybe too much detail is Q4 is your largest quarter -- so we kind of swing back a little bit there if you're modeling that Europe business is bigger. So you have a little bit of headwind in Q4. So if you think Q3 will be better than Q2, Q4 will be a little lower than Q3.

Yes. And on the processing times, I think, Anna, we've said in the past, we really want to look at that 2- to 3-week window is being ideal. And I think that still remains true. I think being under a month is probably the right time line for the consumer, and we continue to make to make progress. But we have found that just even getting down to 6 weeks has been a really nice positive sign that we're hearing from sellers. So that's sort of the target. And on the VIP side, for rush processing. That has always been a modest part of what we do. And that tends to be a seller who is more professional tended to have higher end luxury items and they're trying to monetize them at a higher rate. They're less of our normal selling population. He's really looking for convenience. And so we want to meet the needs of that seller. But we're really focused on the majority of our sellers, which are looking to clean out their whole profit and do it in the most convenient way.

Your next question comes from Alexandra Steiger at Goldman Sachs.

Congrats on making progress on a number of initiatives. So as a follow-up to the first question on revenue trends, can you maybe comment on the month-over-month cadence for Q1 specifically the exit rate versus January levels as it relates to some broader consumer trends but also some of the internal KPIs you're tracking? And then second, I also want to follow up on the cost reduction initiatives you've laid out. Can you give us an update on where we are? And have you eventually identified any opportunities that could end up being incremental?

Sure, Alexandra. I'll start with the first couple, and then I'll turn it over to Sean on the cost reduction piece. I think we saw in January be reasonably strong out of the gate. I think we saw February and March be a little bit slower than January. But I think that's sort of at a macro level. And I think a lot of the work that we were doing internally, I think, was countering some of those macro trends. So I think the work we've been doing on sculpting and improvements to returns and keep for credit, and all those internal initiatives. Those started right towards at the end of Q4 and then really started to gain some momentum as we move through the first quarter and then have continued into the second quarter. And so I think it's the internal dynamics in our business, the marketplace dynamics that we're sort of leveraging on both sides that are allowing us to perform, I think, better than more traditional retailer would. And so we continue to feel good about how those continue to trend into Q2 and throughout the year. Sean, I don't know if you -- if there's anything else on the cost side?

Yes. On the cost side. What we laid out last year at the end of the year, we discussed is pretty much in full force now. So it's impacting Q1, it will impact Q2. But I think also just to put emphasis on, we're being very mindful of every new dollar that we spend, whether it's a new hire or travel or anything associated with costs in general. So we're being hyper focused on that. And then I think if you also look at -- seems like returns. We often talk about improving returns that improves revenue, but there's also a cost aspect there. So as we improve returns that have less returns, we have less operations around bringing the item back in and that ends up being a pause. So I think we're working on all facets on overall cost control.

Your next question comes from Trevor Young at Barclays.

First one for James. Just on the RaaS model with more retailers and brands gating in that direction -- of embracing that as an opportunity. When brands come to you or you go to them, in those instances where you don't win that partnership, what like the two or three reasons why they might opt to work with another partner or maybe have greater involvement, higher touch versus you kind of powering it for them? And then second question on the buyer side, are the new buyers that are coming in, changing behavior at all in terms of like average order value, number of items in an order -- how frequently they come back for a follow-on purchase. Just wondering if there's any change, either given the macro or given the composition of your inventory shifting away from that oriented shopper?

Yes, sure, Trevor. Yes, on the RaaS side, I mean, I think generally, if a brand goes with somebody else, I think it's on two dimensions. One is they want to test and explore in a peer-to-peer environment. And so they would really prefer to test with a fully hands-off approach. But we're finding increasingly brands that start that direction are finding there's not enough liquidity in those marketplaces given the friction on the seller side. And so we're starting to see some of those brands and retailers come to us to say, okay, we try them of that, it doesn't appear to be working -- how can thredUP support us. So I feel like that is one of the things that's happening. And then the other is brands that are really committed to a refurbishment and repair in a much more higher touch premium experience. And ultimately, we think that, that is a very tough model to scale on the refurbishments, retouching repair side. And so those are deals that, frankly, I don't think we're interested in winning. Because I don't think the margins are there in those models. So those are the two reasons, Trevor, that we tend to lose deals. And then on the new buyer side, the new buyers that we're adding into the marketplace, the unit economics and the dynamics of their performance is -- it's all quite positive. So they tend to be buying the price points that make the most sense for us. Their LTVs look good. The [indiscernible] have been strong. So we feel very good about the customers that we're adding. And to commensurate that, we need to have the right mix for those customers. And I think that's where the changes in supply have really worked. But at the same time, we also have a great assortment for that budget shopper. And so I think if that budget shopper comes back whenever it is over the next few quarters. We feel good about supporting them as well.

Your next question comes from Rick Patel at Raymond James.

Well done on the progress. Question on the mix shift between budget and upscale shoppers, how much of this reflects natural market conditions as budget consumers get squeezed? And how much of it is by design as thredUP markets to those more specifically.

Rick, you were sort of breaking up there. Is that the end just the mix on the budget versus upscale shopper?

Sorry about that. Yes, just -- sorry about that. Just a question on the mix shift between budget and upscale shoppers. I'm curious how much of it reflects natural market conditions as budget folks get squeezed and how much of it could be by design as the company goes after those consumers?

Yes. I mean, I would say it's a little bit of each. I think what we're finding is that customer who potentially fits the trade down narrative who is looking for great brands at a slightly more value price. I think those are the customers that we see -- that value proposition resonating particularly well with. And so I think we have a mix of goods that supports conversion rates among those customers. So I think -- that naturally speaking, the platform is more attractive to those trade down shoppers. And I think that's where you're seeing the mix grow. And I think on the budget shopper side, it's less -- that the mix isn't attractive to the budget shopper. It's just that the -- it's harder for them to take the plunge as a new customer, given the discretionary consumer environment. But at the end of the day, we sell 35,000 brands across 100 categories. And we want to make sure we have a platform that meets that broad section of customers. And I think that's what we're building for the long term. But in the near term, I do think we'll probably shave a little bit more towards that, that slightly more premium shopper, not what the data suggests.

And can you also provide a little more color on what's embedded in guidance for both 2Q and the year for the OpEx line items. So as we think about ops and tech, marketing, SG&A. How should we think about modeling those? And if the momentum that you have does get disrupted, how do you feel about finding new expense savings?

Yes, Rick, this is Sean. I think on the [OP&T] side and marketing is very tied to revenue. So it's consistently variable. So how you've been modeling it previously as revenue goes up, it's fairly linear at that point. I think you get a lot of leverage out of SG&A. And then I think your broader question is if the market, let's say, is more challenged, do we have levers and dials to turn to make sure that we continue to improve because of breaking EBITDA? And the answer is yes. Not only is it the variable side that we talked about already, but I think there's overall improvement, efficiency and cost reductions that we can do that we haven't done yet to help us get there if we need to. That's kind of how I'd answer that.

Your next question comes from Ed Yruma at Piper Sandler.

Back on the topic of this more upscale customer, I know you guys do have some authentication capability, but as you think about the subscale customer, are you talking about kind of more premium brands or like true luxury that has to go through an authentication process. And then as a follow-up, in terms of that lower end customer, are you seeing kind of increase in performance if you run more promos or sharper price points? Or anything you can do kind of in this environment to stimulate that lowering consumer to consume more.

Yes. No, I mean, we're definitely not moving more into luxury products that need to be authenticated, that's not part of the strategy at all. I think it's just incrementally being accepting brands and sculpting the stuff that we get out of the bag for a slightly more premium shopper. And so not luxury by any means. So call those sort of the Bridge brand crowd. And I think that's resonating very well with that trade down shopper? And as for -- do customers respond -- are responding more to the promotional environment. For sure, we definitely see some elasticity around discounts and around promotions. And I think actually, what we're starting to see is that as retailer inventory in the traditional retail environment start to get leaner and the price points start to eke up a little bit as a sort of they spent through their lot of inventory. I think the thredUP value proposition is starting to resonate more and so even our stock offerings of up to 70%, 80% off of a traditional retail environment is starting to resonate, I think, incrementally more as we've moved sequentially through the year. And I think we've been consistent with where we think when retailer inventories normalize, I think the thredUP value proposition really does swing and we see opportunities for that throughout the year.

[Operator Instructions] Your next question will come from Lauren Schenk at Morgan Stanley.

Great. I just wanted to follow up maybe on the first question. I think last quarter, we talked about achieving EBITDA profitability in the second half of the year. Now it sounds like it's more fourth quarter. Just wondering if there's certain any timing shift of investments that you're expecting? Or is this really just -- we talked about earlier in terms of leaning in a little bit more -- any color there would be great.

Yes. Lauren, no. I mean we always said the back half and Q4 was something that we had been anticipating for some time. And so we just wanted to clarify since we were getting lots of questions about -- is it Q3 or Q4. So we wanted to be clear that it is Q4. And right now, we see a number of ways to invest across the business that I think, generate better returns not just this year, but as we move into 2024, and we want to take advantage in that operating environment now, which I think is reflected in the guidance and the numbers throughout the year. So we feel very good about the breakeven opportunity in Q4 and even better, frankly, about our ability to continue to grow free cash flow as we get into '24.

There are no other questions. So I will turn the conference back to James Reinhart for any closing remarks.

Yes. Thanks, everyone, for joining us for our Q1 earnings call, asking thoughtful questions and your continued interest in thredUP's business, and we'll see you next time. Thanks.