Good afternoon, and welcome to Lulu's Second Quarter 2022 Earnings Conference Call. Today's call is being recorded, and we have allocated 1 hour for prepared remarks and Q&A..

At this time, I would like to turn the conference over to Naomi Beckman-Straus, General Counsel at Lulu's. Thank you. You may begin. .

Good afternoon, everyone, and thank you for joining us to discuss Lulu's Second Quarter 2022 Results..

Before we begin, we would like to remind you that this conference call will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

All statements made on this call that do not relate to matters of historical fact should be considered forward-looking statements, including, but not limited to, statements regarding management's expectations, plans, strategies, goals and objectives and their implementation, our future expectations regarding financial results, references and outlook for the second half and year ending January 1, 2023, market opportunities, product launches and other initiatives and our growth.

These statements, which are subject to various risks, uncertainties, assumptions and other important factors could cause our actual results, performance or achievements to differ materially from results, performance or achievements expressed or implied by these statements..

These risks, uncertainties and assumptions are detailed in this afternoon's press release, as well as our filings with the SEC, including our annual report on Form 10-K for the fiscal year ended January 2, 2022, filed with the SEC on March 31, 2022, all of which can be found on our website at investors.lulus.com.

Any such forward-looking statements represent management's estimates as of the date of this call. While we may elect to update such forward-looking statements at some point in the future, we undertake no obligation to revise or update any forward-looking statements or information, except as required by law..

During our call today, we will also reference certain non-GAAP financial information, including adjusted EBITDA, adjusted EBITDA margin and net debt. We use non-GAAP measures in some of our financial discussions as we believe they more accurately represent the true operational performance and underlying results of our business.

The presentation of this non-GAAP financial information is not intended to be considered in isolation or as a substitute for or superior to the financial information prepared and presented in accordance with GAAP. Our non-GAAP measures may be different from non-GAAP measures used by other companies.

Reconciliations of GAAP to non-GAAP measures as well as the description, limitations and rationale for using each measure can be found in this afternoon's press release and in our SEC filings..

Joining me on the call today is our CEO, David McCreight; our Co-President and CFO, Crystal Landsem; and Co-President and CIO, Mark Vos. Following our prepared remarks, we'll open the call for your questions..

With that, I'll turn the call over to David. .

Thank you, Naomi, and good afternoon, everyone. I'm joined today with my partners and Co-Presidents, Mark and Crystal..

Before I speak about the quarter, I wanted to thank the Lulu crew who continue to do a tremendous job executing on our strategy and delighting our many customers.

In this challenging macroeconomic period, we delivered year-over-year revenue growth of 27% at a healthy adjusted EBITDA margin rate of over 11%, a true testament to the power of our brand and strength of our business.

We feel our broader customer metrics continue to be exceptional and at record levels for LVLU, which reinforce our confidence in our longer-term trajectory..

Our fresh fashion assortment is clearly resonating with our millennial and Gen Z brand bands, and we're continuing to acquire new ones. Our active customers increased by 53% year-over-year, which included a 22% gain in new customers as we continue to grow awareness..

Average order value increased 13% on a 12-month basis with double-digit gains from both new and existing customers. We believe these positive customer metrics demonstrate that LVLU continues to occupy more space in her closet and take share from the broader apparel industry..

That being said, after a very strong start to Q2, in late May after our Q1 earnings call and like many others, we began to see volatility in traffic trends and conversion rates, which were likely driven by increasing macro pressures that impacted our customer spending behavior.

We saw a higher level of returns, as well as shipping surcharges, which had a disproportionately negative impact on our EBITDA margins..

As a result of this change in consumer behavior, we are actively managing our inventory and discretionary expenses with a more cautious outlook because of the macro environment. We view these challenges as temporary and have conviction in our long-term opportunity for continued profitable growth..

Our business model is resilient and adaptable. Let me remind you of the unique characteristics, which enable us to execute through these uncertain times for the consumer and achieve our goals for long-term profitable growth.

First, we have a very loyal and growing customer following, as evidenced by strong trends amongst new and existing customers, supported by our accessible price points and affordable luxury positioning, which spans broad age and income levels across Millennials and Gen Z..

Second, we are not a fast fashion brand. And unlike many in the apparel industry, shifting demand does not necessarily mean obsolete inventory and excessive markdowns. The majority of our inventory can be carried from one season to the next.

Also, our data-driven product development reduces risk, so we're able to respond appropriately from an inventory perspective when preferences do change..

Third, we have a nimble cost structure in the largest components of our operating expenses, specifically in marketing, staffing and product costs for the future. So we are in a position to adjust our cost structure as needed for the future..

Fourth, we believe we have amongst the fastest inventory turns in the industry. Fifth, we have a capital-light model with some months approaching negative working capital, which enables us to generate strong free cash flow..

Finally, we have a solid balance sheet as a result of our debt reduction, and we believe we are well positioned to fund continued growth and navigate through evolving business conditions. We are reiterating our updated guidance that was issued on July 28.

Please note, contained within this guidance range are investments necessary to focus on our larger mission of future brand and company growth at LVLU..

And now I'd like to turn the call over to Mark Vos, our Co-President and Chief Information Officer. He will share with you an update on key operational and analytical efforts to further support our continued growth as well as increasing customer insight and engagement. I will let Mark discuss some of these key initiatives in greater detail.

Mark?.

Thank you, David. From an operations perspective, we have plenty of good news to report. We opened our Southern California facility at the end of last year and finished transitioning our receiving, quality control and cross-docking activities of vendor inbound products in Q1 of 2022. In Q2, we added network product replenishment activities to the mix..

First, network replenishment will allow for further improvements to our algorithmic and data-driven inventory allocation to the Northern California and Eastern Pennsylvania fulfillment centers. Secondly, optimizing inventory allocations supports the reduction of our already low split ship rates of customer orders.

And lastly, moving to a more just-in-time inventory replenishment of our fulfillment centers also improves the efficiency of those fulfillment centers as well as postpones the timing of the opening of the next fulfillment center..

We previously shared with you that we went live in early Q2 with robotics in our Eastern Pennsylvania fulfillment center, which is also our largest fulfillment center. I'm happy to report that by the end of Q2, we consistently outperformed our internal efficiency goals and ROI calculations.

I'm extending my congratulations to our distribution center teams, as well as our technology partners for a job well done. We are now also planning to introduce robotics into our Northern California fulfillment center, for which CapEx budget has been allocated in our full year 2022 guidance..

Switching now to our beloved customers. We grew our active customers by 53% to 3.2 million for the 12 months ending July 3, 2022 compared to 2.1 million active customers in the 12 months ended July 4, 2021. This record in active customers was boosted by high repeat rates of existing customers and strong new customer acquisition..

Second fiscal quarter 2022 over second fiscal quarter 2021 AOV growth was driven by higher units per order and higher average unit retails, net of discounts and markdowns.

Indicative of our customers being impacted by economic uncertainty, average order frequency gains early in the quarter, we lost in the latter part of the quarter, resulting in a marginal increase in average order frequency in fiscal Q2, 2022 over fiscal Q2, 2021..

We see continued growth in our Love Rewards loyalty program, both in member counts as well as in percent of overall transacted revenue by our loyalty members. Members that redeem to their loyalty offers also drove higher revenue with a higher purchase frequency than non- Love Rewards customers.

Based on this first full fiscal quarter of our relaunched loyalty program, we look forward to delivering additional value to our Love Rewards members through specific call to actions and perks..

Switching to the marketing landscape. In fiscal Q2, we encountered negative impacts from the May 25 Google broad core algorithm update due to Google taking a larger percentage of many of the overall search results page real estate with, for example, more local results, dictionary definitions and web stories.

Some of our rankings were also negatively impacted by Google giving more preference to content websites and in combination with reduced search volume due to the overall macroeconomic environment. At the end of Q2, Lulu's non-branded keywords traffic was down compared to Q2 of 2021..

Our search engine optimization team quickly responded to the readings from the core algorithm update made and continues to make technical and content adjustments. And to-date, we have seen consistent recovery and, in many cases, improvements in our average position rankings..

During Q2, the apparel space saw increased promotional activity, which led to Lulu's adding incremental promotions to our calendar to be competitive where needed.

Both new and repeat customers have responded favorably to the additional Lulu's promotions, so seen downstream increases in brand equity across Gen Z and Millennial women as measured by volume of branded searches and in our brand's monitoring tools.

We also added new influence reporting tooling that provided additional insights with which we were able to increase our influencer-driven earned media value over Q1 2022 without increasing our ambassador counts or incremental budgets..

We plan to expand our influencer marketing team to support growth in influencer accounts and to drive continual EMV growth through the remainder of 2022.

Although our cost of customer acquisition through the end of the second fiscal quarter 2022 was slightly higher than the first fiscal half of 2021, we maintained a healthy first order contribution margin profitability..

Due to the strong repeat rates and purchasing of our existing customers, we also observed further improved higher lifetime values for each of the 2017 through 2021 cohorts, positively impacting all cohorts LTV to CAC ratios..

And with that, I'll hand you over to Crystal Landsem, Co-President and CFO, who will discuss the quarter in greater financial detail. .

Thanks, Mark, and good afternoon, everyone. While we were not immune to the macro and industry-wide challenges, we were pleased that we continue to post double-digit top line growth, saw strength across many of our key metrics and continue to be profitable.

During Q2, we grew our net revenue by 27% to $131.5 million, a $27.9 million increase over the same period in the prior year and the highest net revenue for any quarter in our history..

Our top line growth continues to be driven by the combination of new customers acquired and increasing loyalty from our existing customer base with an all-time high number of repeat customers engaging with us during the second quarter.

Total orders increased by 29% and average order value increased 13% to $137, reflecting increases in both units per transaction as well as higher average unit retails net of markdowns and discounts..

We continue to be proud of our large and diverse community of loyal customers that are passionate about the Lulu's brand. At the end of Q2, we had 3.2 million active customers compared to 2.1 million active customers at the end of Q2 2021, a 53% increase year-over-year.

This was up 250,000 active customers compared to our 2022 first quarter ending active customer count of 3 million..

Year-to-date, we've added nearly 500,000 brand fans to our active customer file compared to our year ending 2021 active customer file. Offsetting these positives were higher-than-expected return rates above our expectations from earlier in the year.

In addition, Q2 typically has a higher penetration of event dresses and this merchandise category normally produces a higher level of returns. Demand for event apparel continued throughout the quarter, beyond the typical busy season for events, driving return rates up further due to mix shift towards this higher return rate merchandise..

the costs associated with elevated returns; and second, high fuel surcharges and accessorial fees imposed by our carrier partners. In aggregate, we estimate that these 2 variables hurt gross margins by roughly 300 basis points..

Moving down the P&L to give some insights into expense line items. Q2 selling and marketing expenses were $25.9 million, up $10.8 million from the same period in the prior year as we increased our online marketing expenses to acquire new customers and retain existing customers.

We remain first order contribution margin profitable during the quarter in spite of elevated shipping and returns costs. To us, this reinforces the value of our disciplined marketing approach in spite of the challenging macro factors..

General and administrative expenses amounted to $23.4 million for the quarter, an increase of $2.2 million compared to the prior year. The increase was primarily due to $1.3 million higher variable labor costs driven by the higher sales volume.

Variable labor as a percentage of net revenue leveraged above 30 basis points over last year as a result of the investments in our distribution network..

Moving on to equity-based compensation. Compared to Q2 of 2021 when we were still a private company, we recognized an additional $1.2 million in expense in Q2 2022 related to equity-based awards put in place since our IPO.

The increase in G&A expenses also reflects a $1.4 million in incremental public company costs, which we did not have last year in Q2. Partially offsetting these increases were lower fixed labor costs driven by lower bonus expenses this year..

Interest expense fell by $3.5 million to $157,000, the result of paying off our long-term debt last year with proceeds from the IPO. Our income tax provision increased by $1.5 million or 46% from Q2 2021, this increase is primarily driven by a higher effective tax rate of 44% compared to last year.

For the quarter, we reported a diluted earnings per share of $0.15 compared to a diluted earnings per share of $0.28 in the second quarter of 2021..

And finally, adjusted EBITDA for the second quarter was $14.8 million compared to $17.8 million in the same period in 2021. Our Q2 adjusted EBITDA margin was 11.2% compared to 17.2% in the same period in 2021..

Moving on to the balance sheet and cash flow statement. Our balance sheet remains strong and positions us well to execute our long-term growth plans and manage through near-term macro uncertainty.

Similar to last quarter, one key change compared to last year to note on the balance sheet, we adopted accounting lease standards under ASC 842 at the beginning of fiscal 2022. We ended the quarter with cash of $8.3 million and a balance of $15 million on our revolver..

Our inventory at quarter end amounted to about $48.6 million, up $27.4 million from last year's levels. As always, we are leveraging our data to manage our inventory receipts with the ultimate goal of responding to customer demand.

As we had mentioned on previous calls, we were turning inventory too quickly last year and knew we needed to improve the customer experience with higher inventory levels so that we could continue to delight our customer..

We are also potentially more vulnerable to supply chain disruption risks at those levels. As of the end of Q2, all but approximately $5 million of the $27.4 million inventory growth was intentional to hedge against inflation, supply chain issues and to optimize size and stock to better service our customers.

We expect to be able to move through the $5 million in excess inventory efficiently and with targeted promotions..

We remain a very quick inventory turning company with industry-leading turns. As a reminder, our data-driven buying model results in roughly 70% of our buys being proven sellers with lower markdown risk.

We are a fresh fashion concept, not fast fashion, which means our inventory mostly consists of products that are relevant over many seasons, so we are less concerned with inventory obsolescence and ensuing markdown risk..

We continue to operate a highly capital-efficient business that positions us to generate significant positive cash flow. Year-to-date, we generated over $10.5 million in cash flow from operations..

Moving on to guidance. We are reiterating the 2022 guidance we issued on July 28. We continue to expect net revenues of $440 million to $480 million as well as adjusted EBITDA of $35 million to $45 million.

Our adjusted EBITDA margin rate guidance continues to capture roughly $4.5 million of expected incremental expenses related to being a public company for the 2022 fiscal year compared to the less than 2 months of public company expenses recognized in Q4 of 2021..

Our guidance targets are for the full 2022 year. That said, to set expectations for modeling purposes, in a normalized year, our net revenue is typically highest in the second and third quarters due to demand seasonality for event dressing with our lowest revenue coming from the first and fourth quarters.

We'd also like to remind you that our quarterly adjusted EBITDA margin rates have similar seasonality fluctuations of our net revenues and will likely fluctuate above and below our full year guidance rate depending on the quarter..

Additionally, we expect adjusted EBITDA margins to be lower in the third quarter of this year compared to the second and third quarters of last year, primarily related to higher public company expenses, incremental marketing investments as well as timing of expenses for infrastructure investment initiatives, which will require some redundant operations..

As a result of the payoff of our long-term debt facility immediately following the IPO, we expect interest expense to be around $700,000 for the year, dramatically down from $12.8 million in 2021.

Stock-based compensation for the quarter was down nearly $3 million from Q1 2022, primarily due to any remaining stock compensation impacts associated with the completion of the IPO. Stock-based comp is expected to run approximately $3.3 million to $3.6 million for the quarter for remaining quarters of fiscal year 2022..

For 2022, we expect a weighted average fully diluted share count of 39.5 million shares. This year's share count includes a full year of higher post-IPO share count weighted across all 4 quarters..

Moving on to capital expenditures. I'd like to reiterate the following investment areas we are focusing on through the balance of the year to continue driving towards future growth.

Now that we've completed a successful robotics implementation in our East Coast fulfillment center, we are moving forward with launching robotics in our Northern California facility set to kick off in Q4 this year.

We're moving our photo studio to our Southern California headquarters to get studio operations in the same location as our merchandising team.

We also plan to continue improving our internal custom platforms to ensure that we maintain and improve our customer-centric shopping experience and marketing personalization with investments in our customer experience, data platforms and furthering customer insights..

Lastly, we plan to further invest in internal and external software and technology to enhance our operational efficiencies, including expanding fulfillment and other distribution capabilities in our new Southern California DC. We continue to expect capital expenditures to amount to $4.5 million to $6 million for the full 2022 fiscal year..

And with that, I'll pass it back to David for closing remarks. .

Thank you, Crystal. We'd like to take a moment to thank each of you, Lulu crew, our brand fans, shareholders and Board for their continued support as we continue down our path for future potential..

With that, I'll turn it over to questions. .

[Operator Instructions] Our first question comes from the line of Randy Konik with Jefferies. .

I guess this question might be first for Crystal. Crystal, just thinking about the full year outlook and some of the trends you talked about impacting the gross margin in the second quarter around return rates and freight surcharges, et cetera.

Can you give us a little bit of perspective on how you're thinking about the trend around these items impacting gross margin and then trends impacting SG&A, so we can get a little more thought on how we should be thinking through trend lines in the back part of the year in terms of gross margin versus SG&A in terms of getting to the EBITDA margins?.

Sure, Randy. So our guidance is contemplating kind of as we've signaled in the previous calls that we're going to return to more of a normalized, promotional lockdown cadence kind of pre-pandemic levels.

We also, again, as I alluded to, have about $5 million of inventory that we think is unnecessary to carry from a balance perspective that may have a little bit of margin compression as we work through that, also contemplated in the guidance.

But as it relates to return rates, we've experienced some elevated return rates, I think, like others in our space. We We're expecting that to continue throughout the rest of the year. Although as mix shifts away from event dressing and more into kind of fall/pre-fall, there may be some upside in guidance around potentially lower return rates as well.

But the margin flow-through or impact of margin flow-through and some of those effects are contemplated in our guidance already and we reiterate and feel pretty good about it. .

Got you. And then one thing that kind of continues to shine through on the income statement is, obviously, that you guys are profitable and even with the lower guide a little bit because of the environment, it's still nicely profitable.

So I guess thinking through some of the other things that were talked about, can you just elaborate a little bit more on some of the metrics around repeat rate, repeat purchase behavior that you were seeing? And then maybe a little bit more elaboration on some of the -- I think you mentioned the market lease I mentioned, the algorithm changes at Google.

I guess that's impacting marketing efficacy a little bit. So just wanted to get some color on how you're thinking about marketing going forward, combined with nice behavior around repeat purchases, because it looks like potentially we could be seeing more of a stabilization from here around these lower but still nicely profitable EBITDA margin level.

So I'm just trying to get a kind of a handle on where we are in that kind of margin cycle based on these repeat purchases that are happening, combined with some of the costs that are going up on marketing as it relates to marketing efficacy. .

Sure. Thanks for that question. We saw in Q2, very strong repeat rates of our customers, existing customers as well as new customer acquisition, both of the cohorts behavior from a basket perspective, [ UBTs ] as well as their average pricing, AOVs were higher. So that was good.

But I mentioned that during the quarter, we saw the order frequency taper off a little bit towards the end. But in of itself it was, I would say, healthy quarter as it relates to those customer metrics.

What we did see is indeed the -- at the end of May with the Google algorithm update, which happens multiple times per year, and we've been obviously dealing with that for multiple years.

So in of itself, nothing thing new other than that this one -- sometimes it's positive and sometimes it's negative, right? So this time around negative for us initially.

It requires us then to basically take a reading on what has been trending down, what has been trending up, what is being published, what do we see across other industries and what are some of the experts are publishing around that.

And from there on, we started then adjusting our technical SEO, on-page SEOs as well as our content to basically work our way back, Randy. And that's what we've been doing since. And like I mentioned, we are, in many cases, we have recovered or even improved basically..

And so I see that more as a sort of a temporary dip in that traffic.

And it's something that we're used to and specialized in to work with because we are -- and we also should not forget that we are in the fortunate position that having been in e-comm for so long, we are very strong, and we have a very strong position also in our free organic traffic. And so in that sense, it is important to the traffic mix.

But when you have that -- the negative impacts of the traffic temporarily that indeed has an impact on our marketing efficiency overall. And so, we have certainly seen that effect..

And so going forward, like I said, these algorithm changes, whether they're positive or negative, they can have an impact going forward. But in the end, I think it will all even out.

And that is also what our marketing approach is about, is to manage this, not just on an individual channel or even a campaign level, but also on an aggregate level to make sure that we maintain that first order profitability that we are very keen to maintain. .

And Randy, from a modeling perspective, I just want to make it clear we're still going after growth. We don't have any reason to try to pullback on our longer-term initiatives. Of course, we're watching all expenses. It's a choppy macro environment, but from an overall marketing spend perspective, we don't intend to try to cut there.

We're still looking to grow that by customer file. So I would expect consistency with what we've demonstrated in the past from marketing spend perspective for the back half of the year. .

And Randy, it's David here. Just following on the comments of the team, yes, we're really proud of how the Lulu crew pulled together, responded to the Google Algorithm.

As Mark said, it's because we're so proficient at it, that we initially felt it more severely than others might who aren't necessarily advanced in those metrics and really retained a nice spot at the end of the quarter..

Back to the sort of margins, EBITDA margins you referred to. Yes, absolutely, we are -- our roots of being entrepreneurial as a company, it's all about growing profitably as you called out. And everything in our plans can do that. That being said, remember, we do have some quarterly and seasonality differences in our business.

You'll find that unlike most in the industry, Q4 is our smallest quarter. So we end up with quite a few -- our fixed overhead impacts to our EBITDA margin rate just to be lower in Q4 than in Q2. .

Yes, we typically don't participate in the digital marketing baskets out there in Q4 either. So we try to be as efficient as possible. It's just not a big season for us. So it's not as necessary for us from that perspective in margin losing proposition. .

Our next question comes from the line of Oliver Chen with Cowen. .

On the second half, as we think about gross margin, will that continue to be impacted negatively by surcharges from freight and higher returns? We're also curious about July. July has been a tougher month for many versus June. However, towards the end of July, things may have improved.

Would just love your take on if you're seeing kind of volatility and any read-throughs?.

And then, Mark, on the Google broad core update, some of the changes seem to be around video as well.

As you think about your marketing techniques and plans and your artificial intelligence, like are there new capabilities that you're working on in terms of broader changes you're making? And what's your hypothesis for why it disadvantaged you?.

From a margin perspective, as it relates to fuel surcharges and some of the other kind of external factors that have been affecting the business, I think if I had a crystal ball, I'd be one of the wealthiest people on the planet.

But what we are contemplating in our guidance that we continue to see pressure, specifically around holiday surcharges that may or may not be passed through from our carrier partners. It's difficult to say, but our guidance is contemplated as that continues to be some headwinds for us..

As it relates to overall gross margin from a merchandise perspective, we're typically higher in our separate to non-events business in the second half, which is a less mature part of our business. And so, I'd expect lower margins than our run rate, but that's a normal course of business for us in terms of Q3 and Q4..

As it relates to July and so far in the quarter, we're taking a cautious approach. I think things are looking up, but we want to be very careful about how we give guidance until the macro environment stabilizes. So that said, things are good, but we expect it to continue to be choppy for at least the near term.

I'd have to defer to Mark on the Google question. .

Yes. As it relates to the Google, I think you were referring to the video of the TikTok indexing as well as web stories that Google introduced. We are indeed playing with that and seeing how we can benefit from that. And that is part of the course.

That's what we do after each of these changes to figure out what works and how does it contribute and how can we optimize that and whether that even is something that plays longer term because Google might also change these again going forward. .

Right. Oliver, you may recall -- even from the pre-IPO discussions, we know and believe and quite confident that we're very high performer in the performance marketing side. And based on resources, knew we had opportunity to grow the sort of other muscles and build other neural pathways in the marketing side of the business.

And these kinds of changes from Google or Facebook do nothing, but actually accelerate and stiffen in our resolve to make sure that that happens quickly and we're really happy with the near-term progress the team has made, and you can start to see that.

We were headed this way anyway, but it certainly did nothing, but we just want to continue those efforts. .

One quick follow-up. You have that student special in terms of getting 10% off.

What about back-to-school for Lulu, is that catalyst? And how are you seeing the promotional environment manifest in terms of those around you because certainly, some categories of apparel are over inventoried in the industry?.

Just given our customer demographic, I would say back-to-school is more so an opportunity for us from a college perspective and more specifically from a homecoming event and all the events related to sorority rushes and that sort of thing, unless they were on the back-to-school from a high school or younger demographic perspective.

So it's not a big month for us, but it doesn't mean we don't participate in it. It's just in kind of a different fashion with our more college aged demo. .

And regarding the promotional environment, so for us, fortunately, much of our product is seasonless or seasonal, and so it doesn't -- isn't as seasonal. So we're not under the same kind of pressures that other apparel brands in the industry would be in terms of cleaning their brick-and-mortar locations, cycling through and all of that.

So we fully expect to leverage that and pursue a path of highest cost recovery on purchases..

That being said, with the inflationary pressure, we think many, many sectors are watching what they're spending or seeing they spend less outside of the Lux market.

So we have reintroduced, as Crystal indicated several calls ago, planned to reintroduce small, light, consistent promotional messaging, just to make sure our call to action is there, and we expect to see that continue through the balance of the year..

Interestingly for us, that certainly engages certain subsegments to the customer quite nicely and also has an interesting impact on the digital marketing spend. Because as you know, light promotional activity, not deep discounting, but light promotional activity spurs conversion, which then means we don't necessarily spend as much on the other hand.

So there's some puts and takes there. .

Positive trade off. .

We expect that environment to continue, and we expect it to be continued because the larger industry is over inventoried. And so, we think our brands perceived value will be under a little more pressure. And so, we'll be doing that to sort of play in the game versus as a big clearance effort.

Expect that to continue to probably end of the year certainly. .

Our next question comes from the line of Dana Telsey with Telsey Advisory Group. .

As you think about the Southern California distribution center that was opened at the end of last year and inventory levels with the completed tender inbound product, how should we be thinking about inventory levels going forward from the position where it is now? And then as we approach the holiday season, how are you thinking about inflation and pricing on your merchandise? And just lastly, any difference in terms of current trends of what categories are selling best or not performing as well?.

So from an inventory levels perspective, we've been working, as you best know, I'm working really hard to get our inventory levels up to better meet customer demand and optimize the size and stock ratios and all of that. So we're finally in a place where we feel like we have enough inventory a little bit to work through.

But generally, we feel pretty good about our inventory levels where they are now..

That's going to flex up and down from where we are, depending on which season we're leading into and what our estimated quarterly revenue targets are going to be going forward.

So I would say -- I would expect a stable, if not slightly positive, slightly negative inventory balance for the next several quarters ahead, absent any massive changes up or down in consumer demand.

So I think we're in a really good spot from an inventory level perspective, and Mark's team has done a great job of expanding the distribution centers to handle the flexes up and down. .

Got it.

And then on pricing, how are you thinking about pricing going forward?.

We take a pretty surgical approach to pricing. And from an inflation perspective, we're in kind of the high single-digit impact so far from an overall costing. So we're looking at pricing on a daily basis at SKU levels. It's optimized for what sell-through and what resonates with our customer. And so in that sense, it's sort of business as usual for us.

.

And then categories what you've been experiencing?.

So we've always been really well known for our event dressing, and we've been really pleased with how the team has performed in meeting demand and meeting our customer where she is for that particular demand set.

That said, we've seen double-digit growth across event, nonevent, cocktail, all of our nonevent classes specifically, we've done a really good job of still getting more share of a closet in that regard..

So we flex though within every quarter and whatever our customer is telling us that she wants. And so that inventory is going to flex up or down depending on the season and where we're resonating with our customers. So it's difficult to predict longer term where that's going to be. .

And Dana, as we continue to, like we talked about earlier, strategically about our path to grow the brand and become a truly a lifestyle brand, we're going to continue to work on more purchase occasions and see the assortment to continue to broaden. And we're really pleased to see the performance across both event and nonevent.

That being said, there certainly will be macro trends where events dressing may peak from a macro perspective some, and that will tilt the SKU we're selling, and then there'll be other moments in the fashion cycle where nonevent will take off and start to -- what we love is that diversification we're building so that we're -- we certainly know and are very happy to be part of as an events brand, and be the sort of share of mind in the customer..

Several years from now, we want to be able to look at us and then not be able to pick one specific, but really count on us as that sort of lifestyle for all ages. And as we make that headway, that will be the true measure of our progress there, not just the [indiscernible]. .

Our next question comes from the line of Edward Yruma with Piper Sandler. .

2 for me.

I guess first, not to drag too fine of a point on a couple of weeks, but as you look at your data, how important do you think gas prices are to your consumers' behavior? And would you attribute some of the strength, I guess, that you observed at the end of July due to lower gas prices? And then as a broader question, we've heard some of your peers talk about seeing kind of higher efficacy or returns from TikTok.

Just as you see more eyeballs move to that channel, how do you think your analytics and platform are positioned to take advantage of content on that?.

So from a gas price perspective, I think there are a subset of our customers at the lower household income level that is -- there is absolutely a direct relationship between how and when they engage with us and the price of gas. So as that comes down, we can expect that particular cohort of our customers to spend more with us and engage more with us.

And we're already seeing indications of that..

Our higher household income customers seem to be so far less affected by that. That's not to say they wouldn't be, but so far so good in terms of that customer group. I defer to Mark on the TikTok. .

TikTok is an increasingly important channel, as we've seen over the last several quarters. And we have certainly invested on the content side, but also on the tooling side in order to further optimize that channel for us. And we are very happy with what we're seeing and the progress that we're making.

The content that we're making, we see that based upon the engagement is better resonating with our customers, and we are also continuing to expand in that content as well as tooling to better understand the landscape across all social channels as well as what our peers are doing.

And as a result, for example, we have been able to increase our earned media value, is one of the KPIs that we're tracking that we were able to increase without necessarily spending more, just becoming better at it, better content and more efficiency there. .

We could probably do a half a day in that platform. That platform is [indiscernible] analytics and the data we get from our performance side, and as we continue to develop in the space, we'll see and learn how the creative lines up with our customers' purchase behavior.

And those are some of the elements that everyone is focusing on how to resonate more, but then how that ties back to direct purchasing and something still [indiscernible]. .

Our next question comes from the line of Mark Altschwager with Baird. .

I was hoping you could just give a little bit more color on the shift that you are seeing in the macro or the shift you're seeing in the demand backdrop. I guess the mix shift towards dresses and the expenses associated with that makes sense. But that still sounds like a very highly engaged consumer.

So I'm trying to, I guess, better square that with the fairly significant change in your growth outlook for your -- for the back half of the year that you gave us with the [ prenup ]?.

Yes. I think it's more a shift that we are potentially anticipating around that everyday wear that she's using to build out her closet where the demand for that may be lower, especially in that lower household income customer group that we have.

And really, our guidance is more around just caution because the macro backdrop has been so choppy and these other factors like fuel surcharges that we spoke about that are just causing flow-through issues. But event continues to be -- is really a great source of growth for us.

But most of our temporary guidance is really around that, less necessary, less event-driven product in the short term. .

Taking the consumer, they're going to make up a tough choice. They'll protect their event dressing or their Instagrammable moments unless it's really a big moment. Again, we'll see how it plays out. But that obviously, and as Crystal said, in terms of the near term feels good, but we want to be cautious on that. .

And we view that as temporary. .

And to that point, I guess, maybe just following there, you look at the back half, kind of implies revenue down a little bit at the low end, kind of up, I think, in the mid-teens at the upper end, some temporary factors, obviously weighing on trends.

But just any updated thoughts on how you're thinking about the medium-term growth targets, growth algorithm just relative to the previous goals of over 20% on the top line?.

Yes, Mark, because based on the timing of when we had to give guidance, at this time of the year isn't a huge time, like front-end analogy to sort of like charting a course of a sailboat, watching the winds, is it blowing strong or not, you get a clear sense of direction.

And so we want to make sure that we're doing as we continue to update you all as we see and gain more confidence in the outlook, but that's why we have a bigger bandwidth because of the time, we saw a broader range of outcomes. And so you'll see us gain -- as we gain more conviction, we'll share more to give you a better sense of how that range is. .

Our next question comes from the line of Noah Zatzkin with KeyBanc. .

First, I was hoping if you could give any color on just kind of the behavior you've seen from the consumer and how that may differ from the end of May to the end of July to currently different income levels, geography, any different behaviors there? And then second, as we model out the rest of the year, how should we think about AOVs as well as return rates?.

So from an AOV perspective, I would say build and de-builds across the quarters are fairly consistent, but at a higher baseline. So if you were to look at previous years, I think you can gauge how we're modeling out from an AOV perspective, and that really just captures the mix shift.

We've seen our customers adding more of the cart and with that, of course, higher returns, obviously, and we are taking a conservative approach to our return rate model, assuming that the elevated returns continue for the balance of the year..

As it relates to the consumer behavior from May to July, we did see higher returns that started coming in, which typically follows -- I don't know clickbait is the right word, but negativity in the press can typically drive a higher return rate at least anecdotally, where customers are feeling pressure from a macro environment perspective, they may be returning later and returning more.

It's difficult to say where we are currently in the quarter, how that trend is going to continue, but the elevated return rates from May to July as well as softer demand, especially from that lower household income customer. .

Our next question comes from the line of Brooke Roach with Goldman Sachs. .

David, perhaps we can start off with a few comments on how you perceive the competitive environment against this choppier macro.

Have you seen any strategic shifts with any of your competitors? And any actions that you think need to necessitate a change in Lulu's actions?.

So we're seeing a couple of things near term and then we expect some other things in sort of the midterm. Near-term, you could definitely see a change in the spending environment online where some people who were digital, wasn't as core, looked like they started to pullback spending on the performance side.

So this is -- that's anecdotal, still looking and checking in on that..

We expect in the near term is we do -- and I alluded to this a little earlier, we expect it to be a pretty promotional environment near term, driven by the omni-players or severe faster fashion people who may have been caught over their skis a little bit with this abrupt change consumer purchase behavior.

So that -- where that impacts LVLU is 2 things. One, we don't have to react that way because the vast majority of our merchandise is not fashion forward and more seasonless or we can carry from one to the next.

And 2, it will probably cause us to reintroduce, as we had indicated earlier, a little more targeted software promotions to make sure that our perceived value of affordable luxury responds to everyone else's marketing pressure.

So we think it's a good time to continue to gain customers and have probably a superior brand experience, while the rest of the folks are focusing on getting inventory levels in line. .

And then just maybe to follow-up. There's been a couple of references to the lower household income consumer reacting a little bit differently to different market stimuli.

Can you level set us on the importance of the lower household income consumer versus maybe the middle or higher household income consumer to your business? And how are you adjusting your marketing strategies to each of those demographics as those demographic groups customer behavior has changed?.

We enjoy customers from a broad range of income -- household incomes. And I would say that there are multiple segments there that are important. And so, there's not a single one that, let's say, dominate.

And so in that sense, when the lower household incomes in the lower segments are showing -- earlier on, were showing some behavioral changes in the sense of their order frequency started to slow down before other household income. That's one of the things that we were observing there.

That in of itself doesn't change our marketing approach or it hasn't thus far because we believe that what we have seen that with, for example, in combination with the additional strategic promotions that we added to our calendar is that we are still able to engage also those segments in an effective time. .

Our next question comes from the line of Lorraine Hutchinson with Bank of America. .

Just wanted to get a sense of your strategy.

If your consumer continues to struggle, do you like sales decline to protect margins or would you consider more aggressively ramping promotions and marketing to maintain the higher sales growth?.

Sorry, Lorraine, do you mind repeating your question? It was a little bit hard to hear. .

Sure. Sorry.

I just wanted to get a sense of your strategy if the consumer continues to struggle, would you let sales decline to protect margins or would you consider ramping promotions or marketing more quickly to maintain that higher sales growth?.

I'm not sure we're actually at a point yet where we would have to decide between the 2, but I think a lot of that is solved through our pricing strategy and just how we're able to connect sell-through with pricing from that perspective. And we have a pretty broad assortment that can attract both ends of the household income spectrum, if you will.

And so, I don't know that we're in a position where we really need to choose between sales growth or profitability at this point. We've got so much value proposition in our product, but I'm not sure of that yet. .

Yes. One of the key -- let me add on to that. One of our key premises of our business is all about profitable growth, profitable customer acquisition and profitable growth, and our forecast would continue to go down that path. So we would toggle that sort of range within that as we have always in the past, and we'll continue to do so..

As Crystal said, we don't foresee any issues as it relates to having to drive that. So we don't have to discount beyond profit to not achieve profitability than that.

And again, given our product mix, we wanted to stay fresh and current, but you're not going to see us intend to have massive blowouts to raise cash or to try to hit an artificial sales target. We're still early in our venture. We believe we have lots of untapped market potential.

Yes, that sort of late May customer sort of air pocket that came through, came through. We adjusted and get back, but we think it's an adjustment and a tweak. These are sort of like small dials on the rate of returns versus big dials on the rate of returns at this stage for us. So because of our business model, a really quick turn..

And as you can see with the customer loyalty, we're getting an attraction. We're just going to continue down the path for small amounts and dial, adding a few promos here and there where necessary. We are going to continue to add the capabilities in marketing, storytelling that we've talked about. .

Thank you. Ladies and gentlemen, we have reached the end of the question-and-answer session. This does conclude today's conference, and you may disconnect your lines at this time. Thank you for your participation, and have a wonderful day..