1stdibs.Com Inc

NASDAQ:DIBS

Earnings Call Analysis

Earnings Call Transcript 2023-Q3

[Operator]

Good morning, ladies and gentlemen. Welcome to 1stdibs.Com Inc. Third Quarter 2023 Earnings Conference Call. [Operator Instructions] Please note that today's conference is being recorded.

I will now hand the conference over to your speaker host, Melanie Goins, General Counsel at 1stdibs.Com. Melanie, you may begin.

[Melanie Goins, executive]

Good morning, and welcome to 1stdibs.Com Earnings Call for the quarter ended September 30, 2023. I'm Melanie Goins, General Counsel; joining me today are Chief Executive Officer, David Rosenblatt and Chief Financial Officer, Thom Etergino. David will provide an update on our business, including our strategy and growth opportunities, and Thom will review our third quarter financial results and fourth quarter outlook. This call will be available via webcast on our Investor Relations website at investors.1stdibs.com.

Before we begin, please keep in mind that our remarks include forward-looking statements, including, but not limited to, statements regarding guidance and future financial performance, market demand, growth prospects, business plans, strategic initiatives, business and economic trends, including e-commerce growth rates and our potential responses to them, international opportunities and competitive position. Our actual results may differ materially from those expressed or implied in these forward-looking statements as a result of risks and uncertainties including those described in our SEC filings.

Any forward-looking statements that we make on this call are based on our beliefs and assumptions as of today and we disclaim any obligation to update them, except to the extent required by law. Additionally, during the call, we will present GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in today's earnings press release, which you can find on our Investor Relations website, along with the replay of this call. Lastly, please note that all growth comparisons are on a year-over-year basis, unless otherwise noted. I'll now turn the call over to our CEO, David Rosenblatt. David?

[David Rosenblatt, executive]

We delivered third quarter GMV and revenue at the midpoint of guidance and adjusted EBITDA margins above the high end. Over the past 6 quarters, we took decisive action to reengineer our expense base including actively managing headcount, increasing our performance marketing efficiency thresholds, divesting Design Manager; and most recently, reducing our real estate footprint in New York City. These measures substantially lowered our cash burn, accelerating our path to profitability. The benefits of our leaner cost structure were on display this quarter. Operating expenses were down 20% gross margins increased from the high 60s to the low 70s.

Adjusted EBITDA loss of $1.8 million improved by $3.7 million. Lastly, adjusted EBITDA margins of negative 9%, our best yet as a public company improved by 15 percentage points despite lower revenue. Reengineering our cost structure was an important step towards being able to achieve our financial goals. Over time, our objective is to deliver sustainable revenue growth, expand margins, become profitable and ultimately grow free cash flow per share. With our cost structure now aligned to the soft demand environment, we expect future margin expansion to be driven primarily by improving top line performance. We are committed to reaccelerating growth and doing so in a capital-efficient manner.

Following our restructuring, we are focused on a narrower set of priorities that we believe represent our highest ROI opportunities. This has meant shifting some resources from auction and international projects where returns are farther off to areas like checkout and seller experience where the expected payback is more immediate. Our product road map is squarely focused on capital-efficient growth. We made progress on key product initiatives during the third quarter, and we saw the benefit of that in terms of a fifth consecutive quarter of improved conversion rates.

While those gains have been outweighed by countervailing negative macros, we are nonetheless encouraged by this positive trend. There's no doubt that we are working through a period of soft demand and low visibility for luxury home goods and consumer discretionary spend. Although growth rates are far from where we'd like them to be, 3 factors give us the confidence in our direction of travel. The first of these is increasing e-commerce penetration. According to the Census Bureau, U.S. e-commerce penetration has steadily increased from approximately 1% of retail sales in 2000 to just over 15% in the second quarter of 2023. Following volatility during COVID-19, e-commerce penetration has now reverted to pre-pandemic trend.

Our expectation is that there's a long runway ahead for e-commerce. Historically, U.S. e-commerce sales have grown mid-teens annually. While this will naturally slow as the industry matures, we believe that high single-digits or low teens growth rates are a reasonable ballpark for U.S. e-commerce. Second, the concept of luxury is as old as humanity, Globally, luxury sales have outpaced GDP growth over the past 2 decades, according to Bain & Company and Altagamma. Between 1996 and 2019 global luxury sales compounded at 6% per year compared to global GDP growth of roughly 3% per the World Bank. Third, the world is getting wealthier. According to the UBS Global Wealth report, there were nearly 60 million millionaires globally at the end of 2022.

Our 7 largest markets the U.S., the U.K., France, Canada, Switzerland, Australia, Germany and Italy are home to over 36 million millionaires. This compares to our active buyer base of approximately 63,200 at the end of the third quarter. Furthermore, UBS forecasts that the number of millionaires globally will exceed 85 million by 2027. Of course, you don't need to be a millionaire to shop on 1stdibs but growing wealth is a tailwind for luxury demand. These 3 secular drivers underpin our confidence in our market opportunity. However, at present, we're operating through a period where cyclical factors like a slowdown in the luxury housing market and subdued demand for high-end discretionary items are overwhelming these secular trends.

Large purchases like housing and furniture can easily be deferred but not indefinitely. Eventually, the cycle will turn as it always does. We believe that we're currently tracking in line or better to industry trends for high-end furniture and are setting ourselves up to benefit disproportionately when this cycle shifts. As we navigate this challenging period, our competitive advantages also give us confidence in the future. Over the past 2 decades, we have developed attributes that are valuable and difficult to replicate including aggregating a fragmented offline supply base, the ability to reach a global audience of high net worth individuals, building a trusted brand that instills buyers with the confidence required to transact online at high AOV, deep relationships with the trade and cultivating a deep well of unique expert content, resulting in strong SEO domain authority and high organic traffic mix.

These are durable and hard to replicate advantages. Turning to the quarter. The supply side of the marketplace remains healthy. We once again saw mid-teens listings growth and strong seller acquisition. On the demand side, traffic growth slowed as we intentionally pulled back on our least efficient performance marketing channels, making overall traffic growth negative. Organic traffic continued to grow, albeit at a lower rate. During the quarter, organic traffic accounted for nearly 80% of the total, up from roughly 70% a year ago. We were pleased that our prioritization on growing our conversion rate continues to bear fruit. For the fifth quarter in a row, our year-over-year decline in conversion rates improved and are approaching flat. The third quarter improvement was driven by returning buyer conversion, which was the highest since late 2021.

We're benefiting from our new A/B test framework with a number of tests up over 100% year-over-year. While not every test exceeds, overall, the higher test velocity resulted in a higher number of features being put in the market, which we believe is contributing to the improvement in conversion rates. In addition to ramping up our testing cadence, we're also working on a number of multi-quarter technology projects. The first is changing our payment processor which we expect to benefit conversion by increasing the number of payment methods we're able to accept, especially internationally. The second is improving our shipping services for sellers. The third is leveraging machine learning to enhance personalization and pricing recommendations.

We expect these projects to begin going live by the end of the first quarter of 2024 and we look forward to providing updates in future quarters. Moving on, we continue to see solid organic traffic growth in France and Germany. SEO sessions from German and French IP addresses grew 60%. Paid traffic growth in these markets declined as we intentionally pulled back on performance marketing, which was a headwind to order growth. However, conversion rates improved. We also saw organic traffic growth accelerate for Italian and Spanish IP addresses as our sites are starting to be indexed by search engines, but it remains very early days in these markets.

Auction orders grew 7%, accounting for 7% of total orders. During the quarter, our product development effort focused on supply quality, conversion and discoverability. As part of our June restructuring, we shifted dedicated resources from international and auction to areas like checkout and seller experience where we see more immediate payoffs. This is an example of the hard trade-offs we've had to make as we focus on achieving profitability. Our logic here is that the highest return to product and engineering investment or to platform-wide projects. For example, we expect changing our payment processor to benefit U.S. and international buyers, auction and marketplace buyers and trade and consumer buyers.

Turning to supply. Seller and listing growth remained robust. We ended the quarter with over 9,100 seller accounts, up over 30%. Additionally, listings grew 16% to over 1.7 million items, continuing the trend of healthy listings growth we've seen for the past several years. After 1.5 years of very strong growth, we're shifting our acquisition focus to prioritize sellers who have the ability to list and sell at scale. As a result, we expect to see continued healthy listings growth but a lower number of new sellers added per quarter.

In summary, while we continue to face headwinds from the luxury housing market and diminished consumer appetite for discretionary purchases, we believe we're performing in line with high-end furniture sales. Facing these headwinds, we made the difficult decisions required to calibrate our expenses to soft demand.

We saw the benefits of our leaner cost structure and expanded gross margins, meaningfully lower operating expenses, reduced cash burn and delivering our best EBITDA margins yet as a public company. While our cash balance and lower cash burn rate give us a strong liquidity position, we are not complacent about the need to reaccelerate GMV and revenue. Our focus is on shepherding our existing resources to accomplish this, working on a smaller set of projects that offer the highest potential returns. The team is nimbler and moving faster. We believe that significantly increasing the pace of our new feature testing contributed to continued improvement in conversion rates. Although visibility is low and growth isn't where we would like it to be, rising e-commerce penetration, increasing luxury demand and growing global wealth portend a long runway.

I'll now turn it over to Tom to review our third quarter financial results and fourth quarter outlook.

[Thomas Etergino, executive]

Thanks, David. Since mid-2022, we've taken decisive action to reengineer our cost structure, reduce our cash burn and accelerate our path to profitability. This continued in the third quarter. In late August, we subleased our New York City headquarters starting on October 1. We expect this to reduce net rent expense by approximately $750,000 per quarter, starting in the fourth quarter of 2023. In the first quarter of 2024, we plan to exit the space entirely and move to a smaller floor plan in New York as we maintain our hybrid work approach. As a result of our cost savings actions, we've expanded gross margins from the high 60% range to the low 70s and reduced total operating expenses from 20% from $25.3 million a year ago to $20.4 million in the third quarter.

With the successful sublease, we have completed the major restructuring actions we identified earlier this year. While these have been executed, we will remain vigilant around expense management. For example, renegotiating contracts as they expire, tightly managing our performance marketing efficiencies and remaining disciplined on headcount. Given the operating margin leverage in our 2-sided marketplace business model, we expect revenue growth to be the primary driver of margin expansion from here. As such, our focus is on shepherding our existing resources to reaccelerate growth. When luxury home good demand rebounds, we expect to be able to layer on meaningful incremental GMV and revenue without proportionately increasing operating expenses.

Turning to the third quarter results. we delivered GMV and revenue at the midpoint of guidance and adjusted EBITDA margins above the high end. GMV was $89 million, down 10% due to soft demand for luxury home goods and discretionary items. On a sequential basis, GMV growth rates improved 4 percentage points. During the quarter, we saw a change in conversion funnel dynamics. Traffic was the primary driver of order softness in contrast to recent quarters where conversion was the main headwind. While traffic growth slowed as we pulled back on performance marketing spending, the conversion headwind moderated for the fifth consecutive quarter, helped by gains in returning buyer conversion, which was the highest since late 2021.

Average order value of approximately $2,850 was up modestly, helped by strength in orders over $100,000. As a reminder, we don't manage the business to the specific average order value number and this metric is sensitive to fluctuations in high-value orders. Median order value, which is less sensitive to high-value orders, was down a modest 3% to approximately $1,200. Additionally, orders under $1,000 accounted for 45% of total orders in the quarter, up from 44% a year ago. We believe these trends signify consumer hesitancy around discretionary categories and big-ticket purchases in the current economic environment. Consumer and trade GMV growth rates both improved sequentially. We heard similar feedback in the third quarter as in the second quarter from the trade. That is, while clients are pulling back slightly due to the economic uncertainty and rising costs, designers are still actively working on projects with more in the pipeline. Turning to verticals. Out-of-home categories, fashion and jewelry were the top performers. In contrast, Vintage and Antique and New and Custom Furniture, the verticals most levered to the luxury real estate market declined more than the company average. These 2 verticals account for approximately 60% of GMV in the quarter. We ended the quarter with approximately 63,200 active buyers, down 7%. We expect this metric to remain choppy near-term as we manage through a period of soft demand. On the supply side of the marketplace, we closed the quarter with over 9,100 seller accounts, up over 30%. Additionally, there are now over 1.7 million listings on the marketplace, up 16%.

Turning to the P&L, net revenue was $20.7 million, down 9%. Transaction revenue, which is tied directly to GMV was roughly 70% of revenue with subscriptions making up most of the remainder. Take rates improved modestly due [ in part ] to growing GMV contribution from essential sellers, which carry a higher commission rate. Gross profit was $15.2 million, down 2%. Gross profit margins were 73%, up from 68% a year ago, primarily driven by lower operational headcount-related expenses as a result of our restructuring initiatives and lower shipping expenses. Sales and marketing expenses were $8.4 million, down 24% driven by lower headcount-related expenses as a result of our restructuring initiatives and lower performance marketing spend.

Sales and marketing as a percentage of revenue was 41%, down from 49% a year ago. Technology development expenses were $4.5 million, down 29% driven by lower headcount-related costs as a result of our restructuring initiatives. As a percentage of revenue, technology development was 22%, down from 28%. General and administrative expenses were $6.8 million, up 1% with higher headcount-related costs being offset by lower insurance costs. As a percentage of revenue, General and administrative expenses were 33%, up from 30%. Lastly, provision for transaction losses were $700,000, 3% of revenue, down from 5% due to a decrease in GMV and a decrease in damage claims. In summary, total operating expenses were $20.4 million, down 20%, reflecting the benefits of our restructuring actions.

Adjusted EBITDA loss was $1.8 million compared to a loss of $5.5 million last year. Adjusted EBITDA margin was a loss of 9% versus a loss of 24% last year due to savings from restructuring, partially offset by lower revenue. These results reflect the actions we've taken over the past year to reengineer our cost base.

Moving on to the balance sheet. We ended the quarter with a strong cash, cash equivalents and short-term investments position of $143 million. Additionally, interest income increased to approximately $1.8 million, up from approximately $520,000 a year ago. During the quarter, we repurchased $1.4 million of shares under our $20 million board-authorized repurchase program.

Turning to the outlook. Our guidance reflects our quarter-to-date results and our forecast for the remainder of the period. We forecast fourth quarter GMV of $83 million to $90 million, down 20% to 13%. The net revenue of $19.7 million to $20.8 million, down 14% to 9% and adjusted EBITDA margin loss of minus 13% to minus 8%. Our GMV guidance reflects continued macroeconomic headwinds, including shifting consumer behavior, ongoing economic and geopolitical uncertainty and softness in the luxury housing market. Going deeper, we typically expect to see month-over-month GMV improvements in October versus September. However, we did not see the sequential growth in October 2023. This has moderated our expectations for fourth quarter growth.

Turning to adjusted EBITDA margins. Guidance reflects negative operating leverage from lower revenue, gross margins in the range of 71% to 72% and that on a sequential basis, we expect operating expenses will be down slightly with savings from our New York City office sublease being partially offset by a sequential increase in performance marketing due to typical holiday marketing campaigns and a sequential increase in product and engineering head count due to selective hiring around machine learning.

In summary, since mid-2022, we have undertaken significant efforts to reengineer our cost structure and streamline operations. These actions included significantly decreasing employee headcount to reductions in September 2022 and June 2023 coupled with limiting backfills for attrition, restricting hiring to critical roles and drastically reducing the number of [ open up ] positions, revamping our operations team to improve gross margins. Pulling back on performance marketing by increasing our efficiency thresholds, streamlining our business and strengthening our balance sheet by divesting design manager, renegotiating vendor and software contracts and rationalizing our New York City real estate footprint. The results of these efforts were on display in the third quarter with operating expenses down 20% year-over-year, gross margins expanding and our best quarter-to-date for adjusted EBITDA margins as a public company. Our challenge remains clear. We are managing through a period of soft demand and limited visibility. Balance sheet strength and durable competitive advantages like unique supply, a trusted brand, strong SEO domain authority and high organic traffic mix will help us to navigate these headwinds thank you for your time.

And now I'll turn the call over to the operator to take your questions.

[Operator]

[Operator Instructions] And our first question coming from the line of Trevor Young with Barclays.

[Trevor Young, analyst]

Great. First 1 for David. You mentioned in the release the increase in testing velocity and I think you made comments to that effect also in your prepared remarks. Can you give us a couple of examples of that, both where you're finding some early wins as well as maybe some things that haven't worked as you expected, and that's allowed you to kind of refocus efforts and resources elsewhere. That's the first question. And then the second 1 for, I guess, either of you. You both mentioned that the cost base has now readjusted lower and margin expansion from here is going to be more top line driven. Meanwhile, you're pulling back on marketing a bit. Just as we look out to '24, like what signals are you on the lookout for that would indicate we're through the choppy macro and demand is starting to come back? Is it an improvement in the organic traffic? Is it growth in luxury home transactions and then should we assume that you layer back in some of that marketing spend against that demand once it seems like it's coming back?

[David Rosenblatt, executive]

Sure Trevor. So in terms of the testing velocity, I mean in the -- I think the significance of that is that it allows us to put many more features in the market. Not all of them succeed, as you alluded to like where we have been focused over the last quarter, a couple of quarters, has been the lower funnel. So the part of the funnel related to checkout specifically, we have a complex multistep funnel relative to most other e-commerce companies. So there -- we think there are significant opportunities at each stage of the funnel. The -- focus on checkout, I think initially, we prioritized because it has the fastest returns. But overall, it's something we've been focused on for over a year. And I think we've been heartened that our year-over-year decline in conversion has moderated in each of the last 5 quarters.

And last quarter was low single-digits, so approaching flat year-over-year, and it's something we've seen carry over into the fourth quarter. In terms of kind of what we would look for in terms of a market rebound, I think when you look at our performance overall over the last 2 years, we've indexed very tightly with the luxury real estate market. That market improved last quarter. We improved with it in terms of moderating year-over-year GMV decline as you can see from our guidance, we expect to see that soften in this quarter, along with kind of the activity that we've seen quarter-to-date. Alongside that, of course, we're focused on things that, over time, we believe, will allow us to grow faster than the market, specifically conversion. And again, like I said before, we've seen positive results of that. It's been offset so far by traffic. But overall, the more we can convert the visitors who come to 1stdibs, the better the experience for them, the better the experience for sellers and the more -- the better the platform we have to be able to reaccelerate paid. But I think, again, the sort of short answer to your question is we're pretty -- we've been pretty tethered to the market change. And while I think we can grow faster than the market, ultimately, I think we're going to need to see that market come back for us to be able to resume our targeted long-run GMV growth rates.

[Operator]

our next question coming from the line of Ralph Schackart with William Blair.

[Ralph Schackart, analyst]

On the Q4 guide, you talked about the macro as well as pulling back in [ SEN ] spend. Just curious sort of the weighting factors there because obviously, typically, in Q4, you see a little bit of a bump but just kind of curious what was the more kind of pronounced driver of sort of the Q4 guide? And then I have a follow up.

[David Rosenblatt, executive]

So I mean, I think specifically, as we look at our numbers, independent for a second of the macros, typically, we see month-over-month increase in GMV from September to October. We did not see that this October. Going deeper, the pattern that we saw was similar to what many other consumer e-commerce companies have reported, which is a slowdown in the second half of September would carry-through into October. And we saw actually a very kind of specific and pronounced decline right after the October 7 attacks in the Middle East. Since then, the GMV trends have stabilized. But at the same time, they're not sort of capturing or not reflecting our typical fourth quarter seasonality. So on that basis, we moderated our fourth quarter GMV forecast. And I think, look, what's driving it? I mean, again, I don't -- we're in the same market as everyone else.

And I would point to similar dynamics like weak demand for consumer discretionary in general, geopolitical and stability, as I mentioned. And on top of that, we're very levered to the luxury real estate market. That market was down 25% in the second quarter. It was down 10-ish percent plus in the third quarter. Our year-over-year GMV performance reflected that change. We don't know what that is yet in the fourth quarter, but we're feeling softness in that market as well.

[Ralph Schackart, analyst]

Great. And then on the call, you mentioned shifting resources from auctions and international, which have the longer payback periods, some of the seller and checkout initiatives. Just curious any metrics behind that? Or any other color you could share in terms of some of the improvements that you're seeing on that front.

[David Rosenblatt, executive]

You mean in terms of conversion improvements?

[Ralph Schackart, analyst]

That's correct.

[David Rosenblatt, executive]

Yes. So again, as I mentioned, our year-over-year decline in conversion has moderated in each of the last 5 quarters, meaning our second derivative, which is something we look at pretty closely has improved. To the extent that last quarter and quarter-to-date this quarter, we're approaching 0. So very low single-digits. So again, we're very hardened by that because that's a kind of intentional -- the result of an intentional strategy. That's helped by the pullback in paid but the pullback in paid doesn't explain all of that. We think that we -- with all of these improvements that we make are pretty rigorously tested and the only ones that we graduate to making available to all users are ones that have a kind of measurable lift. Not all of them do, some of them don't. Those fail, we don't put them into production.

So I think it's really a combination of those 2 things. What would it take? I think your one of the questions I didn't answer was what would it take for us to increase paid again. Again, it's paid for us is all about very disciplined, the very -- the math of a very disciplined customer acquisition program. So we have a breakeven. We spend up to that breakeven. As conversion continues to increase, we'll be able to spend more. But at the same time, right now, we think it's prudent to pull back on that, which we have pretty substantially and reallocate resources into features that benefit the whole user base and then improve the experience, not just for buyers, but for sellers. The most important of which is conversion. Conversion in turn is driven by reducing purchase friction and also another focus of ours which is inducing our sellers to price items as competitively as possible.

[Operator]

And our next question coming from the line of Nick Jones with JMP Securities.

[Luke Edward Meindl, analyst]

This is Luke on for Nick. So you mentioned that the active buyer growth may be choppy near term. Could you just add any additional color on what needs to happen to reaccelerate the active buyer base heading into next year, particularly if softer demand persists.

[Thomas Etergino, executive]

Yes, this is Tom. So on active buyer growth the -- so from the macro perspective on active buyers, what we're seeing is that it's definitely pulled back. We're seeing the implications of the macros, the lower luxury housing market, the decline in the housing market, the decline in consumer discretionary spend is impacting the total buyer growth. So we're -- that's where we're seeing the decline. It's mostly driven by those macros. The -- As David said, what we're starting to see on conversion is that it's been improving over the last 5 quarters from the second derivative as well, the active buyers, it's obviously been lowered because of our lower paid spend that we've been actively managing our paid spend down to reflect what we're seeing in the macros and what we're seeing in lifetime value relative to what we can spend against. So that has been an ongoing focus of ours is to bring paid spend down to reflect what we're seeing in the broader market.

[Operator]

Thank you. And at this time, I see we have no further questions in the queue. Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.