Kits Eyecare Ltd

TSX:KITS

Earnings Call Transcript 2022-Q4

[Operator]

Good day, and welcome to the Kits Eyecare Fourth Quarter 2022 and Financial Year 2022 Financial Results Conference Call. [Operator Instructions] This call is being recorded and will be available later for replay. Your hosts today are Roger Hardy, Chief Executive Officer; Sabrina Liak, Chief Financial Officer; and Joseph Thompson, Chief Operating Officer.

Before we begin, I am required to provide the following statement respecting forward-looking information, which is made on behalf of Kits and all of its representatives on this call. Certain statements made on this call will contain forward-looking information. These forward-looking statements generally can be identified by the list of words such as intended, belief, could, expect, estimate, forecast, may, would, will and other words of similar meaning. This forward-looking information is based on our opinions, estimates and assumptions in light of our experience and perception of historical trends, current conditions and expected future developments as well as other factors that we currently believe are appropriate and reasonable in the circumstances. Actual results could differ materially from our conclusion, forecast, expectations, beliefs or projections in the forward-looking information.

Certain material factors and assumptions were applied in drawing our conclusion or making a forecast or a projection as reflected in the forward-looking information. We caution investors not to rely on the forward-looking information. Additional information about the material factors that could cause actual results to differ materially from the conclusion, forecasts or projection in the forward-looking information and material factors or assumptions that were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information are contained in Kits' filings with Canadian provincial securities regulators. During today's call, all figures are in Canadian dollars, unless otherwise stated.

And with that, I would like to turn the call over to Mr. Roger Hardy, CEO. Please go ahead.

[Roger Hardy, executive]

Thanks, operator. Good afternoon, everyone, and thank you for joining us today. I'm Roger Hardy, the Kits Chairman and CEO, and we're pleased to be announcing our fourth quarter and full year 2022 results today. With me today are our two cofounders, Sabrina Liak, our President; and Joseph Thompson, our COO.

It was an outstanding quarter at Kits, as the team delivered category-leading performance across the business. The momentum in our business, which has been steadily building, continued through a record-breaking fourth quarter as we finished off a record year with our highest revenue quarter, record gross margin dollars and record number of customers served. And while these top line results are impressive, given the macro climate, additional achievements like declining marketing spend in the quarter, reduced costs in the fulfillment per order and additional reduction in G&A all demonstrate our team's strong dedication to performance and execution in the quarter as well as the inherent leverage we are seeing as our business continues to scale.

Revenue in the fourth quarter grew 29% or $6 million to $26.2 million compared to $20.3 million in the prior year period. The increase was primarily attributable to growth in new customers and strong repeat revenue, driven by the strength of the Kits brand and word-of-mouth momentum as marketing investments declined in the period. Additionally, a full 65% of revenue in 2022 was from loyal, repeat and returning customers, which remains strong.

Gross profit in Q4 increased 46% to $8.9 million compared to $6.1 million in the prior year period, while gross margin increased 380 basis points to 34% compared to 30% in the prior year period. The increase was primarily driven by less promotional activity as the brand momentum and power of word of mouth fueled our growth and a focus on higher-margin orders and improved margins from returning customers. The company also achieved positive adjusted EBITDA of $0.4 million in the fourth quarter.

Overall, there was exceptional progress this year in expanding our vertically integrated manufacturing facility and generating a record 780,000 active guests and a record 290,000 new guests. Additionally, we served almost 500,000 vision-corrected guests in the year, making us one of the largest vision care providers globally. All this while increasing our current annual revenue run rate to over $100 million and finishing the year with an impressive 29% growth rate in Q4.

We believe momentum is likely to continue given the strong pull from customers we've been seeing build throughout the back half of the year and now as we enter the traditionally busy season for optical. I'd like to congratulate the entire world-class Kits team on delivering more than 240,000 eyeglasses in just our second full year of manufacturing eyeglasses, a remarkable achievement for the launch of any new consumer business.

The vision category remains resilient as guests continue to seek the best value and convenience for their optical needs. As we've experienced during the last several quarters, our growth was fueled by strong and growing brand awareness and word of mouth, highly recurring business model and strong repeat customers, which we anticipate will continue. Given the stability of the optical market and growing customer demand we're experiencing at Kits, we're also enhancing our view of the longer-term economics as we believe margins at Kits will continue to move higher over the medium to longer term and as glasses become a larger part of our offering.

Accordingly, we believe margins will trend to 40% to 45% in the medium to longer term and that EBITDA margins of 10% to 15% will become achievable. At December 31, 2022, cash and cash equivalents were healthy $18.8 million compared to $20.4 million at September 30, 2022, and $20.5 million at December 31, 2021. The company generated $4.7 million of operating cash flow in the year, and this should give investors comfort that our business will have no requirements for cash as it continues to grow in scale. Additionally, our estimates are that we will be able to scale operations to an excess of $200 million of revenue from our current facilities with very nominal CapEx investments, having already made these investments over the past 2 years.

With that, I'd like to hand the call over to Joe to dive into more detail on our financial and operational performance throughout the quarter and the full year. Joe?

[Joseph Thompson, executive]

Thanks, Roger.

We are committed to maintain an asset-light infrastructure, with our investments focused on building the best product experience for customers. We do this by maintaining the lowest cost of manufacturing and delivery in the industry with our automated onshore optical lab and fulfillment center. By manufacturing and fulfilling ourselves, we can ensure the quality and cost is industry-leading, delivered to guests in as soon as 1 to 2 days and do so with healthy margins.

In 2022, we delivered over 240,000 pairs of eyeglasses throughout North America, and only our second full year of glasses production. Every pair of prescription glasses was made in our facility. We've expanded our lens selection and our product selection extensively in the year, offering guests more choice on sizing, styles and lens quality.

In 2022, we rolled out next-day delivery to be available in all key metro areas in Canada, with plans to extend this more substantially in the U.S. market in 2023. We built a custom fulfillment network that's allowed us to deliver faster to customers at lower cost. We continue to expand our insurance partnerships and our fast-growing Fulfillment by KITS business.

Our guests have shared with us that there is a magic moment when they place an order for prescription glasses on kits.com or kits.ca, and the next day, it arrives at their doorstep. And the fit is great, the quality of the frame and lens is outstanding and the value is best in the industry. We recently had a customer say to us, "How could this be so?" In an industry where glasses can regularly cost over $500 and take weeks to arrive, we believe the infrastructure we built can serve millions of customers in the years ahead.

Our team has set the bar to deliver this high level of experience for all Kits customers in glasses and contact lenses in North America. Delivering this consistently is the best way to ensure vision-corrected customers stay with Kits for a lifetime. There is more work to be done, but we have the infrastructure, the team and the technology to achieve it.

And we believe that more leverage is coming in the model. The CapEx we have deployed over the past 1.5 years in lab, design, fulfillment and technology will enable us to scale to over $200 million in revenue without requiring a big injection of cash. As we grow, our scale will make our business more profitable.

Each quarter, we spent some time in this call on our performance retaining customers. In 2022, our holistic eye care offering, again, delivered sales retention levels that, in our view, are the highest in the category on customer cohorts from 2015 to 2021. Our glasses' repeat revenue growth improved 128% versus 2021. Overall, in fiscal year 2022, approximately 65% of our revenue came from repeat customers.

I'll now turn the call over to Sabrina for the financial overview.

[Sabrina Liak, executive]

Thanks, Joe.

We're pleased with the progress we've made in 2022. Revenue in the fourth quarter increased 29% to $26.2 million compared to $20.3 million in the prior year period. The increase was primarily attributable to growth in new customers during the quarter and strong repeat revenue fueled by word-of-mouth, brand awareness.

Gross profit in the fourth quarter increased 46% to $8.9 million compared to $6.1 million in the prior year period. while gross margin increased 380 basis points to a record 34% compared to 30% in the prior year period. Meaning on strong organic growth tailwinds, we were able to moderate our promotions during this period and focus on higher-margin orders and drive repeat business.

Net loss was $1.4 million or $0.04 per share compared to a net loss of $4.1 million or $0.13 a share in the prior year period. EBITDA improved to minus $0.3 million compared to minus $2.4 million in the prior year period, while we generated positive adjusted EBITDA of $0.4 million compared to minus $1.2 million in the prior year period. The improvement was primarily attributable to higher revenue and gross profit, a reduction in public company expenses and a decrease in marketing and administrative expenses.

Now turning to our full year results. Revenue increased 11% to $91.6 million compared to $82.4 million in 2021. The increase was primarily driven by growth in new and repeat customers, including a record 290,000 new customers we served in 2022. Gross profit increased 40% to $29.2 million compared to $20.9 million in 2021, while gross margin increased 656 basis points to 31.9% compared to 25.4% in 2021.

Improvements in our gross margin were largely attributable to an easing in promotions as we leaned in on word-of-mouth awareness and repeat customers, along with the decrease in fulfillment expenses as a percentage of revenue. We anticipate fulfillment expenses in some of our COGS as a percentage of revenue will continue to rationalize as we scale the business.

We generated a net loss of $4.6 million or $0.15 per share compared to a net loss of $14.6 million or $0.49 a share in 2021. EBITDA improved to minus $0.8 million compared to minus $14.4 million in 2021, while adjusted EBITDA improved to minus $1.8 million compared to minus $8.7 million in 2021. These improvements were largely due to a higher profit and decreasing operating expenses. Additionally, the improvement was driven by a foreign exchange gain of $2.3 million recognized in 2022, and onetime IPO costs that were incurred in the first quarter of 2021. We ended the quarter with a strong year-end cash balance of $18.8 million compared to $20.5 million at the end of 2021.

In the present macroeconomic landscape, we will continue to prioritize funding growth from internally generated cash flow. We believe our asset-light, consumer-focused model, paired with our onshore production facility, positions us well competitively, and we look forward to expanding on the momentum we have generated as we grow to new heights in the coming quarters.

Now I will pass it back to Roger for some closing thoughts.

[Roger Hardy, executive]

Thank you, Sabrina.

As you can see from our results this quarter, we made significant progress and the momentum continues to build behind our complete eye care offering. We're increasing our gross margin expectations as we continue to scale and expand into specialty vision products, including digital progressives. We're competitively advantaged in this regard as we own our own fulfillment and manufacturing, enabling us to provide customers with an incredible experience that is driving word-of-mouth and retention.

In 2023, we plan to continue to expand our insurance and business partnerships through our Fulfilled by KITS platform. We also plan to execute all of this in a disciplined manner and fund this growth from our internally generated cash flows.

Thank you all for joining us today and for the support over the past couple of quarters. I'll now turn the floor over to the operator for any questions. Operator?

[Operator]

[Operator Instructions] Your first question comes from Matt Koranda from ROTH.

[Michael Zabran, analyst]

It's Mike Zabran on for Matt. Great to hear the medium to longer-term margin targets, but could you just elaborate on that, just on the key puts to get to those targets? And also when can we achieve these, the margin targets? Is it a -- is this a 2024 sort of outlook or just kind of longer-term commentary?

[Joseph Thompson, executive]

Hi, Mike, this is Joe. Thanks for the question. The gross margin targets that were discussed in the call are in the 3- to 5-year range. And as you heard, we're as excited as ever about the long-term potential of this business and of the profitability of this business based on the progress that we saw in Q4.

In the short to medium term, we're setting our sights on a 40% gross margin level and EBITDA in the 5% to 10% range. We haven't defined a specific quarter we'll achieve this in, but the Q4 results show steady progress. Boosting gross margin moving forward will, of course, be glasses' growth, which traditionally comes at a higher gross margin profile as well as continued growth of insurance customers, digital progressives and lens upgrades. And as our volume continues to step change, we'll also continue to see the benefits from scale.

[Michael Zabran, analyst]

Right. Okay. Got it. And to your point on the glasses growth, you saw some improvement to the glasses mix of revenue in 2022. Any way we can sort of quantify how we're thinking about the glasses mix coming out of '23?

[Joseph Thompson, executive]

Sure, Mike. This is Joe again. So in -- as we think about 2023, it's probably important to think a little bit of our performance in 2022 as a backdrop. So in Q2 and Q3 of 2022, we welcomed a significant amount of new glasses customers to Kits. And in Q4, we saw the biggest growth driver on glasses being repeat glasses customers. Those customers we acquired earlier in the year coming back for a second pair. Now these customers tend to return at a higher gross margin and don't require the marketing dollars that a new customer requires to come into the Kits franchise. So importantly for us, having this high rate of repeat customers reinforces our model and really gives us more confidence in best in glasses growth in 2023.

So in Q1, we're seeing that trend continue. And so we have, as you've heard, plenty of capacity that we have -- that we've built in our lab and our fulfillment network. And so we continue to see glasses as a big growth driver for our business in -- throughout 2023. The difference versus 2022 will be a higher mix of repeat customers as a percentage of that total growth.

[Michael Zabran, analyst]

Got it. That's helpful. Last one for me. Encouraging to see the revenue per active customer continued to go on higher in Q4, especially in the current promotional environment. Could you just speak to any trends you're seeing in the current competitive environment, maybe as it pertains to depth of price cuts or amount of SKUs on discount? And how are we responding to those observations?

[Roger Hardy, executive]

Yes, sure, Mike. Hey, it's Roger. I think the team has been disciplined. And I think sort of backing up and going a bit higher level, we continue to think that there are compelling category dynamics in vision care. Vision is nondiscretionary, so despite sort of the macro environment, customers are still looking -- customers still need to see. And as we look around, I think we're quite fortunate to not be one of the legacy models that has many overheads in terms of the brick-and-mortar and the traditional model.

So I think our value proposition is really resonating with customers, both new and returning. And our view is that as this year progresses, we're starting to see and we'll see more of an increase in consumption among our existing customers. So customers who in the past will buy one pair of glasses, and that would typically last 1 year or 1.5 years.

We're seeing those customers return for a second, a third, in some cases, a fourth pair of eye glasses.

So we think that as we think about ourselves, we're really well positioned to be able to fulfill those for those guests or customers and not seeing a lot of competitive pressure. Obviously, we focus more on what we're doing to serve customers than what others are doing. But I think the market, in general, has had quite a bit of discounting.

And I think we -- like I said, our team was disciplined. They really just kind of held the line on. We've got great value. We weren't promotional in the quarter. You see that reflected in margins. And it's always nice to see when your brand starts to kick in. Brand is really the function of less promotion, margins going up and marketing going down. That's the intangible as brand and really word-of-mouth start to kick in. So it was a good quarter from that regard. And hopefully, that answers your question, Mike.

[Operator]

Your next question comes from Derek Dley from Canaccord.

[Pulkit Sabharwal, analyst]

Pulkit on for Derek. Just a couple of questions for us. Could you expand a little bit more on the insurance partner side? Is there an average difference in terms of what an average purchase size looks like over there as opposed to a regular customer?

[Joseph Thompson, executive]

Hi, Pulkit, this is Joe. Thanks for the question. We continue to onboard more insurance partners. We like the economics that we're seeing from that model. The average order size tends to be higher and the customers are tied to an insurance plan, which renews each year.

So it will build gradually. This is -- it's not a switch that immediately comes in. And -- but we continue to invest in it and be very, very excited about both the customer base and the economics of those customers.

[Pulkit Sabharwal, analyst]

Okay. That's great to hear. And then just in terms of the expansion of the [ aging ] product categories, such as progressive lenses and bifocals, could you just expand on how that's going? And what should we expect over the course of the year?

[Joseph Thompson, executive]

Sure. Thanks for touching on that. So progressives will be the next big focus of growth for our optical business. We really focused on building a holistic solution for eye care, contact lenses, single-vision prescription glasses and progressive. And progressive we launched a short while ago, and it's been scaling well, but we see a lot of opportunity in there.

Typically, the retail price to the pair of digital progressive glasses can be $800 to $1,200 per pair. And we're happy to offer our Kits-branded progressive glasses at approximately $100. And so we see a lot of growth opportunity. We're continuing to invest in the manufacturing of that. And you'll see increasing activity from Kits in the market, both in Canada and in the U.S. We're very, very bullish on that market.

[Operator]

[Operator Instructions] There are no further questions at this time. You may proceed.

[Roger Hardy, executive]

Great. Thanks, operator. And again, thanks, everyone, for joining us today.

Congrats and congratulations to the entire Kits team for a fantastic quarter marked by rigorous execution and rising momentum. As the year proceeds, we look forward to updating shareholders on our progress.

Thank you again to everyone who participated in today's conference call. We look forward to speaking with you, again, when we report our first quarter 2023 results. Thanks, and have a great day.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating, and ask that you please disconnect your lines.