Zalando SE

XETRA:ZAL

Earnings Call Analysis

Strong EBIT Growth Despite Revenue Dip

In 2023, we achieved the top end of our adjusted EBIT guidance and met our revised top line guidance. Despite a slight GMV decrease of 1.1% and a revenue dip of 1.9%, we strengthened our wholesale gross margins and saw robust partner business performance, leading to year-over-year gross margin improvement in Q4. This resulted in a strong free cash flow, ending with EUR 2.5 billion on hand. Q4 adjusted EBIT surged 25% year-over-year to EUR 183 million with a 6% margin, up 1.4 percentage points. For 2024, we forecast a return to 0%-5% GMV and revenue growth with an adjusted EBIT target of EUR 380 million to EUR 450 million.

A Resilient Financial Performance amidst Challenging Market Conditions

In a year marked by weak consumer demand, the company managed to deliver on its financial commitments, ending up at the top end of its adjusted EBIT guidance with EUR 350 million. This performance underscores strong financial discipline, reflecting the ability to manage costs and drive sustainable efficiencies even when faced with revenue headwinds. A noteworthy outcome was the growth in free cash flow, leading to a cash position of EUR 2.5 billion by the year's end.

Conservative Growth Aiming for Increased Profitability in 2024

Looking to the future, the company is set to pivot towards profitability while continuing to seek growth, albeit at a modest pace of 0% to 5% in GMV and revenue. The target for 2024 is an adjusted EBIT of EUR 380 million to EUR 450 million, indicating a firm commitment to improving the bottom line. This guidance represents a strategic balance between growth and profitability, appealing to investors interested in steady and sustainable financial performance.

A Dip in Sales Coupled with a Strong Profitability Surge

The company experienced a slight dip in sales, with Gross Merchandise Volume (GMV) decreasing by 1.1%, and revenue by 1.9% for 2023. This decline was felt more acutely in the fourth quarter, where GMV was down by 2.6% and revenues by 3.5%. However, the year closed with a significant 25% increase in adjusted EBIT for Q4, showcasing improved margins and operational efficiencies as adjusted EBIT margins soared by 1.4 percentage points year-over-year to 6%.

Active Customer Base Shrinks Marginally While Spending Increases

The company's active customer base saw a slight yearly drop of 3.3%, landing at 49.6 million customers. While this points to a contraction, customers are spending more on average, with the GMV per active customer increasing by 2.3% to EUR 295.20. This increase in spending per customer is crucial as it indicates that despite a decrease in the overall customer base, the revenue impact is buffered by higher individual customer value.

Customer Cohort Analysis Reveals Diverse Shopping Behaviors

An analysis of different customer cohorts shows varying trends. Pre-COVID cohorts continue to contribute more than they did prior to the pandemic, though spending has tapered off compared to recent years. This has likely been a result of broader market factors. Post-COVID cohorts, however, show significant changes in retention and frequency, as the offline retail sector regains momentum. Efforts at attracting new customers have slowed down as the company prioritizes profitability over aggressive customer acquisition. Nonetheless, a customer base of approximately 50 million is considered robust enough to underpin future growth ambitions.

Operational Highlights: Fashion Store and Segment Analysis

In an operational deep dive, Fashion Store GMV declined by 3.2%, and revenue was reduced by 4.1%. Yet, the partner business within the segment flourished, attributing to 39% of Fashion Store GMV, which is an increment from the prior year. Region-wise, DACH showed great resilience with an improved top line, thanks in part to a catch-up following a warm September. Adjusted EBIT for DACH registered a substantial increase, painting a picture of effective regional strategies and efficiencies.

Cost Optimization Leads to a Notable Gross Margin Improvement

The narrative of optimization extends to cost management, with gross margins witnessing a 1.2 percentage point increase to 39.4%. Even as the company navigated less-than-ideal sales figures, its capability to concurrently improve fulfillment costs by 0.9 percentage points to 22% showcases strong operational controls and a potential for margin expansion. This improvement is particularly striking given it occurred during peak trading periods where discount strategies often compress margins.

Earnings Call Transcript 2023-Q4

[Operator]

Ladies and gentlemen, welcome to the Zalando SE publication of the full year results 2023 conference call. I am Jota, the Chorus Call operator. [Operator Instructions] And the conference is being recorded. [Operator Instructions] The conference must not be recorded for publication or broadcast.

At this time, it's my pleasure to hand over to Patrick Kofler, Head of IR. Please go ahead.

[Patrick Kofler, executive]

Thank you, and good morning, ladies and gentlemen, and welcome to our Q4 2023 earnings call. Today, I'm joined by our CFO, Sandra Dembeck. Sandra will briefly walk you through the presentation and is available for questions afterwards. Just as a reminder, later today, starting at 10:30 a.m. CET, we will provide a detailed strategy update, we accordingly invite you to participate. Therefore, we will keep this call rather short as well as the Q&A.

As usual, this call is being recorded. The live webcast as well as the replay of the call will be available on our Investor Relations web page later today.

Sandra, I will now hand it over to you. Please go ahead.

[Sandra Dembeck, executive]

Thanks, Patrick. Hello also from my side, and thank you for joining me on this morning's call. So for 2023, we set ourselves 2 key priorities. One was profitable growth; and two, selectively investing in future growth, and we follow through on both priorities. And with that, we are bracing up now for 2024.

So let me summarize our 2023 achievements. For the full year, we delivered at the top end of our adjusted EBIT guidance and came in, in line with our revised top line guidance. We are strengthening our wholesale gross margins and combined with the strong performance of our partner business, we delivered year-over-year gross margin improvement in Q4, and we generated a strong free cash flow, ending the year with a cash position of EUR 2.5 billion.

So overall, in 2023, we laid a solid foundation for 2024. And in 2024, we return to growth with GMV and revenue growth expected to be in the range of 0% to 5%. And we continue to improve profitability while investing in future growth, targeting an adjusted EBIT of EUR 380 million to EUR 450 million.

So let's turn to the numbers for 2023. So on Page 3, you can see that we delivered on our revised full year guidance. On growth, on top line, we delivered in line with our revised guidance amidst the weak consumer demand, continuing over peak trading. Year-over-year GMV decreased by 1.1% in 2023 and revenue by 1.9%.

On profitability, on adjusted EBIT, here we came in at the top end of the range at EUR 350 million, and that's underscoring our strong financial discipline and our drive for sustainable efficiencies. On CapEx, we spent EUR 263 million as we recalibrated the phasing of our logistics network build-out. And net working capital came in negative. We saw a cash inflow of EUR 442 million.

So let's move on to the group financials on Page 4. In Q4, the pressure on demand continued and limited our ability to grow. And as a result, Q4 GMV came in at EUR 4.5 billion, down 2.6% year-over-year. Revenues declined by 3.5% to EUR 3.1 billion. We delivered GMV growth in October, yet experienced the subdued demand over the peak trading events, Cyber and Christmas.

And given this market environment and given our healthy inventory position, we continued with our focus on improving profitability and progressing on gross margin rather than chasing growth. So as a result, in Q4, we saw a significant step-up in profitability. We delivered adjusted EBIT of EUR 183 million, an increase of 25% year-over-year and an adjusted EBIT margin of 6%, so up 1.4 percentage points year-over-year.

So a quick talk about the full year. For full year 2023, GMV came in at EUR 14.6 billion, so slightly down on 2022, but this is still ahead of the pandemic peak levels. Adjusted EBIT almost doubled year-over-year from EUR 185 million to EUR 350 million. So we delivered an adjusted EBIT margin of 3.5%, which brings us back into our profitability corridor of 3% to 6%.

Let me now walk you through the customer metrics on Page 5. As always, this is on the last 12 months basis. So starting on the left, our active customer base stands at 49.6 million, showing a decline of 3.3% year-over-year. And in this subdued demand environment, we acquired less new customers as we focus on profitable growth.

Moving over to the right. Order frequency decreased by 3.1% from 5.1 to 4.9. The average basket size increased by 5.5% to EUR 59.80 as a result of higher average item value. And this is due to price inflation as well as assortment mix. And GMV per active customer increased by 2.3% to EUR 295.20.

Let's move on to Page 6, our customer cohort. The macro impact from the lower discretionary spend, the rebalancing between online and off-line as well as our focus on profitable growth and deleveraging the customer experience are reflected in our customer cohort dynamics. So for pre-COVID cohort, GMV contribution is ahead of pre-COVID levels, yet it is lower than in recent years. And this is most likely the result of macro impact.

COVID cohort show a more pronounced drop in customer retention and shopping frequency. And this is given that offline regained momentum post the pandemic. And then let's come to the new cohort of 2022 and 2023. Here as a result of our focus on profitable growth, we see slowing growth in new customer acquisitions. So all in all, our active customer base of about 50 million provides for a healthy customer set as a baseline for sustainable future growth.

Let's now turn to our segment performance, starting with top line on Page 7. In Q4, Fashion Store GMV declined by 3.2%. Revenues came in at EUR 2.5 billion, down 4.1%. The partner business continued its strong performance and increased its share to 39% of Fashion Store GMV. So that's up 3 percentage points year-over-year. Top line performance in DACH proved resilient, partly helped by a catch-up effect and following the unseasonable warm weather in September and revenues at minus 0.6% developed broadly flat.

In Rest of Europe, revenues declined by 6.8% and here, the picture is pretty similar across the more mature markets, while our new markets continue to grow. Offprice, here revenues declined by 1.2% despite the good Cyber Week as availability of attractive in-season stock in the sourcing markets remained low. Nevertheless, on a 2 year-over-year basis, we see growth accelerating from Q3 into Q4 and continuing into Q1 2024.

All other segments, including ZMS, Highsnobiety, Tradebyte, performed flat. For ZMS, we saw continued cautious spend from brand partners. ZMS revenues as a percent of Fashion Store GMV stayed broadly flat at around 2%.

So let's turn to segment profitability on Page 8. In Fashion Store, adjusted EBIT increased by more than 70% to EUR 167 million, and adjusted EBIT margin came in at 6.7%. Fashion Store and also both regions, DACH and Rest of Europe, delivered a significant step-up in the fourth quarter profitability as you can see here in the middle of the slide.

In DACH, adjusted EBIT came in at EUR 119 million, up from EUR 92 million last year. And in Rest of Europe, the profit improvement is even more pronounced, and that's despite the weak top line development. But here, the adjusted EBIT came in at EUR 49 million, up from EUR 2 million last year. And in Offprice, adjusted EBIT declined against the softer top line, which is driven by more aggressive discounting as a result of the assortment mix as well as higher marketing spend. Adjusted EBIT came in at EUR 3 million and adjusted EBIT margin at 0.5% and all other segments delivered adjusted EBIT of EUR 17 million.

So moving on to Slide 9. Let's first focus on the Q4 P&L on the right-hand side, the one that there is the bar around. In Q4, our gross margin improved by 1.2 percentage points to 39.4%. So our normalized wholesale inventory position allowed us to focus on gross margin improvement over peak trading. Fulfillment costs further improved by 0.9 percentage points to 22%, as a result of better order economics and further scaling of our partner business, more than offsetting the increasing costs we see, especially in transportation.

Marketing costs are up 0.4 percentage points to 8.3% and admin and other expenses slightly better at 4.2%. So summarizing the Q4 P&L, improved gross margin and continued efficiencies in fulfillment costs drove the strong improvement in profitability.

Let me also highlight our major developments for the full year 2023 on the left-hand side. The gross margin ended at 38.7%, down 0.5 percentage points. So throughout 2023, the market remained very promotional as players try to mitigate the impact of subdued online demand, the elevated inventory levels across the market and adverse weather patterns. And as a result, our wholesale gross margin declined while our partner business remained margin accretive.

On fulfillment, we continue to see a very positive development. Cost to revenue ratio declined by 2 percentage points to 24.2%. Drivers have been the same throughout the year, improved order economics based on higher average item values and continued efficiencies and the scaling of our partner program further supported fulfillment costs.

Marketing costs decreased by 0.3 percentage points to 7.4% as we reduced performance marketing in light of the continuous subdued demand and now focus on profitable growth. And admin and other expenses increased by 0.7 percentage points to 5.2%. And the increase is largely the result of 2 factors. First, we concluded our reshaping program which resulted in restructuring costs of overall EUR 32.4 million. And secondly, we consolidated our office footprint here in Berlin.

So turning to Slide 10 for net working capital. Net working capital was negative in Q4. We recorded a cash inflow of EUR 442 million, and the main driver was the inventory. At the end of 2023, we had inventory of around EUR 1.4 billion, so 20% lower inventory than last year as a result of our very prudent wholesale buy this year and the effective in-season overstock management.

So let's go to Slide 11. Operating cash flow doubled from last year, reaching EUR 950 million, the biggest driver being the reduced wholesale buy and the lower inventory position. Investing cash loss of EUR 321 million includes EUR 263 million of CapEx. We invested roughly EUR 180 million in new distribution centers in France and Germany as well as for existing logistics sites, and software investments amounted to EUR 73 million.

And with that, we delivered a strong free cash flow of EUR 684 million as a result of our focus on profitable growth while selectively investing in future growth. And at the end of 2023, we had cash and cash equivalents of EUR 2.5 billion, a year-over-year increase of EUR 0.5 billion. Our strong cash position provides us with the financial flexibility and allows us to invest in future organic and inorganic growth opportunities.

So this concludes the Q4 and full year 2023 financials. Moving on to Page 12. So to conclude 2023, let me update you one last time on our 3 key objectives, as mentioned on this slide. So you will see from the ticks on the right-hand side that we achieved all 3 objectives, and will continue on our multiyear journey of strengthening gross margin. Here, we see further room for improvement, which I will come back to in our strategy update later today.

So to conclude on 2023, with our focus on profitable growth, we delivered a significant improvement in profitability and increasing cash, and in combination with our selective investments in future growth, we laid a solid foundation for growth and margin expansion going forward.

And with that, let's have a look at our guidance for 2024 on Page 13. So 2024 is the first year of our updated strategy. But in this context also, we have to say, 2024 is for us the year to return to growth. So for GMV and revenue, we guide to 0% to 5% growth. And 2 things to note here, the wider range reflects the continued uncertainty we still see in the market.

The fact that GMV and revenue are growing at the same pace is the result of our growing B2B business with ZFS and multichannel fulfillment under the sales brand adding additional revenue, which is not accounted for in GMV. Hence, GMV and revenue guidance are very similar this year. And it's worth noting year-over-year B2B will be outgrowing the group significantly.

Adjusted EBIT will further increase and is expected to be in the range of EUR 380 million to EUR 450 million. This is reflecting our continued focus on profitability. And so our guidance range implies further adjusted EBIT margin progression to 3.7% to 4.2%. CapEx is expected in the range of EUR 250 million to EUR 350 million as we continue to invest in our logistics infrastructure as well as in technology in line with our strategy update.

So in 2024, we will return to growth, while we continue to improve profitability, and we continue to invest in future growth. And with that, let me conclude the presentation and open the room for some Q&A.

[Patrick Kofler, executive]

And before we jump into the Q&A, let's please remind us that in this Q&A session, we only cover Q4 as well as 2023 and 2024 topics. We will not answer any strategic update questions, which we have enough space and time afterwards. Thanks for consideration, and over to the operator.

[Operator]

[Operator Instructions] The first question comes from the line of Anne Critchlow with Societe Generale.

[Anne Critchlow, analyst]

Please, could you give a little bit of color on trading so far this year to date? So what's the consumer mood in the different markets, please?

[Sandra Dembeck, executive]

Happy to. So current trading, we saw a similar start of the year as it had ended. However, we saw a positive start into the spring/summer season and that continued into March. So consumer sentiment, I would say, is still subdued across many of our markets, but there was a positive start into spring/summer.

[Operator]

The next question comes from the line of Volker Bosse with Baader Bank.

[Volker Bosse, analyst]

Volker Bosse, Baader Bank. The average value per order increased. However, the overall consumer sentiment is still muted, so my question would be on overall sector trends, which evolved during '23, which you see and what you bid on.

[Sandra Dembeck, executive]

Thanks for the question. So sector trends of 2023 primarily were around, I would say, 2 different topics. One was macroeconomics. So we still saw that continued consumer -- muted consumer sentiment based on the fact that discretionary spend was impacted by the higher inflation. So there was less money available for consumers to spend.

And secondly, we saw that especially in the first half that rebalancing between online and off-line still continued, that gradually faded towards the end of the year. And we do expect online now to grow in -- online penetration to slightly improve in 2024. I think those were the 2 major things we have seen in 2023.

[Operator]

The next question comes from the line of Adam Cochrane with Deutsche Bank.

[Adam Cochrane, analyst]

A couple of questions, if I may. You mentioned helpfully the current trading comment there. Have you got any other views on how the shape of the year is set to evolve. We've had a number of companies telling us that by the time we get to the second half of the year, we'll be expecting a sort of significantly higher growth rate. That's a view that you share as well?

And then secondly, the major -- can you sort of outline the major drivers of the EBIT growth as we look at 2024, largely gross margin, you got more on the OpEx sales to do fulfillment costs and things that you did last year. So an idea of where that growth in EBIT is coming from? And then the third one is, can you just give us an idea on the category split, how premium has done, maybe how beauty has done? Just some idea of how things evolved in 4Q by category, if that's possible.

[Sandra Dembeck, executive]

Thanks, Adam. So on the current trading and how things will progress throughout the year. So as I mentioned in the first question, so we had -- the start into the year was similar to how we ended the year, but it was a positive start into the spring/summer season, and that has now continued into March. We do expect that we will see growth accelerate throughout the year. And so you mentioned about many companies coming out and talking about the second half.

I think we take a bit of a similar view because at the moment, we still see this low consumer sentiment actually continuing. But real wage increases will happen. Yes, inflation has come down, discretionary spend will go up, so consumption should return.

On the next question around the major drivers of EBIT. So 2024 return to growth. The EBIT margin is progressing at the midpoint by 50 bps. The drivers behind that are twofold. So gross margin at a group level and remember that we have now the new segment reporting with B2B, B2C. Gross margin at a group level will be broadly flat, maybe slightly up, let's see, but broadly flat, whereby gross margin in B2C will be up, but that's compensated by the strong growth we see in B2B.

And then we will see further improvements in fulfillment costs based on the fact that we continue to drive efficiencies as well as the scaling of our B2B business. And that then ultimately results in the EBIT margin progression.

On your third question, the category split. So the subdued demand and given our healthy inventory position around fashion basically would result in the growth momentum being more around beauty. So here we saw, for example, for the full year, double-digit growth. We saw the pivot back into 2 year-over-year significant growth in Offprice.

Premium, just as a reminder, is, of course, a category which is shop for Christmas. However, the whole designer experience only went live towards the end of the year, yes. So that's a category, I think we should have an eye on this year. And other than that, there wasn't really much of a differentiation. I think the one to really point out is that return -- like that pivot in Offprice as well as the double digit for the year in Beauty.

[Operator]

The last question comes from the line of Yashraj with UBS.

[Yashraj Rajani, analyst]

So I got 2, please. The first one is on active customers. Can you please give us some color on what percentage of your active customers after the attrition are still unprofitable? And do you see for 2024 you'll still be losing some active customers?

And then the second question is just a follow-up to the previous one on margin drivers. So on marketing, how are you thinking about that going into 2024? And is the Q4 run rate representative of what you are baking in for 2024?

[Sandra Dembeck, executive]

So on active customers. Here, what is really important is that our -- first of all, the GMV per active customer has increased, yes, but so has also the profitability per active customer, yes. We don't really differentiate or provide that information around like which categories of customers we see in that. But all in all, we have seen a significant increase in the profitability of all of our customer cohorts.

And your second question, the margin drivers. So the marketing is built into the EBIT progression that we are showing here, yes, so we intend to slightly invest a bit more in marketing in 2024, but that has all been baked into the EBIT margin that we are guiding to.

[Operator]

Ladies and gentlemen, that was the last question. I would now like to turn the conference back to Patrick Kofler for any closing remarks.

[Patrick Kofler, executive]

Thanks, everyone, for joining this short session today. And as I said in my intro, we are happy to welcome everyone on our strategy update where we have many more Q&A sessions to come. And with that said, enjoy your day and hopefully, see all of you soon. Thanks. Bye-bye.

[Operator]

Ladies and gentlemen, the conference is now over. Thank you for choosing Chorus Call, and thank you for participating in the conference. You may now disconnect your lines. Goodbye.