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Edited Transcript of NLS.N earnings conference call or presentation 9-Nov-20 9:30pm GMT

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Q3 2020 Nautilus Inc Earnings Call Vancouver Nov 10, 2020 (Thomson StreetEvents) -- Edited Transcript of Nautilus Inc earnings conference call or presentation Monday, November 9, 2020 at 9:30:00pm GMT TEXT version of Transcript ================================================================================ Corporate Participants ================================================================================ * Aina E. Konold Nautilus, Inc. - CFO * Becky L. Alseth Nautilus, Inc. - VP of Marketing & Direct * Christopher K. Quatrochi Nautilus, Inc. - SVP of Innovation * James Barr Nautilus, Inc. - CEO & Director * William B. McMahon Nautilus, Inc. - Special Assistant to the CEO ================================================================================ Conference Call Participants ================================================================================ * George Arthur Kelly ROTH Capital Partners, LLC, Research Division - MD & Senior Research Analyst * Mark Eric Smith Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst * Michael Arlington Swartz Truist Securities, Inc., Research Division - Senior Analyst * Sharon Zackfia William Blair & Company L.L.C., Research Division - Partner & Group Head of Consumer * Steven Lee Dyer Craig-Hallum Capital Group LLC, Research Division - CEO & Senior Research Analyst * John Mills ICR, LLC - Managing Partner ================================================================================ Presentation -------------------------------------------------------------------------------- Operator [1] -------------------------------------------------------------------------------- Greetings, and welcome to Nautilus, Inc. Third Quarter 2020 Earnings Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. John Mills of ICR. Please go ahead, Mr. Mills. -------------------------------------------------------------------------------- John Mills, ICR, LLC - Managing Partner [2] -------------------------------------------------------------------------------- Thank you. Good afternoon, everyone. Welcome to Nautilus' Third Quarter 2020 Conference Call. Participants today from Nautilus are Jim Barr, Chief Executive Officer; Aina Konold, Chief Financial Officer; Becky Alseth, Chief Marketing Officer; Chris Quatrochi, Senior Vice President of Product Development; and Bill McMahon, Special Assistant to the CEO. Please note, this call is being webcast and will be available for replay for the next 14 days. We will be happy to take your questions at the conclusion of our prepared remarks. Our earnings release was issued today at 1:05 p.m. Pacific Time and may be downloaded from our website at nautilusinc.com on the Investor Relations page. The earnings release includes a reconciliation of the non-GAAP financial measures mentioned in today's call to the most directly comparable GAAP measures. For today's call, we have a presentation accompanying the call with management will refer to during their prepared remarks, and on Slide 2 is our full safe harbor statement, which we ask everyone to read. You can access the presentation by going to nautilusinc.com, click on the Investor tab and then click on the Events & Webcast to access the presentation. I'd like to remind everyone that during this conference call, management will make certain forward-looking statements. These forward-looking statements are based on the current beliefs of management and information currently available to us. Such forward-looking statements are not guarantees of future performance, and therefore, one should not place undue reliance upon them. Our actual results will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control and ability to predict. For additional information concerning these factors, please refer to the safe harbor statement and to our SEC filings, which can be found in the Investor Relations section of our website. And now it is my pleasure to turn the call over to Nautilus' CEO, Mr. Jim Barr. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [3] -------------------------------------------------------------------------------- Thank you, John. Good afternoon, everyone, and thank you for joining today's call. The pandemic has been a challenging time for the world. We awoke today to positive news of progress on a vaccine and are uplifted by it. While we are sensitive to the devastating impacts that it's had, the resulting trend towards home fitness has continued to boost demand for our products and brands. I'm extremely proud of our amazing team for their resiliency and endurance as they've successfully navigated the new challenges in our business to deliver for our customers. Today, I'm pleased to discuss our phenomenal third quarter financial results. I will also highlight key elements of our very strong execution, our key accomplishments and challenges and how we're planning our business in such uncertain times. I'll end with a report on the progress of our long-term strategic planning, which we will call our North Star strategy. For the quarter, our revenue was up an incredible 152% compared to last year, driven by broad growth across brands, channels and products. Our Direct segment had its best third quarter ever, the early quadrupling of sales versus the year-ago quarter. Not to be outdone, our Retail segment had its best sales quarter in its history, up 108% year-over-year. Total company gross profit was up 256%, with margins expanding to 44% and adjusted EBITDA improving by $43 million from a loss of $6 million in the prior year. Strong customer response to our IC Bikes, the Schwinn IC4 and the Bowflex C6, our Bowflex home gyms and our best-selling SelectTech weights and benches fueled our strong performance. These results were achieved despite being supply-constrained throughout the quarter. This quarter was the third consecutive quarter of positive comps and the fourth straight quarter of positive cash flow from operations, increasing our flexibility to invest in our long-term transformation. As the pandemic hit the world earlier this year, we showcased our ability to be agile and nimble. In the third quarter, it became increasingly clear that what was at first a sprint had turned into a 10K and now in its eighth month, a marathon. This resulted in a now sustained effort as we adjust to our new normal. Our people have been remarkable in their passion to serve customers in their time of need and are the real reason why we've been able to capture so much of the market opportunity, delivering our most profitable quarter in Nautilus history and putting us on track for one of the best annual performances Nautilus has ever had. The operational improvements we began implementing late last year, combined by the execution by our team, were the keys to fully capitalize and capture such a large portion of the market this year. Let me give you some examples of our operational achievements in the quarter. We further increased production and supply chain capacity. We have increased production across our portfolio for bikes by as much as 5x and for strength products by 2 to 3x. We added a second supplier in late September for our incredibly popular SelectTech dumbbells and are working to further increase capacity for kettle bells and our newly launched barbells. These are fantastic space-saving products and are amazing values. We successfully launched the Bowflex VeloCore, the industry's first unstationary dual-mode bike that combines leaning technology with digital connectivity. VeloCore is a fantastic example of innovation, combining a highly differentiated product with a more realistic ride that works more of your body, including your core and your arms. Combining physical products with digital content and connectivity, we believe VeloCore produces a more realistic and immersive experience than any other bike out there. We quickly sold out of inventory and have been expediting production of more bikes. We are now selling them again and are working hard to further reduce product lead times. This quarter is the first time that advertising spend was higher than last year as we invested in launch marketing for VeloCore. Our advertising is not only driving sales. These new ads serve to move our well-known Bowflex brand to an even better place as a tech-forward provider of innovative equipment and immersive connected fitness experiences. Speaking of connected fitness experiences, in tandem with the VeloCore introduction, we launched JRNY 2.0, revving our individualized AI-driven custom workouts that automatically adapt to your progress and simulate one-on-one personal training. JRNY 2.0 also features a new user experience and more on-demand trainer-led videos. To further accelerate our efforts to differentiate our digital experiences and scale our JRNY membership platform, we established a new JRNY business unit and hired an accomplished software leader as Chief Digital Officer to spearhead our efforts and assist with our overall long-term digital transformation. I'm really pleased at how we've been able to drive profitability in addition to top line growth by significantly decreasing the level of product promotions, implementing select price increases on key products and cross-promoting in-stock items when core items go out of stock. During the quarter, we continued to produce strong customer metrics versus the same quarter a year ago, including a 3x increase in traffic on bowflex.com, much of which was organic. In addition, we saw a 7x increase in new customer acquisition as we capitalized on the opportunity to introduce new customers to our brands. We've continued to be a strong partner in our retail channel during a time when others have pulled back, working closely with our retail partners to allocate scarce inventory. We further increased our momentum with Best Buy and launched a program with Costco Canada in July. We believe many of these accomplishments will bring enduring long-term value to the company. It's notable that we produced these results while fighting through a constant series of operational challenges, including intermittent port closures, inbound shipping delays due to an imbalance of shipping containers in China, outbound shipping constraints imposed by domestic carriers and launching new products at factories despite travel restrictions. One of the things I'm most proud of is the way our leadership team performed and in particular, what they achieved on multiple dimensions all at the same time, balancing short-term and long-term routine issues with emerging new challenges and the delivery of outstanding business results while caring for our customers and our people. Producing these financial results would have been incredible on their own, but we also completed our long-term North Star planning work, which I'll elaborate on in a moment; successfully completed the sale of Octane Fitness to reduce cost and focus on the in-home fitness market; and provided strong leadership and support to our teams as they faced a series of personal challenges: the effects and stress of the pandemic, greater isolation of working from home on an extended basis and racial and equity concerns. In addition, the region we call home experienced threats and health concerns due to devastating wildfires. Like a family, we pulled together to support one another. During the quarter, we learned -- we also learned that our company earned a Best Places To Work award for the eighth straight year. While no one can predict the magnitude and duration of the at-home fitness trend, I know investors want to know what -- how we're thinking about it, reacting to it and planning accordingly. As the quarter evolved, our results and research reaffirmed our previous statements that there will be both short-term temporary effects and longer-term to permanent impacts from COVID at-home trends. More states reopened gyms as the quarter progressed, yet the demand for home fitness did not waiver. Overall, we continue to see signs of a prolonged and permanent new normal for the home fitness market and our brands and products. First, a significant percentage of gym goers, 12% to 30%, say they will not ever return to the gym. Even if only partly true, this will have a profound permanent impact. Second, the majority of the rest say they will stay away until the vaccine has been administered at scale or when they feel safer. We believe we'll see long-term impacts from these people as well, with some lasting changes in workout habits and spending. Why? In the pandemic, many more people were exposed to both the convenience of at-home fitness and the benefits of connected fitness. This group will minimally balance gym and at-home workout in a new normal, similar to the way we suspect many will change the way they're balancing being in the office and working from home. We do not think they will choose either/or, but instead balance at-home and gym workouts differently. We have also heard from many that in the event of a resurgence of this virus or if another virus or strain emerges, they do not ever want to be caught again without an option to work out at home. Third, more people have been exposed to our brands and products than ever before. Fourth, retailers have seen an acceleration of their own digital transformations towards online ordering, both e-commerce growth and greater use of in-store and curbside pickup. As an omnichannel seller, we believe we stand to benefit from this with the relaxation of traditional store space and price point restrictions and from more retailers carrying fitness products. The final point I'll mention is that the growth and resulting cash generation can be used to fuel our increased investment on what we believe will matter most in the long run: brand, marketing and consumer insights, technology and digital experiences and new capabilities and talent in targeted areas. Accordingly, with this long-term outlook in mind, we have made short-term decisions in all areas of our business. Here are a couple of examples. We have invested heavily in inventory for the next few quarters, focusing on key products we believe will be perennial best sellers. Our teams are working with our supply chain partners globally to alleviate supply constraints. We have an ambitious goal to no longer be supply-constrained by sometime in Q2 of 2021. We believe the pandemic effect has already significantly increased the size of our addressable market as the much larger club membership market blends with the at-home market. To help capture this opportunity, we have launched new marketing initiatives, modified the JRNY road map accordingly, and we'll be adding new products targeted at the needs of displaced gym goers. We will monitor leading indicators and evolving consumer insights as we continue to make strategic decisions. At this time, we see no indicators of waning demand or evidence of saturation. To this end, the pandemic has made it difficult to forecast the next quarter, let alone the full year. But we now feel like we have enough visibility to share some guidance for the fourth quarter. Aina will discuss that with you in just a moment. Before I pass this to Aina, I want to briefly cover progress on our North Star strategic plan. As you've heard on our past calls, I came to Nautilus because I thought we had some of the right ingredients to turn the company around and return to our industry leadership position, but we needed to point the ship in the right direction with a new transformative strategic plan. I'm happy to report we have completed this work on this plan and are currently rolling it out company-wide. By the end of the fourth quarter, we will be in full execution mode. To allow us to focus on implementing it internally, we will not be discussing it externally until early 2021. But I'd like to offer some of my thoughts on our plan. First, our plan builds on the company's strengths: our well-known brands, our reputation for quality, our broad and option-filled product portfolio, our legacy of innovation and our resilient and customer-focused company culture. It addresses the weaknesses we had and the underlying issues, such as failure to understand consumer segments, their wants, needs and shopping habits as much as we should have, falling behind on connected fitness and general lack of focus. It will continue to turn the company into a stronger, more resilient and more digital version of itself. As a long-term strategy, this is the right direction with or without the COVID impact. The COVID at-home trend merely adds greater opportunity and enhanced urgency. Our strengthened balance sheet will provide the fuel for this acceleration. We are now entering full execution mode. But in fact, we've been executing on elements of this plan for the last year. Examples include the new products launched in 2020 to accelerate connected fitness across the portfolio; the sale of Octane Fitness; and key executive hires, including Chief Financial Officer, Chief Marketing Officer and Chief Digital Officer. I'd now like to turn it over to our CFO, Aina Konold, who'll go over our financial results in more detail. Aina? -------------------------------------------------------------------------------- Aina E. Konold, Nautilus, Inc. - CFO [4] -------------------------------------------------------------------------------- Thank you, Jim, and good afternoon, everyone. Before I begin, I'd like to echo Jim's comments about how incredibly proud we are of the way our team worked together to overcome so many challenges in Q3 and deliver these truly phenomenal results. I'll start by speaking to the total company P&L for Q3 2020 with comparisons to Q3 2019. Similar to last quarter, I'll be speaking to adjusted numbers because of a nonrecurring entry related to our commercial brand, Octane Fitness, which we sold on October 14. The adjusted P&L excludes the $8 million gain on the disposal group. Please see the press release and our website for a reconciliation of these non-GAAP numbers to our reported results. Net sales were up 152% to $155 million. This quarter sales are the best in this decade and marked our third consecutive quarter of sales growth. Our team performed extremely well to meet an extended period of heightened demand. And though we continue to expand production and invest in expedited shipping, supply remained insufficient to meet the demand in the quarter, and we entered Q4 with nearly $68 million in back orders. Our gross margin rate increased by almost 1,280 basis points to 44%. Gross profit was $68 million, up 256%. Strong execution across both segments was a key driver of this increase. A change in sales mix was also a factor. Typically, Retail makes up the vast majority of Q3 sales. But this year, Direct penetration was higher, 39% of net sale -- of total sales versus only 26% last year. Lastly, in COGS, we saw tremendous expense leverage, partially offset by increases in transportation costs, driven by the disruptions in global logistics. We thought this was a sprint, then a 10K, and now we're realizing that its turned into a marathon. This amount of cost leverage is not sustainable, and we have already begun to invest more in our DCs and logistics teams to meet the surge in demand. Turning now to adjusted operating expenses. We saw incredible expense leverage in OpEx, down to 21% of net sales versus 44% last year. Selling and marketing expenses were down to 12% of net sales versus 28% last year. We spent $19 million this quarter versus $17 million last year, and the increase was in advertising to support the launch of the new VeloCore bikes. Advertising spend was $8 million this year compared to $6 million last year. R&D costs were down to 3% of net sales versus 5% last year. Cost increased by $1 million to $4 million this year, primarily driven by investments in JRNY and in product development targeting gym goers. G&A expenses were down to 6% of sales versus 11% last year. Costs increased by $2 million to $9 million, driven by increased bonus and stock comp due to our improved performance and initial investments in capabilities needed for our North Star transformation. We're really proud of how our team stretched to meet the increased workload in the last 2 quarters, but we recognize that these significant levels of expense leverage are not sustainable. Certainly, it's difficult to predict the magnitude and duration of the enhanced demand for our products. But since we haven't seen any waning in demand, we've begun to reinvest in areas where increased sales volume generates incremental work. Adjusted operating income was $36 million, an improvement of $44 million versus last year's loss. This quarter's adjusted operating margin of 23% is a 15-year high. Adjusted income from continuing ops increased to $28 million or $0.87 per diluted share compared to last year's loss of $9 million or minus $0.29 per diluted share. And lastly, adjusted EBITDA from continuing ops improved by $43 million. We delivered $37 million of adjusted EBITDA compared to a loss of $6 million last year. Adjusted EBITDA margin was 24%. Turning now to Q3 2020 performance by segment. I'll be comparing this year's Q3 results with last year's Q3 results. Starting with Direct. Net sales were $61 million, up 278%, with both cardio and strength delivering strong performance. Cardio grew 256%, driven by our connected fitness bikes, the Bowflex C6 and Schwinn IC4. SelectTech weights and benches drove the 349% increase in strength. The Q3 backlog was $23 million compared to $21 million in Q2. The gross margin rate expanded by 19 percentage points to 57%, driven by strong execution and expense leverage, partially offset by higher transportation costs. Gross profit of $35 million was up 463%. Segment contribution was $18 million compared to a loss of $9 million last year. The $26 million improvement was driven primarily by increases in gross profit, partially offset by the $2 million increase in advertising for the VeloCore bike launch. Turning now to Retail. Net sales were a historic high of $93 million, up 108%. Cardio sales were up $103 million, driven by bikes like the Schwinn IC4 and ellipticals. Strength sales were up 128%, driven by SelectTech weights and benches. Importantly, if we exclude Octane brand sales, Q3 net sales of the Retail segment grew 132%. Q3's backlog was $45 million compared to $14 million in Q2. The gross margin rate was 34%, up 720 basis points, driven by favorable customer mix and expense leverage, partially offset by higher transportation costs. Gross profit of $32 million was up 162%. Segment contribution was $23 million, up 391%. The improvement was driven largely by higher gross profit and operating expense leverage. Turning now to the balance sheet and other Q3 highlights. Quick reminder, similar to Q2, we've grouped the assets and liabilities associated with Octane into current assets held for sale and current liabilities held for sale on the face of our balance sheet. Please see our press release in our website for more detail regarding this presentation. Strong sales growth and great flow-through to earnings resulted in a much stronger liquidity position at the end of the quarter. Q3 was our fourth consecutive quarter of positive cash flow. Cash was $72 million, $61 million higher than year-end 2019. Debt of $14 million was flat to year-end, and we had $49 million available for borrowing on our Wells Fargo credit facility. AR was $69 million, 26% higher than year-end. The increase was due primarily to the timing of customer payments, partially offset by certain receivables being included in the Octane held for sale disposal group. Trade payables were $83 million, 12% higher than year-end, due primarily to the timing of inventory payments and increased advertising-related payments. CapEx at the end of Q3 totaled $8 million. Inventory is down 38% to $34 million compared to $55 million at year-end. The decrease is due to $11 million of inventory being re-classed into the Octane held for sale disposal group and the continued tightened demand. Even though we have significantly expanded our factory capacity, demand is still outpacing supply. So to guarantee capacity in our suppliers' factories, we further increased our PO commitments. At the end of Q3, we had about $227 million of open POs for our Bowflex, Schwinn and Nautilus products. We haven't seen any indication of waning demand or saturation and the POs we've committed to our perennial bestsellers. Should demand slow down, we believe we will still be able to sell through these units just at a slower pace. I'd like to turn now to our expectations for the full year. We don't typically provide forward-looking guidance. But given how atypical this year's seasonality has been, we wanted to provide some color on how we're viewing full year results. We expect full year net sales to be between $540 million and $565 million. The sales range is intended to capture the volatility in the logistics environment as our revenue recognition is tied to when items are shipped. We think it's helpful to share with you the 3 factors we considered when forecasting net sales. The first is supply. Given we are 6 weeks into the quarter, we have clearer visibility to factory capacity and output. The second is demand. We entered the quarter with over $68 million in backlog and have not seen a drop-off in demand when gyms began to reopen. The third is related to shipping. Given the current environment, it has been more difficult to predict inbound and outbound shipping schedules, which directly impacts our ability to predict when sales are recognized. Like other companies, we are working through the full impact of the disruptions in the global logistics network. The transportation industry is preparing for an unprecedented e-commerce volumes this holiday season. The lack of outgoing shipping containers from China was a big driver of Retail's backlog in Q3, and it appears that this issue will continue for the next few months. Domestically, our carriers have already limited our shipping volumes. We're adding more carriers to our network but cannot fully predict at this time how much more constrained we will be after Black Friday. Turning now to CapEx. We are raising our full year capital expenditure guidance to be between $10 million and $13 million as we plan to invest more in JRNY and to our overall technology infrastructure. And we expect full year adjusted EBITDA to be between $90 million and $100 million. We expect Q4 gross margins to be lower than Q3's. Aside from continued pressure on transportation costs, we've already invested in additional resources in our DCs and logistics teams to support our increased volume. We also expect increases in operating expenses as we plan on investing more in marketing to support our new connected fitness products that we'll be launching between now and early Q1. And we are making continued investments in our JRNY digital platform, which is a key pillar in our long-term transformation. One final item to mention. Today, we'll be filing an S-3. We view this as good corporate finance housekeeping. We have no immediate plans to raise and use additional capital. We've completed our long-term strategy and have begun to roll it out internally with a plan to share it externally early next year. A shelf registration will provide us with more efficient access to the capital markets and will allow us to act opportunistically to support the growth objectives outlined in our North Star strategy. Now I'd like to turn the call back over to Jim for his final comments. Jim? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [5] -------------------------------------------------------------------------------- Thank you, Aina. The past 4 quarters have been a real journey for our company. We endured a devastating 2019 and lost 22% of our revenue base, resulting in a 13% cut of our workforce. Morale was low, but people could see a change on the horizon. A moderate change in the trajectory of our business began at the end of Q4 as we rolled out new products, hired team members of our executive team, began to take action against the root causes of the company's decline and focused on personalized connected fitness. Q1 was shaping up to be a good quarter, and then COVID hit, and it turned in to be a great quarter. We had our first top line growth since 2018 and began selling out a product, with the team quickly responding to meet the surge in demand. What started out as a temporary surge became longer term in Q2 and was a historical blockbuster quarter for the company. All channels delivered historic results. We sustained that performance and response, which led to Q3 being our most profitable quarter in history. It is important to point out that pre-COVID, we were already on track for sequential improvements and have been implementing changes to position ourselves for long-term profitable growth. COVID only accelerated those plans. We have been and will continue to be -- dedicate significant time and energy to our transformative, long-term strategic work. Lastly, but most importantly, I want to end by again thanking our employees and our partners who stand committed to our mission. I look forward to all that we can accomplish together. And now I'd like to open up the call to your questions. Operator? ================================================================================ Questions and Answers -------------------------------------------------------------------------------- Operator [1] -------------------------------------------------------------------------------- (Operator Instructions) Our first question is from Mike Swartz with Truist Securities. -------------------------------------------------------------------------------- Michael Arlington Swartz, Truist Securities, Inc., Research Division - Senior Analyst [2] -------------------------------------------------------------------------------- Just wanted to start out, I know Jim and Aina, you both mentioned a number of times some incremental investments in the business and understanding some of that in the near term is simply working capital inventory. But I think you also mentioned DC, logistics, marketing. Maybe give us a sense of -- I know this is a very odd year. But give us a sense -- maybe the magnitude of those investments and how we should think about those running through the P&L over the next couple of quarters. -------------------------------------------------------------------------------- Aina E. Konold, Nautilus, Inc. - CFO [3] -------------------------------------------------------------------------------- Well, for Q4, the adjusted EBITDA guidance should give you that perspective. I'm telling you that Q4 gross margins are going to be lower than Q3 and that expenses will be higher. When it comes to beyond Q4, I'd like to just sort of wait until we launch and talk about our -- externally our long-term transformation because that will give you more color on how much investment we'll have for the next few years. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [4] -------------------------------------------------------------------------------- Conceptually, I'll just add that they kind of fall in a couple of buckets. One is sort of activity-based, based on volume. Places like adding people in our DCs and in our customer care, where you just see the massive spike of activity, and we have to continue to serve our customers that way. So that's some of what you've seen and what you'll continue to see. And then as we now go into execution mode for our long-term strategy, as I said, I mentioned that we really are going to be investing in a few different ways. One, we'll -- we're investing in marketing and in our brand. Two, technology and our digital experiences. And three, not a lot of headcount, but in key areas where we think our North Star plan is essentially a new sport we want to play or a change in the sport we want to play. So when you do something like that, you see you need new athletes in a few spots. And I think one good example of that is the Chief Digital Officer that we launched -- or that we hired a couple of weeks ago in Garry Wiseman. -------------------------------------------------------------------------------- Michael Arlington Swartz, Truist Securities, Inc., Research Division - Senior Analyst [5] -------------------------------------------------------------------------------- Okay. And just a second question, if I can. Just in terms of new product cadence and launch schedules. I know, again, this is an odd year relative to historic years. But typically in the past, you launch most of your products for the upcoming year in kind of the August to October time frame. Is that the way we should be thinking about the business going forward and this year is just kind of an anomaly? Or are you going to be looking to space product launches out throughout the year? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [6] -------------------------------------------------------------------------------- Yes. I mean I think you have to start with saying is -- there's really been no seasonality this year. And the reason our product cadence had been the way that it was, was because there was some seasonality in the way people were buying products. With the accelerated demand and kind of a global lack of supply, it's not quite a normal year, we'll say. And I'll just be honest with you. When we launched VeloCore, for example, we launched it in a normal way, and we sold out too fast. So we kind of looked at that and said, "Hey, should -- is it most important to be first to market but then run out? Or should we build some inventory and then launch at a later date?" So we're still working through things like that. And obviously, the options on the table would be to presell ahead of having inventory and just have an extended promise period or delay that and do a proper launch once we built up the inventories. It's been a really different year. I know we'll end up launching all those things between now and very early first quarter, but kind of the Black Friday cadence and things like that is probably not going to hold up exactly this year. We'll try to get as much as we can by then. But even then, it would be extended promise periods. And it'll be one of these things where I think, normally, it'd be great to have your product and your gift in your home by the time the holiday hits. But I think more than anything else this year, people have learned that, hey, if you can just see your way, see a clear path to getting your product, what you want, you'll wait a little bit for it. And both us and our competitors have kind of seen that type of thing. So a little bit different year, Mike, this year, and we're just trying to figure out the very best ways to bring these products to market. -------------------------------------------------------------------------------- Operator [7] -------------------------------------------------------------------------------- Our next question is from Sharon Zackfia with William Blair. -------------------------------------------------------------------------------- Sharon Zackfia, William Blair & Company L.L.C., Research Division - Partner & Group Head of Consumer [8] -------------------------------------------------------------------------------- I have a couple of questions. I guess I'm curious, with the pandemic and the growth in the space alongside the VeloCore introduction, kind of how both separately are impacting your customer demographic and your reach, if you're seeing any shift there versus kind of the 2019 traditional demographic for either Bowflex or Schwinn or pick your brand. And then I also wanted to ask about Costco in Canada, whether there was an opportunity to also bring the brand to Costco in the U.S. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [9] -------------------------------------------------------------------------------- Yes. Great question, Sharon. I'll start on the customer part, but we've got Becky Alseth, our CMO, on the phone. And she had spent most of her year in deep segmentation analysis and new customer segment analysis and so she may have more to add there. It's a great observation, Sharon. We've seen -- first of all, as I mentioned in my remarks, this quarter, we saw 7x the number of new customers that we saw in the year-ago quarter. So we're introducing our brands and products to people that have never seen them before, and I think that makes sense based on everybody's need for this. And maybe they tried us a long time ago. They're going to try us again. But building up that -- those new customers. Then we have segmentation work that I think Becky will explain better than me. We've had a traditional segment of people who have been our strongest segment, and that segment of people has a name internally, but I won't confuse you with the name. But we've really been successful for years and years in getting -- reaching a set of customers that honestly doesn't love exercising as much as some of the other segments. And it's sort of astounding to me that we've been able to do as well as we have getting those folks off the couch, getting them in gear and then helping them on their journey. And we feel fantastic about that and feel that that's a major part of our mission. While doing that, I think we missed some segments of -- a couple of different segments that actually like exercising quite a bit more. And I don't know if it was the way we went to market or infomercials late at night or what exactly it was, but we ended up kind of overindexing on that first group I mentioned and underindexing on people we think we can be extremely, extremely successful with. So maybe that -- with that backdrop, Becky, anything to add there? -------------------------------------------------------------------------------- Becky L. Alseth, Nautilus, Inc. - VP of Marketing & Direct [10] -------------------------------------------------------------------------------- Yes, Jim. Thanks. Sharon, I think the other thing is, as Jim said, we really went to market after one set of consumers who really preferred home fitness. But as many more consumers had to turn to home fitness, we have actively targeted them. So people that in the past would have been gym goers, we're really using some of our media and our messaging to actually target those people. And when you see the growth in some of our products, it's not coming from our traditional customer. And then in addition to that, I think it's 30 years of advertising behind Bowflex. It's -- we really have quite high awareness for the brand so you see people organically coming to it. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [11] -------------------------------------------------------------------------------- And I think your other question was about Costco. And yes, the relationship with Costco is quite good. We've chosen to start with them in Canada, but we're very hopeful to have some programs very soon in the U.S. -------------------------------------------------------------------------------- Operator [12] -------------------------------------------------------------------------------- Our next call -- our next question is with Steve Dyer with Craig-Hallum. -------------------------------------------------------------------------------- Steven Lee Dyer, Craig-Hallum Capital Group LLC, Research Division - CEO & Senior Research Analyst [13] -------------------------------------------------------------------------------- Congratulations to all of you on the exceptional results. I guess digging into JRNY for a moment. I think everyone's sort of hungry for anything to sort of look at and gauge the traction there, and the closest that I can come aside from app downloads would be other nonroyalty revenue, which looks like there's a little bit of transportation in there as well, but a very, very small number still. Is that a decent proxy sort of for the traction that you're seeing with the paid JRNY apps? -------------------------------------------------------------------------------- Aina E. Konold, Nautilus, Inc. - CFO [14] -------------------------------------------------------------------------------- You're right. That's where that is found. I think similar to what you said, our focus right now, it's not just the subscription dollars, but the other metrics that we're looking at to see that it's become beloved by our members and that we're doing the right things to really make it an important pillar in our company go-forward. So we don't say a lot of metrics about it right now because it is small, but underlying it are these key things we're looking at to make sure that we provide really the best digital experience for our members. And then from there, we can talk about more of those metrics when it becomes a bigger portion of our pie. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [15] -------------------------------------------------------------------------------- And I'll just add. As we've discussed, one of the key things that our company missed was connected fitness, and we actually recovered quite well with the quality of the product and what's in it. And we've got some really great differentiating features, and people who use JRNY really love it. However, if you've not gotten it across the portfolio on as many machines and in a BYOD format as you'd like, the revenue is not where you want it to be. So that is a big focus of our long-term strategic plan, is to not only make JRNY continue to evolve and be a differentiating experience, but more so to scale it. And that's where you'll start to see those particular numbers. And we're going to be doing everything we can to scale it. And you've heard me talk about investing more in JRNY, and we have. We've got a leader in place. We've got a new business unit that focuses just on that particular business. And as it becomes material, we'll be reporting that size. But make no mistake, this is -- the #1 strategic initiative for our company is to scale JRNY and our digital experiences. And we'll do everything both organically and inorganically to make that happen. -------------------------------------------------------------------------------- Steven Lee Dyer, Craig-Hallum Capital Group LLC, Research Division - CEO & Senior Research Analyst [16] -------------------------------------------------------------------------------- Got it. And next one for me, just kind of jumping topics. As you look at the backlog that you have today, is there anything notable sort of in the composition looking forward maybe vis-à-vis how it's -- what your revenues look like over the last 6 months? Are you seeing any trends? Or does it all hold pretty true to form with what you've seen so far? -------------------------------------------------------------------------------- Aina E. Konold, Nautilus, Inc. - CFO [17] -------------------------------------------------------------------------------- It's holding pretty true to form. A lot of them are the pent-up demand. We've had such long promise periods for some of our key bestsellers, the usual suspects of IC bikes and also the weights and the benches. But what's really exciting is the great response we've had to VeloCore. As Jim mentioned, like we ran out way too quickly. We thought we had put down a pretty bold expectation there, but it was still insufficient. So usual suspects in the past, seeing some really, really good initial responses to VeloCore. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [18] -------------------------------------------------------------------------------- And then in addition to the VeloCore, the SelectTech 552 is kind of the fitness version of toilet paper in the pandemic. We ended up with a -- we started taking a notify me when list when we went out of stock initially back in March, April. And we collected over 200,000 of those leads. And since then, as we've gotten supply of the 552s, we kind of went in order on that list and worked our way down. We're almost worked through that entire list now so you'll be seeing that going back on stock -- in stock on the site. As an e-commerce guy, like the one thing I hate more than anything in the world, and our team knows this, is a grayed out button on our website. Because you've generated that demand, you have the fantastic product, you've done all the marketing you need to do and someone can't buy it. But in the case of the 552s, people could buy. You just couldn't tell because we felt obligated to serve the customers in the order that they express an interest, and we worked that down, and now we're about ready to go where you can begin to order that. And even then, as we work this list down, people are still willing to wait a couple of months more in addition to what they've already waited. So that tells you a lot about the product portfolio, and the backlog includes quite a bit of those SelectTechs, whether they be the 552s, the 280s or the 1090s. -------------------------------------------------------------------------------- Steven Lee Dyer, Craig-Hallum Capital Group LLC, Research Division - CEO & Senior Research Analyst [19] -------------------------------------------------------------------------------- Got it. Last one for me. Your retail partners, you added several of them. You talked about them last quarter. Amazon grows 23%, I think, of revenue this quarter. What's the contribution been like by some of the new retail partners that you announced? And would you anticipate sort of further distribution from anything there? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [20] -------------------------------------------------------------------------------- Yes, yes. I mean the growth has been fantastic. The demand is obviously there. And it's one of those things -- like everything these days, we wish we had greater supply to satisfy that demand. And we've had some difficult decisions to make and what supply goes to direct, what supply goes to retail. And then among retailers, how do we serve the accounts the best way in a very strategic way. I mean, obviously, those allocation decisions, if they were completely done on the basis of making the most money, we would sell most things direct and would not allocate to retail partners. But retail for us is -- we're committed to it in the long run. We think people want to touch and feel these products. We know that our retailers expand our reach and market in different ways and get different customers. And we actually want our -- any consumer that wants to buy things to have multiple choices on how they do that. So our decisions are very strategic and not just numerical, and we're doing the best that we can. But the great thing is more and more retailers are finding that their customers really want the fitness products. I mean pretty much anyone that has anything to do with the home has sort of extended into this category. And as long-term followers of the company and the category have said -- have seen, for a while, we had really not enough retailers that -- or not enough new retailers that wanted to carry fitness products. And it's been outstanding that these folks have found out that their customers really care about these products and add them. So lots of great traction with our existing retailers like DICK's and Amazon and Best Buy. And as the new ones come on, we're doing our best to fulfill those as well. -------------------------------------------------------------------------------- Operator [21] -------------------------------------------------------------------------------- Our next question is from Mark Smith with Lake Street Capital Markets. -------------------------------------------------------------------------------- Mark Eric Smith, Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst [22] -------------------------------------------------------------------------------- Not sure if you can or will answer this, but just looking for additional insights on VeloCore. Can you give us any insight into -- and I know it was a short time period, but the impact on the quarter from VeloCore? -------------------------------------------------------------------------------- Aina E. Konold, Nautilus, Inc. - CFO [23] -------------------------------------------------------------------------------- We launched it really late in September -- I mean a lot of the sales ended up shipping in late September so impact on the quarter is not material. But the number of items that we were able to sell and then they ended up in our back order is really, really encouraging. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [24] -------------------------------------------------------------------------------- So yes, it exceeded our expectations very much so. So we're excited about it. And really just excited also, like I said, it's not only the product availability, and I think there's no other product like this. But also, the way that our advertising is able to show us in the light that we'd like to be, a more tech-forward brand with an innovative product that does something very differentiating that's not only different but better because it's got benefits for your core and arms. So we've been very, very pleased with the traction so far, and we're -- we'd be even more pleased if we had made more of them. -------------------------------------------------------------------------------- Mark Eric Smith, Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst [25] -------------------------------------------------------------------------------- Okay. And it's my next question. The advertising, can you talk about, excluding VeloCore, what your advertising costs, how that kind of tracked sequentially? And then any benefit that you feel like maybe you're getting from the VeloCore advertising that's really helping the rest of the portfolio? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [26] -------------------------------------------------------------------------------- So I mean, as I mentioned -- and Becky is on the phone so she may have some additional comments on this. But this year, really, what we wanted to do actually to drive traffic to our website to buy any of the products we had available, we just chose the VeloCore as the lead for that. And for the reasons I just mentioned, we thought that was a terrific way to do it. And then hopefully, some or most of you have seen these commercials. And hopefully, you agree with me that they really do show us in the right light. So then we evaluate our spend, as we always do, on kind of a transactional basis first, how much you spend versus how much you get back. And we have a required rate of return for those transactions. And if we're not getting that return, one of the lessons we learned in the last few years is we pull back on that. For example, in the second quarter, we didn't have to do any advertising. And then in the third quarter, when we did this, we thought we wanted to get a good launch. So the good news is we were getting a good return on investment if we just viewed it as a transactional element. But as I also mentioned, unlike I think some of our ads in the past, it was a great ambassador for our brands. It really showed us the way that we would like to be shown. And at least we're trending in the right direction on our brand. So Becky, I don't know if I stole all your thunder or you have anything to add on top of that. -------------------------------------------------------------------------------- Becky L. Alseth, Nautilus, Inc. - VP of Marketing & Direct [27] -------------------------------------------------------------------------------- Thanks, Jim. No. I would just add, for the quarter, we spent about $8 million overall, which was a $2 million increase versus a year ago. And if you remember, last year, we introduced Max Trainer during Q3. And Jim's right. We really spent behind VeloCore to drive traffic to bowflex.com. But then we did use some tactical spending, where we had some significant inventory, and we wanted to bring people, whether it was for strength or some of our other products as well for a transactional level. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [28] -------------------------------------------------------------------------------- And that's TV. Really, a lot of that's TV. We also did a heck of a lot of digital advertising. And in that regard, we were pushing all the products that were for sale in the portfolio. So while we talk about VeloCore and you can see TV commercials, if you're on any of our social feeds, or you see our online search advertising and things like that, you'll see that we were driving it through the portfolio. Pretty much whatever we had in stock, right? You could target that spend to the exact SKUs that you had for the exact amount of time you actually had inventory. -------------------------------------------------------------------------------- Mark Eric Smith, Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst [29] -------------------------------------------------------------------------------- Okay, great. And then last one for me. Just can you just give us a reminder on tariffs on exposure and any kind of exemptions or changes or anything that we've seen here recently? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [30] -------------------------------------------------------------------------------- Yes. Sure. Why don't I let Bill do that? Bill is our Head of Supply Chain. He's got another fancy title they put on these things. But really, his main job is Head of our Supply Chain, and so he's been involved in all of those tariffs. -------------------------------------------------------------------------------- William B. McMahon, Nautilus, Inc. - Special Assistant to the CEO [31] -------------------------------------------------------------------------------- Yes. We're currently subject to a 15% incremental tariff on the vast majority of our products that we import, and that is on top of roughly 4.5 points of duty normally. So think of it as that sort of burden. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [32] -------------------------------------------------------------------------------- Does that -- sorry, go ahead. -------------------------------------------------------------------------------- Mark Eric Smith, Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst [33] -------------------------------------------------------------------------------- No. I was just going to say, if you want to look into your crystal ball a little bit, do you guys feel like any change in administration here maybe given some opportunities? -------------------------------------------------------------------------------- William B. McMahon, Nautilus, Inc. - Special Assistant to the CEO [34] -------------------------------------------------------------------------------- I apologize. I need to correct that. The tariff did reduce to 7.5%. Sorry, I got my numbers mixed up. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [35] -------------------------------------------------------------------------------- So for the third quarter, essentially, if you remember, last year, they came in September 1 at 15%. And then earlier this year, they were reduced to 7.5%. So you're kind of -- for part of the quarter, you're going 15% against 7.5%. For the full fourth quarter, it will be that 7.5 point difference, right, Bill? -------------------------------------------------------------------------------- William B. McMahon, Nautilus, Inc. - Special Assistant to the CEO [36] -------------------------------------------------------------------------------- Yes. So we're comping favorably in Q3. Sorry, for the mistake. -------------------------------------------------------------------------------- Aina E. Konold, Nautilus, Inc. - CFO [37] -------------------------------------------------------------------------------- Yes. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [38] -------------------------------------------------------------------------------- Sorry, can you start with your other question? -------------------------------------------------------------------------------- Mark Eric Smith, Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst [39] -------------------------------------------------------------------------------- Yes. It was just, if you look in your crystal ball at all here, looking forward with what looks like a new administration coming in, are there opportunities? Do you think that maybe we see less tariff exposure as we look at 2021 or maybe later? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [40] -------------------------------------------------------------------------------- Yes. I mean all I can say is too early to tell whether relations with China will be better. We hope that, that will be the case, right? But you just don't know. And then tax policy is completely up in the air, especially if you've got split Congress and executive branches. So just like everyone else, we'll just monitor and react to those things as we've been doing. -------------------------------------------------------------------------------- Operator [41] -------------------------------------------------------------------------------- Our next question is from George Kelly with ROTH Capital Partners. -------------------------------------------------------------------------------- George Arthur Kelly, ROTH Capital Partners, LLC, Research Division - MD & Senior Research Analyst [42] -------------------------------------------------------------------------------- So I have a few for you. I'll start with kind of industry size and TAM. I appreciate -- I think you shared -- you've done surveys that -- I forget the exact number, but it was 12% to 30% or something like that of gym goers are probably not going back. So I guess my question is, how -- compared to pre-COVID -- your kind of the regular customer group pre-COVID, how much bigger will the at-home industry be when this all kind of normalizes a year or 2 years from now? How much bigger do you think the at-home industry will be versus pre-COVID levels? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [43] -------------------------------------------------------------------------------- Yes. I mean this was a huge issue in our strategic planning, right, because when we started our strategic planning, we thought that the at-home fitness market, if you add it all up, was about $3.6 billion. And the -- we thought it would grow at about a little less than 3%. so our plan would have been, in those circumstances, to gain share in a slightly growing market. So then when this whole trend hits, all bets are off. And for all the reasons that I mentioned in my remarks, you've got a massively growing market. So the way we think about it -- and we don't know for sure how big it gets, but you've got a roughly $40 billion gym membership market. And you've got that many people that you mentioned, the 12% to 30%, that say they'll never go back. Never is a long time. So do you believe them or not, I don't know. But if some of that is true, then you've got a permanent shift from that group at $40 billion to the $3.6 billion. You just add that on top. And then for the people who will eventually go back for the reasons that I said in my remarks as well, we just don't think they're going to flood back, right? They're going to go back when they're safe. And then they're going to have a new normal. They're going to balance it differently. Then they're going to also buy things for the home just in case. So you've got all those things and you add them all up and who knows where they get to. I mean, unfortunately, if we were all public in this space, we could just add up everybody's results and we'd know exactly where we are. But there's just a couple of us that are public so it's our best guess. We feel like we're getting more than our fair share. But our estimate maybe for this year, maybe that it went from $3.6 billion to maybe $6 billion, something like that, $6 billion. But we don't really know. It's not an industry that tracks its market share as well as that. We -- as we're becoming more and more data-driven, we do our best job to continue to survey that and try to make our best estimate. But that's where it kind of looks like. And that's a pretty good opportunity for all of us. If you say that the -- maybe it won't quite double in a year. There aren't too many industries out there that are coming close to doubling in a year, so that helps. And then for the reasons that I said, then it's anybody's guess how much of that is retained and how much of it -- how the growth continues to grow. I think we all feel like it would be higher than maybe that $6 billion if we weren't all supply-constrained. But as far as I know, we all are. So that will work itself out as more and more of us are able to fulfill more inventory, and we'll see where we are there. But we do think there's probably a time -- some time in maybe -- it is crystal ball. Maybe sometime in early to mid-2022 that we all kind of see where this thing lands. In the meantime, we're looking at a lot of leading indicators, things like traffic on our website, retail sell-through, things that you would see. If there is any waning in demand, you'd see it there first. And then we would react based on that. And there's a whole bunch of other ones, but those would be a couple of the ones that we monitor. But hopefully, that gives you a sense. There are some hard numbers, but I wouldn't say they're scientific in any major way. We've done surveys and we've crunched the numbers, and that's what we think. But you can listen to anybody's call, then maybe you'll get a different number. -------------------------------------------------------------------------------- George Arthur Kelly, ROTH Capital Partners, LLC, Research Division - MD & Senior Research Analyst [44] -------------------------------------------------------------------------------- Okay. That's helpful. And then next question. And so it sounds like JRNY is -- you're going through a sort of transformation there. And it sounds to me -- I mean, correct me if I'm wrong, but it's kind of early innings. And so, I guess, my question is, is live content an important -- as you learn more about what everyone else is offering, do you think live content is important to JRNY at some point? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [45] -------------------------------------------------------------------------------- I've got the father of JRNY on the phone here. So we'll let Chris... -------------------------------------------------------------------------------- Christopher K. Quatrochi, Nautilus, Inc. - SVP of Innovation [46] -------------------------------------------------------------------------------- George, I'll give my 2 cents. We've talked about this a little bit on previous calls. But content has proven to be a fairly big commodity in our space, especially in this time. And so one of the things we found out, really, is that people aren't really looking for live content because it actually impacts their schedule, but they are looking for all types of on-demand content. And we've been -- and actually architected our product to really be able to respond to the best content the world has to offer. So we're starting to take that -- when you see the JRNY platform, especially in VeloCore and the other products coming out, you'll see that we're going to be continually adding on-demand content because that's 99% of what people are looking to use. -------------------------------------------------------------------------------- George Arthur Kelly, ROTH Capital Partners, LLC, Research Division - MD & Senior Research Analyst [47] -------------------------------------------------------------------------------- Okay. Okay. And then last question for me about the North Star strategy that you talked about. Is M&A an important dynamic of that? And how do you think about M&A right now? -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [48] -------------------------------------------------------------------------------- Sure. Well, when you do -- in my opinion, when you do long-term strategy, you have to be confident that even without a major M&A event, that you have what it takes to make it happen. And our strategy, when we roll it out, you'll see it's largely organic. But especially when you have kind of a short-term sense of urgency like we have here of displaced gym goers and the fact that we are a bit behind where we'd like to be in terms of number of products that have JRNY on it, I mean, all bets are kind of on the table. We really do want to look for partnerships that will help us scale in particular and maybe, in some cases, accelerate the content and improve the content in a big way. So overall, as we execute, we will be executing on kind of both those levers in inorganic and in organic way. -------------------------------------------------------------------------------- Operator [49] -------------------------------------------------------------------------------- We have reached the end of our question-and-answer session. I would like to turn the floor back over to Jim Barr for closing comments. -------------------------------------------------------------------------------- James Barr, Nautilus, Inc. - CEO & Director [50] -------------------------------------------------------------------------------- I'd like to thank everyone for joining our call today and for your continued support of Nautilus. We look forward to providing you with another update on the business in a few months on our fourth quarter earnings call. Please stay safe and healthy. Have a great rest of the day, onwards and upwards. Thank you. -------------------------------------------------------------------------------- Operator [51] -------------------------------------------------------------------------------- This concludes today's conference. Thank you for your participation. You may disconnect your lines at this time.