Lulu’s Fashion Lounge Holdings, Inc. (NASDAQ:LVLU) Q3 2022 Earnings Call Transcript

Lulu’s Fashion Lounge Holdings, Inc. (NASDAQ:LVLU) Q3 2022 Earnings Call Transcript November 15, 2022

Lulu’s Fashion Lounge Holdings, Inc. misses on earnings expectations. Reported EPS is $0.02 EPS, expectations were $0.09.

Operator: Good afternoon and welcome to Lulu’s Third Quarter 2022 Earnings Conference Call. Today’s call is being recorded and we have allocated one hour for prepared remarks and Q&A. At this time, I’d like to turn the conference over to Naomi Beckman-Straus, General Counsel at Lulu’s. Thank you. You may begin.

Naomi Beckman-Straus: Good afternoon, everyone, and thank you for joining us to discuss Lulu’s third quarter 2022 results. Before we begin, we would like to remind you that this conference call will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All statements made on this call that do not relate to matters of historical fact should be considered forward-looking statements, including but not limited to statements regarding leadership transition, management’s expectations, plans, strategies, goals and objectives and their implementations, our future expectations regarding financial results, references and outlook for the fourth quarter and year ending January 1, 2023, market opportunities, product launches and other initiatives, and our growth.

These statements, which are subject to various risks, uncertainties, assumptions, and other important factors could cause our actual results, performance or achievements to differ materially from results, performance or achievements expressed or implied by these statements. These risks, uncertainties and assumptions are detailed in this afternoon’s press release, as well as our filings with the SEC, including our Annual Report on Form 10-K for the fiscal year ended January 2, 2022 filed with the SEC on March 31, 2022, all of which can be found on our website at www.investors.lulus.com. Any such forward-looking statements represent management’s estimates as of the date of this call. While we may elect to update such forward-looking statements at some point in the future, we undertake no obligation to revise or update any forward-looking statements or information, except as required by law.

During our call today, we will also reference certain non-GAAP financial information, including adjusted EBITDA, adjusted EBITDA margin and net debt. We use non-GAAP measures in some of our financial discussions as we believe they more accurately represent the true operational performance and underlying results of our business. The presentation of this non-GAAP financial information is not intended to be considered in isolation or as a substitute for or superior to the financial information prepared and presented in accordance with GAAP. Our non-GAAP measures may be different from non-GAAP measures used by other companies. Reconciliations of GAAP to non-GAAP measures, as well as the description, limitations and rationale for using each measure can be found in this afternoon’s press release and in our SEC filing.

Joining me on our call today are our CEO, David McCreight; our Co-President and CFO, Crystal Landsem; and Co-President and CIO, Mark Vos. Following our prepared remarks, we’ll open the call for your questions. With that, I’ll turn the call over to David.

David McCreight: Thank you, Naomi, and good afternoon, everyone. I’m joined today by my partners and Co-President, Mark and Crystal. Before I speak about the quarter, I wanted to thank the LuCrew who continue to do a tremendous job executing on our strategy and delighting our millions of brand fans. First, I want to spend a few minutes discussing the leadership transition announcement we made this afternoon. As announced, effective March 6, 2023, I’ll be transitioning from CEO to Executive Chairman of the Board; Crystal Landsem, our current CFO and Co-President, will transition to the CEO role. We plan to announce Crystal successor as CFO in early 2023. Mark Vos, who is currently Co-President and CIO, will become the President and CIO.

This transition is the result of extensive internal discussions, evaluation and planning to ensure a successful hand off to the next generation of leadership. Several years ago, I came out of retirement after a long and fulfilling career in the apparel and home industry to help lead Lulu’s through their transition to the public market. What drew me to Lulu was the potent combination of an emerging and profitable business model, early-stage growth potential as well as a talented leadership team with Crystal and Mark being key components. Since then, together, we work closely to position the company for success. I am proud of what we’ve accomplished over the past two years and have conviction the future is bright under the new leadership structure.

With a talented leadership team and long-term vision in place as well as a strong balance sheet, I feel now is the appropriate time for me to transition into the role of Executive Chairman. In this role, I’ll be tasked with the duties of Board Chair, providing guidance to the CEO and Board during the transition, participating in Investor Relations and advancing our ESG road map. I could not be more excited to see Crystal taking the role of CEO. Crystal has been a wonderful partner, who has consistently demonstrated that she can successfully lead Lulu as we continue to scale and develop the company. Since Crystal joined Lulu, seven years ago, she has made many noteworthy contributions that have helped advance the company from the strategic, operational and financial perspective.

Crystal has been instrumental in the development of our unique merchandising model, implementing our long-term growth strategy and managing numerous operating team for a deep understanding of the company, the Lulu’s brand and connectivity with the LuCrew makes her uniquely qualified to take on this role. Not only is she a proven executive who has helped shape our business model, delivering profitable results through economic cycle, Crystal is a leader who embodies the Lulu’s core values of all voices, all in, always evolving and has the respect of key internal and external stakeholders. Moving on to the quarter. Despite this challenging macroeconomic period, we continue to deliver profitable financial results and records in key customer metrics, both of which are a testament to our brand and reinforce confidence in our long-term brand trajectory and opportunities.

We generated revenues of $105 million and produced adjusted EBITDA of $5.4 million. Our LPM active customer count continues to grow as this number increased 29% from last year to $3.2 million. Average order value increased 6% on a 12-month basis with gains from both new and existing customers. We believe these positive customer metrics demonstrate that LVLU continues to occupy more space in their closet and take share from the broader apparel industry over the past year. Our fresh fashion assortment is clearly resonating with our millennial and Gen Z brand fans and work continuing to acquire new ones. That being said, like others in the industry, we witnessed the inconsistent consumer behavior during the quarter, characterized by volatile traffic trends and conversion, which are most likely due to macro pressures that are negatively impacting her desire to spend.

Similarly, we responded by increasing promotional activity. Like others in the industry, return levels remained elevated during the quarter, which also hurt our top line and had a disproportionately negative impact on adjusted EBITDA. We continue to actively manage our inventory and discretionary expenses with a more cautious outlook because of this macroeconomic environment. We view these challenges as part of a temporary economic cycle and have conviction in our long-term opportunity for continued profitable growth. As I’ve highlighted in the past, our business model and brand are resilient and adaptable because they’re supported by our affordable luxury brand promise, a focus on fresh, not fast fashion, the use of data to guide key decisions, a capital-light model and a solid balance sheet.

Given the macroeconomic uncertainties, we believe it is prudent to reduce our revenue and adjusted EBITDA guidance range. We now expect revenues of $425 million to $440 million versus our prior forecast of $440 million to $480 million. Our new adjusted EBITDA forecast is in the range of $25 million to $31 million, compared to our prior guidance of $35 million to $45 million. Captured in our guidance range are investments necessary to focus on our larger mission of future brand and company growth at LVLU. And now I’d like to turn the call over to Mark Vos, our Co-President and Chief Information Officer. Mark has been an important member of the leadership team and like Crystal has been a major contributor to building the business we have today.

He will provide an update on key operational and marketing efforts to further support our continued growth. I’ll let Mark discuss some of these key initiatives in greater detail. Mark?

Mark Vos: Thank you, David. As we have reported previously, we opened our Southern California facility at the end of last year and finished transitioning our receiving, quality control and cross-docking activities of vendor inbounds products in Q1 of 2022. In Q2, we added network product replenishment activities to the mix to allow for further improvements to our algorithmic and data-driven inventory allocation, support further reductions in split ship rates of customer orders and efficiency improvements of our fulfillment centers. In Q3, we focused on testing fulfillment and returns processing from our Southern California facility, and we currently plan to go live with these additional activities by the end of Q4 of this year.

The addition of these activities in our Southern California facility will enable us to serve our Southwestern customers faster and at a lower shipping cost. From an automation perspective, the introduction of robotics into our Northern California fulfillment center will cross into early next year. In our Eastern Pennsylvania fulfillment center, we are currently implementing automation of poly back order packing, which in addition to efficiency gains, will also reduce polybag materials used and therefore, reduce waste. Switching to the sales and marketing landscape. During Q3, the apparel space saw further increased promotional activity, which led to Lulu’s adding incremental promotions to our calendar to be competitive where needed. Both our new and repeat customers have responded favorably to the additional Lulu’s promotions, and we have also seen downstream further increases in Lulu’s brand equity and brand familiarity across both the Gen Z and Millennial Woman, as measured by our brand monitoring tools.

Our outlook is that the apparel and footwear verticals will remain highly promotional in the near term, and as Lulu’s will continue to take appropriate pricing and promotional actions to stimulate customer demands when needed. And as with everything we do with Lulu’s, we will leverage our data analytics to inform our decisions around these promotional activities. Our cost of customer acquisition through Q3 2022 was stable and comparable with previous quarters, and we maintained a healthy first order contribution margin profitability. In Q3 2022, Lulu’s influencer-driven share of earned media value increased compared to the peers we track. Towards the end of August, we also added additional team members and scaled our ability to connect with more creators talking about Lulu’s and to continue to drive our earned media value output.

The macro environmental challenges for our customers likely resulting in less discretionary income and increased economic and security drove a slight deceleration in Q3 2022 order frequency and increased return rates compared to Q3 of 2021. We see similar changes across all household income segments, and we also see that all household income segments respond favorably to our promotions. For new customers acquired in Q3, our event and cocktail dresses demand as a percent of total revenue slightly outpaced Q3 of 2021, with strong year-over-year outperformance in our event dressing, demonstrating that Lulu’s remain successful in attracting new customers with our affordable luxury event and going out dressing. As we have highlighted, event dressing is a gateway into the Lulu’s brand for many and these connections with new customers should set us up for future success.

In Q3, the household income distribution of all active customers as well as newly acquired customers was similar to previous quarters and last year, which we see as a confirmation of our successful marketing efforts to generate broad Lulu’s brand appeal across both Gen Z and millennial women across a wide income range. We believe that in general, the customer is more careful in what to spend money on and knows that there are good deals to be had across many retailers. Lulu’s remains a go-to for event and going out dressing and our affordable luxury concept continues to resonate with both new and existing customers. Despite the more volatile macro environment, we maintain good lines of sight on which performance marketing spend is working and providing incremental value as a result of our robust data capabilities.

Our brand content continues to improve and resonate with Gen Z and millennial women. We continue to scale up our influencer marketing efforts, reach and earned media value, resulting in increased Lulu’s brand familiarity and equity. And although upcoming quarters will be tough to come from an active customer count perspective, as large growth quarters will drop off, while macro pressures remain, Lulu’s maintained a strong position to gain share of our customers’ cost. I joined David, and my excitement for Crystal, assuming the role of Lulu’s CEO in March of next year, and I believe that Lulu’s future is in her most capable hands. I will hand it over to Crystal for her to discuss the quarter in greater financial detail.

Crystal Landsem: Thanks, Mark, and good afternoon everyone. Let me startup by saying how thrilled I am to be taking on the CEO role this coming March and having the privilege of holding the head of the Lulu’s title. It’s been an incredible seven years so far, and I’m very much looking forward to the next chapter in leading such an exceptional and dedicated Lulu’s team. It’s difficult to describe the words why affection for our teams, our customers and the brand we’ve all built together. It’s truly an honor to be chosen for this role, and I look forward to collaborating with David as he steps into the Executive Chairman role. Now, jumping into the quarterly results. While we were not immune to the macro and industry wide challenges, we were pleased that we continue to post gains across many of our key consumer related metrics and remain profitable.

We continue to be proud of our large and diverse community of loyal customers that are passionate about the Lulu’s brand. At the end of Q3, we had 3.2 million active customers compared to 2.5 million active customers at the end of Q3 in 2021, a 29% increase year-over-year. While we benefited in Q3 from the combination of new customers acquired and continued loyalty from our existing customer base, our net revenues decreased slightly to $105.3 million, representing a 1% or $1 million decrease over the same period in the prior year. Total orders fell by 1% and average order value increased 6% to $133, the latter of which was primarily reflective of an increase in units per transaction. We saw a slight increase in average unit retail net of markdowns and discounts in Q3 compared to the same period in the prior year.

Similar to Q2 this year, we continue to experience higher levels of returns in Q3 compared to the same period in the prior year and above our expectations from earlier in the year. This is partly the result of the continued shift in sales mix into more formal wear, event and special occasion dressing that typically drive higher rates of return. In addition to the impact of this category mix shift, we saw continued overall increases in return rates across most product categories compared to the same period in the prior year, consistent with industry-wide trends for product returns behavior. Gross margins for the third quarter fell about 560 basis points to 42.1%, driven primarily by two key factors. Higher discounting of merchandise from promotional activities used to drive sales in an increasingly promotional and price-sensitive environment and continued higher outbound and return shipping costs, both compared to the same period in the prior year.

The impact of higher markdowns and discounts to gross merchandise margin compared to last year was roughly 460 basis points. As a reminder, in Q3 2021, were returning inventory so quickly that there is very little room or need for promotional activity with our LCM inventory turns around nine times. We view the decline in Q3 merchandise margins compared to last year and partially normalization back to our pre-pandemic promotional activity and partially temporary pressure to remain competitive in an increasingly promotional environment. When comparing the impact of markdowns and discounts to net revenue for Q3 of 2022 to Q3 of 2019, 2022 compares 120 basis points favorably. Also, worth noting is our gains in the quarter in Lulu’s branded product sales as a percent of total unit sales, coming in over 90% of our Q3 demand, reinforcing our customers’ preference for our proprietary Lulu brand.

Moving down the P&L to give some insights into expense line items. Q3 selling and marketing expenses were $19.4 million, down about $1 million from the same period in the prior year, primarily due to shifting some performance marketing spend of the P&L to support higher promotional levels during the quarter, reflected in the increase in discounts captured in net revenue. As Mark alluded to earlier, we remained first order contribution margin profitable during the quarter, in spite of elevated promotions, shipping and returns costs. To us, this reinforces the value of our disciplined marketing approach in spite of the challenging macro factors. General and administrative expenses amounted to $24.4 million for the quarter, an increase of $3.2 million compared to the prior year.

The increase was primarily due to higher equity-based compensation expense of $1.7 million related to equity-based awards put in place since our IPO in November of 2021. And about $800,000 in higher employee health benefits costs related to increased health care premiums pass-through from our carriers. These costs were partially offset by lower variable costs resulting from warehouse automation investments driving efficiencies, with a nearly 50 basis point reduction in variable labor costs as a percent of net revenue compared to Q3 of 2021, as well as lower fixed labor costs due to a reduction in bonus expense this year. Additionally, there was a $1.2 million increase in liability insurance costs and professional services, primarily driven by an increase in director and officers insurance premiums associated with being a public company, expenses we did not have last year in Q3.

Interest expense fell by $3.3 million or 91% compared to $300,000 this year, the result of paying off our long-term debt last year with proceeds from the IPO. Despite the challenges in the quarter, our business model proved resilient and enabled us to remain profitable. For the quarter, we reported a diluted earnings per share of $0.02 compared to a diluted earnings per share of $0.13 in the third quarter of 2021. And finally, adjusted EBITDA for the third quarter was $5.4 million compared to $11.9 million in the same period in 2021. Our Q3 adjusted EBITDA margin was 5.1% compared to 11.2% in the same period in 2021. Moving on to the balance sheet and cash flow statement, we believe our balance sheet remains strong and positions us well to execute our long-term growth plans and manage through near-term macro uncertainty.

Similar to the past several quarters, one key change compared to last year, worth noting is we adopted the accounting lease standards under ASC 842at the beginning of fiscal 2022, resulting in offsetting assets and liabilities reflected on the balance sheet this year that were not reported on the 2021 balance sheet. We ended the quarter with cash of $12.5 million, and a balance of $15 million drawn on our revolver for net debt of roughly $2.5 million. Our inventory balance at quarter end was $49.4 million, up $26 million from last year’s levels, and up $842,000 or 1.7% over Q2 of 2022. As always, we’re leveraging our data to manage our inventory receipts with the ultimate goal of responding to customer demand. As we’ve mentioned on previous calls, we were turning inventory too quickly last year, and knew we needed to improve the customer experience with higher inventory levels, so that we could continue to delight our customers.

There are potentially more vulnerable to supply chain disruption risks at those historical levels, and have been working towards slowing inventory turns to de-risk our sourcing exposure to China, and ultimately improve the customer experience. As of the end of Q3, all of that approximately $2 million of the $26 million of inventory value growth was intentional to hedge against inflation, supply chain issues, and an effort to optimize size and stock to better service our customers. We remain a very quick inventory turning company with what we believe are industry-leading terms. As always, we aim to be disciplined in our inventory management approach, and we’ll continue to relentlessly pursue further optimization of inventory levels to optimize the customer experience and minimize markdown risk.

As a reminder, our data-driven buying model results in roughly 70% of our buys being proven sellers with lower markdown risk. We are a fresh fashion concept, not fast fashion, which means our inventory mostly consists of products that are relevant across seasons and in many cases for multiple years, so we’re less exposed to inventory obsolescence and ensuing markdown risk. We continue to operate a highly capital-efficient business that positions us to generate significant positive cash flow. Year-to-date, we generated over $16 million in cash flow from operations. Now moving on to guidance. Inflationary headwinds continued to weigh on consumers and given macroeconomic uncertainties, we feel it’s best to reduce our guidance range for the year.

We now expect net revenue to be between $425 million and $440 million, which represents between 13.1% and 17.1% growth over 2021 net revenue compared to our previous guidance range of $440 million and $480 million. For adjusted EBITDA, we expect to be between $25 million and $31 million compared to our previous guidance range of between $35 million and $45 million. As a reminder, in contrast to many other retailers, Q4 typically represents the lowest net revenue quarter of our fiscal year. We are not a gifting destination and typically do not participate proportionately in holiday peak season sales volume like others in the retail space. As a result of the payoff of our long-term debt facility immediately following the IPO, we expect interest expense to be around $1 million for the year, dramatically down from $12.8 million in 2021.

Stock-based compensation expense for the quarter was up $1.7 million from Q3 2021, primarily due to employee and director stock grants made since our IPO. Stock-based compensation expense is expected to be approximately $3.6 million for Q4 of 2022. For Q4 2022, we expect a weighted average fully diluted share count of approximately 39.5 million shares. Moving on to capital expenditures. I’d like to reiterate the following investment areas we are focusing on through the balance of the year and 2023 to continue driving towards future growth. Earlier this year, we completed the successful robotics implementation in our East Coast fulfillment center, which has driven labor efficiencies. We are moving forward with launching robotics in our Northern California facility with implementation planned for early 2023.

In Q4, we will have completed the move of our creative studio to a location adjacent to our Southern California buying office, which we anticipate will create greater efficiency and collaboration between our studio operations and merchandising teams. We also plan to continue improving our internal custom platforms to ensure that we maintain and improve our customer-centric shopping experience and marketing personalization with investments in customer experience, data platforms and furthering customer insights. Lastly, we plan to further invest in internal and external software and technology to enhance our operational efficiencies, including expanding fulfillment and other distribution capabilities in our new Southern California distribution center.

We have narrowed our capital expenditure guidance range to amount to $5 million to $5.5 million for the full 2022 fiscal year. This is primarily the result of recent CapEx projects such as our studio relocation coming in below budget, along with the reprioritization of Q4 capital spend to focus on the areas that we believe will drive the most efficiencies. In spite of the volatile macroeconomic backdrop and the challenges we will most likely continue to face, our balance sheet and unique business model will allow us to continue to invest strategically to continue to recruit new customers and gain further efficiencies. As we grow, we will be able to benefit from economies of scale in the ordering process as well. Operationally, there are many low-hanging fruit initiatives underway in the areas of shipping cost reductions that should benefit us in the near-term and mid-term.

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

David McCreight: Thank you, Crystal. We’d like to take a moment to thank each of you, Lulu Crew, our brand fans, shareholders, and Board for their continued support as we continue to work towards executing on our strategy and delighting our many customers. With that, we’ll turn it over to questions now.

Q&A Session

Operator: Thank you. Ladies and gentlemen, at this time, we will begin a question-and-answer session. Our first question comes from the line of Oliver Chen with Cowen. Please proceed with your question.

Oliver Chen: Hi thanks and congrats, David, Crystal and Mark. Regarding the promotional environment, and we’ve really seen an increasingly promotional environment in terms of the industry at large. What’s happening going forward? And how does that triangulate with your inventory? You’re up against compare where you didn’t have enough inventory previously. But how are you feeling about the nature of your inventory levels and what you’ve had to do with discounting, there will be factors outside of your control? A follow-up question is on performance marketing. Unfortunately, what we’ve been seeing is higher rates of customer acquisition costs and less effectiveness with IDFA and AOS and lots of other changes. Would love your color on what you’re seeing and how you’re adapting to different factors? Thank you.

David McCreight: Hey Oliver. Thank you for the congratulations. So, as regards inventory, we had called out the spring/summer that we had approximately, say, $5 million, what we termed as excess inventory. And Crystal and team have done a terrific job of working down that exposure, and we’re monitoring it as we go forward. But I just want to remind the rest of the group is given that 70% of our revenue typically comes from reorder product, we felt comfortable carrying over this spring/summer inventory into next year rather than sort of — rather than flush it out from margin because it’s not your typical fashion risk. So, we think our inventory position continues to get sharper and we’re seeing some good response to styles as well. And Mark will take the second part.

Mark Vos: Hi Oliver. Yes, as I mentioned in the prepared remarks, what we see is that our cost of acquisition remains stable. And so we don’t see that upward trend that others have reported, at least, we don’t see it yet. And I would like to attribute that to our — basically our data-driven nature around the things that we do, how we spend the money, the insight that we have as to where does it work? And where does it not work? And specifically from is it incremental or not. Kudos to the marketing teams and their collaborations in order to achieve those flat — relatively flat cost of acquisition numbers thus far.

Oliver Chen: Best regards.

David McCreight: Thank you.

Operator: Our next question comes from the line of Garrett Greenblatt with Jefferies. Please proceed with your question.

Garrett Greenblatt: Thanks for taking my question and congrats to you Crystal and Mark.

Crystal Landsem: Thank you.

Garrett Greenblatt: I guess, as we think about the promotional cadence and markdowns, how are you thinking about this going into 4Q? And how does that compare to what you saw in 3Q?

Crystal Landsem: Yes. So we’re certainly more promotional in the third quarter, especially compared to last year, just given our inventory position in Q3 of last year and helped us in returning. There was a lot of opportunity to actually utilize promotions. We’re being opportunistic about it. Our customers are responding well to it. We have data that indicates that there’s a higher LTV for some of the customers to acquire through promotional activity. And knowing that we have a lot of staying par with our inventory, we can certainly leverage that to be opportunistic and focused on customer acquisition. We expect Q4 just given the macro to continue to be a promotional environment. We’ll certainly participate in that, but we want to take a more surgical approach and be as optimized as possible as we work through the quarter.

Mark Vos: Yeah. I would like to say that also historically, Q4, we have not — how should I say, we participate but not to the extreme in the blood what of holiday promotions and advertising costs, et cetera, we’re very surgical in what we do and specifically also what we don’t do. As I called out, I think, what is important to remember is that what the data is showing us through Q3 is that we are and remain the go-to for event and going out dressing and that our affordable luxury concept continues to resonate with both new and existing customers. I spoke about the various income brackets and that they’re all responding well to these promotions. So in that sense, we feel that we’re very well positioned in combination with our brand awareness and our brand content and the improvements that we’re making there and the further reach that we’re having there.

So all in all, yes, it will be promotional. And yes, we will do what it always does. And that is being a first order comfortable.

Garrett Greenblatt: Great, makes sense. Appreciate it. And then, just looking back at 3Q, I wonder if you could give some color on, how the top line trends progressed throughout the quarter and how return rates trended as well?

Crystal Landsem: Yeah. Starting with return rates, we saw a similar trend in Q3, as we saw in Q2. Part of that is just mix and that increasing demand in our formal and more event-driven side of the business that typically has higher return rates. But across the board, we saw consistency across all product classes and similar to other retailers in the space that have spoken about return rates as it continues to be elevated.

Garrett Greenblatt: And then the other in terms of progressed.

Crystal Landsem: Oh, I’m sorry, just to address your question around how the quarter progressed. July, we were low single-digits positive. August, low double-digit positive, but we started to see a deceleration into September. That continued into October. And so that’s the rationale for a more conservative outlook for Q4 and just knowing that Q4 is our lowest quarter, it’s not a big play for us. So we’re, just wanting to see as conservative as possible in that regard.

Garrett Greenblatt: Understood. Thank you very much.

Operator: Our next question comes from the line of Dana Telsey with Telsey Advisory. Please proceed with your question.

Dana Telsey: Hi. Good afternoon and congratulations, Crystal and Mark and David best of luck. I wanted to touch on inventory progression, how you’re thinking about inventory as we go through the fourth quarter and into next year? And then also on the robotics piece, overall, as we think about next year, is that going to become a margin enhancement tool going forward? And then just lastly, with the September and October deceleration did sales turn negative then, or what did you see? Thank you.

Crystal Landsem: So as it relates to inventory, as always, it’s business as usual, taking more of a data-driven methodical approach to managing our inventory balances. And as it relates to Q4 and go forward, we want to take a very balanced approach to make sure that we’re not overreacting or under-reacting to the macro and really just adjusting based on our customer demand and where she’s putting her money and where she’s not. And given our lead times, we’re able to be pretty agile and derisked in that way. So while we do have elevated inventory levels, we’re right where we want to be from its total dollars in terms of our return calculations that we’ve spoken about. In the past, we think 6% to 7% is a good place to be. It allows for a slower turn, it’s low risk if the macro gets worse, but also provide for upside to the macro get better and our inventory and our positioning within that inventory is, again, 70% reorders, so lower risk for the long-term.

David McCreight : And Crystal said, excuse me, 6% to 7%, she is talking about complete inventory turns per year.

Crystal Landsem: Yes, on an LTM basis, that’s right.

David McCreight : Right.

Crystal Landsem: I’ll refer to Mark for robotics.

Mark Vos: Yes. And so as it relates to the robotics thus far, we are automation more in general, what we have seen and what Crystal reported was indeed a reduction in variable costs there. And so that is the objective, that’s the focus that we have. And so with our — for Q4 — sorry, for next year, you were asking as it relates to how do we need to think about that is we continue down that path, and we will seek those opportunities to further reduce those variable costs or cost per unit. And we believe that we have a road map in front of us, of which we can realize those small incremental benefits over time.

Dana Telsey: Got it. And then just any more color on the cadence of the quarter and what you saw in the changes?

Mark Vos: No. Not beyond what, Crystal already mentioned.

Dana Telsey: Got it. Thank you.

Mark Vos: Right. This is specific, that wasn’t addressed then?

Crystal Landsem: So, Dana, do you mean as it relates to automation and robotics for more around revenues side by…?

Dana Telsey: On the revenue side, the sales at all turned negative in September and October? And any leveling out that you’re seeing?

Crystal Landsem: Yes, certainly leveling out, although, I wanted to overlay that with some conservatism where it’s been similar to Q3, it’s been very choppy, and the thing is up and down, it makes for a more conservative outlook. So it’s certainly, yes. But again, just like we reiterated in Q3, so very dynamic environment for wanting to take a cautious approach to how we manage it and communicate about it.

Dana Telsey: And then just lastly, you had mentioned your own private label Lulu’s brand. What are you seeing there in performance and percentage of sales that you expected to achieve? Thank you.

Crystal Landsem: Yes. I mean, kudos to our merchandising team. They’ve done a really great job, growing our Lulu’s brand and our customers truly connecting with it. And we crossed over the 90% threshold this year in Q3 with more than 90% of our product sales coming from the Lulu’s brand and actually saw more of a deceleration in the third-party brands in favor of our own, which is just a testament to the quality of our product and our customers’ appreciation for that quality. So really, really proud of the team and what they did there.

Operator: Our next question comes from the line of Mark Altschwager with Robert W. Baird. Please proceed with your question.

Mark Altschwager : Good afternoon. Thanks for taking my question. So you mentioned a few times that Q4 is unique for your business and maybe it’s not the best period for us to extrapolate given the seasonality. So with that in mind, I was hoping you could give us some high-level thoughts on how you’re planning top and bottom-line growth into 2023? And how you think about balancing growth versus protecting margins given this choppy and uncertain macro backdrop?

David McCreight: Hey, Mark. Thanks for the question, David here. For this back half, we focused in on making sure we’re not discounting full price, great good that we see great value in the spring. Some companies and brands have been forced to really purge inventories quickly to get into it. We’re very comfortable with the sort of quality of the inventory we have and what we expect as we exit the year into 2023. And — it’s still too early for us to give any indicators for what we’re going to be doing for 2023, still working through our budgeting process, watching what goes on in season, meeting with our Board and reviewing and other things. So we’re not going to signal right now in 2023.

Mark Altschwager: Okay. Fair enough. And just a follow-up with respect to return rates. They are still elevated relative to, I think, where you were in 2019. How much of that is structural versus cyclical? And are there any actions you’re planning with respect to your return policy going forward given the current backdrop for freight surcharges and et cetera? And I think you alluded to some efficiency initiatives with respect to returns as well, if I heard that correctly. Can you maybe just expand on that and just what you’re doing more broadly with respect to returns to protect the impact on your margins? Thank you.

Crystal Landsem: Yes. I would say given the trends over my last seven years at Lulu’s, I think it’s safe to say that return rates are cyclical and also heavily dependent on which product classes are having their moment within a quarter or within a year. It’s just been industry-wide that everyone is struggling with higher return rates. And just Lulu’s culture is to constantly look at our processes and always evolve. And of course, the return policy is going to be a part of that, rather than I say details around what we’re doing and looking into there. But I would say it’s certainly top of mind to make sure that our returns policy scales with our business model.

David McCreight: You might see changes in the New Year, but we don’t want to detail them just yet.

Mark Altschwager: Thank you. Best of luck.

Operator: Our next question comes from the line of Brooke Roche with Goldman Sachs. Please proceed with your question.

Brooke Roche: Good afternoon and thank you so much for taking our questions. My first question is about gross margins. And I was hoping that you could give us a little bit more context on how you’re planning the fourth quarter split between gross margins and other cost items as you contemplate the pressure to adjusted EBITDA margin for the quarter and for the year? And then maybe as you talk through some of those buckets, whether that’s promotions, returns, freight expense or other drivers, can you talk to what proportion of some of the pressures that you’re seeing in the back half of the year that might persist into next year? And which pressures you view as onetime or transitory. Thank you.

Crystal Landsem: So as it relates to gross margins for Q4, would I think our marketing team is really, really good and efficient that is determining where the best payoff is between discounts to engage with customers and acquire new customers versus the performance marketing spend. And we use them somewhat interchangeably as you’d see in Q3, where we had lower selling and marketing expenses going through the quarter, but a slightly negative net revenue largely from a reallocation from how we’re managing that marketing versus discount spend. Q4, given how competitive the space is, I would expect to see more allocation toward discounts potentially. But again, our team is very dynamic in the adjusted what the customer is asking us for and what’s going to bring us that best thing for our buck with a continued focus on contribution margin profitability, and that’s fully burdened considering all the incremental cost of fuel, target, accessorial and all the headwinds that everyone’s been experiencing.

So I’d say Q4 margins, of course, from a comparable perspective, we were trending over nine times last year. That lower promotional activity, we’re going to have a negative comparison from a gross margin perspective, especially including all the impacts from the pass-through from our logistics carriers. Brooke, do you mind repeating the other part of your…

David McCreight: I’ll jump in on that next. Thanks first of all. And Mark and Crystal, feel free to jump in here. As you ask about, which of those factors will carryover versus one-time. I would think that — and this is looking out knowing that some of our promotional activity to date has been driven by the competitive nature to get customers’ attention. Right now, I would think as the macro as other people in the industry right-size their inventory and risk inventory, I wouldn’t be surprised if some of the promotional activity pressure comes down in the next half as they cycle through by the end of January, the cleaner inventories. Again, we don’t have that same level of risk going forward as it relates to some of the freight and accessorial charges, we expect those to come down also.

So I’d expect promotional activity to come down some from a competitive view, freight and others coming down because of simple supply and demand. Consumer return behavior seems to be broad-based from the industry. And I think the industry will probably pivot some and push back. We’ll share more of that burden or create a higher hurdle for the customers in 2023.

Brooke Roche: Great. That’s very helpful color. One follow-up question from a high-level perspective. As you think about brand and customer relationship building. And I think, Mark, you talked about this in your prepared remarks, you said that some of the upcoming quarters, you have a much tougher compare on your active customer count. Can you talk a little bit about how you see your growth algorithm long-term playing out between advances in your customer count versus AOV? And what initiatives do you have in place to ensure that you continue to grow that customer count over time and capture market share? Thank you.

Mark Vos: Yeah, sure. Great question. Yeah, as I clarified, the coming of 2021 quarters, and the first part of 2022 with high-growth quarters. And obviously, it’s going to be more tougher to compare against. That doesn’t mean that we cannot grow that, but it’s just going to be harder. And the way we think about that is really in the context of how do you see that growth, in essence, it’s about increasing that order frequency. That is what our focus has when it comes to our existing customers, where when we attract a new customer, when can we get the customer to repeat and repeat again and so forth. Not necessarily, although, we are not averse to increasing the basket size, of course, but I think that overall, the order frequency is the key component there.

And instruments where we are focused on and will be focused on or continues to be focused on our core examples, our loyalty program that will expand over time our app, which has a different relationship with our customers as well. And so to really make the experience with our customers to enrich that, and such that, the customer wants to come back, and wants to be €“ whether that is for the additional service components, or the benefits that they’re getting, as well around the portfolio of what we’re focusing on.

Brooke Roche: Thank you very much. I’ll pass it on.

Operator: Our next question can come from the line of Noah Zatzkin with KeyBanc Capital Markets. Please proceed with your question.

Noah Zatzkin: Hi. Thanks for taking my question. Just wondering, if you could provide any color around any differences in consumer behavior you saw during the quarter. Have you seen any differences across income levels or geographies or trends largely moved in lockstep?

Mark Vos: So what we’ve seen is that, it essentially moved in lockstep. Any differences that were visible between household income tiers, for example, so some tiers have would say, more items for order, those type of trends continued through Q3. And what we’ve seen, the change is €“ so for example, from we had a slight reduction in order frequency. We saw that then across all the income bracket. So they’re all moving essentially at a change rate that is comparable. What we €“ actually, when we think about that is, we see that as a sign of that, what we are doing is really €“ we’re attracting and are relevant for all of our customer income, rankers. There’s not one that jumps out where we don’t see a shift to let’s say, higher income records or lower income records, it’s really stable. And in that sense, our formula is working and is successful.

Noah Zatzkin: Thank you.

Operator: Our next question comes from the line of Edward Yruma with Piper Sandler. Please proceed with your question.

Edward Yruma: Hey, good evening, guys. Thanks for taking the question. Congrats, David and Crystal. So I guess two quick ones for me. First, did you see a difference in performance between kind of special occasion? And I know, it’s kind of a blue line, but kind of more everyday clothing. And then as a follow-up, I know you had some pretty targeted comments on performance marketing. Any interesting anchors you can provide on TikTok. It seems like people are moving to that platform? And kind of how are you performing there? Thank you.

Crystal Landsem: Yes, it’s a good question. So we continue to be a destination for events and events see stock affluence over last year, third quarter in all of our events business. Where we did struggle a little bit, it was more so on the everyday where we see pull back or spend some and in that regard. So what makes us feel good about the quarter is event dresses are typically our gateway into trying new products, and we need to pull back on them every day in a separate, more casual fashion. It temporary, just given the macro backdrop, and she’s really protecting her spend on those events and the life moments that we’re able to be there for.

David McCreight: And then, Ed, on a couple of — when one’s factoring in how you’re doing with the generation, you have to look at a number of different data points. And Mark’s team thought through a hair’s pull that we have the largest team in grand theme that there ever was as we — a quarter. And we’ve got search console also supporting really good — very high brand search volume for us. So this combination of promotional activity in the book, that has seen the works getting there. It’s more positive in a in on them. We’re looking for watching the search team making progress there.

Edward Yruma: Great. Thanks so much.

Operator: Our next question comes from the line with for — our next question comes from Lorraine Hutchinson with Bank of America. Please proceed with your questions.

Lorraine Hutchinson: Thank you. Good afternoon. It’s been a tough macro environment. And if we assume that the choppiness continues over the next several quarters, are there any larger cost buckets or levers you can pull to continue to protect profitability?

Crystal Landsem: Absolutely. Yes. So, we actually have a fairly high variable cost structure. And I would say, outside of our new fixed expenses around being a public company, we have a very highly variable cost structure. And I want to point everybody into 2020 and how reactionary the team was. With even 34% less in revenue, we still managed to pull through pretty comparable EBITDA. So in that sense, our team is very, very well conditioned to manage expenses, but we’re — for us, we want to continue to be opportunistic and make sure that we’re preserving growth and not pulling back too far and just been realistic about expectations go forward. We have a very clean balance sheet. Compared to where we were a year ago, we’re in a pretty good spot to continue to push for growth.

Lorraine Hutchinson: Thank you.

David McCreight: Thanks, Lorraine.

Operator: There are no further questions in the queue. This does conclude today’s teleconference. Thank you for your participation. You may disconnect your lines at this time, and have a wonderful day.