National Vision Holdings, Inc. (NASDAQ:EYE) Q4 2022 Earnings Call Transcript

National Vision Holdings, Inc. (NASDAQ:EYE) Q4 2022 Earnings Call Transcript March 1, 2023

Operator: Good day, and thank you for standing by. Welcome to the Q4 2022 National Vision Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there’ll be a question-and-answer session. Please be advised, today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Caitlin Churchill, Investor Relations. Please go ahead.

Caitlin Churchill: Thank you, and good morning, everyone. Welcome to National Vision’s Fourth Quarter 2022 Earnings Call. Joining me on the call today are Reade Fahs, CEO; Melissa Rasmussen, CFO; Patrick Moore, COO, is also with us and will be available during the Q&A portion of the call. Our earnings release issued this morning and the presentation, which will be referenced during the call are both available on the Investors section of our website nationalvision.com. And a replay of the audio webcast will be archived on the Investors page after the call. Before we begin, let me remind you that our earnings materials and today’s presentation include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.

These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections. These risks and uncertainties include but are not limited to, the factors identified in the release and our filings with the Securities and Exchange Commission. The release and today’s presentation also include certain non-GAAP measures. Reconciliation of these measures is included in our release and supplemental presentation. We also would like to draw your attention to Slide 2 in today’s presentation for additional information about forward-looking statements and non-GAAP measures. As a reminder, National Vision provides investor presentations and supplemental materials for investor reference on the Investors section of our website.

Now, let me turn the call over to Reade.

Reade Fahs: Thank you, Caitlin. Good morning, everyone. Thank you all for joining us today. I thought I’d start today with an overview of what we’re going to take you through to provide context and a framework from the further details that Melissa and I will then be providing. As we’ve discussed before, the pandemic disrupted the historically consistent optical purchase cycle. In addition, it impacted global supply chains, leading to increased cost and inflation and created a challenging labor market, especially impacting doctor availability as seen in other areas of specialty healthcare as well. While we believe that we will return to a more normalized purchase cycle and cost environment, we’re addressing the new reality of the optometrist market and overall business environment in which we’re operating today.

As we will discuss, optometrists in our network are now being offered a greater variety of scheduling options and improved variable compensation programs, and we’re progressing the remote medicine initiative that we’ve been discussing in our last few calls. We’re also resetting our management’s short-term incentive plan to ensure that we keep our team highly incentivized to perform. In addition, like all companies, we must evolve our systems to support our growing business and gain advantages and efficiencies of ongoing digitization. As we enter 2023, while the actions we are continuing to take will have an impact on our operating margins in the near term and the macroeconomic factors remain challenging, we are intently focused on continuing to further adapt and transform our business to excel in the post-pandemic new normal business environment.

Before I discuss our plans and initiatives for 2023 in more detail, let me first review highlights from our fourth quarter and full year performance. Turning to Slide 4. 2022 was a challenging year for the optical industry overall and for National Vision. We ended the year in line with our guided expectations while navigating a difficult macroeconomic environment, which especially impacted our core budget-conscious uninsured customer base, and we (ph) capacity constraints in certain markets. I continue to be very proud of our entire team and their commitment to providing exceptional patient care and customer service, while also remaining focused on our strategic initiatives. These include the rollout of remote care and electronic health record capabilities to over 300 locations and the opening of 80 new stores despite many supply chain obstacles.

For the fourth quarter specifically, net revenue declined 1.9% and adjusted comparable store sales declined 2.4% compared to the prior-year period. We delivered adjusted diluted EPS of negative $0.08 for the period inclusive of a $0.10 negative impact from unearned revenue, as well as a $5 million investment in retention bonuses for our associates. Importantly, underlying these results was a strong finish to the quarter, particularly with respect to our managed care sales, as we saw a notable improvement in the last week of the year, traditionally, a very important time in optics, as various annual insurance benefits end. These trends helped to also support positive comp growth for both the quarter and the year in our managed care business, representing an increase in customers with vision insurance.

Insured customers are less sensitive to the elevated inflationary and macro pressures facing our uninsured customers. In addition, we continued to see evidence of trade down in the fourth quarter from higher income consumers in our stores. Now, turning to Slide 5. Our plans for 2023 continued to focus on our transformation, with the expansion of our remote care offering, strategic investments in optometric recruiting and retention initiatives, our omnichannel capabilities, the further digitization of our stores and corporate office, as well as continued store openings, based on the significant whitespace opportunities still ahead. Turning to Slide 6. As I’ve explained, the pandemic created unprecedented and unique challenges to the optical industry, by not only impacting the historically consistent purchase cycle, but also optometrist availability.

This has significantly impacted eye exam capacity for the industry. Of these factors, the one that we believe we can influence the most is recruiting and retaining doctors in an effort to expand exam capacity, albeit with increased levels of investment. We believe that the pandemic led to more doctors retiring from the field or significantly cutting back the number of days they work each week. Accordingly, changes were needed to continue to maintain healthy retention rates and recruit new talent to our doctor network. Doctor retention rates have historically ranged between 80% and 90%. We were pleased with the improvement we saw in 2022 in our recruitment efforts, including delivering the best year ever for optometrist student recruiting. In 2023, we believe there is an opportunity to build on this improvement in momentum through investments in a number of additional initiatives, including increased scheduling options and OD variable compensation program updates.

These initiatives were piloted in select markets during the fourth quarter and, given early positive results, a strategic decision was made to expand these programs throughout our America’s Best brand in 2023. In addition to these initiatives, we’re also continuing to rollout our remote care capabilities, which provide doctors with additional levels of flexibility and expand exam capacity in many areas. By the end of 2022, we had rolled out remote care capabilities to approximately 300 stores. While this is a nascent program, we’re pleased with the initial results and have incorporated key learnings from the rollout related to the productivity ramp and learning curve needed for doctors to transition to the new system. We’ve implemented new techniques and training to minimize the productivity loss.

We plan to continue to expand this program further in additional America’s Best locations in 2023 and we’re evaluating approaches to remote practice in other brands as well. We see this mode of practice is being highly appealing to optometrists now and going forward without sacrificing quality of patient satisfaction. We believe that with the one-two punch of enhanced recruiting and retention initiatives and expanded remote capabilities, we are increasing the competitive moat around our business while significantly improving exam capacity. In addition to the investments in remote technology and doctor recruiting and retention efforts, we remain focused on the important role that our associates play in supporting our business and providing the great customer service that our patients and customers expect.

We take pride in training and growing the talent needed to support our whitespace expansion and are proud that approximately 40% of current store managers started with us in entry-level positions. We’ve also implemented an optometric technician certification program that improves the quality of our technicians and consequently the job satisfaction of optometrists. Currently over three-quarters of our optometric technicians are certified. Turning next to Slide 7, and our plan for furthering the digitization of our stores and corporate offices, as well as enhancing our omnichannel capabilities. As part of our remote care rollout, we’ve begun to implement electronic health records in our stores. A key learning that we gained with our initial rollout of this initiative has been the productivity ramp in learning curve needed for many doctors as they get used to working with the new platform, given that, enhanced training for doctors has been implemented.

While these additional costs and length of productivity ramp will be short-term margin drag, we believe the digitization of patient records is a necessity for today’s operating environment that should provide longer-term patient and customer experience benefits, as well as more efficient store flow. To further support our stores and growing business, we expect to start a back-office ERP implementation for our corporate office in late 2023. In addition, we’re continuing to invest in our omnichannel capabilities and other enhancements to the customer experience, which are showing initial encouraging results. As seen on Slide 8, we remain focused on our significant whitespace opportunity for store growth. We continue to believe we have an opportunity to grow at least 2,150 stores with similar economics to the existing base.

And in 2023, we expect to open approximately 65 to 70 new stores. Our planned openings reflect anticipated supply chain and permitting delays and secondarily doctor recruitment timing. In summary, while the macro pressures continue to weigh on a core budget-conscious uninsured customer, we are navigating this backdrop while taking actions to improve exam capacity, further the digitization of our stores and corporate office, leverage our omnichannel capabilities and continue to capitalize on our whitespace opportunity as we move into 2023. While early, we’ve been encouraged by the results to date from doctor retention and recruiting initiatives. While we expect profitability in 2023 to be impacted by cost pressures, as Melissa will discuss, we believe the initiatives we have in place will position us well for long-term success and a return to consistent financial performance we have demonstrated historically, as we see on Slide, 9.

I’ll now turn the call over to Melissa for a more detailed discussion of our financial results and the 2023 outlook.

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Melissa Rasmussen: Thank you, Reade, and good morning, everyone. Turning to Slide 11. Net revenue for the fourth quarter decreased 1.9% compared to the prior year due to macroeconomic headwinds pressuring traffic and constraints to exam capacity. The timing of unearned revenue negatively impacted revenue growth by 2.9%. The 40-basis points revenue loss in the third quarter as a result of Hurricane Ian was recovered in the fourth quarter. During the quarter, we opened 23 new America’s Best stores for a 1.7% increase in total store count sequentially over the third quarter of 2022. For our America’s Best and Eyeglass World growth brands combined, unit growth increased 5.9% over the total store base last year, and we ended fiscal 2022 with 1,354 stores.

Adjusted comparable store sales growth declined 2.4% compared to an increase of 1.2% in the fourth quarter of 2021. The fourth quarter same-store sales decline over 2021 was driven by lower traffic, which was partially offset by an increase in average ticket. Turning to Slide 12, as a percentage of net revenue, cost applicable to revenue increased 180 basis points, driven by deleverage of optometrist-related costs, lower eyeglass mix and lower eyeglass margin. This is better than our expectations of 300 basis points to 325 basis points increase due to a more stable average ticket than we had anticipated. Adjusted SG&A expense as a percent of net revenue increased 300 basis points compared to 2021. The key factors behind this increase were timing of unearned revenue, higher corporate office expenses, which included a one-time investment in our associate of $5 million for retention bonuses, and increased occupancy expense, partially offset by lower advertising expense.

Adjusted operating income was a loss of $6.8 million compared to adjusted operating income of $16.8 million in the prior-year period. Adjusted operating margin decreased 490 basis points, driven primarily by the timing of unearned revenue recognition, which negatively impacted adjusted operating income by $10.7 million as well as the increased costs we incurred in the quarter. Adjusted diluted EPS was a loss of $0.08 compared to earnings of $0.13 per share in the prior year period. Turning to full year 2022 results on Slide 13. Net revenue decreased approximately 3.6% versus 2021, with adjusted operating income of $87.8 million and adjusted diluted EPS of $0.65 per share. Now turning to Slides 14 and 15. Our balance sheet and liquidity remained strong.

We ended the year with a cash balance of $229 million and total liquidity of approximately $523 million, including available capacity from our revolving credit facility. We have total debt outstanding of $568 million with no mandatory principal payments due until the term loan matures in July of 2024. Net debt to adjusted EBITDA was 1.9 times. For the year, we generated operating cash flow of $119 million. We invested $114 million in capital expenditures, primarily focused on new store openings and customer-facing technology investment, slightly below our expectations due to supply chain-related delays. We expect improved operating cash flows in 2023 and capital expenditures to be in a range of $115 million to $120 million to reflect our continued investment in key growth initiatives, including new store openings, as well as acceleration in technology investments, including remote care and electronic health records.

In 2022, we returned capital to our stockholders with the repurchase of 2.7 million shares for $80 million under the share repurchase program and have $50 million remaining under the current share repurchase authorization. Inventory per store declined 6% on a year-over-year basis. We believe our current inventory levels are sufficient and can support our 2023 growth plan. Our merchandising and distribution teams continue to execute well to help us manage through the current supply chain challenges. Overall, in this environment, we believe the strength of our balance sheet and our strong cash flows are a competitive advantage and enable us to continue to invest in our key growth initiatives to further strengthen the customer experience and our market position.

Turning now to our outlook, Slide 16. For our 2023 fiscal year, as set forth in greater detail in our earnings release, we currently expect net revenue between $2.075 billion and $2.135 billion, supported by adjusted comparable store sales growth of 0% to 3%, our expectation is to open between 65 and 70 new stores this year. In addition, for 2023, we currently expect adjusted operating income between $48 million and $66 million. And adjusted diluted EPS between $0.42 and $0.60 per share, assuming approximately 80 million weighted average diluted shares. Given the current uncertainty around the consumer and the macroenvironment for this year, our outlook reflects a wider degree of potential results. The high end of our guidance assumes continued success in addressing doctor capacity constraints and a gradual return to a more normal optical purchasing cycle, as well as an improved consumer sentiment.

The low-end assumes prolonged and increased pressure on our budget-conscious consumer and less success in addressing exam capacity constraints. While it is not our practice to provide quarterly guidance, with respect to the first quarter, we expect adjusted comparable store sales growth to be approximately flat. As Reade mentioned, we’ve been encouraged by the results to-date from doctor retention and recruiting initiatives. Though the year has started stronger than expected, we remain cautious as March is a pivotal month due to the timing of tax refund. The midpoint of our annual adjusted operating margin outlook reflects an operating margin decline of approximately 170 basis points versus 2022. This reflects the expectation of approximately 100 basis points of gross margin headwind balanced between expected higher product costs and investments in doctors.

We have recently taken peripheral pricing, which offsets a portion of the cost increases expected this year. The remainder of the expected operating margin decline is largely due to the deleveraging of SG&A, driven by the return to a more normalized incentive compensation structure this year. We expect this normalization of incentive compensation to negatively impact adjusted operating margin by approximately 90 basis points, which we expect to be partially offset by advertising expense leverage. Turning to Slide 17. As we look longer term, we expect the benefits from our key initiatives, as well as an improved macroeconomic backdrop, to result in a return of comparable store sales growth to the mid-single digit levels we have historically delivered.

With this more normalized comp growth we expect to begin to leverage the higher product, wage and incentive compensation costs we are experiencing this year. In addition, while we expect remote care to be profitable in 2023, we believe as we move beyond the implementation phase, there is a significant opportunity to continue to ramp the productivity of this highly accretive exam technology, which we expect to be at least 100 basis points of improvement to adjusted operating margin. We believe remote care is a key unlock to gain access to more doctors amidst industry-wide supply and demand constraints. Our robust remote care technology enables eye exams to be provided in locations where there is not a physical doctor present or in locations that need additional capacity to meet patient demand.

In addition, we believe store digitization through EHR implementation will create efficiencies in store flow. We expected the remote exam technology and store digitalization implementation to be substantially completed by mid to late 2024 and fully productive in 2025, enabling our expectation of a return to mid-single-digit adjusted operating profit margin profile. We also continue to see the opportunity to expand margins beyond this point, as we leverage sale growth and drive further productivity improvements across the organization. In closing, the pandemic era affected the optical industry significantly, but we believe we have a strong foundation in place and are excited to continue the expansion of our healthcare focus through remote medicine capabilities, one of the largest doctor networks in the U.S., and digital transformation of our stores and corporate office.

We believe these solutions to address exam capacity constraints through investments in remote medicine and doctor scheduling options will continue to drive incremental revenue and profits into the future and will allow us to win in this environment. At this point, I’ll turn the call back to Reade.

Reade Fahs: Thank you, Melissa. In summary, this chapter of the pandemic era has created significant changes to the optical category; inflation that has pressured the spending power and affected the purchase cycle of our more budget-conscious uninsured consumer base, created a shortage of optometric capacity for us and across the category and increased our product cost. We believe the purchase cycle and the cost environment will improve with time and are taking aggressive targeted actions necessary to address the situation, both short-term and long-term. Shorter term, we’re implementing peripheral pricing changes that will offset some but not all of the product cost pressures we are experiencing, especially as it relates to the commoditized, easily shoppable contact lens category that represents the minority of our business and profit.

Aggressive actions are being taken to address the new reality of the optometry labor market, with more scheduling options, variable compensation program updates, and continued investment in remote medicine initiatives. We’re encouraged by the initial results of all these efforts. Additionally, we are investing in a variety of digitalization efforts, both customer-facing and back-office to improve our customer offerings and create cost efficiencies. While these efforts create margin pressure in the near term, we are convinced to these are the right actions to position our business for long-term success. With that, I’ll turn it over to the operator for Q&A.

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Q&A Session

Operator: Thank you. Our first question comes from Michael Lasser with UBS. Your line is open.

Michael Lasser: Good morning. Thanks a lot for taking my question. Reade, as you diagnose National Vision’s performance in 2022, how much of the comp shortfall would you attribute to some of these execution challenges like increased optometrist turnover not having the full rollout of remote medicine versus just a difficult macroeconomic environment for your consumer? And a part of that, you mentioned you are starting to see more of a trade down. Are you surprised that at this point in the cycle that the trade down hasn’t been even greater and offset some of these challenges in your core customer base?

Reade Fahs: Got it. Michael, thank you very much. Good morning to you. So, two pieces. We think overall the comp softness last year was pretty balanced between consumer-related and doctor capacity-related challenges. I do want to point out that our consumer — about two-thirds of our consumer base is — does not have insurance that helps them with their optical purchases, so with cash paid, they’re out of pocket and the other third is insured customers. And I’d point out the insured customers’ comp positively for both the quarter and the year consistently throughout, so that is . But really in terms of the things we can control, it’s a story of doctor capacity. I wanted to point out a number we mentioned in there, that — because it’s the first time we share this that our retention of doctors ranges between 80% and 90%.

So, it is a very healthy level and especially when you think about the doctor base we have, many of them are younger and their lives haven’t become geographically settled. So, I think a retention rate of 80% to 90% is healthy in this day and age, but we still have customers who want to come to us and we do not have the exam capacity. We don’t have the doctor there to give them the exam they want from us. So, there is a demand that we cannot fill. We think remote is going to be a great unlock for this and provide us with incremental capacity. We also think the scheduling options we talked about are going to help us with retention and recruitment. And again, early signs are encouraging on that and, of course, the variable comp we mentioned that’s linked to productivity.

So, all those things we think are going to play a role in addressing the doctor shortfall component of that. And trade down is gradually happening more and more. So that is coming along, it’s hard to sort of have exact expectations of it, but it is occurring just like we saw in the recession of ’08 and ’09.

Michael Lasser: Okay. My follow-up question is how dependent is your goal of getting back to a mid-single-digit adjusted operating margin on a mid-single-digit increase in comparable store sales growth? And the reason why I ask that is, because there has been a longstanding debate about the National Vision model as the low-cost provider. Could it be uniquely negatively impacted in an environment where the availability of doctors is eliminated and that low-cost model might not work in that environment, because it’s going to — the company will have to continue to pay off for the important talent, and is it possible that just coming to fruition which will weigh on the structural margin of National Vision? Thank you.

Reade Fahs: I’m going to have Melissa do the first part of that. And then, I’d like to follow on to the second part of that.