Sonos, Inc.
Q4 2020 Earnings Call Transcript

Published: 18 Nov 2020

[Operator:]

Ladies and gentlemen, thank you for standing by, and welcome to the Sonos Fourth Quarter and Fiscal 2020 Earnings Conference Call. I would now like to hand the conference over to your speaker today, Cammeron McLaughlin, Vice President, Investor Relations. Thank you. Please go ahead.

[Cammeron McLaughlin:]

Thank you. Good afternoon, and welcome to Sonos fourth quarter and fiscal 2020 earnings conference call. I am Cameron McLaughlin, and with me today are Sonos’ CEO, Patrick Spence; and CFO, Brittany Bagley. Before I hand the call over to Patrick, I’d like to remind everyone that today’s discussion will include forward-looking statements regarding future events and our future financial performance. These statements reflect our views as of today only and should not be considered as representing our views of any subsequent date. These statements are also subject to material risks and uncertainties that could cause actual results to differ materially from expectations reflected in the forward-looking statements. A discussion of these risk factors is fully detailed under the caption Risk Factors in our filings with the SEC.

[Patrick Spence:]

Thanks, Cammeron and good afternoon, everyone. We ended fiscal 2020 on an exceptional note and delivered meaningfully ahead of our expectations. In light of the uncertainty and challenges presented throughout this past year, the entire team at Sonos has risen to the occasion and proven an ability to creatively adapt and persevere. I am extremely proud of what our team has accomplished throughout fiscal 2020, and I am more energized than ever about our future. Before we get into the results, I wanted to take a step back and remind everyone of the business model that we’ve really built the whole company around. I believe we have hit an important inflection point that proves that our unique model delivers for both customers and investors. You’ll recall that our approach has been to build a system of awesome products and services that deliver a whole home, and now beyond the home, audio experience whether you start with one product, which is what most customers do or start with many. This creates a virtuous cycle where customers return to add additional Sonos products to their home over time. Obviously what’s important in this model is that we’re able to do two things. The first is that we show an ability to add new homes, and the second is that we get existing customers to add additional products. As challenging as 2020 has been for everyone, our model has proven resilient. In terms of attracting new customers, we just delivered the 15th year in a row where we’ve grown the number of homes we’re in by 20% or more, ending this year with nearly 11 million households globally. Even with this strong growth in new homes, we continued to see 2.9 products per home in fiscal 2020. And when it comes to existing customers adding additional products, we have typically seen 35% to 40% of our annual product registrations coming from existing customers who are adding another Sonos product to their home. This year it hit 41% as the launch of Move was a particular success with our existing customers. I believe we’re at an inflection point in the fourth quarter because we are seeing the kind of free cash flow and adjusted EBITDA this model can deliver as it scales. In fiscal 2020, we delivered a record 8.2% adjusted EBITDA margin, and that rises to 10.6% if you exclude tariffs. We are on track to deliver 12% to 14% adjusted EBITDA margins next year, which is ahead of our prior targets. We achieved our 15th consecutive year of revenue growth, and we are planning to accelerate revenue growth in fiscal 2021.

[Brittany Bagley:]

Thank you, Patrick. Let me add some additional color on our strong fourth quarter and fiscal 2020 results and fiscal 2021 outlook.

[Operator:]

Your first question comes from the line of John Babcock with Bank of America. Your line is open.

[John Babcock:]

Hey, good evening and thanks for taking my questions. Starting out, I was wondering if you could talk a little bit about some of the supply constraints that you guys are seeing. I mean, obviously, I think different companies are seeing it in different ways, but I was wondering if you might be able to provide a little bit more color about what exactly is impacting Sonos specifically.

[Brittany Bagley:]

Yes. So, I would say we continue to see demand outperform our expectations, which, continues to put pressure on our supply chain, even as we increase our capacity and then much like other companies in the industry as I mentioned, we’re seeing everything from challenges with component availability, container availability, congestion in port to higher shipping and logistics costs.

[John Babcock:]

Okay, thank you. And is there – obviously, like it looks like from the website that you have pretty strong back orders on a couple of your products, and you mentioned that it’s going to take a little while to get those back down to a normalized level. I was wondering, given that, if you could provide any sort of initial color on sort of the holiday season demand that you’re seeing so far recognizing you might be able to – might not be able to say much, but just want to see what I might be able to get.

[Brittany Bagley:]

I think that that’s guidance that we can give is that due to the fact that we are constrained a bit on inventory. We’re expecting Q1 revenue to be slightly lower as a percentage of total year revenue than what we saw last year. But we are investing in things like air freight and doing everything we can to get as much supply into Q1 as we can. And then we do keep the website pretty updated in terms of shipping dates and how things are stretching out.

[John Babcock:]

Okay. Thanks for that. And then last question before I turn it over, I was wondering if you could talk about the reception that you’re seeing so far for the Sonos Radio HD?

[Brittany Bagley:]

I think that it’s…

[Patrick Spence:]

Yes. So, we’ve just launched that one, obviously John, so just last week, we’re excited to really test our first in a new service into the – out into the world. But it is super early at this point. So, we’ll talk a little more about that at our first Investor Day coming up in March and kind of the way we’re thinking about services, but we’re excited about it and have seen a good initial response and more to come on that. It’s early days.

[John Babcock:]

Thank you.

[Operator:]

Your next question comes from the line of Katy Huberty with Morgan Stanley. Your line is open.

[Katy Huberty:]

Thank you. Congrats on a really strong quarter. I wonder if we can come back to the holiday season and just hear how you’re thinking about promotions, your retail partners, stocking inventory and linearity of demand, which is typically pretty backend loaded in the December quarter. How is that different this year given what’s expected to be more of a stretched out period of demand and more business going direct versus through retail partners?

[Brittany Bagley:]

It’s a great question. I think it’s a lot of what you referenced, which is, people are seeing the holiday quarter start a bit earlier this year. We have – relatively good visibility into the holiday quarter and demand from both our retail partners and then with the increased direct-to-consumer business, what we’re seeing on our own website. We ran our first promo last weekend on move. So that was a bit earlier than we normally do and I think that’s consistent with what other partners and retailers are seeing. So, I think you’ll probably see less backend loading this Q1 than you have seen in other Q1s.

[Katy Huberty:]

And then as we think about fiscal 2021, I know you don’t give specific quarterly guidance, but should we expect profits to continue to be concentrated in your first quarter or do the strong fourth quarter 2020 results set up as a precursor to smoothing out some of that earnings linearity that has been very frontend loaded in past years?

[Brittany Bagley:]

Yes. I mean, I think the best that I can do is we gave a little bit of color on both revenue gross margin and OpEx for Q1. So, any quarter where we have significantly higher revenue, we do tend to have better flow through all the way down to EBITDA. But I think if you take the color and the shaping around Q1 and sort of flow it through the rest of the year, because everything we know about Q1 is factored into that guidance. You’ll see that it’s a pretty nice increase in profitability for the whole year.

[Katy Huberty:]

Okay, great. And then just last question, should we think about you being able to lower sales and marketing expenses again, in fiscal 2021 or as you invest in direct-to-consumer and some of the retail channels open up again, will that return to year-on-year growth?

[Brittany Bagley:]

Yes. We had guided to basically flat gross margins at the midpoint for 2021. And so you will see the EBITDA margin expansion coming from OpEx leverage.

[Katy Huberty:]

Okay. So, we should think about R&D continuing to grow and really, seeing significant leverage on the sales and marketing in G&A line again?

[Brittany Bagley:]

We’re not calling the shape of OpEx for fiscal year 2021, but you can see that, because we’re expanding EBITDA so nicely that we have to be getting leverage on our OpEx as we go through the year.

[Katy Huberty:]

Okay, great. Thank you so much.

[Operator:]

Your next question comes from the line of Rod Hall with Goldman Sachs. Rod Hall with Goldman Sachs your line is open. Your next question comes from the line of Adam Tindle with Raymond James. Your line is open.

[Adam Tindle:]

Thanks. Good afternoon, and congrats as well on the strong finish to the fiscal year. Patrick, I just wanted to start on the fiscal 2021 plan, where you’re balancing both growth and incremental profitability. company is cash flow positive. You’re in a net cash position. Just curious why pursue further EBITDA margin expansion in fiscal 2021 versus perhaps investing more heavily, acknowledge that you’re still planning for growth, but maybe, just touch on the plans, different plans that you evaluated and why this is the right mix versus a more investment heavy approach.

[Patrick Spence:]

Yes. Hey Adam, it’s been something we’ve talked about for a long time, as you know, which is this philosophy of sustainable profitable growth as we approach it, and so there’s often things, particularly in the hardware world that companies do that sometimes can run for a quarter or two and you can show good numbers for a quarter or two. but we believe in more sustainably building that and building it in a consistent way, right. We’ve been at this 15 years now, we’ve really built our business and we’re showing the power of our model, whether we had to work through the great recession or through a pandemic, through competitors, coming in and copying our intellectual property and coming into our category. And so we’ve, I think, found a good balance in terms of where we are and we’ve hit a scale point, where I believe that we’re doing what we can to drive the kind of growth that makes sense for us as a company in terms of reaching these new customers, and servicing our existing customers and really making sure we’re doing that in a sustainable way. We will continue to look for opportunities, where we might want to invest more. We may want to make acquisitions as Brittany talked about too to add to what we’re doing as we go through that. And I think having the balance between what we’re pursuing on the revenue side and then as well on the profitability side, enables us to do that and to do it in a way that builds the company for decades to come, not just a quarter or two.

[Adam Tindle:]

That’s helpful. Thanks. And maybe as a follow-up, Brittany, on the fiscal 2021 plan on the gross margin line, I think you talked about it, expecting the flat year-over-year X tariffs. As I think about the obvious kind of moving parts on a year-over-year basis, fiscal 2020 that you’re comparing to had obviously strong mix of highest ASP products that you’re comparing to. I think you’re guiding DTC to the same level in 2021 versus 2020. So, not an incremental tailwind on go-to-market, you also have the Malaysia facility coming on board, and I don’t know if there’s maybe, some incremental costs to that. So, just thought about some – a number of different headwinds, what are the good guides that keep gross margin flat year-over-year?

[Brittany Bagley:]

Yes. it would really be product mix. So, we’re carrying through a pretty nice product mix from our fiscal year 2020, as well as channel mix. Product mix can go up and down for us, depending on what products we have in the market, what’s selling well, what new products be introduced to, that’s always a balance and one of the main drivers in our gross margin, but you’ve got product and you’ve got channels being supportive of consistent gross margins year-over-year. We’re looking at it X tariffs that we’ve really mitigated that as a headwind to our gross margins. And then as I said, we are expecting a bit of an increase in freight and logistics as we go, especially through Q1.

[Adam Tindle:]

Maybe, just a quick housekeeping on the Q1 revenue comments, would revenue also decline year-over-year or does it still grow year-over-year?

[Brittany Bagley:]

I would expect it still to grow year-over-year. You’ve got quite a bit of room to sort of take our comments about the revenue shaping and still end up with growth.

[Adam Tindle:]

That’s helpful. Thank you.

[Operator:]

Your next question comes from the line of Matt Sheerin with Stifel. Your line is open.

[Matt Sheerin:]

Yes. Thank you and good afternoon. just another question regarding your guidance for the December quarter on revenue, which is below the seasonality that you’ve seen in recent years due to the supply constraints you talked about. but does that also factor in continued challenges within your retail channel customers, because of COVID-related shutdowns et cetera, and what do you – how do you see that environment? And as we look to the March quarter, does that lessen the likelihood of any inventory overhang that you typically have seen in the March quarter, because of the retailers in the December quarter?

[Brittany Bagley:]

We’re not assuming a big shutdown of physical retail again, but what we saw as we went through the last wave was that our DTC business was really able to pick up the demand from that. And so that’s how we’re thinking about Q1, in factoring in sort of everything we see right now from the retail landscape. and yeah, given our inventory challenges right now, I really hope we’re not talking about inventory overhang as we get into Q2, but if we were – because we really got our supply chain up and running, and solved some challenges, so…

[Matt Sheerin:]

Okay. Thank you. And then, Patrick, regarding the early success of the radio, Sonos Radio so far, and then moving that to a revenue generating model, how should we think about your long-term strategy in terms of generating revenue outside of traditional hardware? Are you still sort of in the kicking the tires phase on various projects before we start to see some traction or what’s the thinking there?

[Patrick Spence:]

Yes. Thanks, Matt. I think it is very much. We’re past kicking the tires. But we’re just getting started, in terms of where we are. And we’ve seen some promising engagement so far from customers on both the ad-supported radio that we launched earlier this year and now Radio HD and we’re learning. And so we’re kind of taking that into account and try and understand what customers like, what kind of experiences we can build that are unique to Sonos. And we’ve got a bunch of ideas in this category. And I look forward to sharing a little more on that when we get together in March for the Investor Day.

[Matt Sheerin:]

Okay. And just to follow-up, are these initiatives a drag on margins right now? Or is that just part of that the investment in at some point, we see some margin expansion because they’re either cash flow breakeven or profitable?

[Patrick Spence:]

Probably early at this – too early, at this point to say, but we’re obviously investing in that. But that’s all factored into what you’re seeing from an R&D investment level.

[Matt Sheerin:]

Okay. Thank you.

[Brittany Bagley:]

Yes, Matt. I would just note that, when we do our March 9 Investor Day, we’re going to be bringing back our long-term targets and updating them for everything we know right now. So that’ll be a good time to talk about gross margin beyond, the fiscal year 2021 guidance for giving right now.

[Operator:]

Your next question comes from the line of Brent Thill with Jefferies. Your line is open.

[Brent Thill:]

Thank you. The results with the profitability you mentioned, the direct-to-consumer is doing very well, but when you look at the other factors that are helping drive the margin profile going forward, can you just highlight, where you think beyond DTC? What other big drivers you’re seeing that are helping result in this great progress for it on the bottom line?

[Brittany Bagley:]

The product mix is the other one that we were calling out. So product mix is always a big driver for us as gross margin. We’ve done some work in ongoing material cost reductions, and that’s really what you’re seeing coming through in addition to the channel mix.

[Brent Thill:]

And is radio in any of the revenue guidance? Or is that excluded because it’s too early to make a call?

[Brittany Bagley:]

Everything we know about all of our products is included in our fiscal year 2021 guidance. So we do not break out anything for that one specifically, because as you can imagine, having just launched. It’s pretty small.

[Brent Thill:]

Great, thanks

[Operator:]

Your next question comes from the line of Rod Hall with Goldman Sachs. Your line is open.

[Rod Hall:]

Yes. Thanks for the chance again. Sorry about that earlier. So nice quarter, I guess I wanted to ask about the fiscal 2021 guidance and visibility, and kind of maybe what you’re assuming there, Brittany, when you give that guidance, are you assuming steady state in terms of the economy, do you assume or a rebound? I mean, how do you think about that? And did you consider not giving guidance at all? And then I have a follow-up to that.

[Brittany Bagley:]

Yes. It’s a great question. It’s sort of hard to have a crystal ball on the economy or the world right now. And so we always try and share when we know we share what we can share. That’s generally been our philosophy on guidance is why we gave guidance for Q4 when we could, and now we’re giving you our best look at fiscal year 2021. Our guidance is a little bit wider than we would normally give to take into account a bit of that uncertainty. But Q1 is also our largest quarter. And we can see what we can see on Q1 in terms of demand trends, and the underlying demand for our products. As we have looked at Q4, and then as we’ve looked at 2021 is quite high and it’s really the success of Arc, Amp, move our new products plus what we have coming for the year that gives us confidence to come out with a guidance range.

[Rod Hall:]

Okay. Thanks for that. And then I wanted to on DTC, you’re indicating a similar percentage to this year and 21% next year, but you’ve had this, obviously a move up because of COVID. I just wondering – and your commentary earlier made it sound like you feel like that’s a sustainable trend. And I think I agree with that. But I’m curious why that percentage doesn’t go up in the guidance. Why not go ahead and increase it? Or do you feel like it’s kind of outpacing what it should be right now and that’s why you’re holding it flat.

[Brittany Bagley:]

We had a big benefit in fiscal year 2020 on DTC from the fact that physical retail was closed and e-commerce and DTC was really the best available channel. So I think we’re trying to be pretty balanced as we look at fiscal year 2021, between the fact that consumers are getting more comfortable buying products online. We’ve been investing in our DTC channel. We’ve been deepening those relationships. Those are all the pros. I think the challenges, the physical retailers have also adapted. They are doing curbside pickup and delivery and that continues to be an important channel for us. So we think being roughly flat year-over-year is a pretty nice result for our DTC business. And we expect physical retail to be open and a strong partner in 2021.

[Rod Hall:]

Great. Okay. Thanks a lot.

[Operator:]

Your next question comes from the line of Elliot Alper with D.A. Davidson. Your line is open.

[Elliot Alper:]

Great. Thank you. I just want to follow-up on the gross margin guidance. I guess, what are the assumptions surrounding the promotional landscape for fiscal 2021? And then kind of back to the DTC, kind of curious how that goes into forecasting? And if there’s any correlation you’ve seen between some of the retail openings in your DTC business by geography?

[Brittany Bagley:]

So I would say on our Q1 shaping, we called for our gross margin, if you exclude tariff from both periods to be fairly consistent year-over-year. So you can imagine that that means we’re not doing any sort of big swings from a promotional standpoint one way or the other, given that type of consistency in our gross margins. And then yes, we certainly look pretty closely at our DTC business and how that continued to perform in Q4 when physical retail had largely reopened. And that’s part of what’s giving us the confidence in the 2021 guide on DTC.

[Elliot Alper:]

Okay. Great. And then, what does the Disney partnership mean for Sonos and kind of what other similar partnerships could that look like in the future?

[Patrick Spence:]

Yes. I think it’s a great one that shows our intent to go to an even broader mainstream audience and be able to bring our products to just an even wider array of people. We’ve seen – we’re seeing such trends and such tailwinds around streaming, whether it be audio or video and that plays right into what we’re doing. And so, we think based on what we’ve seen here in the kind of ambition that we have in terms of other new homes we think we can get into, we think this is an excellent way of doing it. We’re obviously very selective in terms of the brands that we want to work with around this. But I think it is one of those effective ways of getting even more leveraged as well out of our sales and marketing investments. So I’m very pleased with that and look forward to doing more in the future.

[Elliot Alper:]

Great. Thank you.

[Operator:]

There are no further questions at this time. I will turn the call back over to Patrick Spence.

[Patrick Spence:]

Thanks, David. And thanks to all of you for joining. As I mentioned, I think we’ve had a real inflection point in terms of our model. Our model is working, it’s working and has worked for 15 years in terms of getting us to this point in terms of really being resilient in the face of the pandemic. And we’re excited about what we have in store for the next year. We’re excited to share more of our strategic thinking as we get to that March 9 Investor Day as well. And I just want to say a huge thank you to the entire Sonos team for what was delivering through a very challenging year, but adapting and being resilient in the face of everything that we were challenged with. So, thank you. And we’ll talk to you again soon. Take care.

[Operator:]

Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.