On Holding AG (NYSE:ONON) Q2 2023 Earnings Call Transcript

On Holding AG (NYSE:ONON) Q2 2023 Earnings Call Transcript August 15, 2023

Operator: Good morning. My name is Rob and I will be your conference operator today. At this time, I would like to welcome everyone to the On Second Quarter 2023 Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker’s remarks, there will be a question-and-answer session [Operator Instructions] Thank you. Jerrit Peter, Head of Investor Relations, you may begin your conference.

Jerrit Peter: Good afternoon, good morning and thank you for joining On’s 2023 second quarter earnings conference call and webcast. With me today on the call are Executive Co-Chairman and Co-Founder David Allemann; CFO and Co-CEO, Martin Hoffman; and Co-CEO, Marc Maurer. Before we begin, I would like to remind everyone that today’s call will contain forward-looking statements within the meaning of the federal securities laws. These forward-looking statements reflect our current expectations and beliefs only and are subject to certain risks and uncertainties that could cause actual results to differ materially. Please refer to our 20-F filed with the SEC on March 21st for a detailed discussion of such risks and uncertainties.

We will further reference certain non-IFRS financial measures, such as adjusted EBITDA and adjusted EBITDA margin. These measures are not intended to be considered in isolation or as a substitute for the financial information presented in accordance with IFRS. Please refer to today’s release for reconciliation to the most comparable IFRS measures. We will begin with David, followed by Martin leading through today’s prepared remarks, after which we are looking forward to opening the call for a Q&A session. With that, I’m very happy to turn over the call to David.

David Allemann: Thank you all and a warm hello. It’s a pleasure to reconnect today. I hope you have had a splendid summer and are now filled with renewed vitality as we approach the second half of the year. In my introduction, I would like to talk to the tremendous vitality of our real team, business, and brand. It’s this very energy that allows us to present such an outstanding set of results. Q2 of 2023 net sales of CHF444 million are the highest in our history, reflecting a growth rate of over 52% versus the prior year period of over 60% on a constant currency basis. Our adjusted EBITDA grew to CHF63 million, growing by nearly 100% year-over-year, supported by the highest gross profit margin since our IPO. These numbers are the evidence for the ongoing strength of the On brand and the exceptional demand we continue to see across all channels, which we will dive into further later in today’s call.

Remember our recent conversation during the full year results call we spoke with conviction about 2023 promising to be the best year yet for all. Well, halfway through, and it’s held true on so many measures. We aren’t just riding the numbers wave, but also reaping the rewards of being a bold community-focused brand that you can’t ignore. Let’s now direct our attention to the three crucial pillars that make On tick, the vitality of our product; our brand; and our global outreach. Firstly, our product’s vitality is at an all-time high. As a founder deeply involved with the product team, I’m thrilled by the achievements. On has launched six all-new performance shoes within a short 24 months, with four transforming into major franchises. They already contribute a substantial share to our product range of the recent launch and keep growing fast.

As you travel, keep an eye out for our Cloudmonsters, Cloudrunner, Cloudgo’s, and Cloudsurfer’s on major running routes. You’ll see that our shoes are loved by runners everywhere. And don’t forget our recent triumph, the Cloudboom Echo 3, the long-distance running shoe worn by On athletes to win some of the biggest races around the globe, including the IRONMAN World Championship. The majority of our product sales stems from shoes exclusively made for runners, with a lot of vitality from the already mentioned new franchise. You will appreciate that On’s product success has a uniquely broad base with seven franchises that have evolved from a single product into a major building block for the business. We never aspired to be a one-trick pony.

Obviously, I can’t speak of ponies without mentioning the stellar reception that our new kids’ shoe business has experienced, a nascent franchise and major building block for On in the making. Number two, On’s brand vitality resonates with a new generation of customers. You know that Dream On is our mantra. As a community-driven brand, we challenge the status quo, igniting the human spirit through movement. A prime example is our latest retail store in Williamsburg, New York, opened on June 30th. If you have already visited you know, it’s a true community space. During the opening week, we hosted a 5K run and block party featuring local DJs and dancers, attracting over 1,200 community members. We also highlighted our social impact program, Right to Run.

It’s aimed at supporting community organizations that break down barriers to movement, from assisting individuals with disabilities in running races to encouraging city kids to explore the countryside. Our goal is to amplify these efforts and uphold everyone’s right to run and move. The screening of the short film Right to Race was a very special moment. Premiering on Eurosport on World Refugee Day, it tells the inspiring story of On athlete Dominic Lobalu. The Diamond League winner is on his journey of hope from [indiscernible] Sudan to his quest for the Olympics. We are humbled to support Dominic and eager to see him at the starting line in Paris next year. In June, Paris joined LA, London, and Vienna in hosting On Track Night. Unlike typical track events, these nights infuse festival culture, creating an unforgettable atmosphere for runners and spectators.

They will continue to be a pillar in our ambition to engage the community, celebrate the sport of running, and build a loyal fan base for the On brand. This also brings me to my third point. On is driving fast global expansion with a localized approach. And this is backed by global initiatives that drives the vitality of On as a performance-running brand. The UK’s growth, more than doubling in Q2, exemplifies this strategy. Initially, a distributor market taking it in-house has allowed us to make even more customer-informed decisions on focus locations. We are partnering with retailers like JD, Foot Locker, and premium department stores. Our London Regent Street store introduced earlier this year is a huge success, exceeding our expectations in driving brand awareness.

Additionally, a targeted Cloudmonster pop-up in Liverpool in May, tailored to local demographics, provided opportunities to engage with fans, [three events] (ph), and run clubs. These trends hold true across our global markets, and we are building a strong playbook of specific initiatives that make tangible impacts on brand awareness and sales. You can bet that we are not just tracking the metrics. We are actively monitoring how the On brand is perceived by consumers. Our commitment to performance-running and continuous innovation is hitting the mark, and we’re pleased with the results. We observed this in the US, where the outstanding results of our athletes in recent months have significantly elevated the performance credibility of our brand and products.

We have already spoken about Hellen Obiri’s Boston Marathon win. Recent successes with our Cloud spike on shorter distances have further propelled On’s reputation. At the US Track and Field Championships in early July, On Athletics Club members, [indiscernible], Joe Klecker, and Alicia Monson, reached combined four podium finishes in the 1,500, the 5,000, and the 10,000 meter races. So you can expect On athletes to be ready for Budapest’s World Athletics Championships this coming weekend. As you see, the strategy of integrating local community outreach with a global approach is proving highly effective, particularly in new or emerging markets. Regions such as the UK, Northern and Southern Europe, the Middle East, China, Japan, and LATAM are now vital parts of our growth, contributing a quarter of our overall business.

The success in these areas underscores the tremendous potential for further expansion. So in conclusion, On is full of vitality, thriving in product innovation, brand resonance, and global expansion like never before. Now, let’s take a pause and look back. We’re approaching our two-year anniversary post-IPO this coming mid-September. Our life as a public company has been marked by remarkable progress and significant achievements, exceeding nearly all expectations we set two years ago. We view this milestone as an opportunity to update all our investors on our plans and trajectory for the future. Therefore, we’re thrilled to announce that we will host an Analyst and Investor Day on October 4, 2023 in Zurich. We look forward to many of you joining the On team as we continue to Dream On. Now, it’s my pleasure to hand over to Martin for the detailed Q2 financial review and the updated outlook for the year.

Martin?

Martin Hoffman: Thank you, David, and hello to everyone on the call. It has been another outstanding quarter, driven by the strengths of the On brand across all channels, regions, and product categories. Since the very founding of the company, On has been an innovation-driven brand. It is happening across all departments, from finance to talent, from operations to retail and marketing, but ultimately culminates in the amazing products our world-class teams develop for our fans. David mentioned the broader launch of the Cloudboom Echo 3. It’s a huge step in enabling the most ambitious runners all over the globe to lace up at races in our highest performing shoes yet. And we are extremely pleased with the waves of positive feedback and coverage it has received.

We are convinced that Pinnacle products like this one will continue to increase the share of top runners in On’s and further fuel the adoption of our brand with the everyday running community. If we look beyond running in Q2, there was, of course, one more huge win that led to significant publicity and promotion of the On brand. In early June, Iga Swiatek clearly elevated our presence on the Grand Slam tennis courts. A win of the French Open at Roland Garros marked a huge step in building our credibility in the tennis space and clearly created massive excitement inside and outside of On. Iga’s home country, Poland, offers a small proof point of the additional reach and awareness, the presence on the Grand Slam stages brings. Since our win in Paris, Google Brand searches in Poland increased by over 7 times.

What stands out for me when it comes to tennis is how it is the perfect representation of On’s core. The highest level of performance combined with the ability for a highly premium execution. A big congratulation goes to Iga and also to our team that in a very short amount of time has innovated these unique pieces that have created so much excitement. Now moving on to the numbers. As David mentioned, we are extremely proud of posting On’s sixth consecutive record quarter, achieving net sales of CHF444.3 million, up by 52.3% year-over-year, and clearly exceeding our expectations. Our last 12 months trailing net sales have now reached CHF1.56 billion. The strength of the brand and the momentum become even more evident when considering the current FX environment.

Over the last month, we have seen a persistent strength of the Swiss franc versus nearly every other currency around the globe. Absent those negative currency effects, on a constant currency basis, our net sales growth was approximately 60% in Q2, with negative FX impacts of around CHF23 million on top line. Importantly, as a result of the high end consumer demand, our fastest growing channel in Q2 was our direct to consumer business, growing at 54.7% versus the prior year period. This strong D2C performance resulted in a D2C share of 36.8% compared to 32.6% in Q1 and 36.2% in Q2 last year. With CHF163.5 million Q2 D2C net sales was a quarterly record and even significantly exceeded the very strong results during the holiday season in Q4 2022.

Encouragingly, we have also observed an all-time record in traffic to our e-commerce channel, growing over 75% year-over-year. We see the strength of the D2C channel as a validation of our ability to bring consistent innovations to the market, to balance our wholesale and direct distribution, and to build a strong direct bond with our fans around the globe. We put pride in being an innovator, not only in the products we offer, but also in the way we operate our channels. A year ago, we launched Onward, our resale platform where circularity is at the core. Since then, more than 30,000 items have been given a new life through the program. In a couple of weeks, we’ll publish our third ever impact progress report, where we will share more about our sustainability mission and progress.

Finally, on D2C, we continue to see a small, but increasing contribution from our own retail store business, again, quadrupling net sales year-over-year. This does not yet include a material contribution from our new Williamsburg store, given the late June launch. But the store serves as another prime example of how retail is able to showcase On as a full head-to-toe brand. Our wholesale channel also grew rapidly in Q2, up by 51% versus last year to CHF280.8 million. Importantly, the demand for our product is also reflected in strong sell-out numbers at our wholesale partners, which ultimately drove strong reorders in Q2. For example, sell-out at our top five key account partners in the US combined grew 92% in the first half of 2023. This does not yet even include the new established business with Dick’s Sporting Goods.

Importantly, this quarter includes only a very limited number of incremental doors versus Q1, 23. We’re incredibly grateful for the longstanding and close partnerships we have built globally with all our retail partners. One of those key partners for many years is REI. We’re extremely honored to have been named their vendor partner of the year 2023 and can only return the praise and thanks for this outstanding collaboration. Looking ahead, and as communicated previously, we plan to selectively expand on our key wholesale partnerships by only adding doors with meaningful, additive customer bases. While we expand selectively, we expect the net additional door number in the coming quarters to be lower than it has been in the past, as we expect to see offsetting strategic doors closures in some of our more established markets.

The strong performance of our multichannel strategy is also reflected in strong growth rates across all regions. EMEA reached CHF113.6 million net sales in the quarter, growing by 28.9% year-over-year, equivalent to around 35% growth on a constant currency basis. We continue to expand our market share in a very meaningful way, even as we see a more promotion-driven environment, offline and online from other brands. During the first half year, our D2C sales grew stronger than our wholesale sales in the region, despite the COVID lockdowns that expanded into the first month of 2022. David mentioned the ongoing strength in the UK. Another market that is seeing significant growth and momentum is the Middle East. At the moment, our presence in this region is very limited, highlighting the significant growth opportunity that we have.

America’s grew 59.8% in the second quarter, reaching CHF296.6 million. We’re happy to see that this growth continues to be supported by a very healthy full price sell-through at our key wholesale partners. In particular, we also continue to take market share in the specialty run channel, despite a more promotion-driven environment by our competitors. At Fleet Feet, we’re currently the fastest growing brand, while at the same time having the highest average selling price by a good margin. A great showcase of the incredible strong underlying demand for our innovative, differentiated and premium products. Moving on to the Asia-Pacific region, which grew by 90.2% in Q2 to reach CHF34.1 million, strongly supported by significant momentum in China and Japan.

A few months ago, Mark and I, together with members of our senior leadership team had the privilege of traveling to China and meeting the team in person for the first time since the pandemic. We visited several of our own stores in Shanghai, Chengdu and Shenzhen, which are three of the five key cities that are currently in the focus of rolling out our own retail format. In total, we currently have 17 own retail locations. Beyond this, 13 additional cities are now home to an on-store, operated by local franchise partners. Again, a great example of how we are focused and selective, but at the same time, are planting seeds for our future opportunities and growth. It was hugely energizing to see all the fantastic work the team has been doing on the ground.

And we are now even more excited about the opportunity within China and the Asia-Pacific region more broadly. Traveling around the world in the last weeks, we were clearly able to experience the variety and diversity of On products on the feet and bodies along the core running routes, the trails or in the streets of global cities. This visible observation is also strongly supported by our numbers. The strong growth of the brand is driven by all product groups, product franchises, and ultimately by all customer communities we are aiming to reach. Net sales in shoes grew by 52.6%, reaching CHF428.2 million. Apparel grew by 45.9% in Q2 to reach CHF13.4 million. Q2 was the second consecutive quarter in which apparel growth exceeded 45%, resulting in CFH57 million net sales in the last 12 months.

The momentum in D2C, and in particular, our own retail stores, but even more our exciting product pipeline, provides strong confidence about the opportunity we have ahead of us. Supported by the strong D2C share, a continued high share of full price sales, and then again more normalized supply environment, On achieves a gross profit of CHF264.5 million, representing a 64.4% increase year-over-year, and a gross profit margin of 59.5%. This is the highest quarterly gross profit margin since our IPO, and the strong validation of our strategy and our progress towards our stated mid-term targets. Compared to Q2 2022, our gross profit margin increased by 440 basis points from 55.1% to 59.5%, largely as a result of the discontinuation of extraordinary air freight usage, partially offset by slight headwinds from the current foreign exchange dynamics.

We continue to consciously manage our SG&A expenses alongside our net sales development. In Q2, SG&A expenses, excluding share price compensation were CHF216 million, and 48.6% of net sales in Q2, up slightly from 48% in the same period last year. While we achieve economies of scale in general and admin expenses, distribution expenses were, as expected, slightly elevated as a result of the ramp up of our warehouse automation project, alongside some temporary expenses for additional warehouse space needed in the quarter. As a result of the elevated net sales, combined with the strong gross profit and our conscious cost management, we have achieved an adjusted EBITDA of CHF62.7 million in the quarter, nearly doubled from the CHF31.4 million in the prior year period.

This corresponds to an adjusted EBITDA margin of 14.1%, increasing from 10.8% in Q2, 2022. Moving to our balance sheet, capital expenditures were CHF11.2 million in Q2, equivalent to 2.5% of net sales. This represents a relative reduction in CapEx compared to Q2 2022, during which we incurred expenses in relation to our office build-outs in Zurich and Portland, and invested CHF11 million, or 3.8% of net sales overall. As anticipated and communicated in our two previous result calls, our inventory carrying value came down sequentially versus Q1, while achieving higher net sales, our absolute inventory position reduced to CHF435.9 million at the end of Q2, versus CHF465.2 million at the end of the first quarter. By actively managing our production plans and more focused efforts across our teams, we continue to be well on track for even more normalized inventory levels in relation to sales by year end.

Our cash balance at the end of the quarter was CHF337.1 million. Importantly, as you will have seen from our 6-K on July 10, we entered into a CHF700 million multi-currency credit facility agreement, which replaced our existing CHF160 million credit lines. We do not expect to draw cash from the facility in the near term. Rather, we see the availability of funding as a fulfillment of our philosophy to plan prudently and to create future financial flexibility that aligns with the current size and maturity of our company, and as a basis to drive our future growth out of a position of strength. With that, I would like to move to our updated outlook for the full year. We have achieved record first and second quarter results and also had a strong start into the third quarter.

We are receiving continued positive feedback from all our retail partners and have a pipeline of some very exciting new product launches in the second half of the year, both in apparel and in footwear. Altogether, this provides us with confidence that we have the opportunity to exceed our expectations that we had communicated in May. As you have seen in our release this morning, we are therefore again raising our outlook for the full year 2023 and now expect to reach at least CHF1.76 billion , an implied year-over-year growth rate of 44%. It’s important to point out that at current rates and compared to our previous guidance, this outlook includes an additional negative FX impact on our US dollar sales of around 3% for the second half of the year, or around CHF20 million.

For the second half of the year, our guidance implies a reported currency growth rate of close to 30%. This is equivalent to a constant currency growth rate of around 44% for the second half of the year and reflects our continued confidence based on the strong momentum and demand across channels, regions, and products that we are seeing for the On brand globally. We are well on track to reach our outlook of 58.5% gross profit margin. Throughout the rest of the year, we expect a continued high share of full price sales and continued normalized supply chain environment. Unlike on top line, an isolated US dollar weakness has the potential to be somewhat beneficial in the second half of the year when it comes to margins. Together with the strong first half year gross profit margin of 58.9%, we do even see potential upside to the 58.5% in the case of an ongoing US dollar weakness and no significant offset from other currencies.

We are also retaining our adjusted EBDA margin target of 15%, which we continue to view as the right trade-off between profitable expansion and selective additional investments into the business, while driving significantly higher absolute EBITDA at the higher top line outlook. This full year outlook implies an adjusted EBITDA margin of around 15.7% for the second half of the year compared to the 14.3% in the first six months. This reflects our aspiration to achieve further economies of scale at the higher expected net sales in half year two. Overall, our updated outlook for 2023 confirms our continued path of durable growth by combining strong net sales growth, while increasing profitability. In sum, On’s momentum continues at a very high rate.

During the first half year, we have again achieved many new heights across products, geographies, and channels. And we continue to Dream On. The very strong growth of the first six months resulting in six consecutive record quarters was powered by the incredible teamwork of our dedicated teams and partners and required all of them at their best. We take this for granted and are extremely grateful for all the focus and hard work, but also positive spirit that we have experienced across all our offices, factories, and warehouses. With that, David, Marc, and I would like to open up to your questions. Operator, we are ready to begin the Q&A session.

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Q&A Session

Operator: [Operator Instructions] And your first question comes from the line of Cristina Fernandez Christina Fernandez from Telsey Advisory Group. Your line is open.

Cristina Fernandez: Hi, good morning and congratulations on a good quarter. I wanted to see if you could expand a little bit on the second half outlook. How are — how’s the order booked for the second half from your wholesale partners relative to three months ago? And looking at it on a constant currency basis, the 44% growth that you have embedded, how has that changed?

Martin Hoffman: Hi, Christina, this is Martin. Thanks for your question. Let me reiterate on our statement or our guidance. So, we increased our guidance from CGH1.74 billion to CHF1.76 billion. If the U.S. dollar would have stayed in relation to the Swiss Francs, where it was at the back of last May, where we basically gave the last guidance, we would have increased our guidance to CHF1.78 billion. But the recent weakness of the US dollar [indiscernible] is expected to have that additional negative impact of about CHF20 million for the second half of the year. Just to put things in a bit in perspective, if you talk about the CHF1.76 billion and would convert it into US dollar today, we would talk about CHF2 billion US dollar sales.

So we continue to see very strong growth, and this is reflected in the 44% currency neutral growth that we have for the second half of the year in our guidance. And we expect strong growth in both channels. Of course, there will be a strong focus on the holiday season, as also in the past, our second half of the year is driving a higher D2C share compared to the first half of the year. Important is also to remember that we are compounding against a stronger second half of the year last year compared to the first half year last year that was more impacted by the supply shortages. And so, we see continued very strong demand also at the beginning of the third quarter, now in the first weeks. We are in a good position when it comes to our inventory.

So if we see stronger demand, then we will be able to fulfill that strong demand. And as we have shared in the past, our aspiration is always to exceed our expectations. And the order book is strong, the D2C engine is strong. And so we’re going with a lot of confidence into the second half.

Cristina Fernandez: Thank you. And then as a follow-up, can you provide more color as far as the product launches? Just remind us what’s coming out for the back half of the year, both in footwear and apparel? Thank you.

David Allemann: Christina, this is David. Very happy to do so. So as you know, at On, running remains core. And you have heard from Martin that we are the fastest growing brand right now at Fleet Feet. And so we’re very excited that we continue with new products. And you have seen that reached our success recently with new franchises in running. And of course, we’re doubling down on that. So for example, when you look at the Cloudmonster, expect to see products that are even more cushioned than the recent Cloudmonster extending that franchise. So, making sure that our recently added franchises remain and continue to grow as substantial building blocks for the business. You can also expect then new apparel in running. I’m especially proud about new running collection and energy collection that is fully made out of clean cloud material.