Sleep Number Q2 2023 Earnings Call Transcript

Quartr
Provided by Quartr
July 27, 2023

There are 9 speakers on the call.

Operator

Welcome to Sleep Number's Q2 2023 Earnings Conference Call. All lines have been placed in a listen only mode until the question and answer session. Today's call is being recorded. If anyone has objections, you may disconnect at this time. I would like to introduce Dave Schwantes, Vice President of Finance and Investor Relations.

Operator

Thank you, Dave. You may begin.

Speaker 1

Good afternoon, and welcome to the Sleep Number Corporation's Q2 2023 earnings conference call. Thank you for joining us. I am Dave Schwantes, Vice President of Finance and Investor Relations. With me today are Shelly Ibach, our Chair, President and CEO and Chris Krusemark, our Interim CFO and Chief Human Resources Officer. This telephone conference is being recorded and will be available on our website at sleepnumber.com.

Speaker 1

Please refer to the details in our news release to access the replay. Please also refer to our news release for a reconciliation of certain non GAAP financial measures and supplemental financial information included in the news release or that may be discussed on this call. The primary purpose of this call is to discuss the results of the fiscal period just ended. However, our commentary and responses to your questions may include certain forward looking statements. These forward looking statements are subject to a number of risks and uncertainties outlined in our earnings news release and discussed in some detail in our annual report on Form 10 ks and other periodic filings with the SEC.

Speaker 1

The company's actual future results may vary materially. We also want to refer you to our Q2 earnings presentation, which can be accessed on the Investor Relations page of our website. I will now turn the call over to Shelly for her comments.

Speaker 2

Good afternoon and thank you for joining our Q2 2023 earnings call. My SleepIQ score was 85 last night. I'm pleased to share that today Sleep Number announced the appointment of Francis Li as our company's Executive Vice President and Chief Financial Officer, effective August 14. Frances brings significant leadership experience in finance and strategy at Fortune 500 consumer focused brands, including Nike and Gap and most recently as CFO of Wyze Labs, an AI powered smart home innovator. At Wise, Francis increased cash flow and profitability through a business model evolution from hardware to software with reoccurring Revenue streams that emphasize customer lifetime value.

Speaker 2

He has a proven track record in business planning, operational transformation and capital structure. We look forward to benefiting from Francis' leadership in advancing our differentiated strategy and creating superior shareholder value. During today's call, I'll provide highlights of our Q2 performance in the context of current market conditions, describe actions we are prioritizing in 2023 to compete effectively, drive operational efficiencies and generate cash and share how we have positioned our business for strong earnings growth and significant value creation as demand improves. Sleep Number and the mattress industry overall have been operating in a disrupted and challenging macro environment, which has resulted in a historic contraction in demand for mattresses with 6 consecutive quarters at recessionary spend levels. In this environment, our demand driving and efficiency actions Delivered 2nd quarter results that included net sales of $459,000,000 with demand down mid single digits.

Speaker 2

Our year over year demand improved 7 percentage points sequentially compared with the Q1, but with a few percentage points below our Q2 expectations of flat to down slightly. As the quarter progressed, year over year demand trends improved with combined May June demand down low single digits. Gross profit rate of 57.6% was right in line with our expectations. Our ongoing cost control actions drove a $22,000,000 year over year reduction in operating expenses. Earnings per share for the quarter were $0.03 Based on analyst Q2 surveys, we believe we outperformed the industry and gained market share in the quarter.

Speaker 2

As an additional reference point, Industry unit levels on a trailing 12 month basis through Q1 are 14% below 2019, representing 26,000,000 industry units compared with more than 30,000,000 units in 2019. On the same basis, Sleep Number units are down 1% even with chip shortages that disproportionately impacted our company in 2021 2022. Year to date, our demand has steadily improved And we expect continued improvement in the back half with mid single to low double digit demand growth year over year. In 2023, we are focused on 3 priorities to deliver our financial commitments: Taking market share by leveraging our brand building, innovation and connected smart sleepers, restoring gross profit after the global supply chain disruptions and generating increased cash flows and reducing leverage. Let me share a few examples of how we are delivering on these priorities.

Speaker 2

Life changing innovations and world class marketing continue to be important drivers of our top line. Climate 360 smart bed, which launched in Q4 last year, continues to generate strong performance at the high end of our line. More than 80% of couples say one of them sleeps too hot or too cold. The Climate 360 smart bed with Active heating and cooling technology provides individualized temperature control, so each sleeper can benefit from their ideal microclimate. And our recent proof point that Climate 360 sleepers can get up to 44 more minutes of restful sleep per night from using the features in this temperature balancing smart bed affirms its value.

Speaker 2

With the introduction of our next generation smart beds, all Sleep Number smart beds now have temperature benefits with opening price points under $1100 These competitively advantaged smart beds offer an adaptive and effortless connected sleep health experience And the new technology platform positions us for expanded offerings in the future through digital products and services. We are efficiently managing the transition to our new smart bed portfolio. Our teams have planned and executed In Q2, we introduced the M7 and I10 and we will complete the set of the remaining 90% of our next gen smart bed portfolio in all Sleep Number stores next week, well in advance of our biggest event of the year, the Labor Day selling period. We are growing brand interest with our new Sleep Next Level advertising campaign. Since introducing the campaign in late April, we have driven positive search interest in Sleep Number compared to mid single digit declines for other premium brands and double digit declines for the industry over the same period.

Speaker 2

With the start of the NFL season, we will introduce a compelling advancement of this campaign, which tested at all time highs. And we are driving media efficiency and effectiveness through optimization tools and simplified digital experiences. These initiatives are resulting in high quality digital and store traffic while generating media leverage. Complementing these drivers of top line growth are initiatives that we expect to drive gross margin rate expansion by more than 150 basis points for the full year. In addition to higher margin mix From our new SmartVet introductions as we move through the back half, sources of margin improvement across our operations include pricing, Easing of commodity costs, steady and predictable supply and digital efficiency tools supporting workforce planning and data management.

Speaker 2

We expect these and additional initiatives to be positive drivers of gross margin in the balance of the year and beyond. With these demand and margin drivers, we expect to generate more than $100,000,000 in cash from operations in 2023. As we enter the Q3, year over year demand trends continue to improve. Consumer sentiment is beginning to move in the right direction and our brand indicators are strong. However, given the challenging Economic environment with demand slightly behind our expectations for the first half, we have narrowed our guidance range to $1.25 to 1.75 Earnings per share for the full year.

Speaker 2

Importantly, the earnings power of our strategy and business model and our significant value creation potential are as strong as ever. Even as we have navigated a period of extended disruption, We have continued to position our business for long term growth and market share gains. On Page 12 of the Reporting deck posted to the Investor Relations page on our website, we highlight our expectations for the next few years, including accelerating top and bottom line growth as we execute our strategy of consumer innovation and operational advancement and as consumer sentiment improves and the industry recovers from depressed demand levels. Specifically, we expect our differentiated innovation pipeline, including the Climate 360 smart bed and next generation smart bed ecosystem With millions of highly engaged customers, combined with our sleep next level brand building and advanced digital Capabilities to support high single digit sales growth. We are intensely focused on expanding our gross margin rate with a goal to return it to 60% within a year and 62% over the next couple of years.

Speaker 2

Initiatives to drive margin expansion include increased mix of higher margin products, Including Climate 360 and Next Gen Smart Beds, addition of new high margin adjacent revenue streams from our innovation pipeline, opportunities to further leverage our retail and fulfillment networks through continued unit growth and relief in commodity and other cost pressures that we absorbed in our operations during the past few years. These margin driving efficiencies combined with ongoing productivity improvements are expected to return our EBITDA margins to a low double digit rate. While our 2022 2023 financial performance reflects The sustained impact of external business and economic disruptions, we've effectively navigated the challenges while strengthening Our brand, culture and competitive advantages. By hitting our strategic milestones and keeping the drivers of our business in packed and healthy. We are well positioned to accelerate performance and deliver superior returns to Sleep Number shareholders for years to come.

Speaker 2

Before I turn the call over to Chris, I want to thank him for his exceptional leadership as Interim CFO. We appreciate his significant contributions to the business, team and the CFO search. Now Chris will provide additional financial details on our 2023 second quarter and first half performance and outlook for the balance of the year.

Speaker 3

Thank you, Shelly. For the Q2, net sales of $459,000,000 were 16% below last year. With demand slightly below our expectations for the quarter, we leveraged our fulfillment network to deliver incremental smart beds from our existing backlog. As a result, we delivered nearly 77,000 smart bed units with an ARU of just under $6,000 Our 2nd quarter gross profit rate of 57.6 percent was consistent with our expectations. Focus spending controls resulted in operating expenses of $253,000,000 in the quarter, down $22,000,000 versus the prior year.

Speaker 3

We delivered 2nd quarter EPS of $0.03 As a reminder, a shortage of semiconductor chips in last year's Q1 resulted in more than $100,000,000 of margin rich deliveries Shifting into the Q2 of 2022. This shift included our higher priced FlexFit 3 adjustable bases and related smart beds. Last year's 2nd quarter net sales ARU gross margin and net operating profit All benefited from this higher margin backlog reduction. This resulted in prior year 2nd quarter EPS of $1.54 in what is traditionally our lowest sales and EPS quarter of the year. Now, I'll spend a few minutes covering our year to date financial results before turning to our full year outlook.

Speaker 3

Year to date, net sales declined 8% to $985,000,000 with demand down high single digits year over year. The first half of twenty twenty three included approximately $50,000,000 of net sales benefit from the servicing of excess backlog, which was similar to the benefit in the first half of the prior year. Our year to date gross margin rate of 58.3% was consistent with the prior year. We offset deleverage from the net sales decline with pricing actions, easing of commodities and ongoing operating efficiencies. Importantly, our year to date gross profit rate Is up nearly 300 basis points from the back half of last year as we continue to recover from the disruption of chip shortages and related operating inefficiencies.

Speaker 3

Year to date, we have generated net operating profit of $37,000,000 Compared with $54,000,000 for the same period last year. The year over year decline in gross margin dollars was partially offset by a $36,000,000 reduction in operating expenses. Here are specific actions we have taken year to date to reduce operating expenses versus the prior year. We've driven media efficiency leverage of 50 basis points for the first half of the year. We adjusted consumer financing offers to mitigate increased costs associated with this higher interest rate environment.

Speaker 3

We have slowed our store actions and are now planning net new store growth of 1% year over year, which is down about 10 stores versus our original plan for the year. We reduced labor cost as we optimize staffing levels And our G and A and R and D expenses are also down versus the prior year. We generated $0.54 of EPS For the 1st 6 months of 2023 compared with $1.60 for the same period last year. Our year to date results include a $0.46 headwind from $13,000,000 more in interest expense than a year ago. We generated $19,000,000 of operating cash flow for the 1st 6 months of the year compared to $29,000,000 for the same period last year.

Speaker 3

Turning to liquidity and leverage. We ended the quarter with $334,000,000 of liquidity under our revolving credit facility And a leverage ratio of 4.7 times EBITDAR, below our amended 5 times covenant. Given the uncertain macro environment, we partnered with our bank group to extend the 5 times EBITDAR covenant through our fiscal Q3. We continue to expect to end the year with a leverage ratio under 4 times EBITDAR. We have updated our 2023 full year EPS outlook to a range of $1.25 to $1.75 per share, which narrows the range by $0.25 versus our previous guidance.

Speaker 3

Here are specific assumptions regarding our full year outlook. For the full year, we expect net sales to be down low to mid single digits, which is approximately 1 to 2 points lower than our prior expectations. This is reflective of lower demand in the first half of the year. For the back half, we expect net sales down low single digits to up mid single digits on improving demand as we face easier comparisons and fully benefit from next gen smart bed introductions. As a reminder, year over year backlog changes represent a 5 to 6 point headwind in the back half of the year as we returned to normalized backlog levels at the end of the second quarter.

Speaker 3

We continue to expect at least 150 basis points of gross margin rate expansion in 2023. We expect more than $100,000,000 in cash from operations in 2023 and positive Free cash flows. Our guidance includes $0.18 of headwind in the back half of the year from an expected $5,000,000 increase and interest expense year over year. We also want to provide additional clarity regarding 3rd and Q4 performance expectations. For the Q3, we expect EPS to be slightly below last year's Q3 EPS of 0 point $0.22 Specifically, we are expecting demand to be up mid to high single digits compared to last year With net sales down low to mid single digits due to the impact of year over year backlog changes.

Speaker 3

We anticipate an increase in backlog in this year's Q3 as we optimize for efficiency with our newly transformed fulfillment network, including staffing levels. Also for the Q3, we expect a gross margin rate of approximately 58%. This includes transition costs associated with promotional closeout activity of our existing smart beds and launch costs related to setting all stores with next generation smart beds. For the 4th quarter, We are expecting demand to be up mid single to low double digits, with net sales up mid to high single digits. We expect our Q4 gross margin rate to approach 60% as our margin initiatives mature.

Speaker 3

We expect to end the year with a normalized backlog. I will now turn the call back to Shelly for a few closing comments Prior to opening up the call for Q and A.

Speaker 2

I'm extremely grateful to our highly engaged team, whose commitment to our purpose is apparent every day in their innovative mindset, dedication to our stakeholders and consistent execution of our strategy. Our investment and achievement of strategic milestones, along with major operational improvements, a digitally connected customer And world class partnerships have transformed our company, revolutionized the industry and positioned us for significant value creation in the future. Now Chris, Dave and I will respond to your questions. Lisa, please open the line. Absolutely.

Operator

We'll take the first question from Bobby Griffin, Raymond James.

Speaker 4

Good afternoon, everybody. Thanks for taking my questions. I guess first and Chris, maybe I missed a few of the details there, but can we just spend a little time unpacking the acceleration in demand that's Implied to kind of get to the guidance, because it seems things are still running negative at least as of the end of the second quarter. And I know the comparisons get a little easier starting here 3Q, I believe, they eased by 4% or so. Is that the main function of what gives you guys the confidence in Demand is going back positive or is there some other embedded assumptions in there from the new product launches or whatnot or pricing or whatnot That helps you kind of get to that positive demand clip.

Speaker 2

Great. Thanks for the question, Bobby. I will Comment on this. First, our expectations for demand in the Q3 are up mid to high single digits as You've noted. We're coming from a place of progression in demand.

Speaker 2

We've had positive improving demand trends since the start of the year, although a bit Slower than we had originally planned, which put us a couple of points behind in demand here coming out of Q2. But through Q2, we Believe we took market share. We outperformed each of the periods. Demand steadily improved and we were down Low single digits here in May June. And that steady improvement has continued Here into the Q3, July month to date were flat to prior year, which is where we expected to be as we head into the balance of the Q3 with expectations of mid to high single digit.

Speaker 2

Yes, compares is a factor. Importantly, our initiatives, innovation, all Next gen smart bed implementation along with our next level, the next Sleep Next Level campaign Are the big drivers of demand in our business and we like what we're seeing here Early on, we see green shoots. There's consumer sentiments moving the right direction. We have positive Search numbers for our brand, we have positive traffic as we're heading into the time period of the biggest event of the year. So, we like what we're seeing and we had of a big progress, big demand trend progress here in the first half and we expect that to continue in the back half.

Speaker 4

Okay. I appreciate that. That's helpful. For the improvement that we saw quarter to date, it was just to help us kind of connect Was the promotional aspect in 2Q of this year relatively similar to 2Q of last year so we can read into this improvement that we saw as Real and fundamental or was there something different in terms of closeouts or promotional calendar that might have been impacting what we saw throughout the Q2 and into July.

Speaker 2

Well, it's a great question. And absolutely, we continue to drive Promotional activity, I think one of the benefits of our vertical model is we can adjust and make changes Pretty real time and certainly within the quarter. Closeout is a great example of that. We plan for our closeouts in the Q2. And we delivered accelerated units at the low end of our line through our closeout We did not drive the top line as big as we had hoped we would Here in that closeout period in the June timeframe.

Speaker 2

So we saw the unit impact Very positive. We did not get incremental demand lift from that. So when you look at that and you look at where our performance and the step up of performance, It's been progressive all year. We see it as real. I think July is another good Sample of that and now we'll move into some higher ARU with our next gen smart beds and Continue to drive our performance going forward.

Speaker 4

I appreciate the details. I'll turn it over to somebody else. Best of luck in the back half here.

Speaker 2

Thanks.

Operator

Up next, we'll take a question from Brad Thomas, KeyBanc Capital Markets.

Speaker 5

Hi, good afternoon and thanks for taking my question. I want to ask a little bit about the Synchrony relationship and what you're seeing out of them, I believe they've been public recently about saying that they've kind of selectively done some tightening where they Perhaps lower the approval rate and lower the amount that they're approving. Just curious how important they've been to you here of late And what you're seeing out of them, just given their importance to your business? Thanks.

Speaker 2

Yes. Thanks for the question, Brad, Synchrony is certainly an important partner and our customers at Sleep Number Are important to the Synchrony portfolio as well. So we've made adjustments in our financing Strategy, which have been very favorable for us, especially from an efficiency or margin, productivity standpoint. And we took on these actions in Q2. We tested into them and We like what we're seeing.

Speaker 2

We've been able to mitigate a lot of cost increase related to interest. The programs have been effective. Our approval rates and sale conversion and financing are all in line with where we expect. So, in a specific answer to your question, no, we have not seen an impact based on the actions that you highlighted.

Speaker 5

Got you. Okay. And then just to follow-up on Bobby's earlier comment as we think about demand in the back half. Can you just give us some updated thoughts on how you're thinking about the benefits from the average transaction size And how you're thinking about promotions and if at all that might be different than what your plans were 3 or 6 months ago?

Speaker 2

Yes. I think the promotion difference, I'll maybe start there. In Q2, We pulled forward our closeout activity closer to the start of June to drive increased Units and demand and we did drive increased units, not so much on the overall top line. So That would be a good example of an adjustment. Right now as we head into the back half, we've made some adjustments to our financing plans based on what we've learned along the way.

Speaker 2

And we utilize financing programs and discounts As a conversion tool. So that's probably the area where we've made the adjustments. We are excited About our next GenSMART Bed line here, with the whole new portfolio and Climate 360 and having Those important drivers of our top line along with the advancement of the advertising. And we also Look at a number of leading indicators and we look at traffic sentiment. We have our econometric model And our year over year and importantly the 13 week trend, again, we've continued to see progression, positive progression on that 13 week trend.

Speaker 2

And then we also look at our performance compared to 2019. And We had a very robust, almost about a 20% increase to 2019 in the first half. We're not expecting as high above, increase to 2019 in the back half, which gives us some room to outperform.

Speaker 5

Great. Thank you, Sally.

Operator

The next question is Peter Keith, Piper Sandler.

Speaker 6

Thank you. Good afternoon. Shelley, just wanted to dig into some of the more of those Green shoots to get us comfortable with the demand outlook for the back half. I guess with the new product line, you have had the M7 and the i10 in the marketplace now for Has the consumer reaction been positive on those newer models such that those specific models have moved up within your sales mix?

Speaker 2

Thanks for the question, Peter. Our frontline has been really excited about Our new model, so they have performed very well since the launch and we're just completing the set in all Doors for all next gen smart beds. We're almost done. We have a few left here over the coming days and We're on track with our expectations and feel very confident about our ability and to some Degree the ease of fully transitioning to all one line in the marketplace We head into the Labor Day event. So we're excited about our promotional plans And feel they're right on track with where they need to be considering price sensitivity with some consumers yet The high value that our Climate 360 gives at the top of our line.

Speaker 2

So, yes, We feel bullish about where we are. Okay.

Speaker 6

So I guess has there been any standout demand for those initial Products in the market?

Speaker 2

They have performed slightly ahead of our expectations while we've been in closeout.

Speaker 7

Okay.

Speaker 2

But it's small this time because we haven't had a lot against it. The real demonstration is now.

Speaker 6

Okay. And then I wanted to just touch on The commodity costs, which have been a headwind for you and now a future opportunity, I think at the beginning of the year, you were expecting about $15,000,000 $20,000,000 of relief or recovery. What's going on now that we're in mid year? Has anything changed? Maybe is there a little bit more relief, less relief?

Speaker 6

Give us an update on how that's looking.

Speaker 1

Yes. Hey, Peter, this is Dave. I would say largely the commodity benefits that we expected for the year are coming in as planned. We talked about that in the Q1. And I think as we look at the full year and getting to that 150 basis points of expansion, It's still really the 3 drivers that we talked about at the beginning of the year, which is pricing is one of them that we've taken.

Speaker 1

It's the commodity relief that we talked about and it's the mix benefits that we're getting from having Climate 360 at the high end of our line Be a growing and important part of our mix. So I think if we look at those three drivers, there's always puts and takes each year. But those three drivers are coming in as planned and I think we continue to see additional opportunities on the commodity side for the back half of the year and beyond as we just kind of work through unraveling some of the pressures that we've taken on over the last couple of years.

Speaker 6

Okay. Thank you very much, Dave and Shelly. Appreciate it.

Speaker 2

Yes. Thank you, Peter.

Operator

Your next question comes from Atul Mahaswari, UBS.

Speaker 7

Thanks a lot for taking my question. Shelly, I had a question about your media strategy. It sounds like media costs are down meaningfully, Given your leveraging on lower sales, so do you run the risk of lowering the efficacy of the launch given historically Sleep Number And others in the industry have typically raised media spending ahead of important launches.

Speaker 2

Atul, thank you for your question. Media is such an important part of our demand driving formula. And we do expect efficiency on our media compared to last year's environment. Last year, we were we're in a much stronger position than we were a year ago. A year ago, we did not have the supply we needed of chips and it impacted Not only our delivery time frame, it also impacted our ability to offer our full assortment.

Speaker 2

And so we had tremendous limitations and media wasn't as efficient as Being in the situation we are today with strong, including a full new line of smart beds and Climate 360. So we are driving greater efficiencies while also driving traffic And much stronger search interest to our brand versus other brands in the industry. So we had 50 basis points of leverage in the first half. We do expect leverage in the back half and we also expect to Fully support our next generation smart beds and lean into it. Part of what we utilize is an econometric model, which helps us understand based on consumer sentiment and many other factors, where to place that next dollar And how many dollars to lean into it, what that return is going to be.

Speaker 2

So We're approaching it prudently given the environment we're in and given our focus on taking share as well as expanding margin.

Speaker 7

Got it. That's super helpful. Shelly, just my follow-up, it sounds like the 2023 guidance is 4th quarter heavy. So as things stand today, if we were to understand the risk to this guidance, Is the greater risk of a miss on the top line or is there a greater risk of a miss on the gross margin?

Speaker 2

Well, as you think about the shape of Q3 3 and Q4. I'll start with both sales and margin. So we expect a net sales Declined for Q3 in part due to the year over year backlog changes And gross margin impact of the one time product portfolio transition cost, They're all hitting in the Q3. So while we expect continued demand improvements, including the Mid to high single digit growth in Q3, we were a few points behind demand expectations in the 2nd quarter, which resulted in a lower backlog heading into the Q3. We're very focused on fulfillment efficiency And we're expecting to build a little backlog in Q3.

Speaker 2

So we'll be benefit or building backlog from the low levels that we're entering the quarter with. So when you look at the 4th quarter, We expect progressive demand improvement. So Q3 up mid to high single digits And then Q4 up mid single digits to low double digits. And this is a continuation of what we've been seeing in demand. And it also contemplates our initiatives as they continue to progress and how we layer on to those initiatives throughout the month of the back half and also the compares getting increasingly easier as we approach the Q4.

Speaker 1

And Atul, just to add a little color on gross margin as a part of your question. So First half of the year, we did 58.3 percent gross margin rate, which was right on top of what we had expected. And Importantly, it was almost 300 basis points improvement from the back half of last year. So as we head into the back half of this year, We're going up against, I'll call it, a relative a much challenged compare from the prior year. And the initiatives that really help us Achieve that 58.3% in the first half of the year are intact for the back half of the year.

Speaker 1

So we're looking at a gross margin rate of 58% to 59%. We certainly recommend if people have a chance go out and look at the supporting deck we put on our website That covers how we're thinking about the back half versus the first half and as compared to the back half of last year. And that kind of shows you The progression we expect in the back half of the year and frankly the fact that we aren't expecting our gross margin rate in the back half of the year to be materially higher than the first half of the year With the initiatives intact and what we think is going to be a stronger top line year over year as well.

Speaker 7

Got it. Okay. That is helpful. If I could sneak in one last one, Shelly or Dave, whoever wants to answer it, like what has been the percentage of your sales in the history that have Happened on financing. And is that percentage lower or higher today?

Speaker 2

Yes, it's about 50% and it's steady.

Speaker 7

Got it. Thank you. Good luck with the rest of the year.

Speaker 2

Thank you.

Operator

We'll now hear from Seth Basham with Bush Securities.

Speaker 8

Thanks a lot and good afternoon. My first question is just around pricing on the new line. Can you remind us, Is there a price increase that you're taking on any models that's substantial relative to the previous models?

Speaker 1

Yes. So we did when we introduced the new M and I models this year, we have taken $100 of pricing on those new models, and that went into effect I think in April of this year. And if you think about pricing more broadly for the year, we are expecting around 3 to 4 points of benefit from pricing that would include the actions we took with The new line as well as the wraparound pricing from what we took last year. We did take some actions in both particularly August December of last year, Which are providing additional benefit as we get the full year benefit this year. So, yes, dollars 100 on the top of the line And then the wraparound benefit from the rest of the actions we took last year.

Speaker 8

Got it. Okay. And the margin richness Of the new products, with limited price increases, is it a much higher margin rate that you should earn on those new products?

Speaker 1

I would consider it to be relatively similar, Seth, relative to the margin profile. I would just say similar.

Speaker 8

Got it. Can you just remind us then the drivers behind the new line? What are the big Changes in the features and functionality. I think that there are some changes to some of the internal components that that was supposed to be cost efficient. What else Is different?

Speaker 2

Yes, you're right. And I would start with that we now with the next generation smart beds have Temperature features across the entire line, starting at the C2, which is just below $1100 So we're really excited about having these features and so is our frontline, especially based on how well Climate 360 has performed in the traffic that Climate 360 drives to our stores. And then also there is increased comfort and support, which has also been well received by Our frontline and it's noticeable change and very exciting. And then the technology platform With much broader sensors that sets up our future additional revenue streams through digital products and

Speaker 8

services. That's helpful. And

Speaker 2

then, yes, and then you also you highlighted A large percentage of common parts, which will help us with, especially with our new assembly distribution center to be able to add more flexibility and scale in the future as we ramp up units.

Speaker 8

Great. And my last question for now is just on the promotional environment as you head into Labor Day, With this new product line, do you think you'll have to be as promotional as you've been around other major holiday selling periods recently?

Speaker 2

Well, we'll certainly compete aggressively as we have in the past. It won't be our closeout. Our closeout pricing was more aggressive that you saw in Q2. But We have a lot of confidence in our promotional strategy and how we're applying that throughout the Labor Day period, Especially based on like what we've learned in this environment and even this year in the past few months. We apply it quickly to how we're approaching the time periods, the duration, How we're utilizing the promotional dollars and financing for optimized results from both the top and bottom line.

Speaker 7

Thank you.

Operator

Thank you. We'll take a follow-up from Bobby Griffin, Raymond James.

Speaker 4

Yes. Hey, guys. Thanks for letting me get back in. Yes. Just wanted to have on the progression.

Speaker 4

Do we expect ARU to step up Sequentially, meaningfully in 2H and that's part of how we get the improvement as well in demand. So I'm just trying to connect the dots between what maybe units Demand is going to improve versus what dollar demand is going to improve? Because it still just looks like a pretty strong step up even when you factor in the positive Comparisons moving in your favor.

Speaker 1

Yes. Hi, Bobby. This is Dave again. So if you look at the first half of the year, We had an ARU of around $5,900 a little over $5,900 and that was approaching $6,000 in Q2, which The number I used on the last call. As you look at the back half of the year, we're actually looking at an ARU that's likely going to be quite similar to the first half.

Speaker 1

So around $5,900 We do expect the ARU to be stronger in Q4 than Q3. Q3 is going to have the impact of the closeout activity that we had late in Q2 at the low end of the line in particular, Which will put a little bit of pressure on ARU. I'd call Q3 maybe closer to $5,800 and then, I'd call Q4 Around that $6,000 mark for an ARU.

Speaker 4

Okay. And that's a function of the pricing, the new line and then offset by The closeouts or whatnot? Is there any mix going on there? Are you attaching more items, more beds or anything else like that or no? May I attack you more adjustable basis or more?

Speaker 4

I'm sorry. Yes.

Speaker 1

Yes. So if you look at year over year, particularly in Q3, Q3 last year didn't have any Q3 this year will have a full quarter of Climate 360. Last year, we introduced Climate 360 in October And we did have a fair amount of deliveries in the Q4, but we do expect even more deliveries in the Q4 this year with Climate than we did last year, which will Healthy ARU year over year. And the other thing you're going to get in both Q3 and Q4 is the benefit of the pricing actions We took some of the pricing we took last year was in August, some was in December. So really Q3 didn't get the full benefit of those August promotions or December Permite pricing action, so we expect both pricing and some mix to help us in both Q3 and Q4 to get those Number is up.

Speaker 1

So if you do the math, Bob, I just gave it to you, but the back half of last year was $5,200 per unit, which means We're looking at a number north double digit ARU growth for the back half of the year.

Speaker 4

Yes. I appreciate the details. Thanks for letting me get the follow-up in.

Speaker 2

Great. Thank you.

Operator

At this time, there are no further questions. I'll hand the call back to management for any additional or closing remarks.

Speaker 1

Thank you for joining us today. We look forward to discussing our Q3 2023 performance with you in October. Sleep well and dream big.

Operator

And once again, that does conclude today's conference. Thank you all for your participation.

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Earnings Conference Call
Sleep Number Q2 2023
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