QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2022
or
☐
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number: 001-31321
NAUTILUS, INC.
(Exact name of Registrant as specified in its charter)
Washington
94-3002667
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
17750 S.E. 6th Way
Vancouver, Washington98683
(Address of principal executive offices, including zip code)
(360) 859-2900
(Registrant's telephone number, including area code)
N/A
(Former name, former address and former fiscal year, if changed since last report)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, no par value
NLS
New York Stock Exchange
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [x] No [ ]
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [x] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
☐
Accelerated Filer
☒
Non-accelerated filer
☐
Smaller reporting company
☐
Emerging growth company
☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. [ ]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No [x]
The number of shares outstanding of the registrant's common stock as of February 3, 2023 was 31,832,464 shares.
Deferred income taxes, net of valuation allowances
8,200
(2,938)
Goodwill and intangible impairment charge
26,965
—
Other
(122)
610
Changes in operating assets and liabilities:
Trade receivables
18,537
(4,298)
Inventories
34,118
(59,258)
Prepaids and other assets
5,569
10,059
Income taxes receivable
300
(13,774)
Trade payables
(16,499)
(36,366)
Accrued liabilities and other liabilities, including warranty obligations
(19,186)
8,178
Net cash used in operating activities
(11,780)
(91,583)
Cash flows from investing activities:
Proceeds from sales and maturities of available-for-sale securities
—
73,448
Acquisition of business, net of cash acquired
—
(26,012)
Purchases of property, plant and equipment
(10,697)
(9,136)
Net cash provided by (used in) investing activities
(10,697)
38,300
Cash flows from financing activities:
Proceeds from long-term debt
88,107
63,652
Payments on long-term debt
(58,064)
(22,477)
Payment of debt issuance costs
(2,094)
(577)
Payments on finance lease liabilities
(90)
(30)
Proceeds from employee stock purchases
213
486
Proceeds from exercise of stock options
—
472
Tax payments related to stock award issuances
(480)
(2,866)
Net cash provided by financing activities
27,592
38,660
Effect of exchange rate changes
(2,847)
(1,529)
Net decrease in cash, cash equivalents and restricted cash
2,268
(16,152)
Cash, cash equivalents and restricted cash at beginning of period
18,098
39,780
Cash, cash equivalents and restricted cash at end of period
$
20,366
$
23,628
Supplemental disclosure of cash flow information:
Cash paid for interest
$
954
$
639
Cash paid for income taxes, net
277
19,857
Supplemental disclosure of non-cash investing activities:
Capital expenditures incurred but not yet paid
$
368
$
333
The following table provides a reconciliation of cash, cash equivalents and restricted cash reported within the Condensed Consolidated Balance Sheets to the total of the same amounts shown above:
Nine-Months Ended December 31,
2022
2021
Cash and cash equivalents
$
15,532
$
18,402
Restricted cash
947
1,339
Other current assets - restricted, current
3,887
3,887
Total cash, cash equivalents and restricted cash
$
20,366
$
23,628
See accompanying Notes to Condensed Consolidated Financial Statements.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) GENERAL INFORMATION
Basis of Consolidation and Presentation
The accompanying condensed consolidated financial statements present the financial position, results of operations and cash flows of Nautilus, Inc. and its subsidiaries, all of which are wholly owned. Intercompany transactions and balances have been eliminated in consolidation.
The accompanying condensed consolidated financial statements have not been audited. We have condensed or omitted certain information and footnote disclosures normally included in financial statements presented in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). Management believes the disclosures contained herein are adequate to make the information presented not misleading. However, these condensed consolidated financial statements should be read in conjunction with our consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended March 31, 2022 (the “2022 Form 10-K”).
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Uncertainties regarding such estimates and assumptions are inherent in the preparation of financial statements and actual results could differ from those estimates. These uncertainties will be heightened by the COVID-19 pandemic, as we may be unable to accurately predict the impact of COVID-19 going forward and as a result our estimates may change in the near term. Further information regarding significant estimates can be found in our 2022 Form 10-K.
In the opinion of management, the accompanying condensed consolidated financial statements reflect all adjustments necessary to present fairly our financial position as of December 31, 2022 and March 31, 2022, and our results of operations, comprehensive loss and shareholders' equity for the three and nine-month periods ended December 31, 2022 and 2021 and our cash flows for the three and nine-month periods ended December 31, 2022 and 2021. Interim results are not necessarily indicative of results for a full year. Our revenues typically vary seasonally, and this seasonality can have a significant effect on operating results, inventory levels and working capital needs.
Unless indicated otherwise, all information regarding our operating results pertain to our continuing operations.
Recent Accounting Pronouncements
Recently Adopted Pronouncements
ASU 2020-01
In January 2020, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2020-01, “Investments—Equity Securities (Topic 321), Investments—Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815).” The amendments in ASU 2020-01 clarify certain interactions between the guidance to account for certain equity securities under Topic 321, the guidance to account for investments under the equity method of accounting in Topic 323, and the guidance in Topic 815, which could change how an entity accounts for an equity security under the measurement alternative or a forward contract or purchased option to purchase securities that, upon settlement of the forward contract or exercise of the purchased option, would be accounted for under the equity method of accounting or the fair value option in accordance with Topic 825, Financial Instruments. These amendments improve current GAAP by reducing diversity in practice and increasing comparability of the accounting for these interactions. ASU 2020-01 is effective for fiscal years beginning after December 15, 2021, including interim periods within those fiscal years. The adoption of ASU 2020-01 in the first quarter of the fiscal year ending March 31, 2023 ("fiscal 2023") did not have any effect on our financial position, results of operations or cash flows.
In March 2020, the FASB issued ASU 2020-04, “Reference Rate Reform (Topic 848),” which provides optional guidance related to reference rate reform and provides practical expedients for contract modifications and certain hedging relationships associated with the transition from reference rates that are expected to be discontinued. This guidance is applicable for our borrowing instruments, which use London Inter-bank Offered Rate (“LIBOR”) as a reference rate, which is effective beginning on March 12, 2020, and we may elect to apply the amendments prospectively through December 31, 2022. In January 2021, the FASB issued ASU 2021-01, “Reference Rate Reform (Topic 848),” which permits entities to apply optional expedients in Topic 848 to derivative instruments modified because of discounting transition resulting from reference rate reform. The adoption of this guidance had no material impact on our financial position, results of operations or cash flows.
Recently Issued Pronouncements Not Yet Adopted
ASU 2016-13
In June 2016, the FASB issued ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” ASU 2016-13 requires companies to measure credit losses utilizing a methodology that reflects expected credit losses and requires a consideration of a broader range of reasonable and supportable information to inform credit loss estimates. In May 2019, the FASB issued ASU 2019-05, which provides entities to have certain instruments with an option to irrevocably elect the fair value option. In November 2019, the FASB issued ASU 2019-11, which provides clarification and addresses specific issues about certain aspects of ASU 2016-13. In March 2020, the FASB issued ASC 2020-03, which provides an update to clarify or address specific issues. ASU 2016-13 is effective for fiscal years beginning after December 15, 2022, including interim periods within those years. We do not expect the adoption of this guidance would have a material impact on our financial position, results of operations and cash flows.
(2) DISCONTINUED OPERATIONS
Results from discontinued operations relate to the disposal of our former Nautilus Commercial business, which was completed in April 2011. Although we reached substantial completion of asset liquidation at December 31, 2012, we continued to accrue interest associated with an uncertain tax position on discontinued international operations, and incurred an immaterial amount of product liability expenses associated with products previously sold into the Commercial channel.
In the second quarter of fiscal 2023, we completed the tax deregistration of a foreign entity that was part of the discontinued operations. As a result, the previously unrecognized tax benefit and associated accrued interest and penalty in the amount of $2.1 million was released and recorded as a component of income taxes from discontinued operations during the quarter ended September 30, 2022. There were no further significant activities or changes to our discontinued operations during the third quarter of fiscal 2023.
Our revenues from contracts with customers disaggregated by revenue source, excluding sales-based taxes, were as follows (in thousands):
Three-Months Ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Product sales
$
92,304
$
141,885
$
202,007
$
454,822
Extended warranties and services
1,453
1,841
3,433
4,985
Other(1)
4,322
3,532
12,914
10,003
Net sales
$
98,079
$
147,258
$
218,354
$
469,810
(1) Other revenue is primarily subscription revenue, freight and delivery and royalty income.
Subscriptions
Sales of our subscriptions are deemed to be one performance obligation and we recognize revenue from these arrangements ratably over the subscription term as the performance obligation is satisfied. Revenue generated from subscriptions is recorded in our Direct segment.
We also offer free trials of subscriptions that are bundled with product offerings (e.g., subscription for premium content). For these types of transactions that involve multiple performance obligations, the transaction price requires allocations to the distinct performance obligation because the free trial provides a material right. The transaction price is then allocated to each performance obligation based on stand-alone selling price. We determine stand-alone selling price based on prices charged to customers. Breakage is factored into the determination of the stand-alone selling price of a subscription. Breakage or activation rate, is defined as a percentage of those purchasers that never activate a free-trial offering.
Our revenues disaggregated by geographic region, based on ship-to address, were as follows (in thousands):
As of December 31, 2022, estimated revenue expected to be recognized in the future totaled $18.9 million, primarily related to customer order backlog, which includes firm orders for future shipment and unfulfilled orders to our Retail customers, as well as unfulfilled consumer orders within the Direct channel. Retail orders were $16.8 million and Direct orders were $2.1 million as of December 31, 2022 compared to Retail orders of $44.2 million and Direct orders of $8.8 million as of December 31, 2021. The estimated future revenues are net of contractual rebates and consideration payable for applicable Retail customers, and net of current promotional programs and sales discounts for our Direct customers.
The following table provides information about our liabilities from contracts with customers, primarily customer deposits and deferred revenue for which advance consideration is received prior to the transfer of control or the performance obligation is not satisfied. Revenue is recognized when transfer of control occurs. All customer deposits and deferred revenue received are short-term in nature, recognized over the next twelve months. Significant changes in contract liabilities balances, including revenue recognized in the reporting period that was included in opening contract liabilities, are shown below (in thousands):
Three-Months Ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Balance, beginning of period
$
4,194
$
3,453
$
6,285
$
5,551
Cash additions
3,315
4,203
6,112
8,749
Revenue recognition
(2,361)
(1,378)
(7,249)
(8,022)
Balance, end of period
$
5,148
$
6,278
$
5,148
$
6,278
(4) FAIR VALUE MEASUREMENTS
Factors used in determining the fair value of financial assets and liabilities are summarized into three broad categories:
•Level 1 - observable inputs such as quoted prices (unadjusted) in active liquid markets for identical securities as of the reporting date;
•Level 2 - other significant directly or indirectly observable inputs, including quoted prices for similar securities, interest rates, prepayment speeds and credit risk, or observable market prices in markets with insufficient volume and/or infrequent transactions; and
•Level 3 - significant inputs that are generally unobservable inputs for which there is little or no market data available, including our own assumptions in determining fair value.
Assets and liabilities measured at fair value on a recurring basis were as follows (in thousands):
For our assets measured at fair value on a recurring basis, we recognize transfers between levels at the actual date of the event or change in circumstance that caused the transfer. There were no transfers between levels during the nine-month period ended December 31, 2022, nor for the fiscal year ended March 31, 2022 ("fiscal 2022"). Additionally, we did not have any changes to our valuation techniques during either of these periods.
The fair values of our foreign currency forward contracts are calculated as the present value of estimated future cash flows using discount factors derived from relevant Level 2 market inputs, including forward curves and volatility levels.
The carrying value of our debt approximates its fair value and falls under Level 2 of the fair value hierarchy, as the interest rate is variable and based on current market rates.
During the nine-month period ended December 31, 2022, we evaluated the fair value of our goodwill and intangible assets because triggering events were identified. See Note 8for additional information.
(5) DERIVATIVES
From time to time, we enter into interest rate swaps to fix a portion of our interest expense, and foreign exchange forward contracts to offset the earnings impacts of exchange rate fluctuations on certain monetary assets and liabilities. We do not enter into derivative instruments for any purpose other than to manage interest rate or foreign currency exposure. That is, we do not engage in interest rate or currency exchange rate speculation using derivative instruments.
We may hedge our net recognized foreign currency assets and liabilities with forward foreign exchange contracts to reduce the risk that our earnings and cash flows will be adversely affected by changes in foreign currency exchange rates. These derivative instruments hedge assets and liabilities that are denominated in foreign currencies and are carried at fair value with changes in the fair value recorded as other income. These derivative instruments do not subject us to material balance sheet risk due to exchange rate movements because gains and losses on these derivatives are intended to offset gains and losses on the assets and liabilities being hedged. As of December 31, 2022, total outstanding contract notional amounts were $13.8 million and had maturities of 76 days or less.
The fair value of our derivative instruments was included in our condensed consolidated balance sheets as follows (in thousands):
Balance Sheet Classification
As of
December 31, 2022
March 31, 2022
Derivative instruments not designated as cash flow hedges:
Foreign currency forward contracts
Prepaids and other current assets
$
239
$
—
Foreign currency forward contracts
Accrued liabilities
—
128
The effect of derivative instruments on our condensed consolidated statements of operations was as follows (in thousands):
Statement of Operations Classification
Three-months ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Derivative instruments not designated as cash flow hedges:
Inventories are stated at the lower of cost and net realizable value, with cost determined based on the first-in, first-out method. Our inventories consisted of the following (in thousands):
As of
December 31, 2022
March 31, 2022
Finished goods
$
72,421
$
104,988
Parts and components
4,894
6,202
Total inventories
$
77,315
$
111,190
(7) PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consisted of the following (in thousands):
Estimated Useful Life (in years)
As of
December 31, 2022
March 31, 2022
Automobiles
5
$
23
$
23
Leasehold improvements
4
to
20
3,597
3,150
Computer software and equipment
2
to
7
46,752
44,852
Machinery and equipment
3
to
5
15,037
16,447
Furniture and fixtures
5
to
20
2,047
2,634
Work in progress(1)
N/A
13,009
6,678
Total cost
80,465
73,784
Accumulated depreciation
(46,321)
(41,655)
Total property, plant and equipment, net
$
34,144
$
32,129
(1) Work in progress includes information technology assets and production tooling.
Depreciation expense was as follows (in thousands):
Three-Months Ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Depreciation expense
$
3,155
$
1,993
$
7,910
$
5,941
(8) GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill
The roll forward of goodwill was as follows (in thousands):
Total
Balance, March 31, 2022
$
24,510
Goodwill impairment
(24,510)
Balance, December 31, 2022
$
—
In accordance with ASC 350 — Intangibles — Goodwill and Other, we perform our goodwill and indefinite-lived trade names impairment valuations annually, on March 31, or sooner if triggering events are identified. While the fair value of our reporting units exceeded their respective carrying values as of March 31, 2022, we observed continued market volatility including significant declines in our market capitalization during the three-month period ended June 30, 2022, identified as a triggering event. Our trailing 30-day average market capitalization was approximately $137 million at March 31, 2022 compared to $66 million, the trailing 30-day average, as of June 30, 2022. We performed an interim evaluation and a market capitalization reconciliation during the first quarter of fiscal 2023, which resulted in a non-cash goodwill impairment charge of $24.5 million.
We assigned assets and liabilities to each reporting unit based on either specific identification or by using judgment for the remaining assets and liabilities that are not specific to a reporting unit. We determined the fair value of our
reporting units in Step 1 of the ASC 350 analysis using the market approach. In addition, we determined the fair value by adding a control premium observed from recent transactions of comparable companies to determine the reasonableness of that assumption and the fair values of the reporting units estimated in Step 1. Significant unobservable inputs and assumptions inherent in the valuation methodologies from Level 3 inputs were employed and include, but were not limited to, prospective financial information, growth rates, terminal value, royalty rates, discount rates, and comparable multiples from publicly traded companies in our industry. We compared the carrying amount of each reporting unit to its respective fair value. We reconciled the aggregate fair values of the reporting units determined in Step 1 (as described above) to the enterprise market capitalization plus a reasonable control premium. This total value was compared to a trailing 30-day average market capitalization of approximately $66 million as of June 30, 2022. As a result, the market capitalization reconciliation analysis identified that the Direct reporting unit's fair value was significantly lower than its carrying value, resulting in a non-cash goodwill impairment charge of $24.5 million.
Other Intangible Assets
Other intangible assets consisted of the following (in thousands):
(1) During the first quarter of fiscal 2023, we identified impairment indicators with our indefinite-lived trademarks resulting in a $2.5 million non-cash intangible impairment charge.
Amortization expense was as follows (in thousands):
Three-Months Ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Amortization expense
$
15
$
15
$
46
$
46
Future amortization of definite-lived intangible assets is as follows (in thousands):
Remainder of fiscal 2023
$
15
2024
61
2025
61
2026
47
2027
3
Thereafter
18
$
205
(9) LEASES
We have several non-cancellable operating leases, primarily for office space, that expire at various dates over the next seven years. These leases generally contain renewal options to extend for one lease term of five years. For leases that we are reasonably certain we will exercise the lease renewal options, the options were considered in determining the lease term, and associated potential option payments are included in the lease payments. The payments used in the renewal term were estimated using the percentage rate increase of historical rent payments for each location where the renewal will be exercised.
Payments due under the lease contracts include annual fixed payments for office space. Variable payments including payments for our proportionate share of the building’s property taxes, insurance, and common area maintenance are treated as non-lease components and are recognized in the period for which the costs occur.
Leases with an initial term of 12 months or less (“short-term leases”) are not recorded on the balance sheet and are recognized on a straight-line basis over the lease term.
Other information related to leases was as follows (dollars in thousands):
As of
December 31, 2022
March 31, 2022
Supplemental cash flow information related to leases was as follows:
Operating leases:
Operating lease right-of-use-assets
$
20,033
$
23,620
Operating lease liabilities, non-current
$
17,504
$
20,926
Operating lease liabilities, current portion
4,148
4,494
Total operating lease liabilities
$
21,652
$
25,420
Finance leases:
Property, plant and equipment, at cost
$
512
$
569
Accumulated depreciation
(86)
(57)
Property, plant and equipment, net
$
426
$
512
Finance lease obligations, non-current
$
311
$
395
Finance lease obligations, current portion
121
119
Total finance lease liabilities
$
432
$
514
Cash paid for amounts included in the measurement of lease liabilities:
Operating cash flow from operating leases
$
4,996
$
6,485
Finance cash flows from finance leases
90
60
Additional lease information:
ROU assets obtained in exchange for operating lease obligations
$
—
$
10,323
ROU assets obtained in exchange for finance lease obligations
—
569
Reductions to ROU assets resulting from reductions to operating lease obligations
We determined the discount rate for leases using a portfolio approach to determine an incremental borrowing rate to calculate the right-of-use assets and lease liabilities.
Maturities of lease liabilities under non-cancellable leases were as follows (in thousands):
As of December 31, 2022
Operating leases
Finance leases
Remainder of fiscal 2023
$
1,011
$
29
2024
5,532
120
2025
5,599
120
2026
4,517
120
2027
2,359
60
Thereafter
5,796
—
Total undiscounted lease payments
24,814
449
Less imputed interest
(3,162)
(17)
Total lease liabilities
$
21,652
$
432
(10) ACCRUED LIABILITIES
Accrued liabilities consisted of the following (in thousands):
As of
December 31, 2022
March 31, 2022
Payroll and related liabilities
$
7,570
$
10,405
Deferred revenue
5,148
6,285
Legal settlement (2)
33
4,250
Other
2,930
4,013
Reserves (1)
1,715
4,433
Total accrued liabilities
$
17,396
$
29,386
(1) Reserves primarily consists of inventory, sales return, sales tax and product liability reserves.
(2) Legal settlement is a loss contingency accrual related to a legal settlement involving a class action lawsuit related to advertisement of our treadmills. For further information, see Note 17, Commitments and Contingencies.
(11) PRODUCT WARRANTIES
Our products carry defined warranties for defects in materials or workmanship which, according to their terms, generally obligate us to pay the costs of supplying and shipping replacement parts to customers and, in certain instances, pay for labor and other costs to service products. Outstanding product warranty periods range from thirty days to, in limited circumstances, the lifetime of certain product components. We record a liability at the time of sale for the estimated costs of fulfilling future warranty claims. If necessary, we adjust the liability for specific warranty-related matters when they become known and are reasonably estimable. Estimated warranty expense is included in cost of sales, based on historical warranty claim experience and available product quality data. Warranty expense is affected by the performance of new products, significant manufacturing or design defects not discovered until after the product is delivered to the customer, product failure rates, and higher or lower than expected repair costs. If warranty expense differs from previous estimates, or if circumstances change such that the assumptions inherent in previous estimates are no longer valid, the amount of product warranty obligations is adjusted accordingly.
Current period other comprehensive income before reclassifications
—
(148)
(148)
Net other comprehensive income during period
—
(148)
(148)
Balance, December 31, 2021
$
(12)
$
(489)
$
(501)
(13) LOSS PER SHARE
Basic per share amounts were computed using the weighted average number of common shares outstanding. Diluted per share amounts were calculated using the number of basic weighted average shares outstanding increased by dilutive potential common shares related to stock-based awards, as determined by the treasury stock method. Basic income per share amounts were computed using the weighted average number of common shares outstanding. Diluted income per share amounts were calculated using the number of basic weighted average shares outstanding increased by dilutive potential common shares related to stock-based awards, as determined by the treasury stock method.
The weighted average numbers of shares outstanding used to compute (loss) income per share were as follows (in thousands):
Three-Months Ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Shares used to calculate basic income per share
31,514
31,199
31,502
30,955
Dilutive effect of outstanding stock options, performance stock units and restricted stock units
—
—
—
—
Shares used to calculate diluted income per share
31,514
31,199
31,502
30,955
Dilutive Shares
The weighted average numbers of shares outstanding listed in the table below were dilutive and are excluded from the computation of diluted per share due when there is a loss from continuing operations, as such, the exercise or conversion of any potential shares would increase the number of shares in the denominator and results in a lower income (loss) per share.
These shares may be dilutive potential common shares in the future (in thousands):
Three-Months Ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Restricted stock units
102
673
201
1,024
Stock options
44
357
104
504
Total potential dilutive shares excluded due to net loss
146
1,030
305
1,528
Anti-dilutive Shares
The weighted average numbers of shares outstanding listed in the table below were anti-dilutive and excluded from the computation of diluted income (loss) per share. In the case of restricted stock units, this is because unrecognized compensation expense exceeds the current value of the awards (i.e., grant date market value was higher than current average market price). In the case of stock options, this is because the average market price did not exceed the exercise price.
These shares may be anti-dilutive potential common shares in the future (in thousands):
We have two operating segments, Direct and Retail. There were no changes in our operating segments during the nine-months ended December 31, 2022.
We evaluate performance of the operating segments using several factors, of which the primary financial measures are net sales and reportable segment contribution. Contribution is the measure of profit or loss, defined as net sales less product costs and directly attributable expenses. Directly attributable expenses include selling and marketing expenses, general and administrative expenses, and research and development expenses that are directly related to segment operations. Segment assets are those directly assigned to an operating segment's operations, primarily accounts receivable, inventories, goodwill and other intangible assets. Unallocated assets primarily include cash, cash equivalents and restricted cash, derivative securities, shared information technology infrastructure, distribution centers, corporate headquarters, prepaids and other current assets, deferred income tax assets and other assets. Capital expenditures directly attributable to the Direct and Retail segments were not significant in any period.
Following is summary information by reportable segment (in thousands):
Three-Months Ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Net sales:
Direct
$
46,729
$
60,705
$
97,686
$
161,954
Retail
50,601
85,701
117,949
305,338
Royalty
749
852
2,719
2,518
Consolidated net sales
$
98,079
$
147,258
$
218,354
$
469,810
Contribution:
Direct
$
(6,463)
$
(8,980)
$
(24,244)
$
(4,056)
Retail
3,447
3,270
(994)
44,101
Royalty
749
852
2,719
2,518
Consolidated contribution
$
(2,267)
$
(4,858)
$
(22,519)
$
42,563
Reconciliation of consolidated contribution to (loss) income from continuing operations:
Consolidated contribution
$
(2,267)
$
(4,858)
$
(22,519)
$
42,563
Amounts not directly related to segments:
Operating expenses(1)
(8,021)
(14,456)
(53,295)
(45,960)
Other expense, net
(471)
(1,142)
(2,175)
(1,930)
Income tax expense
(322)
7,001
(8,573)
1,321
Loss from continuing operations
$
(11,081)
$
(13,455)
$
(86,562)
$
(4,006)
(1) Included in unallocated Operating expenses is 25.4 million of Goodwill and intangible impairment charge related to the Direct segment and 1.6 million of intangible impairment charge related to the Retail segment that is not included in the contribution performance measured by the chief operating decision maker.
As of
December 31, 2022
March 31, 2022
Assets:
Direct
$
62,953
$
93,554
Retail
97,385
144,683
Unallocated corporate
64,755
75,808
Total assets
$
225,093
$
314,045
The following customers accounted for 10% or more of total net sales as follows:
On November 30, 2022, we entered into a Term Loan Credit Agreement (the “SLR Credit Agreement”) with Crystal Financial LLC D/B/A SLR Credit Solutions, a Delaware limited liability company, as administrative agent (“SLR”) and lenders from time to time party thereto (collectively the “Lenders”).
Pursuant to the SLR Credit Agreement, the Lenders have agreed, among other things, to make available to us a term loan facility in the aggregate principal amount of up to $30.0 million, subject to a borrowing base (the “SLR Term Loan Facility”), as such amounts may increase or decrease in accordance with the terms of the SLR Credit Agreement. The principal amount of the loan will initially bear interest based on the Adjusted Term SOFR rate plus a margin of 8.25%. From and after the 2024 Financial Statement Delivery Date, the margin will be either 7.75% or 8.25% based on whether our fixed charge coverage ratio is greater than 1.00 to 1.00 or less than or equal to 1.00 to 1.00, respectively.
Borrowings under the SLR Credit Agreement will mature, and all outstanding amounts thereunder will be payable on October 29, 2026, unless the maturity is accelerated subject to the terms set forth in the SLR Credit Agreement or if there is an earlier maturity of the Wells Fargo Credit Agreement (as defined below). The obligations of each Borrower under the SLR Credit Agreement are secured by a lien on substantially all of our assets.
The SLR Credit Agreement contains customary affirmative and negative covenants for financings of this type, including, among other terms and conditions, delivery of financial statements, reports and maintenance of corporate existence, availability subject to a calculated borrowing base, as well as limitations and conditions on our ability to: create, incur, assume or be liable for indebtedness; dispose of assets outside the ordinary course; acquire, merge or consolidate with or into another person or entity; create, incur or allow any lien on any of our property; make investments; or pay dividends or make distributions, in each case subject to certain exceptions. The financial covenants set forth in the SLR Credit Agreement initially require us to (a) maintain minimum excess availability of at least the greater of (i) $10.0 million (subject to increase set forth in the SLR Credit Agreement related to utilization of any incremental term loan facilities thereunder) or (ii) 12.5% of the sum of (x) the line cap under the Wells Fargo Credit Agreement (calculated without giving effect to any term pushdown reserve) plus (y) the lesser of (A) the outstanding principal balance of the loans under the SLR Credit Agreement and (B) the borrowing base under the SLR Credit Agreement (the “Combined Line Cap”). From and after the date on which both the fixed charge coverage ratio for the previous 12-month period is at least 1.00 to 1.00 and availability under the Wells Fargo Credit Agreement is equal to or greater than $20.0 million, we shall no longer be subject to a minimum excess availability covenant but rather would be required to maintain a fixed charge coverage ratio of at least 1.00:1.00 tested when availability under the Wells Fargo Credit Agreement is less than the greater of (i) 12.5% of the Combined Line Cap (excluding the effect, if any, of any term pushdown reserve), and (ii) $11.0 million, calculated as of the last day of each fiscal quarter (the “Financial Covenants”). In addition, the SLR Credit Agreement includes customary events of default, including but not limited to, the nonpayment of principal and interest when due thereunder, breaches of representations and warranties, noncompliance with covenants, acts of insolvency and default on indebtedness held by third parties (subject to certain limitations and cure periods).
This description of the SLR Credit Agreement is a summary only and qualified in its entirety by reference to the text of the SLR Credit Agreement, which is included in the exhibit index of this Form 10-Q for the period ending December 31, 2022.
Amendment to Existing WF ABL Revolving Facility
On November 30, 2022, the Company also entered into an Amendment (the “Amendment”) by and among the Company, as borrower, Wells Fargo Bank, National Assocation as Agent, and the lenders from time to time party thereto (the "WF Lenders"), which amended the Company’s existing asset-based revolving loan facility (the "WF ABL Revolving Facility") and term loan facility (the "WF Term Loan Facility" and together with the WF ABL Revolving Facility, the "WF Credit Facility"), dated as of January 31, 2020, among the Company, the lenders from time to time party thereto and Wells Fargo, as Agent (the “Existing Credit Agreement” and, as amended by the Amendment, the “Wells Fargo Credit Agreement”). Capitalized terms used but not defined in this report have the meanings ascribed to such terms in the Wells Fargo Credit Agreement.
The Amendment terminated the term loans thereunder in connection with the refinancing described above and permitted the entry into and the lien and guarantees related to the SLR Credit Agreement. The guarantees and liens
existing in connection with the Wells Fargo Credit Agreement remained in place upon the closing of the transaction contemplated by the SLR Credit Agreement with respect to the revolving asset-based loans under the Wells Fargo Credit Agreement. The Wells Fargo Credit Agreement was also amended to add Financial Covenants consistent with the SLR Credit Agreement. The principal amount of the loans continue to bear interest based on the base rate or the SOFR rate, plus an applicable margin. The Amendment increased the margin applicable to SOFR loans and letters of credit to a range of 5.00% to 5.50% from a range of 1.75% to 2.25% in the Existing Credit Agreement (based on the maximum revolver amount) and the margin applicable to base rate loans to a range of 4.00% to 4.50% from a range of 0.75% to 1.25% in the Existing Credit Agreement (based on the maximum revolver amount). Borrowings under the Wells Fargo Credit Agreement are scheduled to mature, and all outstanding amounts thereunder will be payable on October 29, 2026, unless the maturity is accelerated subject to the terms set forth in the Wells Fargo Credit Agreement or if there is an earlier maturity of the SLR Credit Agreement.
Other than as specifically provided in the Amendment, the Amendment had no effect on any schedules, exhibits or attachments to the Existing Credit Agreement. Other than as specifically provided in the Amendment, the Guaranty and Security Agreement related to the Wells Fargo Credit Agreement remains in effect.
This description of the Amendment is a summary only and qualified in its entirety by reference to the text of the Amendment and the Wells Fargo Credit Agreement, which are included in the exhibit index of this Form 10-Q for the period ending December 31, 2022.
We used the proceeds from the SLR Term Loan Facility to extinguish our existing $9.1 million WF Term Loan Facility, to pay transaction expenses, and for general corporate purposes. In connection with the extinguishment of the WF Fargo Term Loan Facility, we recorded a loss of $0.2 million as a component of Other, net in our Condensed Consolidated Statements of Operations.
As of December 31, 2022, outstanding principal and accrued and unpaid interest totaled $61.5 million, with $30.3 million and $31.2 million under our SLR Term Loan Facility and WF Revolver, respectively. As of December 31, 2022, we were in compliance with the financial covenants of both the SLR Credit Agreement and WF Credit Agreement, and $26.9 million was available for borrowing under WF ABL Revolving Facility.
Interest on the WF Revolver loan facility accrues at the Secured Overnight Financing Rate ("SOFR") plus a margin of 5.00% to 5.50% (based on average quarterly availability) and interest on the SLR Term Loan Facility accrues at SOFR plus a margin of 7.75% to 8.25% (based on fixed charge coverage ratio). As of December 31, 2022, our interest rate was 9.40% for the WF Revolver and 12.92% for the SLR Term Loan Facility.
The balance sheet classification of the borrowings under the revolving loan facility has been determined in accordance with ASC 470, Debt.
(16) INCOME TAXES
Valuation Allowance
Under ASC Topic 740, Accounting for Income Taxes, we must periodically evaluate deferred tax assets to determine if it is more-likely-than-not that the future tax benefits will be realized. If the negative evidence outweighs the positive, a valuation allowance must be recognized to reduce the net carrying amount of the deferred tax assets to the amount more-likely-than-not to be realized.
Evaluating the need for, and amount of, a valuation allowance for deferred tax assets often requires significant judgment and extensive analysis of all available evidence on a jurisdiction-by-jurisdiction basis. Such judgments require us to interpret existing tax law and other published guidance as applied to our circumstances. As part of this assessment, we consider both positive and negative evidence. The weight given to the potential effect of positive and negative evidence must be commensurate with the extent to which the strength of the evidence can be objectively verified. We generally consider the following, but are not limited to, objectively verified evidence to determine the likelihood of realization of the deferred tax assets:
•Our current financial position and our historical results of operations for recent years. We generally consider cumulative pre-tax losses in the three-year period ending with the current quarter or a projected three-year cumulative loss position within the next 12 months following the current quarter to be significant negative evidence.
•A pattern of objectively-measured historical and current financial reporting loss trend is heavily weighted as a source of negative evidence.
•Sources of taxable income of the appropriate character. Future realization of deferred tax assets is dependent on projected taxable income of the appropriate character. Future reversals of existing temporary differences are heavily weighted sources of objectively verifiable evidence. Projections of future taxable income exclusive of reversing temporary differences are a source of positive evidence only when the projections are combined with a history of recent profits and current financial trends and can be reasonably estimated.
•Carry-back and carry-forward periods available. The carry-back and carry-forward periods permitted under the tax law are objectively verified evidence.
•Tax planning strategies. Tax planning strategies can be, depending on their nature, heavily-weighted sources of objectively verifiable positive evidence when the strategies are available and can be reasonably executed. We consider tax planning strategies only if they are feasible and justifiable considering our current operations and our strategic plan. Tax planning strategies, if executed, may accelerate the recovery of a deferred tax asset so the tax benefit of the deferred tax asset can be carried back.
Management assesses the available positive and negative evidence to estimate whether sufficient future taxable income will be generated to permit use of the existing deferred tax assets. In the first quarter of fiscal 2023, a significant new piece of objective negative evidence evaluated was the third year of cumulative losses projected within the next twelve months. Such objective evidence limits our ability to consider other subjective evidence, such as our projections for future growth.
Based on this evaluation in the first quarter of fiscal 2023, Management concluded that it was no longer more likely than not that the tax benefits from the existing U.S deferred tax assets would be realized. Management sustains the same position in the current quarter and, therefore, we continue to recognize a valuation allowance to reduce our U.S deferred tax assets to an anticipated realizable value. We recognized a $2.8 million and a $20.6 million valuation allowance in the three and nine-months ended December 31, 2022, respectively, against our domestic uncovered net deferred tax assets.
(17) COMMITMENTS AND CONTINGENCIES
Operating leases
We lease property and equipment under non-cancellable operating leases which, in the aggregate, extend through 2029. Many of these leases contain renewal options and provide for rent escalations and payment of real estate taxes, maintenance, insurance and certain other operating expenses of the properties.
For additional information related to leases, see Note 9Leases.
Guarantees, Commitments and Off-Balance Sheet Arrangements
As of December 31, 2022, we had standby letters of credit of $1.6 million.
We have long lead times for inventory purchases and, therefore, must secure factory capacity from our vendors in advance. As of December 31, 2022, we had approximately $9.3 million, compared to $39.8 million as of March 31, 2022, in non-cancellable market-based purchase obligations, primarily to secure additional factory capacity for inventory purchases in the next twelve months. The decrease in purchase obligations was primarily due to having received much of the inventory we have ordered for the season. Purchase obligations can vary from quarter-to-quarter and versus the same period in prior years due to a number of factors, including the amount of products that are shipped directly to Retail customer warehouses versus through Nautilus warehouses.
In the ordinary course of business, we enter into agreements that require us to indemnify counterparties against third-party claims. These may include: agreements with vendors and suppliers, under which we may indemnify them against claims arising from use of their products or services; agreements with customers, under which we may indemnify them against claims arising from their use or sale of our products; real estate and equipment leases, under which we may indemnify lessors against third-party claims relating to the use of their property; agreements with licensees or licensors, under which we may indemnify the licensee or licensor against claims arising from their use of our intellectual property or our use of their intellectual property; and agreements with parties to debt arrangements, under which we may indemnify them against claims relating to their participation in the transactions.
The nature and terms of these indemnification obligations vary from contract to contract, and generally a maximum obligation is not stated within the agreements. We hold insurance policies that mitigate potential losses arising from certain types of indemnification obligations. Management does not deem these obligations to be significant to our
financial position, results of operations or cash flows, and therefore, no related liabilities were recorded as of December 31, 2022.
Legal Matters
From time to time, in the ordinary course of business, we may be involved in various claims, lawsuits and other proceedings. These legal and tax proceedings involve uncertainty as to the eventual outcomes and losses which may be realized when one or more future events occur or fail to occur.
We regularly monitor our estimated exposure to these contingencies and, as additional information becomes known, may change our estimates accordingly. We evaluate, on a quarterly basis, developments in legal proceedings, investigations or claims that could affect the amount of any accrual, as well as any developments that would make a loss probable or reasonably possible, and whether the amount of a probable or reasonably possible loss is estimable. Among other factors, we evaluate the advice of internal and external counsel, the outcomes from similar litigation, the current status of the lawsuits (including settlement initiatives), legislative developments and other factors. Due to the numerous variables associated with these judgments and assumptions, both the precision and reliability of the resulting estimates of the related loss contingencies are subject to substantial uncertainties. Further, while we face contingencies that are reasonably possible to occur, other than as discussed below, we are unable to estimate the possible loss or range of loss at this time.
During the second quarter of fiscal 2022, we recorded a $4.7 million loss contingency related to a legal settlement involving a class action lawsuit related to advertisement of our treadmills. The settlement included damages, a one-year free membership to JRNY®, and administrative fees and was included as a component of General and administrative on our Condensed Consolidated Statements of Operations. We paid the settlement damages and related administrative fees during the second fiscal quarter of fiscal 2023.
(18) SUBSEQUENT EVENTS
Cost Reduction Initiatives
In February 2023, we executed a reduction in our workforce by approximately 15%. In addition, we have reduced our contracted labor, leveraging the flexibility of our variable operating model.
We expect to incur restructuring and other one-time charges of approximately $3.0 million in the Q4 Fiscal 2023 to Q1 Fiscal 2024 time frame.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis is based upon our financial statements as of the dates and for the periods presented in this section. You should read this discussion and analysis in conjunction with the financial statements and notes thereto found in Part I, Item 1 of this Form 10-Q and our consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended March 31, 2022 (the “2022 Form 10-K”). All references to the third quarters and nine-months ended of fiscal 2023 and fiscal 2022 mean for the three and nine-month periods ended December 31, 2022 and 2021, respectively. Unless the context otherwise requires, “Nautilus,” “we,” “us” and “our” refer to Nautilus, Inc. and its subsidiaries. Unless indicated otherwise, all information regarding our operating results pertains to our continuing operations.
Cautionary Notice About Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Words such as “plan,” “expect,” “aim,” “believe,” “project,” “intend,” “estimate,” “will,” “should,” “could,” and other terms of similar meaning typically identify forward-looking statements. We also may make forward-looking statements in our other documents filed with or furnished to the U.S. Securities and Exchange Commission (the “SEC”). In addition, our senior management may make forward-looking statements orally to analysts, investors, representatives of the media and others. Forward-looking statements include any statements related to our future business, financial performance or operating results; anticipated fluctuations in net sales due to seasonality; plans and expectations regarding gross and operating margins; plans and expectations regarding research and development expenses and capital expenditures and anticipated results from such expenditures and other investments in our capabilities and resources; anticipated losses from discontinued operations; plans for new product introductions, strategic partnerships and anticipated demand for our new and existing products; and statements regarding our inventory and working capital requirements and the sufficiency of our financial resources. These forward-looking statements, and others we make from time-to-time, are subject to a number of risks and uncertainties. Many factors could cause actual results to differ materially from those projected in forward-looking statements, including our ability to timely acquire inventory that meets our quality control standards from sole source foreign manufacturers at acceptable costs, changes in consumer fitness trends, changes in the media consumption habits of our target consumers or the effectiveness, availability and price of media time consistent with our cost and audience profile parameters, greater than anticipated costs or delays associated with launch of new products, weaker than expected demand for new or existing products, a decline in consumer spending due to unfavorable economic conditions, softness in the retail marketplace or the availability from retailers of heavily discounted competitive products, an adverse change in the availability of credit for our customers who finance their purchases, our ability to pass along vendor raw material price increases and other cost pressures, including increased shipping costs and unfavorable foreign currency exchange rates, tariffs, risks associated with current and potential delays, work stoppages, or supply chain disruptions caused by the coronavirus pandemic, our ability to hire and retain key management personnel, our ability to effectively develop, market and sell future products, the availability and timing of capital for financing our strategic initiatives, including being able to raise capital on favorable terms or at all; changes in the financial markets, including changes in credit markets and interest rates that affect our ability to access those markets on favorable terms, the impact of any future impairments, our ability to protect our intellectual property, the introduction of competing products, and our ability to get foreign-sourced product through customs in a timely manner. Additional assumptions, risks and uncertainties are described in Part I, Item 1A, “Risk Factors,” in our 2022 Form 10-K as supplemented or modified in our quarterly reports on Form 10-Q. We do not undertake any duty to update forward-looking statements after the date they are made or conform them to actual results or to changes in circumstances or expectations.
Overview
We empower healthier living through individualized connected fitness experiences and are committed to building a healthier world, one person at a time. Our principal business activities include designing, developing, sourcing and marketing high-quality cardio and strength fitness products, related accessories and digital platform for consumer use, primarily in the U.S., Canada, Europe and Asia. Our products are sold under some of the most-recognized brand names in the fitness industry: Bowflex®, Schwinn®, JRNY® and Nautilus®.
We market our products through two distinct distribution channels, Direct and Retail, which we consider to be separate business segments. Our Direct business offers products directly to consumers primarily through websites. Our Retail business offers our products through a network of independent retail companies to reach consumers in the home use markets in the U.S. and internationally. We also derive a portion of our revenue from the licensing of our brands and intellectual property.
Our results for the three and nine-months ended December 31, 2022, are driven by the actions outlined in our North Star strategy. The five strategic pillars of our North Star strategy are: (1) Adopt a consumer first mindset; (2) Scale a differentiated digital offering; (3) Focus investments on core businesses; (4) Evolve supply chain to be a strategic advantage; and (5) Build organizational capabilities to win by unleashing the power of our team. We intend to leverage our many strengths to transform into a company that empowers healthier living through individualized connected fitness experiences. Our transformation will properly leverage our leading brands, products, innovation, distribution and digital assets to build a healthier world, one person at a time.
On September 26, 2022, we announced the launch of our comprehensive review of strategic alternatives to identify opportunities to accelerate our digital transformation under our previously announced North Star plan and enhance shareholder value. That process continues, but we have not set a timetable for the conclusion of the process and there can be no assurance that the review will result in any transaction or other strategic change.
At the center of health and well-being is fitness. The market size more than doubled over the past 2 years, is regulating from its peak with more normal seasonality, and we expect will settle at a “new normal” above pre-pandemic levels (but below the pandemic peak) based on an ongoing evolution in consumers’ workouts and workplace habits. As a result of these changed habits and sentiments, we continue to believe in the industry’s growth opportunities. This results in stronger opportunity for our industry and Nautilus.
Despite solid demand in our Direct segment, headwinds in our Retail segment persist as our retail partners continue to take heavily conservative inventory positions in light of uncertainty in the economic environment. In response, we have taken strategic actions to reduce our costs and realign our business, allowing us to mitigate these near-term challenges, enhance cash flow and drive long-term profitable growth.
To gauge sales growth against more "normalized," pre-pandemic results, we will rely more heavily on measuring performance of fiscal 2023 versus the pre-pandemic twelve-month period ended March 31, 2020 ("fiscal 2020") rather than measuring performance against the atypical, outsized results that occurred during the pandemic.
Comparison for the Three-Months Ended December 31, 2022 to the Three-Months Ended December 31, 2021
•Net sales were $98.1 million, compared to $147.3 million, a decline of 33.4% versus last year. Net sales are up 9%, when compared to the same period in fiscal 2020, excluding sales related to the Octane brand, which was sold in October 2020. The sales decline versus last year is driven primarily by the return to pre-pandemic seasonal demand.
•Net sales of our Direct segment decreased by $14.0 million, or 23.0%, for the three-months ended December 31, 2022, compared to the three-months ended December 31, 2021. Net sales were up 30.2% compared to the same period in fiscal 2020. The net sales decrease compared to last year was primarily driven by the return to pre-pandemic seasonal demand and pre-pandemic sales discounting practices.
•Net sales of our Retail segment decreased by $35.1 million, or 41.0%, for the three-months ended December 31, 2022, compared to the three-months ended December 31, 2021. Net sales were down 6%, compared to the same period in fiscal 2020, excluding sales related to the Octane brand, which was sold in 2020. The decrease in sales compared to last year was primarily driven by the return to pre-pandemic seasonal demand.
•Royalty income for the three-months ended December 31, 2022 decreased by $0.1 million compared to the three-months ended December 31, 2021.
•Gross profit was $22.9 million, compared to $29.9 million last year. Gross profit margins were 23.3% compared to 20.3% last year. The 3.0 ppt increase in gross margins was primarily due to decreases in inventory adjustments (+3 ppts), lower product costs (+2 ppts), partially offset by unfavorable logistics overhead absorption (-1 ppt) and higher outbound freight (-1 ppt). JRNY® investments were lower in dollars versus the prior year and negatively affected gross margins by only 0.40 ppts.
•Operating expenses were $33.1 million compared to $49.2 million last year. The decrease of $16.1 million, or 32.7%, was primarily driven by $12.7 million lower media spending, a decrease of $2.1 million due to
other cost savings, and a $1.3 million decrease in other variable selling and marketing expenses due to decreased sales. Total advertising expenses were $9.5 million this year versus $22.3 million last year.
•Operating loss was $10.3 million compared to an operating loss of $19.3 million last year, primarily driven by improved gross margins and lower operating expenses.
•Income tax expense was $0.3 million this year compared to a $7.0 million tax benefit last year. The income tax expense this quarter was primarily related to activities in foreign jurisdictions, as well as the recording of a $2.8 million valuation allowance.
•Loss from continuing operations was $11.1 million, or $0.35 per diluted share, compared to a loss of $13.5 million, or $0.43 per diluted share, last year.
•Net loss was $11.1 million, or $0.35 per diluted share, compared to net loss of $13.5 million or $0.43 per diluted share, last year.
Comparison for the Nine-Months Ended December 31, 2022 to the Nine-Months Ended December 31, 2021
•Net sales were $218.4 million, compared to $469.8 million, a decline of 53.5% versus last year. Net sales are up 13% when compared to the same period in fiscal 2020, excluding sales related to the Octane brand, which was sold in October 2020. The sales decline versus last year is driven primarily by the return to pre-pandemic seasonal demand and pre-pandemic sales discounting practices, as our typical sales discounts were largely unnecessary during the pandemic period.
•Net sales of our Direct segment decreased by $64.3 million, or 39.7%, for the nine-months ended December 31, 2022, compared to the nine-months ended December 31, 2021. Net sales were up 33.9% compared to the same period in fiscal 2020. The net sales decrease compared to last year is primarily driven by the return to pre-pandemic seasonal demand and pre-pandemic sales discounting practices.
•Net sales of our Retail segment decreased by $187.4 million, or 61.4%, for the nine-months ended December 31, 2022, compared to the nine-months ended December 31, 2021. Net sales were flat, compared to the same period in fiscal 2020, excluding sales related to the Octane brand, which was sold in 2020. The net sales decrease compared to last year is primarily driven by lower cardio sales and higher sales discounting.
•Royalty income for the nine-months ended December 31, 2022 increased by $0.2 million compared to the nine-months ended December 31, 2021.
•Gross profit was $41.3 million, compared to $127.5 million last year. Gross profit margins were 18.9% compared to 27.1% last year. The 8.2 ppt decrease in gross margins was primarily due to increased discounting (-5 ppts), unfavorable logistics overhead absorption (-4 ppts), increased investments in JRNY® (-2 ppts), and higher outbound freight (-1 ppt), partially offset by a decrease in product costs (+4 ppts).
•Operating expenses were $117.1 million compared to $130.9 million last year. The decrease of $13.8 million, or 10.5%, was primarily due to a $28.0 million decrease in media spending, a $6.6 million decrease in other variable selling and marketing expenses due to decreased sales, a decrease of $6.5 million due to savings in other operating expenses, and a $4.7 million prior year loss contingency for a legal settlement, partially offset by a goodwill and intangible impairment charge of $27.0 million and a $5.0 million increase in JRNY® investments. Total advertising expenses were $18.3 million versus $46.3 million last year.
•Operating loss was $75.8 million or a negative 34.7% operating margin, compared to an operating loss of $3.4 million last year, primarily driven by a goodwill and intangible impairment charge of $27.0 million and lower gross profit associated with lower sales demand during the period.
•Income tax expense was $8.6 million this year compared to a $1.3 million tax benefit last year. The income tax expense in the current year was primarily the result of the $20.6 million U.S. deferred tax asset valuation allowance.
•Loss from continuing operations was $86.6 million, or $2.75 per diluted share, compared to a loss of $4.0 million, or $0.13 per diluted share, last year.
•Net loss was $84.5 million, or $2.68 per diluted share, compared to a loss of $4.2 million or $0.14 per diluted share, last year.
North Star Strategy Update
JRNY® Digital Platform
•Nautilus continues to enhance the JRNY® platform through many unique features including the expansion of differentiated visual connected-fitness experiences for JRNY® Members.
•As of December 31, 2022, members of JRNY®, Nautilus’ personalized connected fitness platform, reached 447,000,representing approximately 88% growth versus the same quarter last year. Of these members, 156,000 were Subscribers, representing approximately 134% growth over the same period last year. We define JRNY® Members as all individuals who have a JRNY® account and/or subscription, which includes Subscribers, their respective associated users, and users who consume free content. We define Subscribers as a person or household who paid for a subscription, are in a trial, or have requested a "pause"' to their subscriptions for up to three months.
• In January 2023, the Company introduced an innovative feature set to its JRNY® members with the launch of Motion Tracking – offering personalized coaching and feedback, rep tracking, form guidance, and adaptive weight targets. At release, the JRNY® app with Motion Tracking offers workouts that are designed for use with Bowflex® SelectTech® 552 or Bowflex® SelectTech® 1090 dumbbells, enhancing Nautilus's strength offerings. It is optimized for use with an iOS or Android tablet and JRNY® members can access these features within their existing membership and without the need for additional equipment.
•Leveraging proprietary technology and machine learning expertise from Nautilus’ acquisition of VAY, these new features are enhancing value within the JRNY® platform, which the Company believes will continue to drive JRNY® membership growth through the remainder of fiscal 2023 and beyond.
Key Trends and Drivers of Performance
The following forward-looking statements reflect our full fiscal year 2023 expectations as of February 9, 2023, and are subject to risks and uncertainties.
Full Year 2023
Due to decreased sales expectations and in line with our previously stated objective of minimizing cash consumption and returning to profitability, we have taken additional proactive cost reduction actions to drive profitability despite market headwinds. This includes reductions in workforce by approximately 15%. In addition, we have reduced our contracted labor, leveraging the flexibility of our variable operating model. These two actions are expected to yield annualized cost savings of approximately $30.0 million beginning in Q4 Fiscal 2023. We expect to incur restructuring and other one-time charges of approximately $3.0 million in the Q4 Fiscal 2023 to Q1 Fiscal 2024 time frame. We may not be able to fully realize the cost savings and benefits initially anticipated from our cost reduction initiatives and the projected costs may be greater than expected.
•We expect full year revenue of about $270 million compared to the previous range of $315 million to $365 million. The decline in expected revenue is primarily due to lower expectations in our Retail segment.
•We are targeting JRNY® Members to be approximately 500,000 at March 31, 2023.
Factors Affecting Our Performance
Our results of operations may vary significantly from period-to-period.
Our revenues typically fluctuate due to the seasonality of our industry, customer buying patterns, product innovation, the nature and level of competition for health and fitness products, our ability to procure products to meet customer demand, the level of spending on, and effectiveness of, our media and advertising programs and our ability to attract new customers and maintain existing sales relationships. In addition, our revenues are highly susceptible to economic factors, including, among other things, the overall condition of the economy and the availability of consumer credit in both the U.S. and Canada. The COVID-19 pandemic created a heightened need for home-fitness products at an unprecedented rate and as the pandemic lessened there was a return to a more normal seasonality. We cannot predict with certainty the longer-term impacts of the COVID-19 pandemic and the change to consumer habits and sentiments and therefore, the impact on our results of operations is uncertain.
Our gross margins are being impacted by, among other things:
•Increased product costs, primarily driven by our increasing use of more expensive components in our products, which now include our connected fitness JRNY® platform.
•Fluctuations in the availability, and as a result the costs, of materials used to manufacture our products.
•Tariffs and expedited shipping and transportation costs.
•Fluctuations in cost associated with the acquisition or license of products and technologies, product warranty claims, fuel, foreign currency exchange rates, and changes in costs of other distribution or manufacturing-related services.
•Costs relating to the addition of a new distribution facility in Southern California prior to the exit from our Portland distribution facility.
•The efficiency and effectiveness of our organization and operations.
•A return to product discounting practices in place prior to the pandemic, which were temporarily suspended in part during the pandemic.
Our operating profits or losses may also be affected by the efficiency and effectiveness of our organization. Historically, our operating expenses have been influenced by media costs to produce and distribute advertisements of our products on television, websites and other media, facility costs, operating costs of our information and communications systems, product supply chain management, customer support and new product development activities. In addition, our operating expenses have been affected from time-to-time by asset impairment charges, restructuring charges and other significant unusual or infrequent expenses.
Forecasting for our business during and following the COVID-19 pandemic has proven to be challenging. Despite solid demand for our products as demonstrated in our Direct segment, headwinds in Retail re-orders persist as our retail partners continue to act conservatively in light of uncertainty in the economic environment. We have had significant difficulty in forecasting near-term demand and, as a result, our expected near-term operating performance. We are taking decisive actions to reduce our costs and realign our business with the short-term revenue outlook. See "Risk Factors - Strategic and Operational Risks - Our operating results could be adversely affected if we are unable to accurately forecast consumer demand for our products and services and adequately manage our inventory" in our Form 10-K.
As a result of the above and other factors, our period-to-period operating results may not be indicative of future performance. You should not place undue reliance on our operating results and should consider our prospects in light of the risks, expenses and difficulties typically encountered by us and other companies, both within and outside our industry. We may not be able to successfully address these risks and difficulties and, consequently, we cannot assure you of any future growth or profitability. For more information, see our discussion of risk factors located at Part I, Item 1A of our 2022 Form 10-K as supplemented by our quarterly reports on Form 10-Q.
Discontinued Operations
Results from discontinued operations relate to the disposal of our former Commercial business, which was completed in April 2011. We reached substantial completion of asset liquidation as of December 31, 2012. Although there was no revenue related to the former Commercial business in the fiscal 2022 or year-to-date fiscal 2023 periods, we continued to incur product liability and other legal expenses associated with product previously sold into the Commercial channel.
In the second quarter of fiscal 2023, we completed the tax deregistration of a foreign entity which was part of the discontinued operations. As a result, the previously unrecognized tax benefit and associated accrued interest and penalties in the amount of $2.1 million was released and recorded as a component of income taxes from discontinued operations in the second quarter. There were no further significant activities or changes to our discontinued operations during the third quarter of fiscal 2023.
Comparison of Segment Results for the Three-Month Period Ended December 31, 2022 to the for the Three-Month Period Ended December 31, 2021
Net sales were $46.7 million for the three-month period ended December 31, 2022, compared to $60.7 million, a decline of 23.0%, versus the same period in 2021, and up 30.2% compared to the same period in fiscal 2020. Net sales decrease was primarily driven by the return to pre-pandemic seasonal demand and pre-pandemic sales discounting practices.
Cardio sales declined 8.9% versus the same period in 2021, and were up 9.1%, compared to the same period in fiscal 2020. Lower cardio sales this quarter versus last year were primarily driven by lower demand for Max Trainer® and elliptical equipment. Strength product sales declined 43.0% versus the same period in 2021, and increased 131.0% compared to the same period in fiscal 2020. Lower strength sales this quarter versus last year were primarily driven by lower demand for SelectTech® weights.
The Direct segment had $2.1 million of backlog as of December 31, 2022. This amount represents unfulfilled consumer orders net of current promotional programs and sales discounts.
Gross profit margin was 26.3% for the three-month period ended December 31, 2022 versus 29.8% for the same period in 2021. The 3.5 ppt decrease in gross margin was primarily driven by: increased discounting (-4 ppts), partially offset by a decrease in other costs (+0.5 ppt). Gross profit was $12.3 million, a decrease of 32.2% versus the same period in 2021.
Segment contribution loss was $6.5 million for the three-month period ended December 31, 2022, or 13.8% of sales, compared to segment contribution loss of $9.0 million, or 14.8% of sales for the same period in 2021. The improvement was primarily driven by decreased media spend, partially offset by lower gross profit, as explained above. Advertising expenses were $8.9 million compared to $16.1 million for the same period in 2021.
Combined consumer credit approvals by our primary and secondary U.S. third-party financing providers for the third quarter of fiscal 2023 were 52.8%, compared to 60.3% for the same period in 2021. The decrease in approvals reflects lower credit quality applications.
Retail Segment
Comparison of Segment Results for the Three-Month Period Ended December 31, 2022 to the for the Three-Month Period Ended December 31, 2021
Net sales for the three-month period ended December 31, 2022 were $50.6 million, compared to $85.7 million, a decline of 41.0% for the same period in 2021. Net sales were down 5.6% compared to the same period in fiscal 2020, excluding sales related to the Octane brand. Retail segment sales outside the United States and Canada were down 66.7% versus last. The net sales decrease compared to last year is primarily driven by lower cardio sales as retailers work through higher than normal inventory levels and the return to pre-pandemic seasonal demand.
Cardio sales for the three-month period ended December 31, 2022 decreased by 43.7%. Excluding sales related to Octane, cardio sales were down 40.5% compared to the same period in fiscal 2020. Lower cardio sales this quarter were primarily driven by lower demand for Max Trainer® and elliptical equipment. Strength product sales declined by 38.9% versus last year. Lower strength sales this quarter versus last year were primarily driven by lower demand for home gyms. Strength sales were up 61.1% compared to the same period in fiscal 2020, led by the popular SelectTech® weights.
As of December 31, 2022, the Retail segment's backlog totaled $16.8 million. This amount represents customer orders for future shipments and are net of contractual rebates and consideration payable to applicable Retail customers.
Gross profit margins were 19.4% for the three-month period ended December 31, 2022, up from 12.8% for the same period in 2021. The 6.6 ppt increase in gross margin was primarily due to decrease in inventory adjustments
(+5 ppts) and decreased discounting (+4 ppts), partially offset by unfavorable logistics overhead absorption (-1 ppt), and an increase in other costs (-1 ppt). Gross profit was $9.8 million, a decrease of 10.2% versus the same period in 2021.
Segment contribution income for the three-month period ended December 31, 2022 was $3.4 million, or 6.8% of sales, compared to segment contribution income of $3.3 million, or 3.8% of sales for the same period in 2021. The increase was primarily driven by cost savings and partially offset by lower gross profit.
Royalty
Royalty income decreased by $0.1 million, or 12.1%, to $0.7 million for the three-month period ended December 31, 2022, compared to the same period of 2021, primarily due to royalty settlements.
Sales and Gross Profit
Direct Segment
Comparison of Segment Results for the Nine-Month Period Ended December 31, 2022 to the Nine-Month Period Ended December 31, 2021
Net sales were $97.7 million for the nine-month period ended December 31, 2022, compared to $162.0 million, a decline of 39.7% versus the same period in 2021, and up 33.9% compared to the same period in fiscal 2020. The net sales decrease compared to last year was primarily driven by the return to pre-pandemic seasonal demand and pre-pandemic sales discounting practices.
Cardio sales declined 26.1% versus the same period in 2021, and were up 13.4% compared to the same period in fiscal 2020. Lower cardio sales were primarily driven by lower bike demand. Strength product sales declined 56.4% versus the same period in 2021, and increased 115.1% compared to the same period in fiscal 2020. Lower strength sales this year were primarily driven by lower demand for SelectTech® weights.
Gross profit margin was 20.4% for the nine-month period ended December 31, 2022 versus 34.9% for the same period in 2021. The 14.5 ppt decrease in gross margin was primarily due to increased discounting (-8 ppts), increased investments in JRNY® (-3 ppts), unfavorable logistics overhead absorption (-3 ppts), increased product costs (-2 ppts), partially offset by lower outbound freight (+1 ppt). Gross profit was $19.9 million, down 64.8% versus the same period in 2021.
Segment contribution loss was $24.2 million for the nine-month period ended December 31, 2022, compared to segment contribution loss of $4.1 million for the same period in 2021. The decline was primarily driven by lower gross profit, as explained above, offset by decreased media spend. Advertising expenses were $16.7 million compared to $30.8 million for the same period in 2021.
Retail Segment
Comparison of Segment Results for the Nine-Month Period Ended December 31, 2022 to the Nine-Month Period Ended December 31, 2021
Net sales for the nine-month period ended December 31, 2022 were $117.9 million, down 61.4%, from $305.3 million for the same period in 2021. Excluding sales related to Octane, net sales were flat compared to the same period in fiscal 2020. Retail segment sales outside the United States and Canada were down 77.6% versus last year. The net sales decrease compared to last year is primarily driven by the return to pre-pandemic seasonal demand, lower cardio sales, and higher sales discounting as retailers work through higher than normal inventory levels.
Cardio sales for the nine-month period ended December 31, 2022 decreased by 74.5%. Excluding sales related to Octane, cardio sales were down 39.8% compared to the same period in fiscal 2020. Lower cardio sales this year were primarily driven by lower bike demand. Strength product sales declined by 40.9% versus last year. Lower strength sales this year were primarily driven by lower demand for weights. Strength sales were up 80.4% compared to the same period in fiscal 2020, led by the popular SelectTech® weights.
Gross profit margins were 15.8% for the nine-month period ended December 31, 2022, down from 22.4% for the same period in 2021. The 6.6 ppt decrease in gross margin was primarily due to increased discounting (-4 ppts),
and unfavorable logistics overhead absorption (-4 ppts), partially offset by a decrease in other costs (+1 ppt). Gross profit was $18.6 million, a decrease of 72.8% versus the same period in 2021.
Segment contribution loss for the nine-month period ended December 31, 2022 was $1.0 million, or 0.8% of sales, compared to segment contribution income of $44.1 million, or 14.4% of sales for the same period in 2021, primarily driven by lower gross profit as explained above.
Royalty
Royalty income increased by $0.2 million, or 8.0%, to $2.7 million for the nine-month period ended December 31, 2022, compared to the same period of 2021, primarily due to royalty settlements.
Selling and Marketing
Selling and marketing expenses include payroll, employee benefits, and other headcount-related expenses associated with sales and marketing personnel, and the costs of media advertising, promotions, trade shows, seminars, sales incentives related to our JRNY® platform and other programs.
Selling and marketing information was as follows (dollars in thousands):
Three-Months Ended December 31,
Change
2022
2021
$
%
Selling and marketing
$
17,203
$
32,395
$
(15,192)
(46.9)%
As % of net sales
17.5
%
22.0
%
Nine-Months Ended December 31,
Change
2022
2021
$
%
Selling and marketing
$
39,493
$
75,634
$
(36,141)
(47.8)%
As % of net sales
18.1
%
16.1
%
The $15.2 million decrease in selling and marketing expenses for the three-month period ended December 31, 2022 as compared to the same period of 2021 was primarily related to a decrease of $12.7 million in media spend, and a decrease of $1.3 million in other variable selling and marketing expenses due to decreased sales.
The $36.1 million decrease in selling and marketing expenses for the nine-month period ended December 31, 2022 as compared to the same period of 2021 was primarily due to a $28.0 million decrease in media spend, a $6.6 million decrease in other variable selling and marketing expenses due to decreased sales, and $2.1 million in other cost savings, partially offset by an increase of $0.6 million JRNY® related investments. We expect variable selling and marketing expenses to continue to fluctuate with sales.
Media advertising expense is the largest component of selling and marketing and was as follows (dollars in thousands):
Three-Months Ended December 31,
Change
2022
2021
$
%
Total advertising
$
9,515
$
22,254
$
(12,739)
(57.2)%
Nine-Months Ended December 31,
Change
2022
2021
$
%
Total advertising
$
18,330
$
46,296
$
(27,966)
(60.4)%
The $12.7 million decrease in media advertising expense for the three-month period ended December 31, 2022, as compared to the same period of 2021 reflects a return to more historical, pre-pandemic levels of advertising
support to preserve market share and control costs. Advertising as a percentage of selling and marketing for the three-month period ended December 31, 2022 was 55.3% as compared to 68.7% for the same quarter last year and 53.0% for the same period in fiscal 2020.
The $28.0 million decrease in media advertising expense for the nine-month period ended December 31, 2022, as compared to the same period of 2021 reflects a return to more historical, pre-pandemic levels of advertising support to preserve market share and control costs. Advertising as a percentage of selling and marketing for the nine-month period ended December 31, 2022 was 46.4% as compared to 61.2% for the same quarter last year and 43.8% for the same period in fiscal 2020.
General and Administrative
General and administrative expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with finance, legal, facilities, certain human resources and other administrative personnel, and other administrative fees.
General and administrative was as follows (dollars in thousands):
Three-Months Ended December 31,
Change
2022
2021
$
%
General and administrative
$
10,859
$
11,456
$
(597)
(5.2)%
As % of net sales
11.1
%
7.8
%
Nine-Months Ended December 31,
Change
2022
2021
$
%
General and administrative
$
34,317
$
39,355
$
(5,038)
(12.8)%
As % of net sales
15.7
%
8.4
%
The $0.6 million decrease in general and administrative expenses for the three-month period ended December 31, 2022 as compared to the same period of 2021 was primarily due to decreased personnel expenses.
The $5.0 million decrease in general and administrative expenses for the nine-month period ended December 31, 2022 as compared to the same period of 2021 was primarily due to a $4.7 million prior year loss contingency related to a legal settlement, a $1.5 million decrease in legal expenses, and $1.5 million in other cost savings, offset by an increase of $2.6 million of JRNY® related expenses.
Research and Development
Research and development expenses include payroll, employee benefits, other headcount-related expenses and information technology associated with product development.
Research and development was as follows (dollars in thousands):
The research and development expenses for the three-month period ended December 31, 2022, as compared to the same period of 2021, were relatively flat and represented a higher percentage of sales this quarter due to timing of technical projects and increased investments in JRNY®, our digital platform.
The increase in research and development expenses for the nine-month period ended December 31, 2022 as compared to the same period in 2021, was driven by the timing of technical projects and increased investments in JRNY®, our digital platform.
Goodwill and Intangible Impairment Charge
In accordance with ASC 350 — Intangibles — Goodwill and Other, we perform a goodwill and indefinite-lived asset impairment evaluation during the fourth quarter of each year. However, as a result of the decline in our market value relative to the market and our industry, which was identified as a triggering event, we performed an interim evaluation and a market capitalization reconciliation during the first quarter of fiscal 2023, which resulted in a non-cash goodwill and indefinite-lived intangible assets impairment charge of $27.0 million.
ASC 350 requires us to make significant assumptions and estimates about the extent and timing of future cash flows, discount rates, growth rates and terminal value. The cash flows are estimated over a significant future period of time, which makes those estimates and assumptions subject to an even higher degree of uncertainty. We also use market valuation models and other financial ratios, which require us to make certain assumptions and estimates regarding the applicability of those models to our assets and businesses.
In accordance with ASC 360 — Property, Plant, and Equipment and other long-lived assets, we perform a test for recoverability when triggering events occur. No impairment was recognized in the quarter ended December 31, 2022.
For additional information related to our goodwill and intangible impairment charge, see Note 8.
Operating Loss
Operating loss for the three-months ended December 31, 2022 was $10.3 million, a decrease of $9.0 million, or 46.6%, as compared to an operating loss of $19.3 million for the same period of 2021. The improvement in results was primarily driven by higher gross profit and higher gross margins during the period.
Operating loss for the nine-month period ended December 31, 2022 was $75.8 million, an increase of $72.4 million, as compared to an operating loss of $3.4 million for the same period of 2021. The increase was primarily driven by a goodwill and intangible impairment charge of $27.0 million and lower gross profit associated with lower sales and lower gross margins during the period.
Other, Net
Other, net relates to the effect of exchange rate fluctuations with the U.S. and our foreign subsidiaries and a debt extinguishment loss.
Income tax expense includes U.S. and international income taxes, and interest and penalties on uncertain tax positions.
Income tax expense (benefit) was as follows (in thousands):
Three-Months Ended December 31,
Change
2022
2021
$
%
Income tax expense (benefit)
$
322
$
(7,001)
$
7,323
(104.6)%
Effective tax rate
(3.0)
%
34.2
%
Nine-Months Ended December 31,
Change
2022
2021
$
%
Income tax expense (benefit)
$
8,573
$
(1,321)
$
9,894
(749.0)%
Effective tax rate
(11.0)
%
24.8
%
Income tax expense for the three and nine-month periods ended December 31, 2022 was primarily a result of activities in foreign jurisdictions, as well as the recording of a U.S. deferred tax asset valuation allowance in the amount of $2.8 million and $20.6 million, respectively,during these periods.
The effective tax rates from continuing operations for the three and nine-month periods ended December 31, 2022 were primarily as a result of the aforementioned U.S deferred tax asset valuation allowance to reduce the existing U.S. domestic deferred tax assets to their anticipated realizable value.
Income tax benefits and effective tax rates for the three and nine-months ended December 31, 2021 were primarily due to the loss generated in the U.S.
Loss from Continuing Operations
Loss from continuing operations was $11.1 million for the three-months ended December 31, 2022, or $0.35 per diluted share, compared to loss from continuing operations of $13.5 million, or $0.43 per diluted share, for the three-months ended December 31, 2021. The decrease in loss from continuing operations was primarily due to higher gross profit as discussed in more detail above.
Loss from continuing operations was $86.6 million for the nine-month period ended December 31, 2022, or $2.75 per diluted share, compared to $4.0 million, or $0.13 per diluted share, for the nine-months ended December 31, 2021. The increase in loss from continuing operations was primarily due to lower gross profit and higher operating expenses as discussed in more detail above.
Net Loss
Net loss was $11.1 million for the three-months ended December 31, 2022, compared to net loss of $13.5 million for the three-months ended December 31, 2021. Net loss per diluted share was $0.35 for the three-months ended December 31, 2022, compared to net loss per diluted share of $0.43 for the three-months ended December 31, 2021.
Net loss was $84.5 million for the nine-month period ended December 31, 2022, compared to $4.2 million for the nine-months ended December 31, 2021. Net loss per diluted share was $2.68 for the nine-month period ended December 31, 2022, compared to net loss per diluted share of $0.14 for the nine-months ended December 31, 2021.
Our future capital requirements may vary materially from those currently planned and will depend on many factors, including our levels of revenue, the timing and extent of spending on research and development efforts and other business initiatives, the expansion of sales and marketing activities, the timing of new product introductions, market acceptance of our products, and overall economic conditions. To the extent that current and anticipated future sources of liquidity are insufficient to fund our future business activities and requirements, including if we are able to maintain compliance with debt-related financial covenants, we may be required to seek additional equity or debt financing. The sale of additional equity would result in additional dilution to our shareholders. The incurrence of debt financing would result in debt service obligations and the instruments governing such debt could provide for operating and financing covenants that would restrict our operations.
As of December 31, 2022, we had $16.5 million of cash, cash equivalents and restricted cash, and $26.9 million was available for borrowing under the WF ABL Revolving Facility, compared to $14.2 million of cash, cash equivalents and restricted cash, and $65.8 million available for borrowing under the WF ABL Revolving Facility as of March 31, 2022.
Despite solid demand in our Direct segment, headwinds in our Retail segment persist as our retail partners continue to take heavily conservative inventory positions in light of uncertainty in the economic environment. In response, we have taken strategic actions to reduce our costs and realign our business, allowing us to mitigate these near-term challenges, enhance cash flow and drive long-term profitable growth.
We expect our cash, cash equivalents, restricted cash and amounts available for borrowing under our SLR Credit Facility and WF Credit Facility as of December 31, 2022, along with cash expected to be generated from operations, to be sufficient to fund our operating and capital requirements for at least the next twelve months. We expect to incur restructuring and other one-time charges of approximately $3.0 million in the Q4 Fiscal 2023 to Q1 Fiscal 2024 time frame.
If forecasted sales are not achieved as planned, our semi-variable operating model will allow additional cost cutting measures and additional working capital levers will be executed.
Cash used in operating activities was $11.8 million for the nine-month period ended December 31, 2022, compared to cash used in operating activities of $91.6 million for the nine-month period ended December 31, 2021. The improvement in cash flows from operating activities for the nine-month period ended December 31, 2022 as compared to the same period of 2021 was primarily due to changes in our operating assets and liabilities discussed below, offset by a decrease in non-cash charges and an increased net loss.
Trade receivables decreased to $42.7 million as of December 31, 2022, compared to $61.5 million as of March 31, 2022, primarily due to lower sales.
Inventory was $77.3 million as of December 31, 2022, down 30% compared to $111.2 million as of March 31, 2022 and down 40% compared to $128.1 million as of December 31, 2021. The decrease in inventory was driven by sell-through and strong inventory management as we continue to right-size inventory levels. About 18% of inventory as of December 31, 2022 was in-transit.
Prepaid and other current assets decreased by $1.5 million to $13.0 million, compared to $14.5 million as of March 31, 2022, primarily due to a $2.1 million decrease in prepaid expenses, partially offset by a $0.6 million increase in duty drawback receivables and a $0.2 million increase in hedging derivatives assets.
Trade payables decreased by $18.2 million to $35.0 million as of December 31, 2022, compared to $53.2 million as of March 31, 2022, primarily due to reduced inventory and media payables.
Accrued liabilities decreased by $12.0 million to $17.4 million as of December 31, 2022, compared to $29.4 million as of March 31, 2022, primarily due to a $4.2 million legal settlement payment, decreases in accrued off-site materials of $3.0 million and a $2.0 million decrease in payroll related liabilities.
Cash used in investing activities of $10.7 million for the nine-month period ended December 31, 2022 was primarily due to capital purchases related to our digital platform. We anticipate spending between $12.0 million and $14.0 million in fiscal 2023 for digital platform enhancements, systems integration, and production tooling.
Cash provided by financing activities of $27.6 million for the nine-month period ended December 31, 2022 was primarily related to proceeds from long-term debt offset by payments on long-term debt.
Free Cash Flow
Free cash flow is a non-GAAP financial measure. We believe free cash flow is an important metric because it represents a measure of how much cash a company has available for discretionary and non-discretionary items after the deduction of capital expenditures. We require regular capital expenditures including technology improvements to automate processes, engage with customers, and optimize our supply chain. We use this metric internally, as we believe our sustained ability to generate free cash flow is an important driver of value creation. However, this non-GAAP financial measure is not intended to supersede or replace our GAAP results.
The following table reconciles free cash flow, a non-GAAP financial measure, from a GAAP financial measure (in thousands):
Three-Months Ended December 31,
Nine-Months Ended December 31,
2022
2021
2022
2021
Net cash used in operating activities
$
(2,184)
$
(34,829)
$
(11,780)
$
(91,583)
Purchase of property, plant and equipment
(3,186)
(4,151)
(10,697)
(9,136)
Free cash flow
$
(5,370)
$
(38,980)
$
(22,477)
$
(100,719)
Net loss
$
(11,082)
$
(13,499)
$
(84,461)
$
(4,217)
Free cash flow as percentage of net loss
48.5
%
288.8
%
26.6
%
2,388.4
%
Financing Arrangements
On November 30, 2022, we entered into a Term Loan Credit Agreement (the “SLR Credit Agreement”) with Crystal Financial LLC D/B/A SLR Credit Solutions, a Delaware limited liability company, as administrative agent (“SLR”) and lenders from time to time party thereto (collectively the “Lenders”).
Pursuant to the SLR Credit Agreement, the Lenders have agreed, among other things, to make available to us a term loan facility in the aggregate principal amount of up to $30.0 million, subject to a borrowing base (the “SLR Term Loan Facility”), as such amounts may increase or decrease in accordance with the terms of the SLR Credit Agreement. The principal amount of the loan will initially bear interest based on the Adjusted Term SOFR rate plus a margin of 8.25%. From and after the 2024 Financial Statement Delivery Date, the margin will be either 7.75% or 8.25% based on whether our fixed charge coverage ratio is greater than 1.00 to 1.00 or less than or equal to 1.00 to 1.00, respectively.
Borrowings under the SLR Credit Agreement will mature, and all outstanding amounts thereunder will be payable on October 29, 2026, unless the maturity is accelerated subject to the terms set forth in the SLR Credit Agreement or if there is an earlier maturity of the Wells Fargo Credit Agreement (as defined below). The obligations of each Borrower under the SLR Credit Agreement are secured by a lien on substantially all of our assets.
The SLR Credit Agreement contains customary affirmative and negative covenants for financings of this type, including, among other terms and conditions, delivery of financial statements, reports and maintenance of corporate existence, availability subject to a calculated borrowing base, as well as limitations and conditions on our ability to: create, incur, assume or be liable for indebtedness; dispose of assets outside the ordinary course; acquire, merge or consolidate with or into another person or entity; create, incur or allow any lien on any of our property; make investments; or pay dividends or make distributions, in each case subject to certain exceptions. The financial covenants set forth in the SLR Credit Agreement initially require us to (a) maintain minimum excess availability of at least the greater of (i) $10.0 million (subject to increase set forth in the SLR Credit Agreement related to utilization of any incremental term loan facilities thereunder) or (ii) 12.5% of the sum of (x) the line cap under the Wells Fargo Credit Agreement (calculated without giving effect to any term pushdown reserve) plus (y) the lesser of (A) the outstanding principal balance of the loans under the SLR Credit Agreement and (B) the borrowing base under the SLR Credit Agreement (the “Combined Line Cap”). From and after the date on which both the fixed charge
coverage ratio for the previous 12-month period is at least 1.00 to 1.00 and availability under the Wells Fargo Credit Agreement is equal to or greater than $20.0 million, we shall no longer be subject to a minimum excess availability covenant but rather would be required to maintain a fixed charge coverage ratio of at least 1.00:1.00 tested when availability under the Wells Fargo Credit Agreement is less than the greater of (i) 12.5% of the Combined Line Cap (excluding the effect, if any, of any term pushdown reserve), and (ii) $11.0 million, calculated as of the last day of each fiscal quarter (the “Financial Covenants”). In addition, the SLR Credit Agreement includes customary events of default, including but not limited to, the nonpayment of principal and interest when due thereunder, breaches of representations and warranties, noncompliance with covenants, acts of insolvency and default on indebtedness held by third parties (subject to certain limitations and cure periods).
This description of the SLR Credit Agreement is a summary only and qualified in its entirety by reference to the text of the SLR Credit Agreement, which is included in the exhibit index of this Form 10-Q for the period ending December 31, 2022.
Amendment to Existing WF ABL Revolving Facility
On November 30, 2022, the Company also entered into an Amendment (the “Amendment”) by and among the Company, as borrower, Wells Fargo Bank, National Assocation as Agent, and the lenders from time to time party thereto (the "WF Lenders"), which amended the Company’s existing asset-based revolving loan facility (the "WF ABL Revolving Facility") and term loan facility (the "WF Term Loan Facility" and together with the WF ABL Revolving Facility, the "WF Credit Facility"), dated as of January 31, 2020, among the Company, the lenders from time to time party thereto and Wells Fargo, as Agent (the “Existing Credit Agreement” and, as amended by the Amendment, the “Wells Fargo Credit Agreement”). Capitalized terms used but not defined in this report have the meanings ascribed to such terms in the Wells Fargo Credit Agreement.
The Amendment terminated the term loans thereunder in connection with the refinancing described above and permitted the entry into and the lien and guarantees related to the SLR Credit Agreement. The guarantees and liens existing in connection with the Wells Fargo Credit Agreement remained in place upon the closing of the transaction contemplated by the SLR Credit Agreement with respect to the revolving asset-based loans under the Wells Fargo Credit Agreement. The Wells Fargo Credit Agreement was also amended to add Financial Covenants consistent with the SLR Credit Agreement. The principal amount of the loans continue to bear interest based on the base rate or the SOFR rate, plus an applicable margin. The Amendment increased the margin applicable to SOFR loans and letters of credit to a range of 5.00% to 5.50% from a range of 1.75% to 2.25% in the Existing Credit Agreement (based on the maximum revolver amount) and the margin applicable to base rate loans to a range of 4.00% to 4.50% from a range of 0.75% to 1.25% in the Existing Credit Agreement (based on the maximum revolver amount). Borrowings under the Wells Fargo Credit Agreement are scheduled to mature, and all outstanding amounts thereunder will be payable on October 29, 2026, unless the maturity is accelerated subject to the terms set forth in the Wells Fargo Credit Agreement or if there is an earlier maturity of the SLR Credit Agreement.
Other than as specifically provided in the Amendment, the Amendment had no effect on any schedules, exhibits or attachments to the Existing Credit Agreement. Other than as specifically provided in the Amendment, the Guaranty and Security Agreement related to the Wells Fargo Credit Agreement remains in effect.
This description of the Amendment is a summary only and qualified in its entirety by reference to the text of the Amendment and the Wells Fargo Credit Agreement, which are included in the exhibit index of this Form 10-Q for the period ending December 31, 2022.
We used the proceeds from the SLR Term Loan Facility to extinguish our existing $9.1 million WF Term Loan Facility, to pay transaction expenses, and for general corporate purposes. In connection with the extinguishment of the WF Fargo Term Loan Facility, we recorded a loss of $0.2 million as a component of Other, net in our Condensed Consolidated Statements of Operations.
As of December 31, 2022, outstanding principal and accrued and unpaid interest totaled $61.5 million, with $30.3 million and $31.2 million under our SLR Term Loan Facility and WF Revolver, respectively. As of December 31, 2022, we were in compliance with the financial covenants of both the SLR Credit Agreement and WF Credit Agreement, and $26.9 million was available for borrowing under WF ABL Revolving Facility.
Interest on the WF Revolver loan facility accrues at the Secured Overnight Financing Rate ("SOFR") plus a margin of 5.00% to 5.50% (based on average quarterly availability) and interest on the SLR Term Loan Facility accrues at
SOFR plus a margin of 7.75% to 8.25% (based on fixed charge coverage ratio). As of December 31, 2022, our interest rate was 9.40% for the WF Revolver and 12.92% for the SLR Term Loan Facility.
The balance sheet classification of the borrowings under the revolving loan facility has been determined in accordance with ASC 470, Debt.
Off-Balance Sheet Arrangements
We have long lead times for inventory purchases and, therefore, must secure factory capacity from our vendors in advance. As of December 31, 2022, we had approximately $9.3 million, compared to $39.8 million as of March 31, 2022 in non-cancellable market-based purchase obligations, primarily to secure additional factory capacity for inventory purchases in the next twelve months. Purchase obligations can vary from quarter-to-quarter and versus the same period in prior years due to a number of factors, including the amount of products that are shipped directly to Retail customer warehouses versus through Nautilus warehouses. The decrease in purchase obligations was primarily due to strong inventory management as we continue to right-size inventory levels.
In the ordinary course of business, we enter into agreements that require us to indemnify counterparties against third-party claims. These may include: agreements with vendors and suppliers, under which we may indemnify them against claims arising from our use of their products or services; agreements with customers, under which we may indemnify them against claims arising from their use or sale of our products; real estate and equipment leases, under which we may indemnify lessors against third-party claims relating to the use of their property; agreements with licensees or licensors, under which we may indemnify the licensee or licensor against claims arising from their use of our intellectual property or our use of their intellectual property; and agreements with parties to debt arrangements, under which we may indemnify them against claims relating to their participation in the transactions.
The nature and terms of these indemnifications vary from contract to contract, and generally a maximum obligation is not stated. We hold insurance policies that mitigate potential losses arising from certain types of indemnifications. Management does not deem these obligations to be significant to our financial position, results of operations or cash flows, and therefore, no liabilities were recorded at December 31, 2022.
SEASONALITY
We expect our revenue from fitness equipment products to vary seasonally. Sales are typically strongest in our fiscal third quarter ending December 31 and fiscal fourth quarter ending March 31 and are generally weakest in our fiscal first quarter ending June 30 and fiscal second quarter ending September 30. We believe that consumers tend to be involved in outdoor activities during the spring and summer months, including outdoor exercise, which impacts sales of indoor fitness equipment. This seasonality can have a significant effect on our inventory levels, working capital needs and resource utilization.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our critical accounting policies have not changed other than goodwill from those discussed in our fiscal 2022 Form 10-K.
NEW ACCOUNTING PRONOUNCEMENTS
See Note 1 of Notes to Condensed Consolidated Financial Statements included in Part I, Item 1 for a discussion of recent accounting pronouncements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
There have been no material changes in our market risk as compared to the disclosures in Part II, Item 7A in our Annual Report on Form 10-K for the year ended March 31, 2022, filed with the SEC on June 3, 2022.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
In accordance with Rule 13a-15 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q, our management evaluated, with the participation of our Principal Executive Officer, Principal Financial Officer and Principal Accounting Officer, the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) under the Exchange Act). Based upon their evaluation of these disclosure controls and procedures, our management, including the Principal Executive Officer, Principal Financial Officer, and Principal Accounting Officer, have concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report, our disclosure controls and procedures are effective and designed to ensure that the information required to be disclosed in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the requisite time periods specified in the applicable Securities and Exchange Commission rules and forms, and that it is accumulated and communicated to our management, including our Principal Executive Officer Principal Financial Officer, and Principal Accounting Officer, as appropriate, to allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting that occurred during the three-months ended December 31, 2022, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
From time to time, in the ordinary course of business, we may be involved in various claims, lawsuits and other proceedings. These legal and tax proceedings involve uncertainty as to the eventual outcomes and losses which may be realized when one or more future events occur or fail to occur.
During the second quarter of fiscal 2022, we recorded a $4.7 million loss contingency related to a legal settlement involving a class action lawsuit related to advertisement of our treadmills. The settlement includes damages, a one-year free membership to JRNY®, and administrative fees and was included as a component of General and administrative on our Condensed Consolidated Statements of Operations for the fiscal year ended March 31, 2022.
On June 27, 2022, the Court approved the settlement and no appeals were filed. We paid the settlement damages and related administrative fees during the second quarter of fiscal 2023.
As of the date of filing of this Quarterly Report on Form 10-Q, we were not involved in any material legal proceedings.
Item 1A. Risk Factors
We operate in an environment that involves a number of risks and uncertainties. The risks and uncertainties described in our 2022 Form 10-K are not the only risks and uncertainties to which we are subject, and there may be other risk and uncertainties that are not currently considered material or are not known to us that could impair our business or operations. If any of the risks described in our 2022 Form 10-K actually occur, our business, operating results and financial position could be adversely affected. There have been no material changes to the risk factors as set forth in our 2022 Form 10-K.
Certification of Chief Executive Officer and Chief Financial Officer pursuant to Rule 13a-14(b) of the Securities and Exchange Act of 1934, as amended, and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS
XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
