Blue Apron Holdings Inc (APRN) 2017 Q3 法說會逐字稿

Ladies and gentlemen, good morning and welcome to the Blue Apron Holdings Third Quarter 2017 Earnings Conference Call and Webcast. (Operator Instructions) This call is being recorded. (Operator Instructions) With that, I'd like to turn the call over to Ms. Felise Kissell, Vice President of Investor Relations. Ms. Kissell, please go ahead.

Good morning, everyone, and thank you for joining us. On this morning's call, we have Matt Salzberg, Chief Executive Officer of Blue Apron; and Brad Dickerson, Chief Financial Officer.

Various remarks that we make during this call about the company's future expectations, plans and prospects constitute forward-looking statements for the purpose of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995.

Actual results may differ materially from those indicated by these forward-looking statements and as a result of various important risks and other factors, including those described in our earnings release and the company's SEC filings. In addition, any forward-looking statements represent our views only as of today and should not be relied upon as representing our views as of any subsequent date. We specifically disclaim any obligation to update these statements.

During this call, we will be referring to non-GAAP financial measures, which are not prepared in accordance with generally accepted accounting principles. You are encouraged to refer to the earnings release and SEC filings where we have described these measures in more detail and to review the reconciliation of these non-GAAP financial measures to the most directly comparable GAAP results.

With that, I would now like to turn the call over to Matt Salzberg, Blue Apron's CEO. Matt?

Thank you, Felise, and thank you to everyone for joining our third quarter earnings call. Today, I will briefly review the quarter's financial results and then provide an update on progress toward our top strategic priorities. Afterward, Brad will provide additional detail on our financial performance before we take your questions.

In the third quarter, we grew revenue 3% while reducing our marketing costs 31% year-over-year, reflecting an improvement in marketing as a percentage of net revenue from 24% to 16%. Our average revenue per customer increased 8% year-over-year from $227 to $245. This is partly driven by a mix shift to more tenured customers as we deliberately scaled back our new customer acquisition activity as well as improvements in monetization that we made throughout the year by optimizing our menu assortment and launching more flexible choices to our customers. An important part of our strategy is to continue to increase our revenue per customer metric through product innovations and improvements in our On-Time-In-Full, or OTIF, rates across our fulfillment center network.

Our adjusted EBITDA loss of $48 million was largely driven by heightened costs related to the launch of our Linden fulfillment center, expanded product offering infrastructure and summer shipping program. Adjusted EBITDA improvement is a priority for us, and I will provide more details shortly on some of the actions we are taking to achieve that.

Taking a step back, last quarter, I spoke with you about the actions we were pursuing to better align our organization around our top company priorities. These priorities include: one, maximizing growth opportunities through customer-centric product innovations; two, OTIF rates in our fulfillment centers; and three, a strong focus on adjusted EBITDA improvements.

To help us achieve our top priorities, we announced the creation of our consumer products team and the further division of responsibility between key executives. This quarter, we have continued to drive forward in this area and most recently, we announced a company-wide realignment of personnel, reducing some roles, opening others and streamlining decision-making across our company for greater accountability. The result was a net reduction of approximately 6% of our total workforce across our corporate offices and fulfillment centers, representing a savings of approximately $24 million annually. Brad will review the breakdown and implications of this realignment in more detail shortly.

As an additional step in our realignment, we performed a review of our real estate and facility needs, including our previous plans to build out a new facility in Fairfield, California. Based on this review, we are no longer pursuing the build-out of Fairfield. We believe our existing facility, in Richmond, California is well positioned to support our West Coast fulfillment operations at this time. Brad will provide guidance on the financial considerations of this decision shortly.

The changes we made to our organization were numerous and should enable us to innovate faster and drive efficiencies. A few examples of these realignment actions included centralizing certain teams including our creative and purchasing functions, reducing resources in areas that will benefit from new systems and processes such as human resources and IT and allocating additional resources to areas such as operational strategy as well as opening up new positions on our consumer products team to invest in future growth opportunities.

I'm also pleased to announce that Lainie Cooney has recently joined our team as Chief Human Resources Officer, reporting directly to me. Lainie has over 20 years of experience at companies across the food, retail and financial services sectors including Stage Street (sic) [State Street] and Home Depot. She was most -- she most recently served as Chief Human Resources Officer at DPI Specialty Foods, a nationwide specialty food distributor with thousands of employees across 8 distribution centers. Lainie's leadership will be invaluable as we continue to develop our people and strengthen our processes, culture and organization.

On our last call, we spoke about the unexpected costs associated with the ramp-up of our Linden fulfillment center and its impact on the rollout of our expanded plan and menu options. At the time, we reported that nearly 1/2 of our customers had access to our expanded product offering. I am pleased to report that subsequent to the end of the third quarter, we did complete this rollout and now 100% of our customers have access to our expanded product offering. Our initial indications, although early, show improvements in both order rate and retention when comparing customers who received the product expansion to those who had not yet received it. Product expansion is an ongoing journey for us and we plan to continue to build on this success. The completion of the recent product expansion was tied to the transition of all remaining volume from our Jersey City fulfillment center to Linden which I'm also pleased to report is now complete. Specifically, in the second and third quarter, the total national volume serviced by the Linden facility increased from 3% to 29%, respectively.

Now Linden is servicing approximately 50% of our national volume. Even with our significantly increased product volume in Linden, we have stabilized OTIF, which is encouraging. We are also no longer running 2 East Coast fulfillment centers concurrently. And starting in the fourth quarter, we will be taking steps to eliminate certain duplicative costs.

Now that we have completed the transition of volume to Linden, we are focused on achieving the OTIF and margin improvements that we expect from a center with its level of investment and capability. To give you a sense of where we are now relative to our potential, in Q3, Linden performed at a margin that was significantly lower than the average of our existing centers. The opportunity we have ahead of us is to improve Linden and make it our most efficient center. We have already seen some progress on our action plan items. And while this is encouraging, it is too early to conclude that we have achieved sustained and meaningful results. Sustained progress is the key to unlocking the improvements in lifetime value that we seek to help fuel growth.

Finally, while our immediate priorities are to focus on OTIF rates and margin improvements, I'd like to share some of the exciting product road map and brand-building initiatives that we've been working on. First, we have been making improvements in how we merchandise recipes based on customer insights around taste preferences and cooking attitudes. For instance, we have continued to feature our new 30-minute meal options and are seeing increased interest in these selections in our early results.

Additionally, throughout September and October, we featured our all-time customer favorites and merchandised them in conjunction with our company 5-year anniversary celebration. We think the promotion was a great way to engage our customer base and plan to incorporate the learnings from these programs into our ongoing cycles and leverage known winners more often.

In September, we completed a recipe integration with the television series MasterChef on FOX. Over 5 consecutive weeks, we featured 10 recipes that were inspired by MasterChef contestants across our 2-person and family plan menus, allowing our customers to cook and taste the winning dishes in real time after seeing each episode. We saw a lift in engagement from our customers around the recipes, and the partnership enabled us to reach an expansive audience.

We also recently launched a podcast and cookbook. Our podcast called Why We Eat What We Eat explores the unseen forces that guide and influence the decisions people make about food and can be found on iTunes and Spotify. Our cookbook, titled The Blue Apron Cookbook, 165 Essential Recipes and Lessons for a Lifetime of Home Cooking was published by HarperCollins and can be purchased both online and in traditional bookstores around the country. We're particularly proud of how the cookbook came out, and I shamelessly suggest everyone on this call pick up a copy.

Initiatives like the cookbook and podcast are exciting from a brand-building perspective in that they help us continue to build culinary credibility and relevancy as well as reach customers in new channels. Such strategies can also be connected to our customer life cycle and used to activate our powerful and engaged community in social media and elsewhere to ultimately drive purchases in our weekly recipe sales cycle.

Looking forward, we have a number of additional meaningful projects on our road map, including further expansion and flexibility in our recipe offerings to better serve both existing and new customer segments.

While our near-term results have been impacted by the OTIF and margin challenges in our fulfillment center network, we are focused on the right items to position our business for long-term success. While not diminishing the immediate work ahead, I'm encouraged by the recent progress we've made in mobilizing against our top company priorities. I'm incredibly proud of the brand we have built and how hard our team is working to execute in order to deliver for our passionate community of customers as well as create value for our shareholders.

Thank you for your time today. And with that, I will turn the call over to Brad.

Thank you, Matt, and good morning, everyone. As we articulated in our second quarter earnings call, we expected our third quarter performance to reflect a period of continued transition as we remain focused on implementing our product expansion rollout, completing the transition of volume from our Jersey City fulfillment center to Linden and managing expenses to fully align our investments with our current view of the business balanced with our focus to capitalize on longer-term growth opportunities that Matt outlined.

In the third quarter, net revenue increased 3% year-over-year to $211 million after more than doubling that revenue in the third quarter of last year. Growth this quarter was largely impacted by the planned decrease in marketing spend of more than 30% year-over-year that resulted in fewer new customers as we focused on the operational challenges that arose during the transition of volume to our Linden facility.

Marketing as a percentage of net revenue decreased to 16.3% in the third quarter compared to a high period of marketing spend in the prior year of 24.2%. As previously guided, we planned a reduction in marketing as we worked through our transition to Linden while fully -- while fulfilling certain already-committed offline marketing obligations.

Cost of goods sold excluding depreciation and amortization as a percentage of net revenue was 78.1% compared to 70.9% in the third quarter of last year. This 720-basis-point increase was primarily due to a 410-basis-point impact from increased labor costs due to the launch of new infrastructure to support our product expansion initiatives, including the transition to Linden, and wage increases implemented earlier in the year across our fulfillment centers.

Additionally, a 260-basis-point impact from food and product packaging costs, largely from the expansion of our product offerings and increased use of premium ingredients in our recipes to better align recipe rotations with customer preferences.

Product, technology and general and administrative, or PTG&A costs, increased 31.2% of net revenue in the third quarter from 22.2% of net revenue in the prior year, attributable to increased personnel costs and higher facilities costs. As discussed in our last earnings call, there were also 2 separate expenses. First, we reported a noncash impairment charge in the third quarter of $6 million primarily related to the transition of all Jersey City fulfillment center operations to Linden. As Matt just mentioned, the volumes in Jersey City are now fully transitioned, and we are exclusively focused on improving performance at Linden.

And second, other expenses included a noncash loss of $18 million related to the automatic conversion and settlement of the convertible notes on the closing of the IPO on July 5. Net loss was $87 million compared to the prior year's period net loss of $37 million. Adjusted EBITDA was a loss of $48 million in the third quarter compared to a loss of $35 million in the third quarter last year.

From a liquidity and capital resource perspective, our cash and cash equivalents was $266 million as of the end of the third quarter. We closed our IPO of 30 million shares of Class A common stock on July 5 generating net proceeds of $278 million. Capital expenditures, including amounts in accounts payable, were $11.5 million in the third quarter, significantly down from earlier in the year as we have substantially completed the build-out of Linden. As we look towards the remainder of the year, we continue our hard work to stabilize the operations in Linden and remain focused on improving our overall performance.

As stated in our earnings release issued this morning, we reiterated our overall financial outlook for the second half of 2017 while updating our net loss estimates to reflect the recent company-wide realignment actions that I will speak to momentarily.

Specifically, net revenue for the second half of the year remains in the range of $380 million to $400 million. Coming off our third quarter net revenue of $211 million, we are anticipating revenue to be lower in the fourth quarter compared to the third. This is primarily a result of our increased ability to pull back marketing commitments in the fourth quarter compared to the third quarter as well as natural cadence of business.

We continue to expect cost of goods sold as a percentage of revenue of 74% to 75% in the back half of the year. This reflects our expectation of a significant improvement in cost-of-goods-sold efficiency in the fourth quarter compared to the third quarter. Greater than 1/2 of this improvement is driven by favorable seasonal packaging and produce that naturally occurs in our business as we shift from summer season into the fall. There's also a modest expectation that we will have operational improvements in Linden, particularly in labor costs due to the completion of the transfer of volume from our Jersey City facility. As previously guided, marketing as a percentage of revenue in the back half of the year is expected to be in the range of 15% to 16%. This represents a fourth quarter reduction in marketing from the third quarter, which reflects our increased ability to pull back on marketing as we work our way through the back half of the year.

PTG&A spend is expected to be similar in the back half of the year compared to the front half of the year. The full financial benefit from our organizational realignment action is anticipated to begin in 2018.

We expect a noncash charge of approximately $5 million to $8 million in the fourth quarter related to our decision in October not to pursue the build-out of our leased property in Fairfield, California. We are exclusively focused on optimizing our current fulfillment centers while also exerting financial rigor. This expected charge will be recorded in other operating expense and will be added back to adjusted EBITDA.

As a result of the actions taken, net loss in the second half of this year is projected to be $131 million to $138 million with adjusted EBITDA loss still expected at $70 million to $75 million. Note this guidance includes consistent reconciling items between net loss and adjusted EBITDA that we discussed in our last earnings call except for the following: a fourth quarter noncash charge of approximately $5 million to $8 million relating to our Fairfield property that I mentioned earlier; depreciation and amortization in the fourth quarter similar to amounts in the third quarter; we also anticipate weighted average shares in the fourth quarter towards the higher end of our previously provided range of $183 million to $188 million.

As you know, we've recently realigned our organizational structure to more appropriately reflect the current performance of the business while maintaining our ability to pursue our strongest growth opportunities. These decisions are never easy and resulted in the net reduction of approximately 6% of the company's total workforce across our corporate offices and fulfillment centers. We expect to incur approximately 3.5 million employee-related expenses, primarily consisting of severance payments, substantially all of which will result in cash expenditures to occur in the fourth quarter.

These payments will be additionally added back to adjusted EBITDA. As a result of the realignment, we project total annual savings of approximately $24 million beginning in 2018, including $18 million of PTG&A savings and $6 million of cost of goods sold savings.

In summary, I want to reinforce that we continue to be extremely focused on operational improvements and determined to minimize the financial impact these issues have on the business while simultaneously expecting -- executing on our strategic initiatives to drive long-term growth. I greatly respect our team's focus, determination and resilience to drive near-term results. Thank you. And with that, we'll now take your questions.

(Operator Instructions) Our first question comes from Matthew DiFrisco of Guggenheim.

My question is sort of twofold. I was curious about if you could talk a little bit more about the rollout of the new products and the expansion of that. I mean, is that -- can you give us some metrics around that on how that looked in the quarter as far -- or is it too early to tell, as far as percentage of sales? Or how much of the mix is that? I know in the past you've given us the breakdown sort of as families of the meals of 2 and the meals of 4? Can you give us somewhat of an intel early on, on the velocity and the penetration or the mix that they represent now, the newer products coming out there and the 30-minute meals, in particular?

Yes. So it's a good question, and I can't share a ton of specific data with you on that, but what I can say in terms of the rollout, as we mentioned on the call, we didn't complete the full rollout to 100% of our customers until after the end of the third quarter. And so throughout the year, we had been slowly rolling it out across the country. The completion of the rollout was tied to the completion of shifting the remaining volume from Jersey City to Linden. And so we are still in the early days of seeing the full implications of what that does to our customer economics. That being said, what I can say is that as we rolled it out across the country and we've done controlled experiments observing the differences in behavior between customers who did and did not have the expanded product offerings, and what I will say I'm talking about that as a separate topic than just how we are constructing the menus with things like 30-minute meals and customer favorites, I'm talking more about more flexibility in choosing our recipes, ability to choose more or less recipes and having more recipes total on the menu. We saw some good results on that in terms of what it does to customers' order rates, customers' monetization, revenue per customer, profit per customer and the like. And so we were encouraged by those early results, but we are still watching that. Product expansion is an ongoing journey for us, and we continue to build on that and will continue to build on that now that we have the infrastructure and capabilities in place to more flexibly do that in the future. As it relates to the 30-minute meals and customer favorites, it's hard to give specific numbers on that as we're still analyzing that as well. But what I can say is we did see increased interest in those. We've gotten some very good feedback on that. And part of the contribution to our improvements in average revenue per customer in the quarter, and I would encourage folks to look at our average revenue per customer metric as a key metric to track quarter-to-quarter are driven by those optimizations that we've made in the mix of recipes on the menu in a given week. We've actually been very focused on how we construct those 12 recipes we create every week. And we see ourselves as having made some improvements there quarter-over-quarter and we'll continue to do that.

Okay. I guess, just to tie that back to the sort of the financials. And you mentioned the direction, obviously, this will generate also better profit per customer, and then you've seen a mix towards more tenured customers in getting rid of the sort of the guys that were not really of the cooking lifestyle probably and were going to flip through quickly. When and how does this -- I mean, does this all conclude to that -- the 30-minute meal, the customer favorites? And if these become greater SKU -- a greater percent and skew more of your meal store towards this, this is a better margin business and a better sale overall than what you've done, say, traditionally or prior?

I wouldn't comment on the margins of 30-minute meals or customer favorites versus our other historical recipes only because they all vary every week. And if you think about our business, 30-minute meals is not one monolithic product line. Every single week, it's a different recipe. And even with the customer favorites, they're different recipes frequently. And so we construct our margin mix from a food cost and labor cost and product cost basis on a weekly sales cycle basis to hit aggregate targets based on the mix that we think we're going to use. In some recipes, we make bigger margins on. Some recipes, we make lower margins on. And we use that aggregate portfolio to drive the sales and profit performance that we are looking to achieve in that given week.

Excellent. Just one last follow-up question and then I'll pass it off. Does the not going forward with California and Fairfield, does that change any bit of your plans to expand the product? Was this the West Coast Linden that was going to unleash another level of capability? Or is this not sort of -- or are they not correlated?

I'll take that one. This is Brad. The truth of the matter is with Linden coming online and the capabilities of Linden, we are raising our capacity holistically across the country pretty substantially from where we were before Linden. So the decision on Fairfield is more around looking at our overall near-term capacity needs with Linden now coming on board, and Linden gives us plenty of capacity for the foreseeable future for us. If you think about just the growth in capacity we had from putting Linden on board, it's roughly an 80% plus increase in capacity of square footage compared to where we were before. Plus the fact of the matter is, is that it's much more highly automated, too, so -- which would give us even additional throughput beyond that. So the reality is Linden gives us plenty of capacity that we can use and helps us use holistically across the country to some degree.

Our next question comes from Michael Graham of Cannacord.

I just wanted to ask about any qualitative information you can give us on sort of the customer metric in the quarter. You've got gross edge churns, deactivate -- people who go dormant and then come back into the mix and I know you don't want to disclose those but I'm just trying to kind of map what's going on with the customer base to the Linden completion and your marketing spend. I know you pulled back on marketing and you're going to be sort of keeping it reserved in Q4 and then maybe coming back at the beginning of the year but trying to get an understanding of how much of the customer sluggishness is related to your decisions to be -- temper your marketing spend versus other things like competition or churn.

Yes, it's a good question. I would say to the extent I can point you to numbers and metrics there, obviously, we don't disclose or think about our business in that more detailed way that you mentioned. I would point you to the marketing spend. And in terms of thinking about what drives customers for us in a given period, marketing is a heavy driver of customers. And so as we mentioned, we reduced our marketing costs 31% year-over-year with a much-lower-than-that decline in customers. And so we think that the primary driver of our customer performance was our marketing performance. And the strategy that we have around how we drive customer and order activities with marketing. Certainly, the Linden fulfillment center launch impacts how we chose to stage our marketing because of the returns that we like to generate from our marketing are impacted by the margins in the quarter, and so that was part of that. And as we mentioned in the last call, we did see some impact on customer -- revenue per customer from some of the challenges in Linden. But as you would see on net, we did increase revenue per customer year-over-year this quarter. So that's what I would point you to. And I think that in terms of looking at how our customer patterns evolve in the future, quarter-over-quarter, the marketing budget is a key thing for you to track and watch.

Michael, this is Brad. I'll just add on to that a little bit. Obviously, the spend of marketing which drives a lot of new customers impacts kind of all our metrics pretty substantially and changes those metrics relative to average orders and revenue per customer and so forth. So in quarters that we're growing a lot of new customers versus quarters that we -- like this past quarter where we pulled back in marketing and added less new customers, that obviously has an impact on those numbers relative to the tenured customers that start the quarter and end the quarter and so forth. And then your comment around kind of going forward, and I'm just going to kind of add to what Matt said, I think just -- we're not giving guidance past 2017 obviously today, but it's important to know obviously that margins are a very, very important part of our business. So we're very focused on OTIF right now. We're very focused on getting margins in the right place as we transition fully into Linden and now we have product expansion rolled out. And obviously, healthier margins in the future at some point would give us the ability to have marketing investments that are a lot more attractive. So we're not giving guidance on '18, but margins and the help of margins are a very, very important part of our financial health.

Our next question comes from Kerry Rice of Needham.

A couple of questions. One, obviously, the Linden facility is your most highly automated facility or at least was. Can you talk about -- are you doing anything related to the automation in the, like Richmond and Arlington facilities? Have you started that process? Are you going to embark on that process? And then the second question is have you started, with the new product and the flexibility around the menu, started to segment a little bit more on targeting consumers? I know you had previously talked about whether it's with the BN Ranch acquisition maybe do meat lovers or a barbecue over the summer or vegetarian or so forth, if you can give any insights on that. And then one housekeeping. Did you mention what OTIF was for Linden earlier in the call? If you did, I missed it.

I will try to get to all 3 of those. So the first question on what are our plans for automation in our other centers, other than Linden. What I will say is, is over the course of the last year, we actually did install a number of more automated technologies in our older centers in order to have them both support the product expansion and in order to generate ROI on investments from a cost structure perspective. And so we do have some of the technologies that we have in Linden in our other centers already today. There are some modest additional technologies that we are landing across those centers on an ongoing basis. But as Brad mentioned, our capital expenditure expectations are fundamentally different looking forward than they had been over the last year or so. And so, Linden has the most capabilities. And we are still, quite frankly, finishing the installation and turning on some of those incremental technologies in Linden like new food manufacturing equipment and working through some of the kinks in -- on uptime and efficiency for some of the technologies that we have installed there like pick-to-light technology and the like. And so there's more to come there, but it is not in aggregate nearly of the size and scale that we've done historically.

The second question, I believe, was around the product expansion and have we begun to see -- well, one, I mentioned we'd seen some of the benefits on product expansion from offering more flexibility and more choice. And part of the reason that we see that benefit is because we recognize that we don't serve just 1 segment of monolithic customers. We have a diverse segment of people with different cooking attitudes and different taste preferences that cook with us. And so part of what we are achieving with 30-minute meals and with customer favorites and with just generally optimizing the kind of proteins and ingredients and SKUs we work with on menu is thinking about serving those different segments differently. So for instance, you might imagine we have 1 segment of customer, which is a major cooking enthusiast who likes to try new things who likes to discover new ingredients, and we have another segment of customer who thinks that cooking is a little more functional, something they're just trying to get a healthy, affordable high-quality dinner on the table for their family. And so that's part of what we're doing and by offering more choices and more flexibility allowing us to serve that diverse segments better, and as I mentioned, we are encouraged by the results that we're seeing there. With respect to OTIF, that's not a metric that we specifically mentioned, but we were highlighting it as obviously a key one that we're tracking to measure the leading indicators of progress in Linden and elsewhere. And so I don't expect we'll be disclosing OTIF as a specific number on future calls, but we'll try to continue to give you color around how it's impacting the business.

And I think, Kerry, I think it's safe to say with both OTIF and margin, we're not specifically talking about a center-by-center metric there, but obviously, Linden with the largest volume and being in transition and a new center, has the most impact and the most improvement that we look forward to with OTIF and margin. That being the case, even though we have rolled automation out in Richmond and Arlington over the course of the last year, product expansion itself has been more complexed in our centers, too, so in the 2-person plan going from 6 meals to 8 meals and also given the option of 2 recipes versus just 3 recipes per week add some complexity too, so. By far, again, Linden is the greatest opportunity for us, but we also do see opportunity in Richmond and Arlington as we work our way through product expansion also.

Our next question comes from Heath Terry of Goldman Sachs.

Matt, I'm wondering if you could give us a bit of an update on your view on the competitive environment now. Just trying to get a sense, particularly as it relates to marketing, what kind of spend you're seeing in your performance channels and I understand you guys are obviously making your own sort of idiosyncratic decisions about your budgets but sort of how that is impacting customer acquisition.

Yes. It's a good question. So I think it's obvious we are in a highly dynamic category. There's a lot of interest in our category, both from consumers and competitors and broadly speaking. It's not because it is such a big category, as you know, and we're going after a really, really big prize. We've had a lot of competition in our business since the very first day we launched our business, and so nothing has really fundamentally changed in terms of the competitive landscape in the recent quarters. I think our marketing budget, as you know, has been driven largely by internal factors impacting how we want to stage and spend marketing and how strategically we want to stage our growth and our product expansions. And so I think, obviously, things like market share are things that we look closely at. We're very proud of the fact that we are the market leader in the United States and have been for the history of our company. But market share isn't the only factor we look at when thinking about our marketing budget, and we're very focused, as we mentioned, on driving growth and profitable growth. And so we don't spend marketing at any cost. In order to drive growth, we look at generating attractive returns, and we're focused also on having a strong balance sheet and that's -- gets back to why the margin equation. And obviously, we had a reduced margin this quarter. It's so important to us so that we can drive strong growth and strong profitable growth over a long-term time horizon. And so that is how we're thinking about it, and we will continue to be the best we can be on a product innovation perspective to stay ahead of the competition just as we have done since the very first day we launched the business, over 5 years ago now.

Our next question comes from Mark Mahaney of RBC Capital Markets.

Two questions please. On the customer base, can you provide any color on what percentage of your customer base now is tenured or give us some sense about what your base level is in that customer base? How much further the customer base could decline? Or any sort of color that suggests X number or X percentage of those customers have been with you for 6 or 12 months or something like that to help us think about what trough could be like or base levels could be like on the customers? And then, in terms of marketing spend and picking that up, do you already have line of sight as to when you want to do that? Or is that still purely conditional -- is that totally conditional on operational improvements in the metrics that you track over the next 3 or 6 months at Linden and the other facilities? Do you already know when you're going to reaccelerate marketing spend? Or is it still conditional on a, b and c?

I think both of those questions kind of point to the same answer, and you just kind of mentioned it at the end of your question there is, is that margin's a key driver of this going forward. So the ability for us to continue to work our way through product expansion and specifically work our way through the Linden transition is really, really important for us relative to the attractiveness of marketing spending growth in the future. So focus on getting OTIF in the right place. Focus on getting margin in the right place is really going to be a key driver of our ability to reinvest the marketing and grow our new customer base going forward. So can't give you a time line right now but I can tell you this, the leading indicator will be our margins getting back to where we would like them to be and obviously, OTIF getting into a healthy zone, too. So we're excited about the fact that we've fully transitioned both in product expansion and to Linden. That's a great opportunity for us now to start to optimize as we work our way through the rest of this year. We just really have to kind of see how things go the rest of this year to determine what 2018 looks like and when we can start to press the pedal down on marketing investment again based on those metrics. As far as your question around customer base and tenured and so forth, it does go back to marketing again. So obviously, when we pull back on marketing, the biggest impact to that will be new customers, which will automatically skew you to more tenured customers when you pull back on marketing. So we saw that in Q3. We'll see that in Q4, obviously, also as we talked about in my prepared remarks. We're going to be pulling back on marketing even more so in Q4 than Q3 as we continue to focus on OTIF and operational improvements. So again, I would expect that -- when we do that, your customer base will swing more towards tenured versus new. And the ability, again, for us to swing that the other way would be when margins and OTIF are in the right place and reinvest in marketing and start to grow our new customers again at some point in the future.

Our next question comes from Ross Sandler of Barclays.

Two questions for me. Can you guys talk about -- the last 90 days, you've ramped up national volume at Linden. I think you said 29% to 50%. Could you -- what learnings have you unpacked and are -- how much of the kind of kinks have been ironed out and can you, just like stepping back, remind us, with this new automation, what is unlocked in terms of future innovation and product in recipe and selection for the business once all the transition issues are done? And then the second question is going back to the order frequency question from earlier, the orders per customer increased in 3Q. I think Bradley said it was -- most of the new product changes didn't get rolled in until the very end of 3Q. So was that just a function of less volume on the new customer side in the third quarter, and that we should continue to see that improve as we go forward? Just any comments on order frequency looking forward?

Let me take that last question first, and then I'll pass it over to Matt to talk about learnings from Linden and so forth. On the order frequency, you're right. So obviously, a pullback in marketing means less new customer growth, more tenured customers that are with you throughout the whole quarter. So that does impact those metrics to some degree. That's probably the biggest driver of some of those metrics is this kind of year-over-year change and obviously last year, we were spending a lot of money on marketing and growing a lot of new customers versus this year. So that probably has some of the biggest impact on those metrics more than anything. It's just the fact that we're more tenured this year because we pulled back on marketing. As far as what that means going forward, it's the same thing again like when we pull back on marketing or spend into marketing, that will impact new customers and that will have a natural impact on some of those numbers. That being the case, to Matt's point before, a lot of things that we can do on average revenue per customer are really important for us to continue to focus on so more recipes to choose from, the ability to have less or more recipes per week, 30-minute meals, all the things Matt talked about, we are seeing early signs although very early. And we anticipate and expect in the future that those things would have a benefit to some of our metrics around ordering more, more revenues per customer on a regular basis and so forth. But really again, too early to tell exactly what -- how much that will come into play until we kind of fully see that roll out into the future. And obviously, another important part of that is getting OTIF and margins in the right place, too, so we can get back to kind of the normal cadence of marketing spend.

With respect to Linden, there are a lot of learnings from Linden, obviously. I think one of the things to consider in understanding the performance and the ramp-up of Linden is how much volume we transitioned from our Jersey City center to our Linden center and how quickly we did that. I think we did that ambitiously and perhaps a little too ambitiously in terms of how we ramp that center and the management bandwidth that was spread between those 2 centers. And so I think that, that was one learning but something that we powered through and are happy now that all of our management attention is focused on one East Coast Center, looking forward. I think part of that includes learnings about employee onboarding, employee training to make sure that as we onboard hundreds and hundreds of new employees working through new, more complex processes that we're really focused and we are going through extensive trainings in our fulfillment centers to acquaint employees with the change of management and the new processes and new equipment that we have there. So I think there is some good learnings from that, as well as with new equipment installations and food manufacturing technology, the support and uptime considerations and the change of management associated with that. And we did have some challenges during the quarter when we installed new equipment in terms of the time it takes to get them installed and up and running and performing to expectations. And so, I think none of these things in and of themselves are super complex, crazy things that we shouldn't be able to figure out. It's just we did a lot in a short period of time, and it was a pretty ambitious plan. And so I think we've learned from that. And we're really focused on getting all those things right and hope to see the benefit from the investments that we've made in Linden in those capabilities over the coming period of time.

Your next question comes from Rupesh Parikh of Oppenheimer.

So I also had a question on the competitive environment. So we saw Albertsons' recent acquisition of Plated. So I was just curious, based on your surveys, is there a desire from your consumers in terms of potentially picking up meal kits versus having them delivered. And also, I just wanted to get a sense, just given some of the competitive developments, how you guys potentially think about partnering with retailers?

That's a good question. What I will say and I've spoken about this a little bit in abstract is that we are serving a wide group of consumers out there, and there are different segments of consumers. There are some customers who just hate the grocery store. They don't want to go to the grocery store. It's an awful experience for them. They just want someone to stock their fridge for them every week, and they don't want to ever think about it. There are other customers who love the grocery store. They've been going to the grocery store for decades and they have a great relationship with their grocer. They love touching, feeling the product. And I think we think over the long-time horizon, certainly more and more dollars are going to shift online from offline grocery, but that's not a transition that's going to happen overnight. And in fact, I think one of the things we believe is that different customers are going to want to get their groceries, their food, meal experiences like the ones we offer included in different ways that serve them depending on what's convenient for them. So we do see an opportunity for products like ours in other kind of channels other than direct-to-consumer delivered e-commerce. And I think that's certainly something that has a different cost structure, has a different inventory model, has potentially different kind of segments and product design that it serves but is an interesting expansion and business opportunity for our business and the like. And so I think we've done some partnerships in the past. We've certainly always routinely looked at opportunities to expand our brand reach and expand the way and improve the way that we serve our customers and reach new customers. And so partnerships are things that we look at on a case-by-case basis.

Our next question comes from Brian Nowak of Morgan Stanley.

This is John Lanterman on for Brian. Just another question on sales and marketing. This expense line item has fluctuated a fair amount in the past year. How are you guys thinking about spend here? Specifically, what are you guys finding effective? What works best? Is it order discounts, referrals, search, TV, radio? And then maybe what isn't working? Where are you pulling back on spend?

Well, I think as we've been looking at staging our marketing budget, there are a couple of considerations we take into account. Obviously, we mentioned the direct returns on marketing spend as it relates to customer lifetime value and the impact of quarterly fluctuations in margin on driving that. And then there's seasonality components to how we stage at as well. As we thought about scaling and staging our marketing budget, in periods where we decreased the total budget that we're working with, we see opportunities to spend incrementally on more efficient channels as a mix of our total budget. And generally speaking, that is the online channels versus the offline channels where we're shifting some of our spend in recent quarters more towards that offline mix as a percentage of total. So we do see opportunity there. We do -- have been looking at things like product marketing and monetization marketing that are not just acquisition-oriented and thinking about how we unlock incremental profit opportunities and revenue opportunities through that kind of marketing as well. That's been an increasing focus of ours, and we continue to planning to take a look at that.

Our next question comes from Mark May of Citi.

I apologize if these have been asked already, but what role, if any, did changes in plan mix have on average revenue per customer in the quarter? And another question is I know last year -- or I think last year in Q3, you -- is a fairly competitive period, and you guys decided to sort of lean into that and to spend pretty meaningfully and aggressively. This year, it appears that you're taking a different tact, I guess. I'm trying to understand a little bit if that's -- what you -- kind of what's going on here is that you're basically rethinking your allocation of marketing spend seasonally. And if that's the case, how we should be thinking about your marketing spend going forward from a seasonal perspective.

So first question on the plan mix. It's been relatively stable and consistent over the last few years since we put our family in plan in place of the mix between the 2-person plan and the family plans. So there's not any -- really significant changes there that we've seen. It's been relatively consistent across quarters. So no change there. Obviously, in our 2-person plan going forward, now that we have 2 recipes versus 3 recipes where you to choose from, there's a mix factor there that, again, with rolling this out recently and completing the rollout of product expansions pretty -- very, very early to tell what the impact of that would be, if anything. So we'll kind of look at those metrics as we go through Q4 and early next year of seeing how much of the mix shift between the 2 of those choices for a 2-person plan. As far as the marketing spend, this really goes to a couple of things. One, yes, we were very aggressive last year in our spend. And then also, if you remember, we had talked earlier in a previous earnings call about being more promotional also in Q3 last year, too. So that's part of this also. The difference in tact this year is not really -- it's not really more strategic or seasonal than it is about the conversations that we've been talking about relative to really focus on getting our customer service levels and OTIF back in the right place, focus on operational improvements. Product expansion has been -- is a pretty big change for us. So it's been challenging across our facilities, let alone in Linden, which is a brand-new facility that's 3x the size of the older facility. We got a lot of work to do on the operations side. Again, we're fully rolled out in product expansion. We're fully transitioned to Linden Q4 and as we roll in to next year, it's a great opportunity for us to continue to focus on improvements there, get our margin struction back in -- margin structure back in line and with that, gives us the ability to invest in marketing and have good returns on marketing. So the reflection of the year-over-year change in marketing is more about the internal focus of us getting our operations in line, getting margin structure in line than it is really any kind of strategic seasonal strategy at this point.

If I could ask a follow-up, can you comment on the percent of revenue that came from repeat orders and how a repeat orders AOV kind of compares to the average?

We don't really discuss those metrics on a quarterly basis. And again, I would say it's a little challenging when we go through this change we're going through the back half of this year and pulling back on marketing, which tends to shift your customers more to tenured versus new customers because of the pullback of marketing. With a lot of the operational things we're focused on right now, it's a little bit tough to really say what the impact of some of these things are on all these metrics together, let alone the fact that, that's one we probably don't really talk about on a quarterly basis as much as we give kind of maybe go on a -- on a go-forward more than an annual basis.

Our next question comes from Youssef Squali of SunTrust.

Not to beat a dead horse on this marketing spend, but I think it is a crucial question. So basically to reaccelerate the marketing spend, that's dependent on margins and OTIF. I think, Brad, I think you mentioned 3 or 4x now that you won't do that until those metrics are at the right place. So OTIF, you're not disclosing. Margins, we do have. So is there of a wave or a threshold of where margins -- where you would want margins to be before you reaccelerate the marketing spend? Maybe you can just help us understand, of that 700-basis-point decline in gross margins, how much of that is going to be low hanging fruit i.e. transition costs that will disappear and how much and basically how long it will take to hopefully get those margins back to a level or at that right place. And then I have a quick follow-up.

Okay. So a couple of things there. One is what margin structure are we pointing towards. There's not a specific margin number in mind. Obviously, we have seasonal components to margin also. So looking at margin more holistically on an annual basis, there's not an exact number we're pointing towards because there's so much connectivity between margin and marketing return and all the other metrics we're talking about that have to be taken into consideration kind of in a balance. So that's important to note that. Although we obviously want to and need to see margin improvement to reinvest in marketing, it's not the only input to those decisions around how much we spend and lean into growth. There is a lot of components that we've talked about historically around seasonal parts of the year where customers are more engaged and less engaged and so forth. So there's a lot of input to that. But that being the case, obviously, as we're speaking here a lot today increase in margin and margin improvements are very, very important. Now as we look from Q3 to Q4, there are some important seasonal -- natural seasonal components of margin that we should just absolutely see improvement in going into Q4, things like summer packaging. Obviously, in the summer months, we have to put more packaging into our boxes to keep the product cool. That also increases, not only packaging costs, but shipping costs because of weight so there's some natural cost here that start to go away as we head into the fall months. In addition to that, we tend to lean into more seasonal produce and specialty produce in the summer months. That also comes at a little bit of a higher cost. So as I said my prepared remarks, just naturally moving from Q3 to Q4 and looking at the increase that we're anticipating in margin, probably a little bit more than 1/2 of that is just really coming from kind of a natural cadence of seasonal things that go on in margin and the rest of that in Q4 will be really improvements that we see across our facilities, specifically in Linden, as we continue to optimize now that we're fully transitioned. Again, as we roll forward this year and roll into next year, beyond what we have is probably a modest improvement in Q4 that we anticipate in some of the operational things, we would anticipate that as we roll into next year that we have, again, tremendous opportunities to continue to improve margin going forward. Again, I can't give you a specific number we're shooting for. Obviously, we're going to talk about 2018 in a lot more detail on our next earnings call. I can probably give you a little bit more flavor around where we see margins and where we want to see margins going forward, and how that would impact our marketing spend and growth in future quarters.

And then, lastly, on...

(technical difficulty)

I know you're not guiding to 2018, but are we at a point now where, particularly considering the decision you've made about California that 2018 should already start showing what maintenance CapEx should be? Or do we still have instances of heightened spend in 2018?

Yes, if you just go through the previous guidance I gave on CapEx back in the earlier call in August, I basically guided to a $20 million CapEx number in the back half of '17 and an additional range of $20 million to $60 million throughout all of '18. We are sticking to our $20 million guidance for the back half of '17. So again, we spent about $11.5 million here in Q3 so we'll have a little bit more in Q4. The $20 million to $60 million range in '18, we really haven't spent enough time yet kind of going into detail and analyzing that. It's a pretty wide range. I would expect when we talk to you in February around '18, we'll probably narrow that range somewhat, but I would also expect that from a 2018 CapEx perspective with Linden built out, with automation equipment mostly in place and with plenty of capacity in the foreseeable future, that I think to your point that you're going to have more of a normalized CapEx number here in the back half of '17 and '18 versus what you saw from us maybe in the front half of '17 and the back half of '16.

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Salzberg for any closing remarks.

Thank you, everyone, for your time today. And we're looking forward to continuing the conversation next time.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.