Good day and welcome to the Stitch Fix Third Quarter 2018 Earnings Conference Call. Today's call is being recorded. At this time, I would like to turn the call over to Mr. David Pearce, Head of Investor Relations at Stitch Fix. Please go ahead.

Thank you for joining us on the call today to discuss the results for our third quarter of fiscal 2018. Joining me on today's call are Katrina Lake, Founder and CEO of Stitch Fix; Paul Yee, our CFO; and Mike Smith, our COO. We have posted complete Q3 financial results in our shareholder letter on the Investor Relations section of our website, investors.stitchfix.com. A link to the webcast of today's conference call can also be found on our site. We would also like to remind everyone that we will be making forward-looking statements on the call which involve risks and uncertainties. Actual results could materially differ from those contemplated by our forward-looking statements. Reported results should not be considered as an indication of future performance. Please review our filings with the SEC for a discussion of the factors that could cause our results to differ. Also, note that the forward-looking statements on this call are based on information available to us as of today's date. We disclaim any obligation to update any forward-looking statements except as required by law. During this call, we will discuss certain non-GAAP financial measures. Reconciliations to the most directly comparable GAAP financial measures are provided in the shareholder letter on our Investor Relations website. These non-GAAP measures are not intended to be a substitute for our GAAP results. Finally, this call in it's entirety is being webcast to our IR website and a replay of this call will be available on the website shortly. I'd now like to turn the call over to Katrina.

Thanks, David and thank you for joining us today. After the market closed today, we issued our quarterly shareholder letter with more details on our results, which I encourage you to read. I'll take a moment to highlight our results from the third quarter and discuss how we are executing against our strategic roadmap. We delivered strong growth in Q3 exceeding both our net revenue and adjusted EBITDA guidance for the quarter. We grew our active client account to 2.7 million as of April 28, 2018, an increase of 614,000 and 30% year-over-year. We delivered net revenue to $317 million, representing 29% year-over-year growth which exceeded our guidance. We drove strong growth across our women's and men's categories and looking to future growth opportunities, we are excited to discuss our newest category launch in a moment. Q3 also marks the fifth consecutive quarter of over 20% year-over-year topline growth. In Q3, we delivered $9.5 million in GAAP net income and $12.4 million in adjusted EBITDA exceeding the high end of our guidance range. These results demonstrate our approach to delivering disciplined growth while continuing to make measured investments in future opportunities for our business. Paul will discuss our financial results in more detail later on this call. Our strategic roadmap consists of three primary pillars for growth. First, is we continue to expand our relationships with existing clients to drive engagement and increasing wallet share by serving them better and through a greater flexibility. In Q2 we announced two initiatives on this front; Style Pass and Extras. Style Pass makes it more friction less for our clients to get fixes and thus allows us to access greater wallet share. While still early, what we are seeing so far is that Style Pass's post-launch enrollment rates continue to track above what…

Thanks, Katrina and hello to everyone, joining us on today's call. I'd like to take a moment to discuss two recent initiatives that demonstrate how we're continuing to integrate technology and data science across our business. In 2017 we began testing an interactive mobile and web-based game with clients that we call style shuffle. Participants are shown a variety of Stitch Fix merchandise which they rate with a thumps up or thumps down. The game allows clients to share feedback with us which strengthens our understanding of client taste and style preferences at both the individual and aggregate level. Style shuffle enables us to collect large volumes of item-specific client feedback in between fix shipments which compliments the rich data we already collect through the initial style profile and at fix checkout. We are currently applying the feedback to our styling platform to better inform stylist decisions, while early in style shuffle's implementation, we're seeing higher client engagement and satisfaction among the clients that use this gain. We also see opportunity to use this data to drive product decisions and further our inventory management capabilities in the future. I'd also like to spend a minute to share a recent operational improvement that highlights the opportunities we have to drive cost efficiencies by applying our technology capabilities. Last November we piloted a program in one of our warehouses to further integrate our technology and proprietary algorithms to view our fix picking process. By April 2018, we'd expanded this initiative to all five of our distribution centers and across both, men's and women's apparel. Shortly after this expansion, we drove the most efficient operational week in Stitch Fix's history. Overall, this initiative has driven a 15% improvement in our house efficiency resulting in significant cost savings. We believe that many opportunities remain to leverage our engineering and data science capabilities, to drive efficiencies and plan to update you on these in the quarters ahead. I will now turn the call over to Paul, who will walk you through our financial performance and outlook.

Thanks, Mike. As reported in Q3 today, we continued our strong financial story. We're delivering consistent revenue and client growth. We have a track record of profitability and free cash flow, and we're making key investments for the long-term. Balancing growth and profitability is a strategic choice we've made, one where we that believe is right for our business and our clients. Even with most of our current investments flowing through the P&L, our profitability and subtle [ph] management of the business have yielded cash flow that we then reinvest. Today's announcement of our upcoming Kids launch, and more broadly, our Q3 results reflect these principles in action. Our shareholder letter provides an overview of our financials for the quarter and year-to-date. Allow me to share some highlights. Our net revenue for the quarter was $317 million, representing growth at 29% year-over-year and above our guidance of 22% to 26% growth. Driving this accelerated growth were our newer categories of men's and plus, as well as our traditional women's offering. While we're pleased with our Q3 results, we expect our net revenue growth rate in Q4 to be more in line with levels we've seen in prior quarters. As context, last year we spend Q3 migrating marketing efforts in-house from outside agencies. [Indiscernible] inefficiencies that help to provide an easier comparison this year. As we've grown the topline, it's worth noting Q3 we also saw expansion year-over-year and about the gross margin and our EBITDA margin. While our commitment to investing for the long-term may impact future margins, our product teams rigor an execution which drove this quarter's results. Gross margin was 43.6% representing a 60 basis points increase from 43.0% in Q3 of last year. This improvement was largely driven by a lower inventory reserve expense, as a result…

[Operator Instructions] And we'll take our first question from Chris Marin with Goldman Sachs.

I was wondering if you could give us a little bit more detail about what drove the upside to guidance in the quarter. I think revenue per active client was flattish in the quarter after declines in prior quarter, so just curious what drove that specifically and if that's something we should expect going forward? And then, maybe from a category perspective, can you talk a bit about what categories outside of women have shown the most progress so far? I guess Plus was highlighted in the letter and I think you mentioned that through 75,000 people in the waiting list; is that the ballpark for active customers or is there any other way we can think about milestones for that category? Thank you.

I'll take your questions on category and then, maybe a little bit just directionally on revenue per active client, and then I'll have Paul take the part on guidance. In terms of categories less than successful, our men's and plus have both been -- have been great addition for the business, and the way to think about those is -- each of those really kind of doubled the audience of available customers and warm bodies out there that could benefit from Stitch Fix with men's of course, that's obvious with women's, there is a lot of research that shows that women -- more than half of women in the U.S. are a size 14 or higher. So these are both totally new audiences for us that were not addressable in our market before and added significant amount of total addressable market opportunity for us. Both of those have been very successful and both are providal lot of -- kind of longer term paving the path for growth. Plus directionally, 75,000 was actually the number of people that were waiting on the waitlist before we even launched the business. So today while we won't be providing exact numbers, the number of people that are benefiting from that service is significantly higher than that and certainly continues to grow. So I think from a category perspective, then Plus size and hopefully, we'll see the same things with Kids, are all great opportunities for us to be able to have many, many tasks for long-term growth and I'm really excited about all of those. In terms of revenue per active client, I think there is multiple dynamics there and so we just talked about the many new businesses that we've entered. Men for example, historically have -- within Stitch Fix have spent about…

Just to add on to our results for the quarter; our 29% retail sales growth was above our range of 22% to 26%, and really going from a driver standpoint, we grew active clients by 30% year-over-year and that was both for our women's and men's categories, and we're really pleased with the efficiencies we've seen with our marketing spend, to track new clients, as well as ability to reengage and engage clients with various tools we have to really please our clients. I think what I'd also note for Q3, we did have as I noted in our prepared remarks, some transition last year from our marketing activity standpoint. So we saw inefficiencies last year that helped boost our quarter growth year-over-year which we're so pleased with. But we expect the growth rate to normalize for the quarter in Q4. Stepping back when we look at the full year, I've guided a 25% to 26% growth and that's certainly reflective of our strategy to drive profits within old growth for long-term and we'll give you an update for the full year in the fall.

Our next question comes from Douglas Anmuth with JPMorgan.

Mike, I just wanted to follow-up on that a little bit more. Just trying to understand the gap obviously tightened up a lot between active client growth and revenue growth; just hoping you could elaborate on that a little bit more. And then, Mike you talked about some of the efficiencies that you gained in terms of logistics and warehousing and everything, and probably you've talked a little bit about what some potential areas could be going forward whether there is still room to gain further efficiencies? Thanks.

I think at a high level to speak to kind of the -- 20%, 30% active client and 29% revenue growth and that being a tighter kind of -- tighter set I guess than they have it in the past quarters. I think those are the countervailing effects. On the one hand, we do expect that revenue per client number to be derived down as we add more and more clients from our newer categories such as men's and eventually kids where -- these are still huge markets that are great longer term growth trajectories for us but where you will see lower annual spend than in the women's business. And then at the same time I think what you're seeing is the benefit of our initiatives, and so to be able to see greater retention, greater engagement, those will all be reflected in wallet share and being a countervailing effect to the contingent composition of our client base. So I think those are the two factors that are at play there. Mike, you want to talk about efficiencies?

Yes, I think there is still a lot more room that we have in efficiencies and getting leverage in the model. I'll talk about two main ones; one, it's just as new businesses scale, we added another warehouse for men's as an example, and we're seeing some -- a lot of leverage just in that business in terms of contribution margin, just by being in three warehouse as versus just two. And, you know, we've talked about in the past, all new businesses start in one to ensure that we've delivered great customer experience but as they get bigger and we get skill, we benefit by being a little have the network of five warehouses where we can start putting those businesses in other warehouses. The second one is just within the four walls of the warehouse; so we talked about the 15% but there is still lot more opportunity I think that was in one area in the warehouse but there is more opportunity for automation and others in the warehouse, as well as continue to use data science to get more creative in picking and just the way we handle return. So I think there is more room for sure and we'll talk about in future calls as we roll those initiatives out.

Just as a follow-up; can you just help us understand how to think about the margin profile around the Kids business and any kind of different dynamics there?

I think it's probably going to be a little bit too early and we're definitely not going to be able to share specific guidance on it but one of the important elements of the Kids business is, both as we think about their kind of average size of the order, the -- and as we think about the different patterns of the way that people purchase kids clothes, and having a higher number of units and the sex is important. And so one of the -- what we talked about Extras on last quarter and we talked a little bit about how it wasn't necessarily Extras is that our opportunity but that it was really the capability that be able to kind of expand our service and add more flexibility and this is our -- kind of putting back to use. And so our Kids fixes will have between 8 and 12 items in it that can range from a pair of legging for $12 to an occasion dress for girls that could be $35, and so of course as with our regular Stitch Fix offering, people opt into the price points that they want to see but you will see that that kind of average unit will likely be significantly lower than what we're seeing in the men's and the women's business but that we hope that kind of the number of items -- on having 8 to 12 and we see that people buy kids clothes in more of a bulk fashion, we think that that will counterbalance that. And so we've done the numbers, and we definitely think it's a big opportunity, it's definitely profitable, it will accretive, it's a big opportunity to take advantage of the households that we're already serving at Stitch Fix and so we do expect that it will have a big growth potential for us but I don't think we're in a place where we're going to be able to share specifics.

Just to add to Kat's comments, the targets we made amends is going to be -- sort of the journey that we expect kids to follow, just to rear some investments with new categories include lower initial margins as we have smaller by upfront, we have the higher shipping costs due to fewer distribution centers from which we distribute the products. And finally, clearance rates are higher based on back we buy more inventory or really lying with sort of -- the new clients and make sure we can start in well. And all three fronts, we're in -- 18 months [ph] in are better year-over-year. We have lower clearance rates as we're optimizing, we're aggregating, getting better with our merchandising assortments, we added the third warehouse that might just describe this quarter. And then, I mentioned last quarter our initial margins are higher as our teams are leveraging the scale to business. So that journey we expect for kids as it has been for our -- our leasing categories that we had.

Mark Mahaney with RBC Capital Markets, please go ahead with your question.

This is Shweta [ph] for Mark, two questions, please. So regarding algorithm like repurchasing, you've mentioned in the past it has driven client satisfaction engagement and average order value. Could you talk about it's impact on margins given that it improves the odds of clients finding and keeping their fixes? That's question one. And the second question is related to men's and pluses, dilutive impact on gross margins; so how much did men's initial markup grow this quarter and how about strength coming to that growth? Thank you.

I'll take the question on algorithmic repurchasing. Yes, undoubtedly algorithmic repurchasing also helps our gross margins. It helps our gross margins because we are in many cases ordering exactly what we know that there is demand for and so for example, we may see -- in a style of Denim we may find that for a second style we only want to be reordering sizes 12 and 14, or we only want to be reordering certain washes and certain sizes. I mean that's all based on what we know there is demand for and so that means that we're selling through the product faster, we're turning it faster, we're more cash efficient on that product and that ultimately, we're ending up with better margins because we end up with much, much less clearance on that product. And so the benefits that all grew like repurchasing are significant to the client but also to our business as well. On the second question on margins; Paul, you want to take that one?

Sure. In the last call I mentioned, in Q2 our men's markets were up, under 90 basis points year-over-year as we have leveraged our scale and grown that business, we're only giving that number every quarter but I can tell you that the men's business continues to grow that margin year-over-year including in Q3. Specific to shrink, our shrink as a percentage of revenue is fairly constant quarter-over-quarter, it's still focused for us like any other operating cost as we do things like engineering were to reduce the chances of fraudulent transactions and we'll give you updates in each quarter if there is something new to report otherwise on that front.

We'll take our next question from Ross Sandler with Barclays.

I had one question on Kids and one follow-up on the gross margin. So Katrina, on Kids; so do we know what percent of our clients actually have Kids, do you guys have that data? And is the value prop here going to be different than what we have with men's and women's -- is this more about time saving, like how critical is the stylist process for the Kids strategy? Just -- any stuff you could flush out on how you expect us to evolve and what do you think organic inbound conversions would look like versus having to acquire new customers that have kids would be helpful. And then, on the gross margin, any color on those Extras are meaningful boost sequentially to gross margins, seems like you guys have lapped a lot of that headwind and now we're going up sequentially, so congrats -- any color on what's driving that up beyond what you just said on previous questions? Thank you.

Firstly, on what percentage of our clients have kids, and we do know that, we've put that as a question that we have in our onboarding survey. Well more than half of the majority of our clients are having kids and we don't know -- I guess, exactly, if their kids are going to be between the ages of 2 and 14 which is where our Kids offering is going to be but to give it as a really good signal is to what helpfuls we may be able to serve well. And to maybe skip ahead to your other question around marketing, and this certainly is a very, very significant advantage for us. So what we noticed with the men's business is that we did see a lot of women who were influencing men in their lives and we were seeing people who became Stitch Fix households and there was some marketing scale that we saw going into the men's business coming from the women's business. We expect kind of greater marketing scale and even greater marketing scale in this case and so with men's and women, men are still the primary decision maker and kind of the choices that they are going to make of where they buy their clothes, but the parents are the ultimate decision maker with kids. And so to be able to have many households and many parents who are already getting fixes, it's a pretty significant advantage that we can leverage. In terms of a value prop; I think we will still have a styling element but we're looking to scale it in a more -- I guess, scale it better, I think given that we're going to be shipping fixes of 8 to 12. And so the styling elements however, we find…

The other one would be, any -- I guess how would your dugout is certainly but how do you expect the unit economics to differ? I mean, are the -- marketing will be lower, it seems like your keep rate will probably be higher? Is the merchandise margin here going to be similar -- any color on pricing? That will be helpful. Thanks.

To be honest, I think most of this we'll have to update you as we go. I think as we've modeled the business, we -- we're hopeful that we'll be able to drive similar unit economics, what that will actually materialize to be I think -- we haven't -- once we get into market, we'll probably be able to provide more color but we do expect that people will be buying more unit per shipment, we are launching with exclusive brands and we do expect exclusive brands will be a significant part of the portfolio as it has been for men's and plus and this is a business that's already leveraging our capabilities and our marketing peer point, and so for all of those reasons, we feel really good about the economics of the business but we'll be short of share it along the way as we see any meaningful differences.

I'll take the gross margin question. As noted, we saw expansion of 60 basis points year-over-year. So at the first time in over a year we saw expansion, I mean, as we've invested new categories like men's and plus. To be honest, Extras which you kind of hypothesized might have been a factor is not, it's still -- we're happy with the incremental business but it's still very immaterial in size and Extras has really been about the capability that technology has allowed us to do things like add more than 500 per fix which is in turn is to launch Kids. When you think of our gross margins, one thing I noted in my comments, I'll take a few moments to go deeper on this. We actually had an improvement in our inventory reserve year-over-year and also quarter-to-quarter. Basically, we look at our inventories and at each quarter we have a reserve against that. Within our portion of that inventory will be cleared ultimately. What we've done from a rate standpoint is look historically at our clearance rate because that's the best sort of evidence for the future. And basically, as our clearances have improved sequentially quarter-over-quarter, that's allowed us lower that inventory reserve amount and that changed close to the P&L. So really that is a testament to our algorithm, our styling and buying kids already is coming together to -- for the clearance rates is what's helping drive from our gross margins for this quarter and hopefully for the future.

Ryan Domyancic from William Blair, please go ahead next with your question.

So first on the advertising side, did you make any progress during the quarter and getting better personalization around emails or display ads or anything like that? And did that benefit customer acquisition costs in anyway?

So what we've seen in customer acquisition cost over the last few quarter is stability and Paul alluded to the fact that right now we're anniversarying just -- I guess exactly a year ago now was before as we were bringing channels in house and so we've seen quite a bit of efficiency and learning's as we've been able to do that. And so I think there is still -- I think what we've been able to do so far is to bring those channels in-house, bring a lot of those learning's in house, the opportunity you referenced around email, for example, that's an area we've been good at but I think there is still a lot of opportunity. And so looking forward, as we think about how to take the next step in our marketing, it's really around how can we bring algorithmic and personalization capabilities into our email in a one-to-one way, the same way we do with our fixes. And so today while we can look at client lifecycle, we can see kind of where clients are in their lifecycle and their sentiment, what we're not doing is necessarily looking about on kind of a one-to-one basis and so that's certainly an opportunity that we still see as an opportunity for us in the future.

I think over the past few quarters you've been adding lower price point selection to your inventory to offer the customers. Where you're at in terms of having that lower price point selection; is it the right amount, do you have more to add to it? And then, is there any early evidence that that lower price point selection is helping unlock a new set of customers?

If you take the latter part of your question, it definitely is. We did substantial testing on kind of lower price point inventory which as a reminder is kind of this product in between $30 and $50 for the most part. In that part, we did significant testing on that about a year ago actually before we choose to invest in that inventory and what we found is that being able to have that inventory helped us to be able to serve on the client base we weren't serving well before and drove better retention and better wallet share with those customers and so we feel really confident in that learning. And your first question around is that the right amount -- I think we're -- it's close I would say, we're -- we always can be calibrating that, a great part of our business is that our clients are telling us exactly what price points they want, so every single cohort and every single individual, we have a sense of do we have the right product for them. And we certainly have made those ton of improvement this year versus last year and being able to serve well the clients who are looking to get fixes. There could be probably a little bit more that we would do in that assortment but right now I think it's definitely a lot better than it was in the beginning of the year, I mean we're in a good place with it today.

We'll take Erinn Murphy with Piper Jaffray. Please go ahead.

This is Eric [ph] on for Erinn, thanks for taking our questions. First on freight and shipping, you mentioned that was a pressure on gross margin in the quarter. I was just curious if you could provide an update there, anything you're doing proactively to mitigate that? How much do you guys use the spot market versus contract rates?

I can speak to that and Mike, if you have any other color, please add-on. So every year we obviously face some inflation as we work for our partners and we absolutely strive and aim to mitigate that inflation. So we have a couple of tools that we use. First is leveraging our scale, we're now over a $1 billion in revenue and we seek and achieve volume discounts and skip the benefits with our skill to existing carriers. We're also diversifying our carriers, looking at both major carryings to integrate them into our system, as well as looking at the benefits of more regional carriers to allow us to reduce our shipping costs. And then more recently we added what we call rate shopping, it's basically I'm allowing our warehouse teams to understand perhaps based on the requested receipt date by our clients, came actually slowed down that shipment, maybe it was passed a little early so we can not only improve our client experience but also reduce our shipping cost by optimizing delivery times. So there are whole variety of ways that we're looking at reducing that cost to defeat inflation, and again, we'll continue to be tenacious on that front.

And just following up one more on the Kids side of things; is there going to be any capabilities to ship with a parent Fix? And how you're thinking about pricing styling on a Kids Fix if it is going to be a standalone transaction or purchase?

As of today it is going to be a standalone business and so while a parent will be able to use their Stitch Fix account to signup a kid and order a Kids Fix, so at the account level there will be -- you will be able to do that. On the shipment level, we -- they will ship it two separate shipments for now. In terms of -- I guess how the styling and the shipping varies, there will be still be a styling fee, there will still be a buy-all-discount, of course there are more units that we have to qualify for that buy-all-discount but that will be the same that we have today in men's and women's. And we'll see as we go to see if this is the right offering for this audience but we're excited about the incrementality of this business to kind of serve the parents and children even better.

The only thing I'll quickly add to it is just that, we've learned over the years that this is a very emotional and fun experience for all of our clients, whether it's men's, women's or soon to be kids. And we did do a lot of market research, sort of asking about do you want a family fix, do you want -- if you have two kids, your fix is in the same box, and it was pretty clear that the kids want there on fixes, and they want to have that emotional experience with their name on it and that is something that we want to bring that joy just like we're bringing I think with men's and women's, but at a personalized and individualized basis.

And there are no further questions in the queue at this time. I'd now like to turn the call over to Ms. Katrina Lake for closing comments.

Great. Thanks everybody for joining us today. We hope we have the opportunity to serve your kids, so let's get them signed up. And we look forward to seeing everybody on the road and at conferences. Thank you.

And this conclude today's call. Thank you for your participation. You may now disconnect.