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Sonos, Inc. (NASDAQ:SONO)
Q3 2018 Earnings Conference Call
September 10, 2018, 5:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good afternoon. My name is Mike and I will be your conference operator today. At this time, I would like to welcome everyone to the Sonos fiscal third quarter 2018 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session. If you would like to ask a question during this time, press * then the number 1 on your telephone keypad. If you would like to withdraw your question, press the # key.

I will now turn over to Mike Groeninger, VP of Corporate Finance. You may begin your conference.

Mike Groenineger -- Vice President of Corporate Finance 

Thank you, Mike. Good afternoon and welcome to Sonos' third quarter 2018 earnings conference call. I'm Mike Groeninger, VP of Corporate Finance, and with me today are Sonos CEO Patrick Spence and CFO Mike Giannetto.

For those of you who joined the call early, your first question may be about our selection of hold music. Breakthrough music experiences often debut with signature songs. The first song played for the public on Sonos' first product, the ZP100, was "No Sleep 'Til Brooklyn" by the Beastie Boys. We thought it was appropriate to start our first earnings call as a public company the same way we started filling homes with music 13 years ago.

Before I hand it over to Patrick, I would like to remind everyone that today's discussion will include forward-looking statements regarding future events and our future financial performance. These statements reflect our views as of today only and should not be considered as representing our views at any subsequent date.

These statements are also subject to material risks and uncertainties that could cause actual results to differ materially from expectations reflected in the forward-looking statements. A discussion of these risk factors is fully detailed under the cash and risk factors in our filings with the SEC.

During this call, we will also refer to non-GAAP financial measures, including adjusted EBITDA and adjusted EBITDA margin. For complete information regarding our non-GAAP financial information and a quantitative reconciliation of those measures, please refer to today's shareholder letter regarding our third quarter Fiscal 2018 results posted to the investor relations portion of our website.

With that, I'll turn the call over to Patrick Spence.

Patrick Spence -- Chief Executive Officer

Thanks, Mike. Thanks to everybody for joining our first earnings call as a public company. Every quarter, we'll provide a lot of detail in our shareholder letter. So, we'll primarily use these calls to take your questions. But I do have a couple things I want to touch on today.

I talked a lot on our IPO roadshow about how important it is for all of us at Sonos to do what we say we will. We're off to a good start with our Q3 results coming in at the high end of the preliminary ranges we provided.

One of the other things I took away from the IPO roadshow is that we still need to do a lot of education about our business model, as it's unique. I'm encouraged by the fact that investors are beginning to learn the power of building products that last for years, get better with software and customers buy more of.

Since our products last for five to ten years, the question is how do we get people to add another Sonos product to their home? We've done a good job of answering that over the last 16 years, as evidenced by the fact that last year, 38% of our registrations came from customers adding another Sonos to their system.

We are the only company I'm aware of where people add more to their system over time versus replacing previous purchases. We've made good progress on our growth strategies over the past few months. We're delivering on our commitment to launch two new products a year with the introduction of Beam, our second product of Fiscal 2018 after the One in Q1 and our announcement of Amp, which will start shipping in Q1 of Fiscal 19.

In terms of global expansion, in August, we launched in Japan and are taking a tailored approach to that important market, the second-largest music market in the world. We continue to accelerate our direct to consumer business, with that channel continuing to be our fastest-growing one.

We also continued to evolve the platform with the introduction of AirPlay 2 and we've seen increased engagement from Sonos homes that are using AirPlay 2. Just last week, we opened our platform to more developers with a set of APIs and are excited to see what gets developed as a result.

Finally, we continued to build the brand through activities lie our reimagining of the NASDAQ opening bell, our Beam launch that drove a tremendous amount of earned media and our cultural marketing events at are various physical locations. I had a good opportunity to be at the CEDIA Expo last week and see also all of our installer partners and there was a ton of energy around Amp, our APIs, and our Sonos partnership, which was awesome to see.

We're off to a great start as a public company. Now, I'll turn it over to Mike to provide some brief commentary before we open it up for your questions.

Michael Giannetto -- Chief Financial Officer

Thanks, Patrick and good afternoon, everyone. As Mike said earlier, earlier this afternoon, we provided our Q3 and year to date financial results in our shareholder letter. Before opening up the call to questions, I will review a few quick points. Revenue operating loss in adjusted EBITDA for our Fiscal Q3, we all finished at the high-end of the preliminary range we provided in our prospectus back in July.

As we look at our progress over the first nine months of our Fiscal 2018, revenue was $864 million, reflecting year over year growth rate of 11%. Our growth has been driven by new products in our wireless speaker category, specifically the Sonos One, which launched in our fiscal Q1, and in the home theater category, where the growth is driven Play base speaker, which launched in the third quarter of Fiscal 2017.

Adjusted EBITDA for the nine months ended with $49 million, a slight decrease of $2 million from the same period last year. Our shareholder letter posted on our IR website provides more details and discussion on the quarter and year to date performance.

Our outlook for the full year ending September 29th is as follows. Revenue is expected to be in a range at the low end at $1.109 billion to a high-end of $1.114 billion, representing an annual growth rate of 11.7% to 12.2% over Fiscal 2017.

Adjusted EBITDA we expect at the low end to be at $59 million to a high end of $62 million, representing an annual growth rate of 5.4% to 10.8% over fiscal year 2017. One final note, we will provide our full-year outlook for the fiscal year 2019 at our Q4 fiscal 2018 earnings call in November.

With that, we'll open it up for questions.

Questions and Answers:

Operator

At this time, I'd like to remind everyone in order to ask a question, press *1 on your telephone keypad. We'll pause for a moment to compile the Q&A roster. Your first question comes from Katy Huberty from Morgan Stanley.

Katy Huberty -- Morgan Stanley -- Managing Director

Thank you. Good afternoon. In your shareholder letter, you reference media retailer and customer feedback and the theme is in line with expectations. Just curious whether we should think about that as in line with your internal expectations or in line with more conservative street expectations. I wonder if you can comment on where Beam channel inventory levels are relative to the same point in the Sonos One product cycle.

Patrick Spence -- Chief Executive Officer

Hey, Katy. It's Patrick here. I'll take your first one and I'll let Mike talk to the inventory levels. So, it's trending to our internal expectations. So, we're feeling good about the way that product is tracking. As we've talked about, we have made some assumptions around cannibalization of other products. So, we're feeling good about where that is and feeling really good about this launch overall and the trajectory that we're on.

Michael Giannetto -- Chief Financial Officer

Yeah. This is Mike, Katy. The question about channel inventory -- comparison to Sonos One is a little difficult given that was the holiday period, which is a very high-volume period for us, a different price point. But in terms of channel inventory, I'd say it's in line with our expectations and very comfortable at the channel inventory levels. We have the channel still, which began in late June and into this quarter and we're very comfortable with channel inventory. As we said, we're feeling good about the performance in line with our expectations.

Katy Huberty -- Morgan Stanley -- Managing Director

Thank you for that. If I can just one more -- how should we think about Japan's contribution to revenue over the next year, given you're focused on the direct to consumer and a few big retailers in that market?

Patrick Spence -- Chief Executive Officer

Yeah. I would say it will be minimal in terms of the impact over the next few quarters. We'll continue to give some more color on that. We're just getting started and want to make sure that we get off on the right foot there and these things build over time. So, it will be minimal as we think about the remainder of Fiscal 18 and into Fiscal 19.

Katy Huberty -- Morgan Stanley -- Managing Director

Okay. Thank you very much.

Operator

Your next question comes from Rod Hall with Goldman Sachs.

Rod Hall -- Goldman Sachs -- Analyst

Yeah, hi, guys. Thanks for the question. I wanted to kick off with maybe an update on the MLCC situation in terms of supply and pricing just to see if things are still as tight as you had expected them to be pre the IPO and how you see that playing out the rest of the year and then I have a follow-up.

Michael Giannetto -- Chief Financial Officer

Yeah, Rod, it's Mike again. From an MLCC standpoint, we haven't seen a lot change. It's still tight. There's definitely a global imbalance between supply and demand. So, the tightness is there. The premium pricing is there. We feel quite comfortable with our ability to procure the parts to meet our demand. Our teams are working daily on it. We have some great supply relationships, so we feel very comfortable, very confident in terms of getting to the component supply we need.

And from a premium pricing standpoint, it's pretty much as we have seen. We haven't seen dramatic changes there. I'd say from our standpoint, we've made good progress in terms of lining up the supply to meet our demand going into next year. We will not see much of an impact this fiscal year in 2018. We'll start to see a little bit, but it will start to hit in Fiscal 19 in terms of the premium pricing.

Rod Hall -- Goldman Sachs -- Analyst

Okay. Great. Thank you. Thanks, Mike. I also wanted to follow-up on this new Amp product that you guys just launched at CEDIA and see whether -- I think our expectation has been that the unit volumes wouldn't get material until March. I'm just wondering whether you have any hope to maybe have more of a material contribution in the December quarter from that or how you see that playing out from a demand point of view?

Michael Giannetto -- Chief Financial Officer

Yeah, Rod. Obviously, we're obviously not providing guidance for next year right now. From a volume standpoint because of the availability for a channel, we would expect to see line come through in our Q1 Fiscal 19 and then general availability later in calendar 2019. So, we'll start to see some flow in Q1.

Rod Hall -- Goldman Sachs -- Analyst

Okay. One last one is on the API and what the plan is there. You guys didn't say too much in the opening remarks, but that was a big change at CEDIA as well. I'm curious to know what the reception has been and maybe give us -- I don't know if Patrick can give us a little bit of philosophy behind those changes, but I think that would be interesting as well.

Patrick Spence -- Chief Executive Officer

Yeah, thanks, Rod. So, at CEDIA Expo last week, I think it was really interesting feedback from a lot of the various home control partners and others there, where you would see Sonos on more booths than ever. So, Sonos was on many, many booths. That's the power of the APIs is the ability to get tied into other things happening in the ecosystem. It all is very much in line with our philosophy of being open and Sonos really being the sound platform that connects to anything that's happening, whether it's being able to hear your doorbell out loud or security system or tie into another centralized home control system or support any music service or any voice assistant that you want.

So, these APIs really, one, fundamentally tie into everything that's happening in the smart home space and allow us to take advantage of that trend and then secondly, really also create a platform -- you may see Product Hunt has done a big push recently around those APIs. It allows developers that may have ideas around what to do for sound in the home that we may not think of and new services that have yet to be invented, which I think is pretty exciting. So, it will be fun to see what gets created on top of Sonos as a result of the APIs.

This is a new and exciting area for us as the software teams work super hard to make sure that they're also ones that allow people to build experiences yet don't take away from the reliability that we're renowned for and make sure that we keep customers listening to their music in a rock-solid fashion.

Rod Hall -- Goldman Sachs -- Analyst

Great. Thanks, guys.

Operator

Your next question comes from Amit Daryanani with RBC Capital Markets.

Amit Daryanani -- RBC Capital Markets -- Analyst

Thank you, guys. I guess a couple from me as well. First off, when you talk about the direct to channel model that you guys have, the direct to consumer, I think the shareholder letter talked about business is up 20% year over year. Could you just touch on what percent of sales are done direct today and either qualitatively or quantitatively, what's the margin profile in the direct versus indirect model to you guys?

Patrick Spence -- Chief Executive Officer

Yeah. Amit, it's Patrick here. So, direct is about 12% of our sales year to date, as we look at it. The margin tends to be about 10 points better than our traditional in terms of where it fits.

Amit Daryanani -- RBC Capital Markets -- Analyst

Perfect. That's really helpful. Just as a follow-up, when you talk about new products enabling growth as you go forward, can you just touch on what market or areas you would be focused on with these new products and at least recently, I think about Sonos One and Beam, new products have also meant lower ASPs versus the prior products from the same category. Is that something that just happened in the -- is just an anomaly of those two products or is that something we should expect that new products would have lower ASPs as we go forward?

Patrick Spence -- Chief Executive Officer

We don't really have a range. Our products range in price from $149.00 to $700.00 today. We think that's a great range to have our products. Certainly, this year, different than any other you've seen too that are in the more entry level parts of the segments that they've played. So, we don't think in terms of ASP. We think in terms of the portfolio we're building for customers at a variety of price points.

I don't expect it will change in terms of the way we distribute our products over time between that $150.00 to $700.00 price point. So, as I think about it over the long-term, I think you'll see us in those price points and certainly this year, we happen to have done two that are more of the entry level for those segments, but that's' not going to be an indicator of anything we do every year.

Michael Giannetto -- Chief Financial Officer

I would only add that we just announced the Sonos Amp 2, which has a $599.00 list price. So, it's not a particular direction we're going. It really depends on the product solution that we're offering our customers.

Amit Daryanani -- RBC Capital Markets -- Analyst

Understood. Thank you, guys.

Operator

Your next question comes from Brent Thill from Jefferies.

Brent Thill -- Jefferies -- Analyst

Hi, Patrick. Just as it relates to Asia, I think that has been tracking somewhere in the single-digit percent of your overall revenue. I think when you look at what you mentioned in the letter that Japan is the second-largest music market, but you're still expecting the minimal short-term impact. Can you just talk about maybe why it takes so long to ramp up kind of your expectations of when you would expect to see a ramp? Is that maybe a reflecting of the US and Europe markets still being massively underpenetrated?

Patrick Spence -- Chief Executive Officer

Yeah, Brent. We definitely think there's huge opportunities in all of the existing markets that we're in. Even as we think about investments and resources, we think about that. I think with Japan in general, we want to make sure that we get it right for the long-term, which is why we're taking a measured approach in terms of we approach it with Sonos.com and then our high-end retail partners like Beams.

So, when we're thinking about these new markets, we're thinking how do we make sure we get in, we establish the brand in the right place and we learn as well? So, from consumers there, we know they have very discerning taste when it comes to their audio experience.

So, we want to make sure we're doing everything in terms of local services, audio fidelity, everything around our product range to make sure that we've got it nailed. So, we're big believers in getting in there, starting to learn and then really ramping it up as soon as we have the formula. You'll know from -- the other thing that we want to do is be prudent about getting ahead of expectations on some of these things.

So, we'll want to make sure that we see the traction there before we start to count on it for too much in the future. But really, it's about thinking how we make sure that we've got the formula nailed for any country that we're going into. Japan is one we'll want to make sure we get right before we scale it up.

Brent Thill -- Jefferies -- Analyst

And then quickly for Michael, just on the guidance, I realize you have only 20 days left in the quarter. So, I would assume given you've only given a $5 million delta from the low to high, you have fairly good visibility going into the back half of this month.

Michael Giannetto -- Chief Financial Officer

Yeah. That's correct. We do have good visibility. We have a full two months behind us. So, yes, we do have good visibility. So, we're quite confident with the range we've provided, top and bottom line.

Brent Thill -- Jefferies -- Analyst

Okay. As we're just thinking about Q1 models, Michael, just given it's your seasonally strongest quarter, anything to think about just as we're looking at models for early next year or is it too early to call?

Michael Giannetto -- Chief Financial Officer

I'd say it's too early to call. Stay tuned. We will provide guidance in our next earnings call. So, our Q1 will continue to be our largest quarter. I won't go beyond that. You'll be hearing more from us next year at the Q4 call.

Brent Thill -- Jefferies -- Analyst

Great. Thank you.

Operator

Your next question comes from Adam Tindall from Raymond James.

Adam Tindall -- Raymond James -- Analyst

Okay. Thank you. Patrick, I just want to ask two things that happened recently -- Matthew as Chief Commercial Officer and then combining the marketing and commercial organization. So, on the combination, can you just maybe talk about what you've learned in doing that? And on Matthew as Chief Commercial Officer with his background in digital commerce, can you just talk about what his marching orders are?

Patrick Spence -- Chief Executive Officer

Yeah. So, I think we've learned that we can move a little faster and we've taken down some of the walls to get the teams closer aligned. I think that's making us more effective. You see it in the results as well in terms of some of the efficiency we've been able to gain in the sales and marketing area. I think as everybody knows, it's an area that we expect to gain even more efficiency over time.

Matthew does have the experience around digital, around direct to consumer from Nike that has really helped in terms of making sure we shift our focus there and at the same time are able to build and continue to build on things like our long-standing relationship with the installer channel. So, this has also been a big push, as you've seen over the last couple of weeks around Amp, the APIs, our Sonance partnership.

So, I think Matthew has really been focused on how do we continue to drive growth in those channels that we're in today and really drive as much as we can through direct to consumer. It's why you've seen the new facility in the app to be able to communicate directly with our customers and be able to make sure we're educating and letting them know about what's available. He's definitely helped accelerate, I would say, the pace of change and our focus on digital.

Adam Tindall -- Raymond James -- Analyst

Okay. Then maybe just as a quick follow-up for Mike. I just wanted to clarify the $14 million in annualized savings, I think that gives you in the neighborhood of 100 basis points or so of adjusted EBITDA margin benefit. Is that fully reflected in Q3 results and maybe just help us with how we can think about the timing of the 13% to 15% adjusted EBITDA margin target relative to 90 days ago or so, how you're feeling about that.

Michael Giannetto -- Chief Financial Officer

Yeah. So, first, on the restructuring, the annualized savings, the restructuring occurred in Q3. So, we had about $4.5 million operating expense charges, one-time in nature related to the restructuring. So, that was an incremental cost in Q3. Beyond Q3, we'll start to see the savings. We've estimated that to be about $14 million toward the annualized point of view from an operating expense savings. The second part was, I think, on the long-term EBITDA target. Is that what the question was?

Adam Tindall -- Raymond James -- Analyst

Right. How are you feeling about the 13% to 15% relative to 90 days ago, given you've got digital commerce accelerating. You've got savings happening right now. You'd think there are some things that are happening for better improving profitability on a forward basis.

Michael Giannetto -- Chief Financial Officer

I got you. Just so everybody knows, our long-term adjusted EBITDA margin comp we can deliver is 13% to 15%. In terms of how I feel, how we feel about it, nothing has changed, really. It's where we see growing the business and getting to the next several years. If anything, I think our confidence increases as we continue to make progress. It's a long-term target that we've established. We took a lot of time thinking about it. So, nothing has changed over the last 90 days. We feel very confident we will get to that level of EBITDA margin.

Adam Tindall -- Raymond James -- Analyst

Okay. Thank you.

Operator

As a reminder, to ask a question, press *1. The next question is from Matt Sheerin with Stifel.

Matt Sheerin -- Stifel Nicolaus -- Managing Director

Yes, thanks. Good afternoon. So, Patrick, you were just talking a little bit about the Sonance partnership. I wanted to just ask about that partnership in addition to Ikea in other revenue streams that you're looking at that are more on the licensing and royalty side. I know the other category is going up. So, could you talk a little bit more about how much of a driver that would be to forward revenue and margin contribution?

Patrick Spence -- Chief Executive Officer

It's something that we're early days in. So, for sure, obviously, just having announced the Sonance partnership -- and just for everybody's edification, that's really a collaboration because Sonance provides, really, the best architectural speakers in wall and ceiling and some outdoor as well. So, we're partnering with them in the same way we're partnering to some degree with Ikea in terms of the products that we're building with them.

So, this is to explore other ways to help build out the Sonos system and the fact that the software is at the core. So, it's something we're going to continue to keep looking at with a few brands that we feel fit with our mission and what we're trying to do. I think Matt, over time, we'll figure out as we see these develop, we don't want to get too far ahead of ourselves. So, we're being conservative in terms of where those are right now.

But I'm super excited about both and what we're seeing on both. I got a chance to spend a little time with the Sonance team last week. So, there's going to be some exciting stuff there. But we are not yet building that in a big way into our financials. We'll want to see how those pan out before we get that into our model.

Matt Sheerin -- Stifel Nicolaus -- Managing Director

Okay. Understood. Just back to the product portfolio, I know you've got the two products out now, but if you look beyond the Amp, I did notice the Play:3 is no longer available on your website. I'm not sure if that would be next in line, but I know you have two higher-end speakers without the voice function. So, I would assume that would be one area, but could you give us some read into what you'd be thinking about in terms of new products in the next year or two?

Patrick Spence -- Chief Executive Officer

We feel really good about the product roadmap that we have. I think we've got the furthest kind of outlook that we've ever had from a product roadmap perspective. I think everybody around here is very excited about the products we have. You'll understand that for competitive reasons, I'm not going to go into which ones come next as we go for it, but we're looking at the home. We still feel we have a huge opportunity there being in over 7 million homes today.

But thinking about that, those 176 million people that are paying for streaming music today, so massive opportunity remains in the home and that's kind of job one. Job two is really the outside the home work. We've talked about areas like outdoor and personal and some of the others. So, that's an area we continue to explore. So, those are really on our mind and things that we have considered in our product roadmap. I want to be cognizant of the fact that competitively, we want to be careful about what we share.

Matt Sheerin -- Stifel Nicolaus -- Managing Director

Okay. Fair enough. Thanks a lot.

Operator

There are no further questions at this time. I will turn the call back over to the presenters.

Patrick Spence -- Chief Executive Officer

Alright. Thanks, Mike. Thanks to all of you for joining. I appreciate the questions. I'm very excited about the momentum that we've been developing. The past few months have been fantastic in terms of getting Beam out, AirPlay 2, the IPO, obviously, and then as well the announcements we've had around Amp and Sonance partnership. So, we're building good momentum. We're excited to be public. We look forward to talking to you further on the Q4 earnings call in November.

It wouldn't be a Sonos call without leaving you with something to listen to. I point in the direction of Jade Bird, a great new artist on the Glassnote label. My friend Daniel Glass introduced me to her. Her music is very unique and I hope you'll find it enjoyable. Thank you very much. Have a great day.

Operator

This concludes today's conference call. You may now disconnect.

Duration: 28 minutes

Call participants:

Mike Groenineger -- Vice President of Corporate Finance 

Patrick Spence -- Chief Executive Officer

Michael Giannetto -- Chief Financial Officer

Katy Huberty -- Morgan Stanley -- Managing Director

Rod Hall -- Goldman Sachs -- Analyst

Amit Daryanani -- RBC Capital Markets -- Analyst

Brent Thill -- Jefferies -- Analyst

Adam Tindall -- Raymond James -- Analyst

Matt Sheerin -- Stifel Nicolaus -- Managing Director

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