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PetMed Express Inc. (NASDAQ:PETS)

Q1 2014 Earnings Conference Call

July 21, 2014 8:30 am ET

Executives

Menderes Akdag – Chairman, President, Chief Executive Officer

Bruce Rosenbloom – Chief Financial Officer

Analysts

Kevin Ellich – Piper Jaffray

Erin Wilson – Bank of America Merrill Lynch

Anthony Lebiedzinski – Sidoti & Co.

Michael Kupinski – Noble Financial

Ross Taylor – CL King

Mitch Bartlett – Craig Hallum

Operator

Welcome to the PetMed Express Incorporated, doing business as 1-800 PETMEDS, conference call to review the financial results for the first fiscal quarter ended on June 30, 2014. At the request of the company, this conference call is being recorded.

Founded in 1996, 1-800 PETMEDS is America’s largest pet pharmacy, the leading prescription and non-prescription pet medication and other health products for dogs and cats direct to the consumer. 1-800 PETMEDS markets its products through national television, online, direct mail and print advertising campaigns which direct consumers to order by phone or on the internet and aim to increase the recognition of the PetMeds family and brand names. 1-800 PETMEDS provides an alternative for obtaining pet medications in terms of convenience, price, ease of ordering, and rapid home delivery.

At this time, I would like to turn the call over to the company’s Chief Financial Officer, Mr. Bruce Rosenbloom.

Bruce Rosenbloom

Thank you. I’d like to welcome everybody here today. Before I turn the call over to Menderes Akdag, our President and Chief Executive Officer, I would like to remind everyone the first portion of this conference call will be listen-only until the question and answer session, which will be later in the call. Also, certain information that will be included in this press conference may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 or the Securities and Exchange Commission that may involve a number of risks and uncertainties. These statements are based on our beliefs as well as assumptions we have used based upon the information currently available to us. Because these statements reflect our current views concerning future events and these statements involve risks, uncertainties and assumptions, actual future results may vary significantly based on a number of factors that may cause the actual results or events to be materially different from future results, performance or achievements expressed or implied by these statements. We have identified various risk factors associated with our operations in our most recent annual report and other filings with the Securities and Exchange Commission.

Now let me introduce today’s speakers, Menderes Akdag, President and Chief Executive Officer of 1-800 PETMEDS. Menderes?

Menderes Akdag

Thank you, Bruce. Welcome everyone. Thank you for joining us. Today, we’ll review the highlights of our financial results. We’ll compare our first fiscal quarter ended on June 30, 2014 to last year’s quarter ended on June 30, 2013.

For the first fiscal quarter ended on June 30, 2014, sales were $72.5 million compared to sales of $74.2 million for the same period the prior year, a decrease of 2.2%. The decrease was due to decreases in new order and reorder sales. The demand was soft for flea and tick topical compared to last year. Our average order was approximately $78 for the quarter compared to $77 for the same quarter the prior year.

For the first fiscal quarter, net income was $5 million or $0.25 diluted per share compared to $4.8 million or $0.24 diluted per share for the same quarter last year, an increase to net income also of 4.6%. Reorder sales decreased slightly to $58.5 million for the quarter compared to reorder sales of $59 million for the same quarter the prior year. New order sales decreased by 7.7% to $14.1 million for the quarter compared to $15.2 million for the same quarter the prior year. The decrease was mainly due to an increase in customer acquisition costs and reduction in advertising.

We acquired approximately 184,000 new customers in our first fiscal quarter compared to 207,000 for the same period the prior year. Approximately 80% of our sales were generated on our website for the quarter compared to 79% for the same period the prior year. The seasonality in our business is due to the proportional flea, tick and heartworm medications in our product mix. Spring and summer are considered peak seasons with fall and winter being the off season.

For the first fiscal quarter, our gross profit as a percent of sales was 32.8% compared to 32.4% for the same period a year ago. The increase was due to a reduction of product costs on certain brands. Our general and administrative expenses were flat compared to last year. We spent $9.9 million in advertising for the quarter compared to $10.4 million for the same quarter the prior year, a decrease of 4.8%. The advertising cost of acquiring a customer was approximately $54 compared to $50 for the same quarter the prior year. The increase was due to advertising cost increases.

We had $44.7 million in cash and short-term investments and $32.9 million in inventory with no debt as of June 30, 2014. Net cash from operations for the quarter was $14.3 million.

This ends the financial review. Operator, we are ready to take questions.

Question and Answer Session

Operator

[Operator instructions]

Our first question is from Kevin Ellich from Piper Jaffray. Your line is open.

Kevin Ellich – Piper Jaffray

Good morning. Menderes, got a few questions here. So let’s just start off—you said there was soft demand for topicals. I guess any idea what was driving that, because I think seasonality was a little bit later, so shouldn’t we have seen kind of a strong flea and tick season this quarter? Was that surprising to you?

Menderes Akdag

The season started late, so the demand was weak for the flea and tick topicals compared to last year for the June quarter.

Kevin Ellich – Piper Jaffray

Okay. Did you guys get any inventory for the Cheval flea and tick?

Menderes Akdag

Yes.

Kevin Ellich – Piper Jaffray

So if so, how was demand for those products?

Menderes Akdag

Those are increasing.

Kevin Ellich – Piper Jaffray

Okay, got you. That’s helpful. And then advertising costs increased, you said. Was that for TV and internet, and I guess what’s your outlook for the year, or for the remainder of the year?

Menderes Akdag

We pay more for impression both on the internet and on TV. Our outlook is overall we are anticipating the cost per impression to go up mid to high single digits.

Kevin Ellich – Piper Jaffray

Mid to high – got you, that’s helpful.

Menderes Akdag

Compared to last year.

Kevin Ellich – Piper Jaffray

Year-over-year – got you. Okay. And then you also made a comment in the press release for the remainder of the year, focusing on improving marketing efforts. Could you talk about what you’re doing to improve the marketing efforts to drive more higher sales?

Menderes Akdag

We are putting more emphasis on data-based marketing, more from maybe mass marketing towards more data-based marketing, one-to-one marketing.

Kevin Ellich – Piper Jaffray

Okay, that’s helpful. You also talked about cost reduction in certain brands helped boost your gross profit this quarter. Any specific brands you want to call out or any specific categories where you saw those lower costs?

Menderes Akdag

I’m not going to comment on that.

Kevin Ellich – Piper Jaffray

Okay, sounds good. That’s all I have, guys. Thanks.

Menderes Akdag

Thank you.

Operator

Thank you. The next question is from Erin Wilson, Bank of America Merrill Lynch. Your line is open.

Erin Wilson – Bank of America Merrill Lynch

Hi. Thanks for taking my questions. The first one as a follow-up to the last question, (indiscernible) costs for certain branded products, is that sort of trend sustainable going forward, or how should we think about that dynamic as it relates to the gross margin?

Menderes Akdag

We hope so. We’re going to try it.

Erin Wilson – Bank of America Merrill Lynch

Okay, and was it meaningful at all as far as a material contributor?

Menderes Akdag

Well, it’s 40 basis points, so the numbers speak for themselves. So the gross profit margin improved by 40 basis points.

Erin Wilson – Bank of America Merrill Lynch

Okay, great. And then in the parasiticide base and generally speaking, are you seeing more customers purchasing the three-month packs versus the six-month packs compared to last year’s experience? Just trying to figure out the dynamics there as well.

Menderes Akdag

It was fairly similar; there was no material difference between this June quarter compared to last year.

Erin Wilson – Bank of America Merrill Lynch

Okay. Where do you think the markets stand overall as far as the ecommerce online channel? Do you think it’s gaining share in this pet specialty arena, and where do you expect that to go over the next few years?

Menderes Akdag

The brick-and-mortar is gaining more market share on over-the-counter medications, especially flea and tick topicals, it appears like. I would say online is still gaining some market share. We expect that to continue for the next couple years.

Erin Wilson – Bank of America Merrill Lynch

Okay, great. Thank you so much.

Menderes Akdag

You’re welcome.

Operator

Thank you. The next question is from Anthony Lebiedzinski of Sidoti & Company. Your line is open.

Anthony Lebiedzinski – Sidoti & Co.

Good morning. Could you comment or give at least some color as far as how your prescription medication business did versus your—I know that as far as over-the-counter, you mentioned flea and tick, but if you could just give us some color as far as how those product segments did, that’d be great.

Menderes Akdag

Directionally, prescription business is up compared to last year.

Anthony Lebiedzinski – Sidoti & Co.

Okay, so does that explain perhaps to a certain extent why your gross margin was up, because usually your prescription medications do have a better gross margin than OTC.

Menderes Akdag

That is correct, yes.

Anthony Lebiedzinski – Sidoti & Co.

Okay, got it. Okay. Also as far as the steps that you’re taking to improve your marketing efforts, is it just focusing more on database marketing or is there anything else that we should think about as to how you’re going to try to increase sales?

Menderes Akdag

More emphasis on database marketing, I would say would be the primary. We want to improve that.

Anthony Lebiedzinski – Sidoti & Co.

Okay, got it. All right, thank you very much.

Menderes Akdag

You’re welcome.

Operator

Thank you. The next question is from Michael Kupinski of Noble Financial.

Michael Kupinski – Noble Financial

Thank you for taking the questions. I was wondering if you need to advertise more on television to keep your brand relevant; in other words, you seem to be determining your advertising spend based on revenue contribution, but is there a point when the company might need to advertise more aggressively just to maintain the brand itself?

Menderes Akdag

It depends. The data is showing that it was cost prohibitive to spend more, so that’s why we did not. So you have to look at the lifetime value of the customer versus what the acquisition cost is coming at, and incrementally it’s higher than the average $54, so it was cost prohibitive to spend more in the June quarter. It doesn’t mean it will not be beneficial sometime in the future, so it depends on where the numbers are coming at.

Michael Kupinski – Noble Financial

Okay. Can you talk a little bit more about the competitive landscape for flea and tick? Do you need to lower your prices on flea and tick topicals to maintain market share? What is your strategy regarding the topical type of business?

Menderes Akdag

We do survey the prices in the market. We believe we price ourselves competitively, so we are competitive already.

Michael Kupinski – Noble Financial

I guess the question would be that PetMeds has always been viewed as being the low-cost provider or the cheaper alternative, so to speak. What—it seems like the flea and tick topicals are not always the cheapest online. What are your thoughts about how you—obviously the competitive landscape has increased. What are your viewpoints about how to kind of tackle that market so that we can see a reversal and see growth in that business?

Menderes Akdag

Well I mean, we may be slightly more aggressive price-wise going forward to at least keep the market share on the topicals.

Michael Kupinski – Noble Financial

And the previous question about chewables, I guess, in terms of just kind of a follow-up on there, in terms of chewables, in terms of the market share right now, where do you anticipate the chewables in terms of flea and tick? What type of market share could they have at this point?

Menderes Akdag

I don’t have that data at this time, but you have to take into account that it’s new, so it’s going to take a little time for it to grow.

Michael Kupinski – Noble Financial

And in your viewpoint there, do you have a better competitive advantage in terms of pricing structure or anything like that? How do you view the landscape for chewables for you versus the competition?

Menderes Akdag

It’s a prescription item so there is a barrier to entry, so we like it. So yes, we do have a competitive advantage there.

Michael Kupinski – Noble Financial

And in terms of your accessory business in the quarter, was there anything notable in the quarter in that portion of the business?

Menderes Akdag

No, it was fairly flat, actually.

Michael Kupinski – Noble Financial

Okay, and any thoughts about new products or anything like that at this point, or is it just status quo there?

Menderes Akdag

We are always looking at more unique products, niche products, so we are in process of looking at them and adding to what we are offering.

Michael Kupinski – Noble Financial

Okay, that’s all I have. Thank you.

Menderes Akdag

You’re welcome.

Operator

Thank you. (Operator Instructions).

Our next question is from Ross Taylor of CL King. Your line is open.

Ross Taylor – CL King

Hi. A lot of my questions have been answered, but maybe I’ll just start out—it seems like customer acquisition costs seem to just kind of continue to trend up. Do they ever reach a level or a point in time where it maybe makes you rethink your new customer acquisition model or kind of seek other ways to generate more customers?

Menderes Akdag

That’s why we said we’re putting more emphasis on our database marketing, so moving from mass marketing towards more to database, one-to-one marketing.

Ross Taylor – CL King

Okay. Final question just relates to your accessories and supplies business. Any comment there as to how things are trending or how much incremental effort you may be putting behind that aspect of your business?

Menderes Akdag

It was pretty much flat, so we’re not putting as much effort at this time; but that doesn’t mean we won’t in the future.

Ross Taylor – CL King

All right, thanks very much.

Menderes Akdag

You’re welcome.

Operator

Thank you. The next question is from Mitch Bartlett of Craig Hallum. Your line is open.

Mitch Bartlett – Craig Hallum

Hi. Same kind of line of questioning – why not use price more aggressively to drive customer acquisition? I gather—in my numbers, $54 is the highest customer acquisition cost you’ve ever recorded. If marketing direct is becoming a little bit cost prohibitive to grow the business, why not use price more aggressively?

Menderes Akdag

We may in the future, but obviously it will impact the bottom line so we are both bottom line conscious and trying to grow the top line, so we may in the future.

Mitch Bartlett – Craig Hallum

The inventory that you have, you scaled up your inventory – obviously there was some favorable buys over the last little while. How has that contributed to your gross margins? Is that a continuing strategy that you’ll employ to continue to buy some gross margin?

Menderes Akdag

Yes, it’s helped the gross margin, as you pointed out, and when there’s a cost advantage we will carry higher inventory.

Mitch Bartlett – Craig Hallum

Okay, and database management, what does that mean? When you’re marketing to a database, more one-to-one, is that the existing base of customers that you’re going after to increase your percentage of their total spend, or--?

Menderes Akdag

Existing database, obviously excludes ex-customers – they are not active customers. Also, it includes inquiries, inquiries that never purchased from us.

Mitch Bartlett – Craig Hallum

How is the active customer reorder file? Year-over-year, is it down or is it flat? The sales kind of slipped a little bit, but the actual customer activity, what’s going on?

Menderes Akdag

Reorders as a percent of prior year’s total sales rose at 79%, so it’s not too bad.

Mitch Bartlett – Craig Hallum

Okay. Okay, thank you.

Menderes Akdag

You’re welcome.

Operator

Thank you. We do not have any further questions in queue. I’d like to turn the call over to Menderes Akdag.

Menderes Akdag

Thank you. For the fiscal year 2015, we are focusing on improving our marketing efforts to increase sales. This wraps up today’s conference call. Thank you for joining us. Operator, this ends the conference call.

Operator

Thank you for participating. You may now disconnect.

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