Zalando SE

Patrick Kofler - IR Rubin Ritter - Co-CEO Birgit Haderer - SVP Finance

Charlie Muir-Sands - Deutsche Bank Magnus Råman - Handelsbanken Capital Markets Jurgen Kolb - Kepler Cheuvreux Andrea Ferraz - Morgan Stanley Volker Bosse - Baader-Helvea Equity Research Simon Irwin - Credit Suisse Rocco Strauss - Arete Research Dan Homan - Citigroup Inc. Christodoulos Chaviaras - Bloomberg Intelligence Tushar Jain - Goldman Sachs

Good morning, ladies and gentlemen, and thank you for joining us on our conference call today to review the First Quarter of 2018. As usual, with me are Rubin Ritter, one of our three co-CEOs responsible for the Zalando core business, the Fashion Store; and Birgit Haderer, our SVP Finance.

Also as usual, this call is being recorded and webcast live on our Investor Relations Web site, and a replay of the call will be available later today. With that, I now turn over the call to Rubin.

Yes, thank you, and good morning, also from my side. Thank you for joining.

We have just given you a pretty detailed update a couple of weeks back. So I think we will try to keep this presentation relatively short and to the point to have the majority of the time to focus on your questions.

But as always, we will go through four parts. We will talk about the highlights, we will talk about the financials, we will talk about our guidance and then we will turn to your questions.

So let me start with the highlight of the first quarter. I think most importantly, we’ve seen another quarter of really strong sales growth and market share gains.

Revenues have increased 22% to EUR1.2 billion in the first quarter, and I think we’ve been able to achieve this despite a relatively challenging market environment. We had a very late season start, but we managed to be right in the middle of our guidance and of our long-term growth corridor, so I think that is an outstanding result for this challenging first quarter.

Secondly, we’ve seen that this growth continues to be driven by really great customer KPI development, active customers, order frequency, sales per active customer, all of these KPIs have hit new all-time highs in the first quarter, and on top of that, we observed really strong traffic dynamics. Thirdly, we’ve been able to launch Beauty.

This is the first category launch for us in four years. Has been a really big cross-functional effort, so the team is really proud and excited to bring Beauty Live.

And of course, we want to make sure that over the next seasons, our customers get just as excited about our Beauty offering. And then, last but not least, in terms of guidance, we’re confident that we will have another strong year in 2018.

And based on the results and the trading that we’ve seen so far, we confirm our guidance for the full-year. So we will talk about all of these highlights in more detail, but now starting with Beauty.

So, yes, Beauty is successfully live and I just wanted to reiterate where are we trying to go with this. We see Beauty as a really big opportunity long-term in different dimensions.

First of all, as a revenue opportunity, there is an EUR80 billion total Beauty market in Europe. Online penetration is far below fashion.

It's probably around 5% where fashion is approaching 15% online share of total sales, and we see the opportunity to build the leading online destination for Beauty, just as we’ve managed to do it for fashion. Secondly, we see this as a really smart cross-sell opportunity.

We already now see that more than 70% of all baskets are mixed baskets, which leads to very efficient traffic acquisition and unit economics. And then thirdly, we see it as an opportunity to engage our customers even more, so to create more and more reasons for customers to come out to our site more frequently and also to shop more frequently, as you know that has been a strategic priority for us over the last years as well.

In terms of the value proposition that we are trying to build for our customers, in general, we apply a very similar strategy to how we have approached fashion, but of course, we want to make adaptations that really meet, specifically, the needs of the Beauty category. In terms of the assortments, of course, we want to offer a very broad and fashionable selection going across price points, including the big mainstream brands, but also niche brands that might not yet have any online presence in Europe.

We are currently holding 4,000 SKUs from 130 brands. Our initial focus is on color, cosmetics and skin care, and we’re aiming to expand further over time.

In terms of the digital experience, I think there's a two-pronged approach. On the one hand, we think of it as a destination on its own, so you can think of it as having its own landing page, its own homepage.

We will offer engaging content and advice. But secondly, we want to make it deeply integrated into the fashion shopping journey through cross-selling, for example, by integrating it into Shop the Look.

And then of course, in terms of convenience, customers can expect the same grade level of convenience that we offer also for all the other categories. Right now, we’re driving this in a very focused approach, so we’re focusing on Germany and we’re focusing on female customers only.

Of course, over the next years, depending on the progress, there might be the opportunity to expand this even further. Now with this, I'd like to come to the financial updates and, as always, starting with our comments on the growth of our business.

But before I go into the numbers, I want to make a brief comment on a small change in our reporting structure. So we’ve adapted our internal management structure slightly, introducing a more clearly defined business unit structure.

The goal of this step is to further increase management accountability and speed of decision-making within the individual sales channels. The business units that we now have are the Fashion Store, the Offprice segment, zLabels as our private label business and then the emerging new businesses that we are driving.

Given the size of these business units, the Fashion Store is shown as one segment, whereas the other business units are consolidated into the Other segment. We continue to report for the Fashion Store the regions DACH and Rest of Europe as a voluntary disclosure.

And I think as probably the most important change for you, we now have introduced that we account for both external and internal revenues, whereby the latter is eliminated in a separate reconciliation segment. So if we talk about the first quarter, we’ve in total EUR118 million of internal revenues, which are primarily sale of goods from zLabels to the Fashion Store and from the Fashion Store to our Offprice unit.

Now having said that, let's take a look at the number. The Group revenues have grown by 22%.

As mentioned right in the middle of our corridor, very strong results, given how challenging the first quarter was. The Fashion Store has contributed more than 20% of revenue growth and the Other segment, this has grown by more than 40%, primarily driven by a very strong quarter in our Offprice segment.

When we look at the regions, we see strong development in both of them, so the DACH region growing by more than 16%, which I think is particularly strong, given that we tend to see the impact of late season start, primarily in the more mature regions. So I think 16% is a really strong result for DACH; and then we see in Rest of Europe, we’re growing about 25%, which continues to be outpacing the more mature DACH region.

Now I think the next page is really important, because here we can show once again how really strong development in our customer KPIs has driven growth, so we see a continued strong growth on active customers, up 17% year-over-year and close to 24 million active customers. This means we actually have been able to add 800,000 additional active customers in the first quarter, which is particularly strong.

It's driven both by increased new customer acquisition and also by improved retention rates. Now if we look at the activity level of these active customers, we continue to see a very steep increase in the orders per active customer, which is now at four orders on average, which is up more than 10% year-over-year.

And as you know, this has been the strategic priority, to drive frequency up, because we think it really drives long-term engagement and it also drives churn down or retention up. So this clearly has been a focus for us.

At the same time, we see a more significant decrease on the average basket compared to the decreases that we’ve seen before. So in the last quarters have been flat and slightly down.

Now we see it has been going down some more, which is driven by Fast Fashion primarily, and our push towards lower price points, which as you know, we have used to also address a younger audience, which we think is important for our long-term growth. It's also impacted by the continued increase in mobile share, so we’re approaching 80% in terms of traffic and 60% in terms of conversions, so mobile has become really the biggest part of our business.

And then, of course, also driven by the improved convenience, so we’re communicating to our customers a lot better; ordering and returning are super convenient, so people also tend to place more orders, potentially at the expense of basket size. Now while the average baskets economics is putting some pressure on our unit economics, I think it's important to note that bottom line, we see that the GMV per active is growing, driven by the higher frequency.

And this is the main driver that we are looking out for. So 7% increase to EUR234 per active customer, which also is an all-time high.

So we see that the strategy drive our frequency is really effective in helping us to drive growth, even if we have a slight decrease in the average basket size. Now if we look at profitability, our focus on growth did have an impact on the bottom line, especially in the difficult first quarter.

So we’re breakeven in the first quarter of 2018, which I think is okay for an off-season quarter, particularly, if we take into account the difficult environment. However, it's also below last year.

I think that is pretty clear in this picture. When we look at the two regions, we see that the decrease in margin has been driven primarily by the DACH region, where the late season start probably has the strongest impact and where we try to really make sure that growth stays high, as you could see on the numbers that I mentioned before.

And then, in Rest of Europe, actually margin has been relatively stable, even slightly improving year-over-year. I think to talk about the margin, in this case, it's probably more interesting to look at it cost line by cost line.

Before I go through it, also here I'd like to make a small comment on a change in our reporting structure. So in the context of an updated management and reporting structure, we also have decided to reallocate some costs.

The goal was to increase cost accountability in our organization and also speed of decision-making, so we shifted costs from the admin cost line into the operating cost lines, where they functionally belong in our view. This affects less than 1 percentage point of cost, which went from admin mainly into fulfillment cost and to a smaller extent, also into the cost of sales.

So the increase in these two major cost lines would have been less pronounced without the shift. But nevertheless, we think, long-term for us, that is the more effective way to really drive cost accountability and decision-making in our business.

Now if I go through the cost lines, starting with gross margins. As usual, the first quarter is a seasonally lower gross margin quarter compared to the second quarter and the fourth quarter, so that should not be a surprise.

However, we see that two factors have been leading to a 1.8 percentage point decline in the gross margin versus last year. And the first driver is, and the main drag on gross margin is really from the higher average discount rate, due to the late-season start.

This was both affecting for winter merchandise, which we tried to sell off even more aggressively, but also tactical promotional activity around the spring summer season to make sure that we also can kick-start the new season even in a difficult market environment. The second effect was the aforementioned reallocation of admin cost also into the cost of sales.

Now if we look at fulfillment cost, here we have four drivers leading to higher fulfillment costs. I think they're also consistent with what we’ve talked about in the previous quarters.

So we see continued investments into capacity expansion. As you know, we are ramping up five warehouses in parallel, which is by far the biggest number of ramp-up project that we ever had, which of course also has an impact on operating costs.

We continue to invest into our customer experience through our local satellites, faster delivery and return pickups. We see now also a impact from the lower basket size on order economics.

We expect that this will be a mid-term impact and it will increase the need to further work also on fulfillment efficiencies going forward. And then, last but not least, also here we see the before mentioned impact from reallocation of cost between -- from admin cost into fulfillment cost.

Now if we look at marketing cost, I think also here we’ve seen quite consistently that marketing as a percent of sales has been coming down. This effect has also been very pronounced in the first quarter.

I think it has been very consistent in terms of generating marketing leverage, but also in terms of reinvesting marketing spending into convenience and into attractive price points. And when we look at our customer numbers that we've shown before, I think it underlines that this strategy has been successful.

On the other hand, I also think that going forward, in the ongoing quarter, but also in the remainder of the year, we might also see good opportunities to drive additional marketing investment, also driven by the new setup that we now have established after the marketing change in the first quarter. Now a brief comment on the working Capital and CapEx.

So working capital is at minus EUR35 million. So a negative working capital, which is in line with our expectations.

On CapEx, you see that we’ve spent EUR42 million in the first quarter, which is down quite significantly compared to last year first quarter. But I think you should keep in mind that our CapEx will be highly back-end loaded in the year, which is driven by the timing of the different underlying projects.

So this does not have any impact on our -- on the CapEx guidance that we’ve given previously. And with that, I will come to the outlook.

So on the outlook, I would just like to reiterate that we’re confident to continue our strong growth track record also in 2018. Consequently, we’re confirming our outlook in terms of revenues for the fourth year in a row.

We aim for a strong 20% to 25% revenue increase, which is roughly 2x to 3x the growth rate of the online fashion market, so we will continue to capture market share. This translates into roughly EUR1 billion increase in absolute revenues at the midpoint of this range, which would be our biggest absolute growth ever.

In terms of profitability, we think that we can reach this ambitious growth targets, but only if we continue to invest into our customer proposition. Nevertheless, we expect to remain at least constant or even grow an absolute profitability with an adjusted EBIT of EUR220 million to EUR270 million.

But as always, we also want to reiterate that if in doubt we will prioritize growth over profitability as you have seen us doing in the first quarter of this year. In terms of cash flow metrics and working capital and CapEx, our guidance remains unchanged.

I would like to make just a brief comment on the start of the second quarter. So after the delayed start into the spring summer season that I’ve talked about, with respect to the first quarter, we’re now seeing good momentum.

And as we continue to prioritize growth over profitability, we’re further fueling this momentum through various investments that we’re also driving in the second quarter. Now let me finish just by briefly inviting you to our Capital Markets Day 2018.

No surprise, we will host it again in Berlin. It will start at the late afternoon of June 4 and will be a full day event.

Then on June 5, we will have an exciting program to give you a chance to discuss these, about the story and our main initiatives and priorities with us. And we hope to see you there in person, and have a great day here together in Berlin.

And yes, with that, I'd like to conclude my presentation and hand over to your questions.

Good morning. I have two questions.

The first one is -- was just to get your KPIs and I was interpreting that as that your gross merchandise value growth, including the Partner Program, looks like it was also around 22% for the quarter. I don’t know if that’s correct.

But I wondered if you could talk about the Partner Program and whether it's still growing disproportionately. And then, my second question is, I apologize, I was still trying to get my head around your new reporting structure with eliminations, but could you give us the external growth for the DACH segment in Q1?

Thank you.

Sure. So on your first question, regarding the Partner Program, so you’re right, the partner program continues to grow over proportionately with very high double digits growth.

So here we continue to be successful to onboard new partners to make sure that they bring even more exciting assortment life and also just in the past weeks, the Partner Program has continued to grow also in terms of share of the business. With respect to your second question, in terms of eliminating the internal revenues, we don’t breakout that elimination by region.

But of course, when you think about the two regions and when you think about what factors are driving internal revenues, you can assume that they’re more or less proportionally split across the two segments. So there's no big effect from one segment being bigger or smaller in terms of internal revenues.

Thank you. I have two questions.

Starting with the first one, you talked here about intentional [indiscernible] from your site as drivers behind a lower average basket size. Nevertheless, your trailing average basket has been declining now for nine consecutive quarters in a row.

And since this is an issue for unit economics as you mentioned, and it impacts both in the cost of sales and profitability, do you -- as management, do you see a bottom level for the average basket KPI where you will start taking stronger actions to hold this trend?

Yes, so I think the lower basket or the topping around basket size, of course it is a very important discussion, because it has a big impact on our unit economics. And we also have this discussions of -- for quite some time now internally, how we want to manage this.

And I think the first important message is that we really think, as long as this is what customers want and as long as this helps us to drive growth and drive spending per active customers, I think that’s something that we’ve to accept and have to deal with in terms of driving efficiencies and incorporating that in our thinking. On the other hand, of course, we already have started to also work on measures that can bring up the net basket.

So in the past we’ve, for example, talked about initiatives to improve size advice for customers, which will help them to reduce size related return rates, and therefore also drive up baskets, which -- net baskets, which I think is something that helps us and helps the customer. I think the second example where we can get a lot better is around cross-selling or up-selling.

So to the extent that it is something that is also beneficial to the customer, which I think in many cases, it is, I think we can get better in making proposals to the customer on what other merchandise would fit well with their existing basket. So Beauty, I mentioned as one exciting cross-sell opportunity, which for sure we are not yet leveraging to the full extent; but also within the categories that we’ve been operating for a longer time, I think there can be a higher degree of cross-selling, which will also help us to drive our basket and will also be beneficial to consumers, if we manage to make effective proposals on what they might want to add to their shopping basket.

So I think there are also elements that we can consider around incentivizing customers to make bigger orders and to bundle more of their sales into one order. All of these are things that we’re considering and also testing and to some extent also rolling out.

As, for example, the size advice.

Yes, thank you very much. With respect to your guidance, you mentioned that your guidance remains unchanged, but you -- as compared to last year, obviously you're down EUR20 million.

So do you expect some of this missed EUR20 million or the lower EUR20 million to recover in the coming quarters here, and what exactly would drive that? And secondly, you mentioned that you're seeing potential to maybe increase the marketing spend going forward.

Is that something you’re thinking about as a cost ratio or in an absolute terms? And also is that something you see already in this year or is that rather a mid-term outlook from the marketing side?

Thank you.

Sure. So on your first question with respect to the guidance.

So as you say, we confirm our guidance and we don't change it, which to me means that we try to drive growth as our key strategic priority that we’ve also pointed out as our number one financial target and we try to do this by making as many investments as we can, but within the boundaries of the guidance that we’ve given. So I think within these limits, we’re trying to operate in the best way that creates long-term shareholder value and in our view, that means that we try to really drive growth, but within the EBIT levels that we’ve set ourselves and also the CapEx levels of course.

With respect to your marketing question, I think the honest answer is that we will see, but I hope that some of these additional investment opportunities already will come through this year, and next year we will see having quite promising ROI on the marketing spending that we’re currently driving in the second quarter. So I think also short-term, there might be opportunities to drive up marketing spending.

The main decision factor on whether or not we want to do that is really what return levels do we see on these investments. So to what extent does it help us to drive active customer growth, to what extent does it help us to drive recognition of our brand, and the KPIs that we really want to influence.

And based on that effectiveness on marketing, we will also decide quarter-to-quarter what the right investment level should be.

Hi. Good morning.

I have two questions, please. The first one is on growth.

I mean, you’ve delivered 22% on a quarter where the weather was really bad and it seemed to have been an unfavorable environment, so would it be fair to assume that you might see an acceleration from here? And the second question is, on the gross profit margin, is there any way you can help us understand what you -- how it would have moved if it would have been a normal season, or to think about it a different way, how do we think about the gross profit margin trend for the rest of the year if we see sort of normal weather pattern and no sort of one-off?

Thanks.

Sure. So I will take the first question and then I will pass the second one to Birgit.

So on the growth, I mean, in the first quarter we’ve been right in the middle of our growth corridor, right? And of course, we hope to accelerate from that level.

We always like to grow, of course, at the high-end of the corridor or even we’ve managed to grow above in some quarters, but then I think it's also difficult now to give a guidance quarter-by-quarter on -- if we can further accelerate from that level. But as I mentioned when I talked about the guidance, I think our priority is to drive growth.

And if there's the opportunity to drive growth even further, then of course we will aim to do that. And I think in the second quarter, in terms of the season start that we’ve now seen in April, I think they’re positive dynamics that we’re trying to reinforce.

But in terms of the long-term trajectory, I think we continue to target this 20% to 25% growth corridor, which I think is a sort of -- both ambitious, but also reachable guidance for the coming years.

And then, on your gross margin question. It's always a little bit difficult to tell, but two data points I would like to mention.

The first one is you've seen our gross margin last year being around 44%, a little bit south of that. So that’s -- when you compare that to our EBIT guidance, you see that we’re roughly flat in the midpoint compared to last year, so that’s one indication.

And the other one is generally -- more generally speaking, our target model for gross profit, which says 45% to 47% gross margin in a target set up, so where we grow in line with market.

Hello. Volker Bosse with Baader Bank.

Two questions, starting with the Partner Program. You mentioned you had new joiners, so any names you can share with us?

And in relation to that, any new partners who have chosen the fulfilled by Zalando service offer so far? And the second question would be regarding the Beauty segment, could you give us an update on the roll-out in regards to brands and regions?

So do you plan to go outside of Germany already this year; and additional to that is, how many brands or are there any brands who have chosen the partner -- who are member of the Partner Program in the Beauty segment? Thanks.

Sure. So on the first question, you're right that we continue to onboard brands on the Partner Program.

So the most recent examples included brands like [indiscernible] or North Face, which I think are two great brands to bring on the program. We also see that Zalando fulfillment services is gaining very positive traction, so we continue to onboard partners in line with our current capacity.

We have about 20 partners using the program right now, which I think is a quite good uptake given that we have just recently launched this initiative. In terms of Beauty, I think the focus for this year is really going to be on driving Beauty in Germany and for -- with the focus on female customers.

They also remain -- I mean, we’re very bullish on the outlook, but clearly the category is very young, so there are also many things that we’ve to figure out how to optimize, how to really drive growth in this category. So this will be the primary focus for this year.

And in terms of Partner Program, I think in launching a category, we’ve decided to primarily launch it through wholesale, because doing wholesale also gives us the benefit to be able to consolidate beauty items in our warehouses. And I think, long-term, we also see a great opportunity for the Partner Program and then hopefully in combination with Zalando fulfillment services.

But right now, the effort is mainly driven from a wholesale perspective.

Good morning, everyone. Most of my questions have been asked.

So just two things, I guess, is how much of the step up in commercial activities were already preplanned ahead of the quarter? And how much of them were kind of in response simply to the very challenging environment?

And the second is just in terms of the new markets that you promised this year, are you in any position to tell us where we’re going?

Well I think with respect to your first question, it's of course difficult to answer, like specifically, what level of the activities was planned and what developed throughout the quarter, because we always also reserve some budgets that we want to play out in the quarter, driven by how the market is trending and driven by what customer engagement we see. And so naturally, in this quarter, we had to go a bit beyond on what we initially intended, but these effects are difficult to quantify with precision, because we never know what the uptake would have been with a different weather environment and as you know, ultimately we also think -- I think it's something that we’ve to point out, because it was a very important external factor.

On the other hand, there will always be weather swings and as a business, we just have to try to do our best in whatever market environment. So also internally, I think the value of quantifying it is limited, because ultimately that is the reality that we’ve to deal with and there will be also delayed season starts in the future.

In terms of the new markets, so you’re right that we’re preparing to launch new markets this year and the efforts are ongoing, but we don’t yet want to disclose the specific locations where we intend to launch.

Yes, good morning, and thanks for taking my questions. Two follow-ups for me.

First on Beauty, I'd assume that products here have lower return rates. I mean, should this be beneficial to unit economics even in the short or midterms, given that customers keep at least the add on beauty product, which drives down overall return rates?

And secondly on marketing, I mean, from a competitive perspective, it seems that ABOUT YOU has opened the floodgates, at least in Germany, running several TV campaigns, large billboards, sponsoring more events, etcetera. Should we assume that Zalando will have to react to this or will we see an even more promotional market going forward?

Thanks.

Sure. So on the question on Beauty, you're right that the return rate on beauty items is lower, which is beneficial.

On the other hand, beauty has also -- tends to have, as a market slightly lower gross margins. It also tends to have lower item values, so my expectation would be that this also to some extent balances out.

But of course, if we continue to be successful to cross-sell beauty into existing baskets, I think it can enhance our unit economics going forward. However, given the size of our business, I think that will also really take a while before beauty has a scale that it can make a meaningful impact on the overall number.

So I mean, we're talking now about a business of approaching EUR5 billion in scale. I think that will take some time for a new category to remake a dent into the unit economics at such a scale, but that’s something of course we’re working on.

With respect to marketing pressure, I think we’ve seen from time-to-time that there is increased marketing pressure from us or from competition in several markets. I think, bottom line is that we continue to benefit from a very high brand recognition, and as you can also see in our growth numbers both in terms of customer acquisition and also in terms of activity levels of our customers, I think we’ve built a proposition that really sort of builds customer loyalty and that is also quite attainable.

On the other hand, of course, I think -- I mentioned that I think there are opportunities to also increase our aggressiveness in marketing again, which is with respect to performance marketing, where we’re trying to really continue to update our systems and make them even more targeted, which will bring our efficiency in the spending up, which means that the ROI will also go up, which means that we can also spend more. And I think also with respect to brand marketing or TV and other forms in these channels, I think there's the opportunity for us to accelerate again, which I think, the current numbers show that this is not something that we’ve to do, but I think actually it might be a good opportunity to also step up again our spending in this area.

So there's also a lot of activity planned for the season start and for winter and so we think that this can have an additional positive impact on our business.

Thank you. Good morning both.

A couple of questions from me. First of all, I noticed that your site visits actually grew slower than your active customer growth, which I think is the first time that's happened on a quarterly basis.

I was just wondering if there's anything you can talk to around that? Is it customers visiting less because of the bad weather or was customer acquisition very back-end weighted in the quarter?

And then, the second one was just on the exceptional cost. Could you just explain what the restructuring within the marketing department has been and why you’ve taken those costs as exceptional?

Thank you.

So if I’m not mistaken, I think traffic is up about 16% and active customers are up 16.7%. So I think that is very well in line.

I think our traffic numbers look actually quite good. We also see that conversion continues to be very healthy and improving.

And also, when you look at the sheer [ph] amount of our traffic, I think it's actually quite remarkable that we’re able to drive such growth at these already very high traffic numbers. With respect to marketing restructuring, I will hand over to Birgit.

So Dan, what you’ve seen this quarter is that we adjusted about EUR11 million in our adjusted EBIT, that is associated with a new setup of our marketing function that we communicated in March. You might have seen also references there in the press.

We let go around 200 to 250 people and the EUR11 million roughly reflects the severance packages related to this reorganization. This is obviously something we don't plan to do on an ongoing basis, so this has been quite extraordinary and this is why we’re adjusting our EBIT for this effect.

Thank you. Yes, I had a second question tying into the question around average basket size.

When do you think it will be time for more advanced technology around sizing? Are you developing such technologies in-house or will you seek perhaps complementary acquisitions in this field?

I am thinking, for example, about Amazon's acquisition of Body Labs recently?

Yes. So as I mentioned on one of the previous questions, I think better size advice is one of the drivers that can really effectively bring our return rates and at the same time create also value for customers.

And therefore, also increase -- improve our unit economics. So the current approaches that we’ve on the site and that are live are all developed in-house.

We’ve also looked at a number of companies in the field and we’ve considered also potential acquisitions. So far we’ve seen that whenever we contested our own algorithms with algorithms of third-party providers that our algorithms have outperformed.

So this is why we’ve decided to drive this primarily as an in-house development. Also, we think it's really at the heart of our customer proposition.

So I think that's something that we also want to really understand and need to understand ourselves, but also in this field, we’re open to acquisitions. And I think wherever we can acquire capabilities that make us stronger, we’re ready to also use M&A as a lever as we’ve done in several occasions in the past.

Good morning, guys. Thank you for taking my questions.

Two questions from me as well. The first one on the churn rate of your customers and just in light of some more increased disclosure from one of your peers.

I just wanted Zalando's take there maybe. And there are several ways of asking that question, but I guess, could you give us a little bit of color of what percentage of your customers that you recruit, you lose then on the second year; and how many of those then there -- they stay with you thereafter?

And I guess, the point is of understanding or gaining a bit of color on whether your customer acquisition costs are increasing or decreasing over the year? That’s the first question.

And the second one, very short one. Can you tell us the basis points of -- out of that 180 basis points of gross margin decline, how much of that was reallocation of admin cost?

Thank you.

Yes, on the first question, so we -- as you know, we don’t disclose specific churn rate numbers. We’ve our ongoing disclosure on -- in the presentation, which talks about active customer growth and then engagement in spending per active customer.

And as mentioned, I think the continued healthy trend both on frequency and also on active customers already suggests that retention has improved or churn has been coming down and we’ve also commented on this on the last calls, but we don't disclose specific numbers. In terms of customer acquisition costs, also here we’ve explained in the past that for us it's not primarily about the absolute level of acquisition cost, but it is about the relationship between lifetime value and acquisition costs.

And that relationship has been staying relatively stable over time. And then, with respect to gross margin, as mentioned, the primary impact comes from the promotional activity that we had to drive in the first quarter.

A smaller effect comes from the admin cost reallocation. I’ve given you some ballpark figures, which I think will allow you to back into it.

We said that the shift is less than 1 percentage point and that the majority of that shift has gone into fulfillment cost and the smaller portion into cost of sales. I think that gives you a pretty good idea on what the magnitude is.

Yes. Hi.

This is Tushar Jain from Goldman Sachs. Just wanted to revisit your target model on gross margin, 45% to 47%.

Just wanted to confirm that’s only for the wholesale part of the business or the Fashion Store. The reason I'm asking is, that has been under pressure for the last two years and given the negative mix from Beauty, you can still achieve 45% to 47% gross margin with any of your Fashion Store or wholesale business?

Thanks.

Hi, Richard (sic) [Tushar], yes. That’s confirmed.

So the 45% to 47% are associated with our wholesale business. As we continue to move on other business models, there obviously can be impact on the gross margin, as you mentioned correctly.

So Beauty, for example, could reduce that. On the other hand, Partner Program could increase that then, so there's different factors that can drive it one or the other direction, but what we said so far is for the wholesale, we believe in the 45% to 47%.

Once we’re at target model, which means we’re going alongside with the markets. So not out growing the market 2x to 3x like we’re doing right now, but growth has come down to those kind of levels.

Thank you for joining us today and if you have any further questions, do not hesitate to contact us. Have a great day.

Thank you.