Rent The Runway (Ticker: RENT) is set to price its IPO on Wednesday, and simply put, we’d avoid this deal like the plague -- unless pricing comes in well below stated target EV of 1.5bn.
Rent the Runway(RTR) is a clothing rental service where fashion-focused women can get access to clothing items from top designers without having to pay hundreds or thousands of dollars for each item. Rather they can access the “closet in the cloud” with starting subscription of $135/month. The core offering here makes a lot of sense, and it’s a quality value proposition for the fashion enthusiasts that want fresh outfits without having to pay a big price tag for each item, or have to create the waste of constantly turning over their wardrobe.
A few things stand out to us on the fundamentals. First of all, for a company founded back in 2009 and having been featured in fashion media for years, the subscriber base is surprisingly small. At the end of 2019 the company had just 134k subscribers, and that is with the company highlighting its reached over 2.5mm unique customers during its history. So it brings into question the ultimate market size for a high priced apparel rental service. The other stand out, is the awful profitability. The company has -50% operating margins as of 2019, worse in 2020. Adj EBITDA looks a bit better at a -7% margin in 2019, but using EBITDA here is a bit different than other retailers. There is a lot of D&A because so much capex goes to rental product, kinda like a typical retailer’s inventory in working capital. It’s (rightly) treated differently here, but means it becomes a very capital intensive business. Capex in 2019 was 63% of Revenue. The company is in recovery mode from covid, where it lost 60% of its subs (some just pausing membership), so there should be several quarters of growth ahead on the reopening. 3Q hasn’t been reported yet, but the company was back to about 84% of pre-covid levels as of end of September.
A concern here is the company talking about re-sale, and how successful it’s been since the pandemic and highlighting it as a growth opportunity. Let’s be clear, this is not a resale model. Resale product is the product that is either no longer in demand or no longer in condition to be rented. The company wants to rent its product to generate revenue, not sell it. It’s not going to grow its assortment to drive resale dollars and its core customers shouldn’t want to own the goods, rather they send it back and get the new rental, that’s the model. The talk about resale maybe gets some excited about TAM, but to us that is the problem. RTR doesn’t want to fall into the trap that SFIX has found itself in, where a constant search of new TAM to boost perceived growth opportunities (and value perception) has driven down margins, raised capital intensity, and increased competitive threats. Resale has many players that can likely do it much better than RTR. The moat for RTR is limited, as anyone can replicate the model. Building the fulfillment infrastructure and establishing the brand relationships is perhaps a challenge, but it doesn’t appear RTR has any truly special sauce here. Established apparel players can get into the market relatively quickly, URBN is already doing so with its NUULY offering. RTR will have to rely on its first mover advantage and brand recognition to try to stay ahead.
We think this stock should probably trade around the EV/Sales level of post IPO SFIX. That’s 2-3x sales, or $550mm to $850mm for RENT as opposed to the speculated $1.5bn EV target. Barring a pricing range well below expectation, we’d stay away from this one, and might look to short it should it rally.
