It’s tough to measure the sheer quantity of egg I have on my face today being short Wayfair. Should the stock be up? Yes. Growth in the quarter came in ahead of the guide, incremental margin wasn’t as value-destructive as the Street expected, and 1Q is tracking ahead of plan. Should the stock be up near 30% on this result? It’s easy for me to defensively and emotionally say ‘absolutely not’. But let’s simply look at it a different and more pragmatic way. Today Wayfair’s Market cap is up by about $3.1bn. That is – almost to the penny – RH’s ENTIRE market value. RH is a real company, with a real strategy, a limited competitive set, and is very profitably and consistently capturing more incremental EBIT dollars in Home Furnishings at a better cash on cash return than anyone in the space. That’s a strategy with a good 10-year runway. Wayfair, on the other hand, is spending heavily against a strategy to grow at the commodity-end of the market to sell goods close enough to cost that would require the company to enter cost cutting mode – hence destroying the growth profile – to ever earn a profit. And while it does so, it’s attracting everyone from WMT, to TGT, AMZN, IKEA and all the other bottom feeders that can leverage a real Brick & Mortar infrastructure to compete profitably against Wayfair.
The 3x value discrepancy between these two businesses is simply staggering.
Does this mean that we long RH, or Short Wayfair? I think it means both. I have no problem reversing course when I am wrong on a call. But with W breaking through all time highs on a low-quality top line trajectory – I’m very comfortable shorting more today while the 26% of the float that was short the stock into the print capitulates. I think the growth profile at this company will slow materially as this year progresses as we move from US Macro Quad 4 into Quad 3 (both real growth slowing), at the same time compares get difficult AND we see both the competitive landscape heat up for W in its core US market from REAL competitors (this goes beyond the AMZN call), and the company self-destructs as it scales up its European business – which is a flat-out strategic mistake. I’ll respectfully go against Shah’s comment on the call that “Macro doesn’t really matter.”
We’re presenting a Black Book on March 11th, where we’ll dive deep into all relevant aspects of the competitive landscape in the Home Furnishings market, and how the narrative around Wayfair’s growth strategy will change as it responds to market forces that are being ignored with the stock pushing new all time highs.
Call Details:
Date/Time: Monday, March 11th, 2PM EDT
Toll Free:
Toll:
UK: 0
Confirmation Number: 13687838
Live Video Link: Will be provided prior to call.
Quick Thoughts on Key Metrics:
The quarter was solid (if you don’t care about profits), especially vs the street expectations, though we would point out a few notable datapoints.
Incremental margin improved but still sits at -7.4%, even on top of -3.6% last Q. The US incremental EBITDA margin was 0%, with $480mm in incremental revenue, $1mm in incremental adjusted EBITDA.
Average order value fell 1% in 4Q making for the first year of a decline in average order value in the company’s public history.
LTM Orders per customer slowing but up 5.2% still. So customers ordering more frequently in lower amounts, that makes efficient distribution all the more critical.
Ad spend per order better YY but weakening on the margin. Interesting to note that with 40% revenue growth, every line of SG&A deleveraged in 4Q.
HERE’S OUR NOTE ON WAYFAIR FROM EARLIER THIS WEEK
W | New Best Idea – Short Side
Takeaway: We’re adding Wayfair as a Best Idea Short with 40-60% downside, and will be presenting a Black Book on March 11th.
Wayfair has been on our short bench for over a year, and we’ve been waiting for the right time to elevate it to a Best Idea – and we’re confident that time is now. We continue to think that Wayfair will never make money – as its Gross Margin structure is structurally too low to fund the SG&A costs inherent to growing this business. But let’s face it, the stock didn’t care about that at $50, and it probably doesn’t care at $120. That’s why we’ve been so picky about calling the right entry point.
What the market should care about is a change in the competitive set that is materially going against Wayfair. Its success has attracted the wrong kind of competition – as in, the folks you don’t want to compete with – ever. Combine that with more challenging Macro growth headwinds in the US and in Europe, and we’re looking at the growth trajectory being cut at least in half over a TAIL duration – which is dangerous given that there’s no earnings or cash flow to trade on here. This thing is ALL ABOUT the top line, and we’re currently sitting at an unsustainable growth rate that should begin a multi-year deceleration starting next quarter. In the ‘watch what they do not what they say’ department, keep in mind that Wayfair management is better at selling their W stock than they are at selling furniture (note: I’d challenge you to find more Form 4s for any company – ever).
Competition is stepping up its game. Keep in mind that at the time of the IPO the only real competitor was Overstock. Now that’s become a crypto-company, and we’re seeing real businesses – the kind with deep pockets to invest behind major categories like home furnishings, and also that have real scale to make money where Wayfair cannot. For example…
- Walmart just launched a new line of furniture and home goods called MoDRN available on Jet.com, Walmart.com, and Hayneedle.com. This looks like a direct shot at Wayfair.
- Ikea is exploring a third party marketplace platform on its site to connect more suppliers with buyers. This is essentially the same model that Wayfair uses, as Wayfair holds inventory only when in transit. Ikea is a very recognizable brand that has stores to back up the online operation.
- Amazon continues to move further into home including furniture and kitchen Prime Day deals, new private label furniture brands, deals to sell traditional furniture brands on its site (like La-Z-Boy and Ethan Allen…) and DCs adapted for greater large goods fulfillment.
- TGT and WMT are continuing to invest in ecommerce and delivery. We could potentially see both of these retailers’ ecommerce operations outgrow Wayfair in 2019.
Aside from competition, Wayfair is becoming its own worst enemy. Keep in mind that 20% of incremental growth is coming from Europe. That’s simply a bad idea. The international segment is approaching $1bn at year end. When the US business was around $1bn, it still had growth periods of +50 to +70% ahead of it, with an adjusted EBITDA margin of around -1%. International meanwhile sports a -18% EBITDA margin, and is already seeing revenue slow to the +50% range. That’s an alarmingly fast slowdown giving where this business is in its maturation curve and the amount of investment W is putting in. Keep in mind International includes Canada, where customers have been shopping Wayfair for years. And remember that Wayfair got its start as a bootstrapped US ecommerce company with a collection of successful websites selling various yet specific furniture categories. It grew up in the US market with very unique market knowledge of online furniture retail. What gives it the audacity to think it can replicate that in Europe? It simply can’t, and will either have to pull resources away from Europe – i.e. de-emphasize a growth engine – or else put even more capital towards a perennially money-losing business.
Valuation history about to repeat itself. With mounting competition, revenue will be pressured within a US consumer environment we expect to slow in 2019. A slowing topline is a big risk for a stock with no earnings trading at 1.8x trailing sales. We think growth will slow from low 40s to the mid 20s, or worse, by year-end with no improvement in profitability. That should equate to a re-rating closer to 0.8x-1x trailing sales or ~40%-60% downside. It’s happened before ---note 2016 when sales decelerated from 70% to 50%...we saw the EV/Sales multiple compress by half. History is about to repeat itself as it relates to slowing growth impacting the stock.
There’ll be some pin action this Friday on the 4Q print. With short interest at 26%, and a stock that has rallied 50% in 2 months, be prepared for violent moves in either direction on the 4Q print and more importantly, the guide. The stock has a median move of 13.6% over the past 16 earnings events since the IPO, and this one should be no different. Aside from showing a meaningful acceleration in revenue – and making money while doing it – there’s little the company can do or say to derail our call. So if we see a rip on the event, it simply gives us a chance to get even louder.
We’ll dive deep into the business model and the fundamental bear call in our Black Book presentation on March 11th.
