Despite the big headline beat, we think the time is right to elevate W, once again, to a best idea short. The home category has been super-hot, as well as online shopping, and Wayfair has been a huge beneficiary of this. However Wayfair growth is now slowing against easier comparisons, a material portion of incremental revenue appears to be coming from higher spending levels of repeat customers vs new customer acquisition with the company hitting new highs in orders per customer and repeat order rate (ie potential pull forward of sales and difficult to compare against). Google interest for Wayfair now looks flat YY vs being up ~100% in the spring. Wayfair unlike any other stock in our universe has had a multiple (EV/sales) that expands and compresses in sync with the rate of change in revenue. So a slowdown in revs, which is pretty much guaranteed on an NTM basis should mean a reversion towards trough levels on EV/sales. Profit flow though has looked stellar with GM up 650bps and 970bps of SG&A leverage as demand has come at very low cost to the major players, something we think reverts to the mean as time goes on and Covid-19 pressure subsides, and management seems to be guiding similar moderation in margin improvement. It’s certainly going to be hard to grow EBIT off of that margin expansion rate in 2021 regardless of revenue. Competitors have improved in-stocks and delivery times as the focus on consumer essentials has moderated, and though the category doesn’t look to be promotional yet, the competitive intensity is likely to rise over the next 12 months. At the same time slowing revenue should be a catalyst for greater levels of investment to re-accelerate the topline, advertising prices are rising but still down YY, SG&A deleverage is on the horizon.
We’re not making a call that the business model will collapse and go back to negative operating margin, though that is possible. Simply the rate of change in industry growth will moderate, as competitive intensity increases, and compares get very difficult. That means slowing revenue and profits and therefore multiple compression for W. Short interest is actually relatively low for W at 22% with some convert delta hedging likely in there. Insiders remain sellers with 10b5-1 auto sells on vesting for several managers. Though at these prices, why wouldn’t you be selling when so much of compensation is via stock and taken out of adjusted operating results. On the slowing fundamentals, we think W can rerate to 0.8x to 1.2x EV/sales which would mean a fair value for the stock between $100 and $160. Having some actual earnings may end up being a valuation headwind for W as well. Street numbers should march higher, but we’ll still be looking at a stock likely trading at 30-40x out year EPS. That seems too rich for a model with rapidly slowing revs. If looking for a pair here, we like RH on the home side and CHWY on the online retail side, both of which have also been Covid winners, but they are ones we think will have much better sustainability in fundamental trends than W.
