A Member of Pat McKeough’s Inner Circle recently asked for his advice on an online marketplace that attracts buyers and sellers of unique and creative goods.
Pat likes the company’s increasing revenue and earnings, as well as its measures to improve its investor prospects. However, he notes that its latest policy changes might fail to win the support of its sellers.
Q: Hi, Pat. I would appreciate your thoughts on Etsy? Seems like an interesting business but at some risk of being dominated by Amazon. Is it worth an investment? Potential buyout target for Amazon? Thanks.
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Etsy Inc., (Symbol ETSY on Nasdaq; www.etsy.com), provides an online marketplace for buyers and sellers of unique and creative goods. The company was founded in 2005 and is headquartered in Brooklyn, New York.
The platform generates revenue primarily from listing fees of $0.20 per item and a final value sales fee of 5%. A small but growing revenue stream comes from fees for extra services such as promoted listings, payment processing, and shipping labels.
Etsy first sold shares to the public in an IPO on April 16, 2015, at $16 per share.
In July 2019, the company acquired Reverb.com, a marketplace for buying and selling new, used and vintage music gear, for $275 million. Reverb.com has a complementary product line and brand presence that should benefit from Etsy’s superior platform selling features.
In August 2019, Etsy announced two changes to the way it does business that it hopes will improve its overall growth prospects.
The first was to offer free shipping on orders of $35 or more. On all online shopping sites, a high percentage of shopping carts are abandoned when shipping costs are added. By offering free shipping, abandonment should decrease. Sales will also get a boost from shoppers who add items to their cart to meet the free shipping threshold.
The second improvement is to shift the responsibility and cost for search engine advertising to its sellers. Sellers can now purchase Google AdWords on the Etsy product listing page. This will not only allow Etsy to better spend marketing resources elsewhere, it will also increase final value fees as sellers raise prices to absorb advertising costs. As of the end of the latest quarter, 62% of items on the Etsy marketplace offered free shipping to U.S. buyers and 74% of U.S. listing views were eligible to ship for free.
As a result of migrating its search efforts to Google Cloud, the company made a major upgrade to its ranking algorithms, which will enable Etsy to provide more relevant search results to buyers on Etsy.com. In addition, it continued to improve its mobile app and has begun highlighting items that are similar to items buyers have made a favourite in the past. The company has also integrated several shipping solutions, all geared to helping improve the overall shopping experience, and launched a regional sales feature that lets sellers target buyers in specific markets. That’s often used to focus on domestic markets, which reduces shipping and administration costs.
Over the past five years, the company’s total revenue has increased 181.1%, from $156.8 million in 2014 to $440.7 million in 2018. After years of operating at a loss, Etsy earned $81.8 million (or $0.68 per share) in 2017 and $77.5 million ($0.61 per share) in 2018. The company was expected to earn $84 million ($0.66 per share) in 2019
In the three months ended September 30, 2019 (well before the COVID-19 shutdown), Etsy’s total revenue increased 31.6%, to $197.9 million from $150.4 million the previous year. That reflects the addition of Reverb.com.
However, earnings fell 25.6%, to $14.8 million from $19.9 million the previous year due to acquisition costs as well as increased marketing costs as the company invested in a TV ad campaign in time for the holidays. On a per-share basis, earnings fell 20.0%, to $0.12 from $0.15 on fewer shares outstanding.
These quarterly results don’t reflect the COVID-19 outbreak and the resulting economic shutdown that has impacted businesses worldwide
Etsy holds cash of $671.8 million and has long-term debt of $776.2 million.
Due to changes in legislation, the company must now collect several state sales taxes at checkout. This could increase shopping cart abandonment and lessen the positive impact of Etsy’s new shipping-cost policy.
Nonetheless, the potential for revenue growth is strong. In the latest quarter, gross merchandise sales made on Etsy’s platforms increased 30.1%, to $1.2 billion from $922.5 million the previous year. Active sellers on the platform increased 26.9% and active buyers increased 20.7%. Meanwhile, revenue from add-on services increased 47.5% over the previous year.
As mentioned, to attract more customers, Etsy is now pushing sellers to reduce shipping fees or eliminate them altogether. The focus on shipping is aimed at generating higher gross merchandise sales, or the total value of items sold through the company’s marketplace.
The company believes that its research suggests that buyers perceive about half of the items in its marketplace have overly high shipping prices. However, whether sellers will be willing to absorb those costs is uncertain.
The long-term outlook for Etsy is positive. Some investors think it could become a takeover candidate, with its market cap of just $9.3 billion. However, most majors like Amazon, eBay and other online firms that might be interested already have their own online selling platforms.
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