Etsy - an expensive stock with limited upside compared to Amazon
Why buy Etsy when you can own Amazon instead? Or even Alibaba?
Key Business Stats (as of 15th May 2021)
Market Cap : $20.73bn
Revenue (2020) : $1.725bn
Gross Profit (2020) : $1.260bn (73%)
YoY Revenue Growth : 110% (this is likely COVID driven. YoY growth before 2020 averaged 35% ish)
YoY Gross Profit Growth : 130% (COVID driven? Average YoY ranged between 19% and 40%)
Total Cash on Balance Sheet : $1.662bn
Total Liabilities : $1.669bn (tighter than i’d like to total cash, but not too bad)
Free Cash Flow : $0.787bn (growing alongside revenue - this is good)
Etsy Valuation relative to Amazon & Alibaba
Etsy’s latest Form 10-K is a must read. The revenue growth from 2019 to 2020 is nothing short of jaw dropping and most certainly COVID-19 driven. Assuming growth eases back down to the usual average of 35%, we can reasonably expect revenue to grow to 2.3bn and Gross Profit to grow to $1.7bn. This means that Etsy is currently trading at an expensive 12.1x Forward Gross Profit multiple and 9x Forward Revenue.
For a business growing at 35% a year with a COVID-19 spike built in, these multiples are pretty high because a comparable to Amazon & Alibaba :
Amazon : 4.2x 2020 Revenue, 17.2x 2020 Gross Profit
Alibaba : 6.89x 2020 Revenue, 16.1x 2020 Gross Profit
You can argue that Etsy deserves a higher multiple because is has a much higher gross profit margin (73%). But when you buy Amazon & Alibaba, you’re buying dominant e-commerce businesses that have a bunch of other fast growing business units within them. AWS & Alibaba Cloud, Amazon Advertising, Alibaba logistics etc.
Because of this, you ought to demand a discount when purchasing Etsy stock as the long term upside of the business is suspect.
Competitive Advantages - Lacking
Can Etsy become a $200bn market cap firm? If you believe it can, assuming Revenue multiple compresses to 7x (higher than Amazon because Etsy has higher gross profit margins), Etsy has to grow revenue from $1.725bn to $28.5bn.
I just can’t see this happening as much as I like the website and what the business does. To grow revenue that much, merchants on Etsy need to get bigger and run like professional sellers on Amazon & Alibaba.
But within the handmade / craft niche, questions remain about the potential for sellers to get large.
Which means, Etsy has to onboard a lot more niche crafts / handmade / micro businesses. They’re attempting to do this with market expansion in 7 countries :
United States
United Kingdom
Germany
Canada
Australia
France
India
Revenue from outside the US hit 36% in 2020, which suggests that onboarding sellers and buyers from outside the US is working. However, compared to the might of Amazon & Alibaba, you really need to ask some hard questions about the market size for the stuff sold on Etsy.
There’s also a serious competitive threat - Amazon Handmade.
If Amazon decides that it wants to eat Etsy’s lunch, all it has to do is drop the seller fees on Handmade and drive a mass exodus of sellers from Etsy to Amazon.
I think this is a big problem because of the following :
Etsy’s Offsite Ads - Divisive among Etsy Sellers
On page 89 of the Form 10-K, Etsy highlighted an increase in ad spend to $500m (130% increase from 2019’s $215m marketing spend).
Etsy released a product called “Offsite Ads” that (as far as I know), sellers cannot opt-out of. Etsy will automatically buy advertising on Facebook, Google, Other Websites and on the internet for its listings.
This is performance marketing and is designed to drive traffic to listings on Etsy. The hope is that more traffic = more sales = more fees that Etsy can collect.
Etsy markets “Offsite Ads” as a sales tool for sellers (that happens to be mandatory) and if an Offsite Ad drives a sale on an Etsy merchant’s listing, Etsy collects a fee of 12% or 15%.
There are arguments for and against this fee.
You can argue that Etsy Sellers have been enjoying a cheap way of making a sale on Etsy. Charging a 12% or 15% performance marketing fee (Offsite Ads) is in line with what sellers on Amazon pay. Arguably less. I run an e-commerce business and marketing does cost 10%-15% of sales.
However, Etsy’s competitive advantage is fragile as is. Amazon has a larger audience and an Etsy seller can migrate and sell on that. Amazon may cost more for sellers, but they also get access to a larger audience. Etsy needs to retain as many sellers as possible and keep them selling most of their merchandise on Etsy.
Etsy’s Offsite Ads move, while being excellent for driving revenue and lowering marketing costs, might actually backfire and cause long term damage to Etsy’s brand and the health of its marketplace by alienating sellers and driving some to the warm embrace of other marketplaces.
Etsy should consider making Offsite Ads optional
I understand why Etsy rolled out Offsite Ads, but I think it is value destructive long term. Forcing your sellers to opt-in to performance marketing they don’t want rubs them the wrong way. Unhappy sellers will start considering to leave.
At an extra 12-15% of sales for Offsite Ads, there is a case for Etsy Sellers to consider diversifying from Etsy and start stores on Amazon and even Shopify. And going by the conversation happening, people are considering it.
Amazon doesn’t force merchants to pay for advertising. It is optional. You need to build an ad product that works so well that merchants happily pay for it. Relying on programmatic buying off Etsy and making merchants foot the bill just doesn’t feel like a wise long term decision.
I could be wrong. But i’m still not investing in Etsy
I could be wrong. Perhaps Offsite Ads ends up becoming a genius move. Sellers that don’t deserve to be on Etsy will leave, only leaving the sellers who are more savvy and know how to make sales profitable even with a mandatory ad spend.
The uncertainty of this does make me hesitant to invest in Etsy today.
My limited dollars are better spent on Amazon or Alibaba shares in today’s market. I will be revisiting Etsy in future to see how Offsite Ads pans out. I hope Etsy does more reporting on that. What i’d like to see is :
Etsy’s Offsite Ads spend
Offsite Ads conversion rate
Offsite Ads revenue from sellers
Sellers churn after Offsite Ads
Specifically, i’ll be looking for signs that the Offsite Ads revenue (12% / 15%) from sellers is higher than the marketing spend for those ads or breaks-even This will be a game changer because it will mean that Etsy’s marketing spend will be zero with sellers footing the bill and enjoying the upside as well.
That would make Etsy a very healthy and profitable marketplace.
**Not investment advice and merely opinions. Don’t take buy / sell recommendations from me since I am not a certified financial analyst.