My Wayfair IPO breakdown. Sometimes an S-1 doesn’t tell you everything.

First things first. I am not a Wall Street analyst. I am neither long nor short Wayfair or hold any direct equity position in a comparable company that trades in the Wayfair competitive set. Lastly, for this post, I did my best to make some educated assumptions about the Wayfair business that have not been publically made available by the company. If there are any meaningful data inaccuracies, please know that they are not with specific intent.

wayfairLogo

  • Company: Wayfair Inc.
  • Founded: 2002
  • Location: Boston, MA
  • Employees: 2,104 FTEs w/ 125 open positions
  • Leadership: Niraj Shah (CEO, co-founder), Steve Conine (CTO, co-founder). 3.1 of 5 stars and 80% approval via Glassdoor Ratings)
  • Investors: Battery Ventures, Spark Capital, Great Hill Partners, HarbourVest Partners and T-Rowe Price.
  • Revenue: My estimate is $1.325B for calendar 2014
  • Market Cap: $2.8B (at $35/share)
  • Ticket Symbol: $W (great ticker symbol!)
  • Expected IPO Trading Date: Now trading.

Business and Category Overview:

Wayfair is an incredible ecommerce story. The business was founded in 2002 by Niraj Shah and Steve Conine in Boston as a website called RacksAndStands.com (yes, they started by selling speaker stands and TV stands online). Eventually, the business became known as CSN Stores which was a collection of ~240 niche commerce sites focused on furniture, home furnishings, decor and goods with web domains that included porchgrills.com, bathmats.com and bedrooms.com. Wayfair was bootstrapped until 2011, with business growing to >$500 million in sales. At that time the still founder led ecommerce pioneer took its first outside capital and made the strategic decision to rebrand and permanently redirect all of the sites into Wayfair.com. Leading to what is today Wayfair, a billion dollar plus pure-play ecommerce business with a collection of five home related sites — pretty much a one-stop shop for furniture, home furnishings, decor and goods.

W_IPO_Overview

Wayfair offers the world’s largest collection of online selections of furniture, home furnishings, décor and goods. I would best describe Wayfair as an ‘inventory lite’, Amazon like, online seller of home related goods connecting 7,000 third-party suppliers representing 7 million products with millions of buyers. Wayfair’s has built two clear “unfair advantages” relative to the competition that have enable them to have great success.

1) Complex and sophisticated supply chain, operations and production capability which can efficiently and effectively coordinate the listing, production, presentation, transaction, fulfillment and support for what are literally thousands upon thousands of smallish sellers who have millions of product type available for sale. As you can guess, logistics, fulfillment and customer support for home goods products are challenging given the various categories, shapes, sizes, weights and price points in the home market. Large bulky items, such as living room sofas, dining room tables and bed frames, are particularly challenging and costly to warehouse, ship and deliver. One of the reasons Amazon is not really in this business.

As Alex Finkelstein from Spark Capital an investor in the business said, “In my mind, that’s the secret of the business—teaching thousands of small, mid, and large manufacturers how to do drop-ship so well. That’s what really enables the engine behind the engine to work.”

2)  Successful three pronged demand generation mechanism that includes:

  • sophisticated online marketing capabilities, specifically homegrown tools that support paid search advertising and search engine optimization.
  • robust utilization of ‘success based’ third-party seller network, including the likes the Amazon, eBay and Walmart and an internally managed affiliate program.
  • aggressive television advertising initiative in support of the Wayfair.com and Joss & Main businesses that kicked off in a big way in late 2012.

A key investment theme of mine focuses on the fact that the pure play ecommerce businesses (ie: product is shipped to customers) that have created the most shareholder value all have two specific characteristics.

  1. Incredibly compelling value proposition to consumers.
  2. Differentiated and unparalleled back-end fulfillment, operational and production capabilities.

Companies like Gilt, HauteLook, Quidsi (Diapers.com), Yooz, Zappos and Zulily all fit such criteria. This is the reason I recently led a large investment at Upfront Ventures in ThredUp, a leading online shop for buying and selling like-new women’s and kids clothing and accessories and will someday become the largest “modern day consignment store” in the world. Wayfair obviously fits into this category as well.

In the world of retail, home goods are similar to fashion.  You rarely see couches, chairs or tables in people’s homes that look similar to yours.  Just like fashion products. As a result, consumers love to be able to have large selections for inspiration and purchase choice. With limited square footage in retail stores, and the required floor space need to exhibit such product, one sees why the Wayfair value proposition is so compelling.  While I do love my Ikea, it is an event in itself to visit a store like that. Quite simply, “home does not work well with a search box”. In addition, there are no real brands in home goods categories. Can you name the brand of your bed sheets (unless it is Parachute Home)? Can your son tell you the name of the manufacturer of his bunk bed? Exactly. Unlike fashion these are categories heavily influenced by who sells the product versus the brand of the product maker. Another reason why Wayfair is so uniquely positioned.

Like I said before, Wayfair works with thousands of third-party supplier partners including makers of furniture, home decor, lighting, kitchen, bed and bath, outdoor, home improvement, travel products and many more product categories. It is about more than the 7,000,000 product number, but about the fact Wayfair carries 800 types of bunk beds, 17,000 accent pillows, 4,000 chandeliers, 5,000 barstools and 10,000 table lamps. And customers can actually find them in their sites! This is a scale that traditional offline retailers just can’t match. You might have 1/100 of these quantities at an Arhaus, Restoration Hardware or Target store. On top of that, the home goods market is F’in huge, reportedly over $233B in North America with only about 7% ($16B) actually transacted online. While this category has significant ecommerce friction (shipping price, selection, lack of capability for consumers to return product, etc), it is still large and fast growing.  With Wayfair growing their top-line revenues between 45%-50%/year, they are clearly taking share in a category that is most likely growing ~20% YoY.

With that said, offline home goods can still be a very good business.  Have you heard of the Nebraska Furniture Mart? Arguably the best retail business in America with locations in Omaha, Kansas City and soon Dallas. Supposedly, they sell over $500 million/year per store in boxes that are ~500,000 square feet.  And yes, Warren Buffet does own the business.

In addition, it will be interesting to see how Wayfair is impacted by the businesses of Houzz and Pinterest – both of whom are now valued at several billion dollars and are launching commerce applications for utilization by their rabid communities. Also, the online businesses of Arhaus, Pottery Barn, Restoration Hardware (even though they do send 30 pound catalogs, West Elm and many others are actually very good and well run ecommerce businesses. Obviously, venture capital has flowed to online pure-plays like One Kings Lane and Fab.

Breakdown of Business Segments

The Wayfair S-1 document that is published as part of the IPO process actually does a very poor job of explaining Wayfair’s different businesses.  This is where the whole story starts to get interesting and the tale of a business “in transition” begins to emerge.

Wayfair is currently three different businesses which I have ‘attempted’ to illustrate in the diagram below.

  1. Wayfair.com (plus AllModern, Burch Labe and Dwell Studio).
  2. Joss & Main, which is a flash-sale site that competes directly with One Kings Lane.
  3. An Indirect third-party marketplace business that is a huge seller on marketplace sections of Amazon, eBay and Walmart.com.

W_IPO_BizDiagram

Wayfair has a very large third-party business in which they sell product on sites such as Amazon.com, eBay and Walmart.com. In fact, it may be one of the largest third-party sellers across the major North American ecommerce marketplaces and is reportedly the largest seller on the Walmart.com. Despite selling almost $1B of product via these sites over the past five years, there is almost no mention of this business segment, its profitability or its future growth in the S-1. It is clearly a channel that is being deemphasized by the company and investment bankers to help drive valuation and perception of the business.

My analysis on the Wayfair Indirect Sales business:

  • E2014: $218.6M (16.5% of sales, -10.0% YoY growth)
  • 2013: $242.4M (26.5% of sales, 14.3% YoY growth)
  • 2012: $212.0M (35.3.5% of sales, 32.5% YoY growth)
  • E2011: $160.0M (30.9% of sales)

There are many “in the wild” examples of the Wayfair storefronts on various third-party marketplace sites. For these types of sales Wayfair pays a variable selling fee of ~12% of sales plus any net shipping costs (the 12% includes mostly fees to the marketplace and merchant processing fees).

Walmart.com marketplace – 393,767 current product listing – from Crayola markers to exercise equipment.

Amazon.com marketplace – 495,000 current listings – from nose trimmers to kids books.

eBay.com store – 409,000 current listings – from lounge chairs to wrist watches.

Also, listed products on Best Buy marketplace, Sears and Rakuten (former Buy.com)

As you can see in chart I created below (the blue numbers are my estimates), the growth of the Wayfair.com business and newer Joss & Main business has covered the short-fall in the Indirect business. This is probably a good thing, but at least one that should be better called out by the company.

W_IPO_RevenuebyBusinessUnit

Marketing 

The telling the Wayfair marketing story is going to sound very two-sided. On the one-side, as I mentioned earlier (which may have been yesterday, as I know this is a long post), Wayfair is an online marketing machine – truly best-in-class. They have a world renown online and now offline customer acquisition team and with complementary infrastructure. While I couldn’t find specific details, I would bet they are close to a Top 100 Google customer and have been on the forefront of paid-search and SEO optimization for the past decade. They have an incredible and proprietary data driven marketing capability, all of which is data driven built by top data scientist and online marketers.

However, on the other side they are currently spending more than 20% of revenues on marketing and those numbers have increased year-over-year in a meaningful way.  As seen in the chart below, you in effect have a 23.3% gross margin business (see more in a moment) that also spends about 20.7% on “true marketing”.

W_IPO MarketingSpendAnalysis

For clarity, advertising includes search engine marketing, display advertising, paid social media and television advertisements. Other Marketing includes search engine optimization, non-paid social media, mobile ‘‘push’’ notifications and email. Indirect Retail Partner Feed is the third-party marketplace fees paid to the likes of Amazon, eBay and Walmart. The rest should be pretty self-explanatory.

A huge question is whether the current marketing spend creates downstream lifetime value or simply drives near-term sales. Currently, 51.6% of buyers are are repeat buyers have bought before via Wayfair, but that doesn’t necessarily mean that such repeat purchases didn’t cost money or advertising to create. This is the bet that Wayfair is hoping potential future investors make.

Wayfair clearly makes the point that their ads (specifically TV) are doing a great job in reaching their target customer (a women ~45 years-old). As you can tell by looking at the spend numbers, they really started aggressively marketing the Wayfair and Joss & Main brands in 2011 and then launched an aggressive television campaign in late 2013 with large television buys.

As an example, over the past 30-days, Wayfair has probably spent $5 million alone is TV ads.

  • Wayfair – 2,187 national tv spots have run in past 30 days
  • Joss & Main – 249 national tv spots have run in past 30 days

As a comparison during the same period of time, Zulily has run 2,234 spots, HauteLook 1,641, Overstock 1,090, Fan Duel 4,370, Draft Kings 1,860 and Vista Print 4,136.

The most likely result of the dramatic increase in marketing spend over a short period of time is that orders from active customers has increased from 37.4% of orders delivered in 2012 to 47.2% of orders delivered in 2013. Note – Active Customers are the number of individual customers who have purchased at least once directly from sites during the preceding twelve-month period. This is a meaningful increase in net revenue/active customer, % orders from repeat customers and active customers. All very positive trends.

Two key drivers of these changes in engagement are most likely from a) the rapid growth of flash-sale site Joss & Main which inherently has more engagement and activity from a smaller group of very valuable customers and b) a >3x increase in marketing spend between 2012 and 2014 which has helped drive sales and engagement, but adversely impacted profitability.

W_IPO_EngagementTrends

One of the largest and most important questions about Wayfair is whether the rapid ramp-up in marketing spend is creating loyal, long lasting customers or will Wayfair have to “reacquire” customers downstream. To add some details, in the IPO Roadshow presentation management stated that in 2013 it took 123 days to reach contribution break-even for new customers (I am assuming this is blended cost of customer acquisition) compared to 77 days for the same break-even point in 2011. In short, Wayfair is now spending 2x more to acquire new customers than they did just two years a go. There is no data that highlights how marketing performance is doing in 2014, but clearly spend rates are way up.

Competitive Comparison (where the investment bankers make their money)

In reality, I believe the closest public company comp to Wayfair is actually Overstock.  However, to my surprise, Overstock is not even mentioned in the entire S-1 document. As you may know Overstock materially has shifted their business to be a dropship model where they now dropship 90% of their orders via their own fulfillment partners.  The Overstock market cap is currently about $400mm.

This is not intended to be a negative review of the business or S-1, but I do find it incredibly interesting that there is NO mention of Overstock in the entire document.  While I do think there is some difference between the Wayfair and Overstock business, they are close enough to compare.  Obviously, Overstock has it own issues and the brand feels for closeout than full price, but with the success of Joss & Main for Wayfair, the comparison is warranted.

From a late Saturday PM, Coors banquet beer induced tweet storm, I sort of went off…

1) Deep into Wayfair S-1 IPO analysis. Most interesting element so far is there is NO mention of Overstock.com in entire document.

2) A lot of ecommerce pundits mention the two of them in same breath. It’s almost like company + bankers don’t want any company association.

3) Wayfair is ~95% home/garden, 95% drop ship w/ 7,000 merchant partners. Overstock is 75% H&G, 90% drop ship w/ 2,400 merchant partners.

4) Wayfair sales in past 6 months $574mm w/ -$50mm operating income. Overstock sales in past 6 months are $673mm w/ $8mm operating income.

5) Wayfair is growing top-line revenue ~45% YoY compared to ~12% for Overstock.

6) Wayfair looking to price PO at ~$2.5B market cap (2x 2014 revenues). Overstock’s market cap is $425mm (~0.35 2014 revenues). 5x premium!

Listed online competition (two of which Wayfair is probably the largest seller on the site): Amazon, eBay and One Kings Lane.

W_IPO_PurePlayEcommercePeerGroup

As you can see, Wayfair is sitting between two very different comps. Zulily, which is trading a huge premium of ~4x revenue and Overstock which is trading at a huge discount of .3x revenue. Which would you rather have? Exactly. In addition, if you look at the PnL for the first six months of this year, Wayfair has lost >$50mm while both Overstock and Zulily have made money. In relation to growth, Zulily is growing at 92% YoY while Overstock is growing at 11.3%. In short, you now see why Wayfair is spending boatloads on marketing (24.1% of revenue fully loaded vs. less than 10% by the other two companies). The public markets want growth and will pay a huge premium for it. Wayfair probably should be compared to Overstock, but they and their investors might not be able to have it that way.

This will be very interesting to watch over the next several quarters. Is Overstock undervalued? Is Zulily overvalued? Is Wayfair valued just about right? Honestly, I am not sure.

W_IPO_ProformaFinancialData

Other Interesting Wayfair S-1 Tidbits

Is there tech platform risk at Wayfair? I tweeted earlier today that Glassdoor has become a key tool for me when researching private and public companies. Obviously, the reviews and posts on the site will most likely be more negative than positive, but one can gleam interesting nuggets of information.

There is a question about whether Wayfair has an “aging platform”.  Reading a few hundred employee reviews on Glassdoor, there are quite a few comments about frustration working with the current codebase. This is not surprising considering the business is now 12-years old (we dealt with the same thing at eBay) and I am sure it is something the company is keenly aware of, but definitely worth watching.

From a detailed post created on Glassdoor just a few weeks ago – 

“Wayfair’s ecommerce engine is a hard-to-maintain agglomeration of half-baked features stuck together with chewing gum. Code quality is pretty bad and there are no department-wide initiatives to improve it. The focus is on adding new features as fast as possible, the goal often being to make the site look and work like Amazon (this is openly admitted). In general minimal time is alloted for improving architecture and performance until things get so bad it’s an emergency.

Churning out code like this worked great when Wayfair was tiny but the company is now large and complex enough that the legacy codebase has become an impediment to progress, and management’s attitude towards software engineering is an impediment to improving the codebase. Many top people do not have formal training in software management and/or have only ever worked at Wayfair and are not acquainted with modern practices in the field. They are perfectly nice and well-intentioned but don’t “get” how to build great software.”

Capital Efficient Business: Wayfair is very capital efficient business as they collect payment for purchases from customers when items are shipped (usually about 2.5 days after order) and then don’t pay their 3rd party suppliers for more than a month (35.1 days). This has been a huge advantage for Wayfair as the business grows (similar to businesses like StubHub and Zulily), as a substantial amount of business is actually funded by the sellers thru beneficial payment terms. A lot of investors call this a negative working capital model.

Investment Capital to get this far: Despite my last comment, Wayfair has lost an accumulated $277.1 million since 2002 (building big businesses is not cheap!) They have raised a total of approximately $363.1 million from the sale of preferred stock, including $160 million in secondary sales by founders and early investors.

Sales Tax – Based on the location of the Company’s current operations, it collects and remits sales tax in only four states.  I have little doubt that this will change sometime soon. As a result, consumers are getting a 10% discount vs. other retail competitors. Current states where sales-tax is collected include Kentucky, Massachusetts, New York and Utah. It appears several states have already presented Wayfair with assessments (alleging that it is required to collect and remit sales or other similar taxes) in the amount of $11.7 million.

Employees: 2,104 full-time equivalent employees, 440 customer service reps (at a cost of ~$40k/FTE), 300 engineers and data scientists, others including marketing, category management, supplier management, finance, photo/design and production.

Significant employee count growth over the past three years.

  • as of 12/31/12: 1,169
  • as of 12/31/13: 1,558
  • as of 8/31/14: 2,104 w/ 125 current open positions.

International Sales: Today Wayfair delivers products to customers outside the US including the United Kingdom, Canada, Australia, Germany, France, Austria, Ireland and New Zealand. This represents about 4.5% of sales and held pretty consistent over the past couple of years.

Dwell Studio Acquisition: In July of 2013, Wayfair acquired DwellStudio for $6.4 million.

Founder Control Post IPO: – The co-founders, through a vehicle called SK Retail will have 56.6% of the voting power and 49.8% of the economic interest in Wayfair.

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  • http://www.howardlindzon.com howardlindzon

    great coverage Greg

  • http://www.coefficientinc.com/product sbmiller5

    If you had the ability to dig deeper into their customer metrics, what would be most important to you?

  • disqus_9Zn5mJZMve

    Nice analysis. In your opinion would Wayfair ever be able to turn a meaningful profit? I am sure they are efficient but giving $200M a year to Google just seems like there is no way they would ever be profitable. That marketing cost is just going to keep increasing.