By VWArticles. Originally published at ValueWalk.
GreenHaven Capital Q1 letter to investors highlights two new longs one in Etsy and the other a special situation in Redknee
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Over the course of the quarter, we covered our short positions in both Tesla and Lands’ End. We were able to side step much of the Tesla carnage, but I undeniably underestimated investors’ ability to ignore the poor unit economics, need for additional capital, and unrealistic pricing of the upcoming Model 3. Our short interest in Lands’ End rested heavily on the company’s incredibly poor choice for its new CEO. For those who do not remember, she had a high fashion background (her initiatives included establishing a fashion week presence for the otherwise casual brand) and commuted to the company’s Wisconsin headquarters from New York. That CEO has been replaced since, and borrow rates made holding the position too expensive to maintain. As individual shorts are 1-2% positions, the impact on performance was less than 1%. We maintain two index shorts and are short a richly-valued, no growth consumer staples company that yield-hungry investors are currently treating as a bond replacement. If and when rates rise, that company could be viewed as an overvalued, no growth company with products that are increasingly out of favor. Per usual, we have a very long bias.
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Etsy, Inc. (ETSY) is a mission-driven e-commerce company that “builds markets, services and economic opportunity for creative entrepreneurs.” Serving as an alternative to Amazon and eBay, Etsy features unique, handmade items often sold directly by the designers. Think of an online crafts fair. Instead of competing on price or speed of delivery, Etsy attracts shoppers because purchases on the site support the “little guy,” which has emotional value to many Etsy consumers and there is a vast selection of one of a kind items that are not available elsewhere.
Etsy has a high value proposition from a vendor’s perspective. Over 28 million individual consumers made purchases via Etsy in 2016. Accessing this swath of 28 million purchasers costs vendors a mere 20 cent listing fee per each item to be included on the site. This seems more than fair. Etsy also has built a number of business integration tools to help generate shipping labels, place preferred listings, build websites, purchase google AdWords, and export sales and expense data into accounting software. The goal is to make life on the Etsy platform easier for the creative entrepreneur. Last year there were 1.7 million active sellers on Etsy.
There are clear network effects to the business. Sellers come because there are buyers on the site and buyers come because of the quality and quantity of items available. Etsy itself is a platform: it holds no inventory and instead makes money on transaction fees. Etsy has a long runway as it expands domestically and internationally. A unique and differentiated platform with the opportunity to sell add-on products to vendors and to grow demand internationally was a sexy enough story to attract a $16/share price for its April 2015 IPO. Shares traded as high as $30 in the first few months of trading. Well, that was over a year and a half ago – where are we now? ETSY shares are trading in the mid-$10’s and the company’s market cap is just over $1B with almost $300M in cash. This year the company will launch a “studio” business where it will use existing technology to sell craft supplies to Etsy vendors. The company will again hold no inventory, and start with 8M products on the platform. Etsy is also investing to ease transaction friction with improved checkout mechanisms, and, importantly, is improving search and product discovery with machine learning AI technology developed by Blackbird Technologies, which Etsy acquired in late 2016. Etsy’s revenue grew over 30% last year and the company has guided to over 20% revenue growth this year. Shares trade at an EV/Rev of less than 2X, which strikes me as more than fair given their balance sheet strength, unique positioning, revenue growth, and length of runway. What is not to like? There is far lower insider ownership than our typical investments. The primary “insider” owners are the top tier VCs Union Square Ventures and Accel Partners. At the time of our investment, the CEO had stock and options for a few million shares, which is nice, but I would prefer a true owner-operator. The CFO is also at the end of a six-month departure process. Amazon has launched a competitive offering, Handmade, which has not yet gained traction. Last night, the company reported earnings, and made meaningful accommodations to a recent activist investor Black-and-White Capital. Changes included naming a new CEO with experience at Ebay, layoffs to address swelling SG&A expenses, naming Fred Wilson as Board Chair, and changing the CTO to address technical issues. The net result, is the company will likely be in the “penalty box” for the short term as guidance has been suspended and the new CEO and CFO find their way. I think all of these changes are ultimately very beneficial. We cannot have everything, but in the case of Etsy, the asset light business model, unique products, and a robust community of creative entrepreneurs has value. Etsy is the fourth most visited general merchandise shopping website and the 50th most visited site in the U.S. For less than $1B (ex cash) we get 28 million buyers and almost two million sellers. The company sells for less than 2X EV/Sales while comps sell 3X+. Etsy would be a bite sized acquisition for eBay (the new CEOs former employer) which is starved for growth and in this case it easier to buy than build. Etsy is an interesting setup for long-term returns as we benefit from margin expansion and multiple expansion if we are not acquired in the medium term. It should be noted that one of our LPs, my mother, has a shop on Etsy – SeaTreasuresByMiller (one word) – where she sells jewelry made from seashells she has collected. Etsy is easy enough to use and inexpensive enough that she was able to launch her own hobby shop with minimal cost. (Her largest expense was paying a granddaughter to model some earrings.) I have spent a fair amount of time on her site understanding all of the back-end tools available to merchants. Great value is provided to the budding creative entrepreneur by the platform. For those of us that are shopping challenged, Mother’s Day is coming up… check out Etsy and SeaTreasuresByMiller.
NEW INVESTMENT – REDKNEE SOLUTIONS (REDK.TO)
When operating a business, teams matter, approach matters, and incentives matter. Using a non-finance example, when you go to an art fair at your local school, you can see exhibits where an entire class has painted the same still object after receiving instruction from the same teacher and having access to the same supplies, yet the range of outcomes is a wide bell curve. As much as my parents loved me, there is no way they looked at my scraggly depiction of an apple on a table and thought it was as good as that of the actually talented children
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