Online Retail Carnage UK

LSE listed online retailers suffered heavy falls in 2021. In the last year Asos plc (LON:ASC) has dropped 56%, Boohoo Group plc (LON:BOO) is down 70%, in Style Group plc (LON:ITS) is 59% lower, Thg plc (LON:THG) has shed 80% and Victorian Plumbing Group plc (LON:VIC) crashed 68%.

The following factors contributed to the poor performance:

1) A maturing UK online retail market where roughly a third of retail sales are now done online, about double that of Australia. All five stocks in the above chart are experiencing slowing revenue growth compounded by pandemic assisted FY20/21 comps.

2) Inflation is a nightmare for discretionary retailers as they typically lack pricing power because consumers can choose to go without. The inflation we have experienced has so far been concentrated in distribution costs which is particularly troublesome for online retailers.

3) Three of the stocks mentioned above IPO'd in the past couple of years (Thg, In Style, Victorian Plumbing) at inflated valuations on the back of peak pandemic performance.

4) Various stock specific issues played their part including Shein competition and supplier issues at Boohoo, and questionable governance practices at Thg.

Are these stocks now attractive investments following their falls?

This partly depends on whether inflationary pressures subside. It is reasonable to assume that the extreme shipping costs of the past couple of years will normalise as we come out the other side of the pandemic. However, NEXT plc (LON:NEXT), which generates exceptional operating profit margins of ~20% is not counting on cost normalisation and has instead responded with an increase in selling prices of around 5%. I think it is risky to assume that things go back to normal in a couple of years and therefore those stocks that are unable to pass on higher costs deserve to trade at a discount and quality will shine through.

But perhaps the falls are overdone. The five stocks mentioned above look very cheap based on trailing twelve month price-to-sales given they all earn healthy gross margins of between 44% and 54%:

Asos - 0.57 price-to-sales, 45% gross margins

Thg - 0.95, 44%

Boohoo - 0.68, 54%

Victorian Plumbing - 1.33, 46%

In Style - 0.69, 46%

As a comparison, ASX listed Temple and Webster trades on a price-to-sales ratio of 3.06 and reported a gross margin of 45% in FY21.

Whilst it may not be wise to assume inflationary pressures will reduce, it may be safer to assume that growth rates pick up again once the pandemic boosted comps are behind us. Consensus sales growth forecasts looking one year out are as follows:

Asos - 15.5%

Thg - 27.0%

Boohoo - 13.1%

Victorian Plumbing - 12.6%

In Style - 26.7%

It is worth noting that most of these figures have been heavily downgraded (with the exception of In Style) over the past few months and could now be overly conservative. However, even if they are too conservative they still represent a sharp drop off in growth compared to five year historical CAGRs (again noting these figures include pandemic years):

Asos - 22.0%

Thg - 37.1%

Boohoo - 55.0%

Victorian Plumbing - 31.8%

In Style - 44.8%

Even if today's prices prove to be too low for this basket of stocks, decaying growth rates imply that share price performance is unlikely to return to the halcyon days of yesteryear. In the years leading up to the pandemic Boohoo was a standout performer with its shares rising from 25p in early 2015 to 300p by the end of the decade on the back of 55% compound sales growth. Meanwhile, Asos was a market darling of the decade between 2004 and 2014 when its shares enjoyed an incredible rise from 5p to 6,600p.

If I'm going to invest in this sector I'm looking for early stage (greatest upside potential) or high quality (resilient to inflation) companies, ideally those that exhibit both traits. 

Early stage

I want to buy into companies near the start of their journey such as Boohoo in 2015 or Asos in 2004. 

This excludes four of the companies in the above list that were all founded before 2006 (Asos 2000, Thg 2004, Boohoo 2006 and Victorian Plumbing 2000). 

In Style was founded in 2013, but a forecast sales growth rate of 26.7% looks overly aggressive given the business only achieved a sales CAGR of 14.6% between 2018 and 2020 prior to the pandemic.

An early stage LSE listed stock which I own on behalf of family members is Sosandar plc (LON:SOS). It was founded in 2016 and is an online womenswear brand focused on the over 30s age group. The company claims that this segment of the market is underserved.

Sosandar is guiding to revenue of £27.1 million in FY22, an increase of 122% over FY21 and trades on an FY22 price-to-sales ratio of 2.33. This makes the stock considerably more expensive than those in the above group but if Sosandar can follow in the footsteps of Boohoo then the upside should dwarf that of the group.

Marketing spend has been disciplined so far with cost per customer acquisition steady at around £20 since the start of the pandemic. This compares to roughly £70 of gross margin per active customer (customers shopping in the past year) based on the figures from the latest trading update. Alternatively, average order gross profit is about £50 and so even under this more conservative scenario each order generates at least a £30 contribution before overheads.

Sosandar achieves a high level of repeat business with more than 40% of active customers ordering at least twice per year. This is partly achieved through effective email marketing. Sosander grows its email database by driving traffic to its website through TV advertising and then offering a free print catalogue to those who sign up.

Provided Sosandar can maintain a high growth rate combined with low customer acquisition costs then I will continue to hold the shares.

Quality

If I am going to consider lower growth businesses then I want to own the ones with the best management teams and/or some sort of competitive advantage to mitigate against the cutthroat nature of the retail industry and currently unfavourable macroeconomic environment.

Asos appears to be playing the scale game which might work but so far has failed to generate any cash. I am sceptical of this strategy because they are not going to get any leverage when it comes to marketing costs. They are probably not going to shift the power dynamic much with the brands who supply most of their stock either given brands have multiple options including going direct to the consumer. So really they are just building a very large and complex distribution network which strikes me as a path to bureaucracy rather than expanding margins. I might have missed something.

Boohoo is a low cost clothes retailer for young women which is under pressure from competition in the form of Chinese outfit Shein which can surely win on price. Boohoo has an excellent track record but is becoming increasingly reliant on acquisitions for growth, is struggling to replicate its success overseas and is vulnerable to the risk of failing to adapt to changing trends.

Thg is an interesting business with a colourful founder CEO Matt Moulding. I'm not too enthused about his property dealings and complaints about taking his company public. Furthermore, the company strategy seems a bit confused. There group runs an online beauty platform, an online supplements platform and an e-commerce outsourcing business called Thg Ingenuity. A lot of money has been spent on brand acquisitions which has made sense given the subsequent uplift in performance achieved and lots more money is being spent enhancing distribution infrastructure to grow Ingenuity. Ingenuity strikes me as a low return on capital business. Overall, there is too little transparency in this business.

Despite their subdued share prices, only one of the stocks has seen heavy insider buying. That stock is Victorian Plumbing whose founder Mark Radcliffe purchased 3 million shares at 97p in December. Mind you, he did net around £200 million at IPO and his decision to partially cash in (he still holds almost half the business) probably means that the business has reached a stage of maturity where the best returns are behind us.

Victorian Plumbing also looks like it has the best business model of the group to me which is reflected in its dominance of the online bathroom fittings market in the UK (total market share is about 14% but share of the online segment is much higher). 

The company stocks 24,000 products, a far broader range than its competitors. It sells well-known third party brands primarily to entice consumers to its site where it converts them to customers of its own brands via cheaper prices. Own brands represent roughly three quarters of sales and gross margins on own brand sales are around 50% versus about 30% for third party sales. The additional margin earned on these sales is then reinvested into marketing increasing the gap between Victorian Plumbing and the competition.

Because it appears to be the best business Victorian Plumbing is the stock from the original group that I am potentially looking to buy on further weakness. I am hopeful that another earnings downgrade is on the cards given the extremely tough comps in the first half of FY22. I think the shares look attractive at under £1.

Comments

  1. I have never looked at LSE but one service which I have used in the past and listed in LSE is Wise for money transfer. They listed few years ago and are growth business. I have not studied them as an investment and not sure how to value such business but on EV/Sales they are 3.5.

    Cheers
    Aashish

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  2. Hi Ash, not sure what figures you are looking at but based on my numbers it trades on a price/sales of about 20. There's about £5 billion of cash but that belongs to customers.

    ReplyDelete
  3. Having said that it is on my watch list.

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  4. Peril's of using data providers I was looking at NTM TEV/Rev

    ReplyDelete

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