It’s Now or Never for Wayfair

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You can find just about anything for your home on Wayfair.com. But what you can\’t find is any black ink.

In the middle of what is undoubtably the greatest surge of online buying in the history of the business, Wayfair – the largest dedicated home furnishings e-commerce player – is racking up double digit sales gains. In the process it\’s seen its stock rebound from a dangerously precipitous freefall just a few months ago to its all-time high. Being at the sweet spot at the convergence of trapped shoppers moving their purchasing online and focusing more of their spending on their homes, Wayfair saw massive gains during its first quarter ended March 31 in just about every matrix: sales, new customers, active customers and order size.

[callout]Wayfair not only lost money in Q1 — $289.9 million or $3.04 per share – but it lost MORE money than the same quarter a year ago, when the deficit was $200.4 million or $2.20 a share.[/callout]

\”Millions of new shoppers have discovered Wayfair while they shelter in place at home,\” said CEO Niraj Shah, \”and we are seeing strong acceleration in new and repeat customer orders across almost all classes of goods and across all regions.\” There was only one thing that could have made the news even better: if Wayfair actually made any money. But as has been its pattern for its entire existence since going public in 2002, it wasn\’t to be. Wayfair not only lost money for the quarter — $289.9 million or $3.04 per share – but it lost MORE money than the same quarter a year ago, when the deficit was $200.4 million or $2.20 a share.

20 Years and Counting

Which raises the question that has bedeviled Wayfair since the day it was born out of a pile of disjointed websites nearly two decades ago: Will it ever make money? Wayfair is one of the last of its generation of startups to still be out there losing money but talking the talk that profitability is just a sofa away.

Certainly, it has had the top-line growth revenue that Neil Saunders, managing director of GlobalData Retail, says \”most retailers would kill to achieve.\” But he is one of many observers who believe it is not enough, that sales will need to keep growing at an even faster clip to get Wayfair into the black. \”It suggests the company will, at some point, hit a wall in terms of growth which will leave it extremely exposed.\”

Some people are even more pessimistic. James Gellert, CEO of RapidRatings, a financial analysis company that has created what it calls The Financial Health System, says Wayfair\’s numbers are very troubling. He says the company\’s rating on its scale \”has been undergoing a persistent decline over the past nine reporting periods.\” Wayfair, he says, \”has a financial profile that looks much more like recently bankrupted retail companies (Pier 1 and J. Crew) rather than Amazon, the e-commerce giant it\’s trying to unseat.\”

Unseat may not be exactly the right word to describe Wayfair\’s ambitions, but it has made no secret that it has employed the Amazon model of building growth at any cost – including profitability – in order to gain market share and then eventual financial success. And while it\’s been the mantra of virtually every e-commerce start-up company since Amazon, very few have replicated that role model.

Wayfair\’s Way Is not Amazon\’s

And even if Wayfair is certainly not alone in making any money, it has stuck to its story longer than most. But its deviation from the Amazon model makes that story hard to believe:

  • Amazon, as most people in the business understand, makes most of its money from other activities, not its retail sales. Amazon Web Services is the big cash cow. and the company now racks up more than half its retail sales as a third-party agent for others through its Marketplace platform. It simply collects a commission on those sales, never handling the merchandise and, more importantly, never tying up working capital owning those goods. Wayfair has no AWS operation and no third-party platform. All sales and profits come from selling its own goods.
  • Amazon spent an enormous amount of its money over the past two decades building up its physical distribution network with hundreds of DCs that allowed for a very efficient, very time-sensitive process. Wayfair got a very late start building out its distribution capabilities, initially relying on its suppliers to handle fulfilment and today has relatively few points of distribution. The enormous costs associated with building out that network are all ahead of it.
  • Amazon has moved into the physical store side of the business with its purchase of Whole Foods and its assorted book, convenience, grocery and general merchandise startups. And even if it\’s generally acknowledged that none have been raging successes, the fact is that Amazon has more than 500 physical locations. Wayfair has only two and as it\’s become painfully clear that stores matter if you\’re going to be able to offer the customer whatever format they want; the company will have an enormous task ahead of itself to either buy or build a retail network. And furniture stores are a hell of a lot larger than convenience stores.
  • Amazon discovered early on the brilliance of membership programs when it launched Prime. Taking a page from wholesale clubs, it was able to generate enormous revenue (not to mention purchasing loyalty) by charging an annual fee and then keeping its margins tight. Wayfair offers the free delivery of Prime but without the yearly upfront spend that funds such operations. Of all the initiatives Amazon has brought to the marketplace, Prime may be the most impactful. Wayfair has no such program and given the purchasing frequency of most home furnishings products it is not a model that lends itself to this classification.
  • Finally, there is the matter of customer acquisition costs. Wayfair\’s are just too high and there\’s no getting around that. With high advertising costs, no physical stores to speak of to serve as points of entry and that infrequency of purchases, it\’s a deadly combination.

Flawed Business Model

Putting all of this together, it becomes more obvious why Wayfair\’s basic business model appears to be flawed. None of its problems are likely to be solved by quarterly gains in its revenue and that point has been made about as clearly as possible by its results during the pandemic. No doubt they will continue into the company\’s second quarter as physical retailing slowly comes back to life, but many shoppers remain hooked on buying online.

Wayfair isn\’t buying the profit-never theory. In its most recent call with analysts in May, Shah and his executive team talked about the advances the company is making on its cost structure and how the increased scale would benefit its bottom line. \”Though we were initially prudently conservative in talking to you about our path to profitability, we have been aggressively maneuvering the whole business towards sustainable positive adjusted EBITDA. Importantly, this is not based on today\’s growth rate, but the plan was and is predicated on top-line growth rates in line with the pre-COVID-19 period.\”

Later on, that call, Mike Fleischer, the company\’s CFO, predicted Wayfair\’s second quarter would start to show those better results, albeit using that different measurement gauge than net profits and one that online tech startups – including Amazon in its earlier days – have substituted for more traditional ones. \”Our progress to date puts us on a trajectory to achieving positive consolidated adjusted EBITDA margin in Q2 without considering the revenue acceleration we are currently experiencing.\”

Even with the better news coming out of the quarter, what continues to baffle those who sell and compete against Wayfair is Wall Street\’s ongoing love for the company. Earlier this year before the pandemic and after the company reported its usual losses for its last quarter, its stock price tanked dropping and as coronavirus hit, it sank even lower to just barely $23 a share. Those within the trade said, this is it, the day of reckoning had arrived. Wayfair announced layoffs and cost-cutting and it appeared that the gig was up.

Then came the pandemic and the stock increased nearly 10-fold over the past three months as investors seem to have rekindled their Wayfair love affair. Part of that may be the hope that volume will be the savior of the company and part may be that a real savior – perhaps an equity buyer, perhaps Amazon itself – may come along to save the day, buying up the company.

Both theories have elements of plausibility: There remains lots of money chasing deals out there and Amazon has been known to buy niche competitors (Zappos, Mark Lore\’s Quidsi). But both have their flaws. For one thing, with a market cap of over $18 billion, Jeff Bezos cannot put Wayfair on his Visa Prime card. For another, with Wayfair stock at its all-time high, it\’s not exactly the bargain it was just 90 days ago.

More recently, some analysts have come out and dialed back their ratings on Wayfair so we may already be starting to see the company\’s fall back to earth. Wayfair may be terrific at decorating the walls of American homes, but the next wall it sees could be the one that it finally slams into.

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