- Shares of Farfetch have seen a harrowing 40% correction this year.
- The stock's losses have accelerated after the company's recent Q3 earnings release.
- In spite of the pessimism, Farfetch managed to continue growing at a respectable >30% y/y pace, while also tilting to positive adjusted EBITDA margins.
- Farfetch is one of the only e-commerce companies to have cracked the luxury fashion market, a space that Amazon has tried and failed to infiltrate.
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Even though the broader market continues to sit near all-time highs, it's largely large-cap stocks that are holding the major indices at records. Small and mid-cap growth stocks, however, have quickly fallen out of favor this year, and though it's true that many of the highest-flying among them were in dire need of sharp corrections, the selloff has gone too far for some high-quality stocks.
Farfetch (NYSE:FTCH), in my view, falls squarely into this bucket. This luxury e-commerce stock has barely seen any respite from its sell-off this year. Nearly every trading day has ended in the red for Farfetch as the stock has declined ~40% year-to-date. This is in spite of what I continue to view as solid results from the company and a strong, long-term secular growth story.
The bullish thesis for Farfetch looks even more compelling at new lows
In short, I think it's an optimal time to buy into Farfetch on this steep dip. There's absolutely no doubt that this is a stock that requires patience. Farfetch requires a bit of imagination: e-commerce is a crowded space and the majority of these stocks shot up far faster than their fundamentals did amid last year's pandemic rush into tech stocks. It has also only barely begun to break even on an adjusted EBITDA perspective.
Yet we also have to be cognizant of the long-term, secular tailwinds here. More of the world's higher-income luxury consumers are skewing young, toward the millennial generation - an age bracket that has gotten used to buying everything online. They find inspiration for their purchases through social media outlets like Instagram. And in all of these avenues, it's Farfetch that has mastered the art of being a digital-native luxury e-commerce vendor.
For investors who are relatively unfamiliar with this stock, here are the key bullish drivers for Farfetch:
- As Amazon-proof as any e-commerce business can be. Try as it might, Amazon (AMZN) built its brand around low prices and convenience - which are relatively unimportant to discerning luxury buyers. Amazon's attempts to enter fashion and apparel have largely fallen flat. Farfetch, in my view, has found one of the few categories of retail that is relatively impervious to Amazon.
- Consistently strong, >30% y/y growth rates serve as a testament to the largesse of Farfetch's addressable market. Farfetch pegs the global luxury industry at a $300 billion annual size, one-third of which lies in China. Farfetch is currently doing about $1 billion per quarter in GMV, meaning that it still has about 99% of the market left to conquer.
- Continued creativity in distribution. Farfetch is continuing to expand its channels of distribution. In Q1, the company launched a storefront on the Tmall platform, localizing its brand and giving it access to one-third of the world's luxury consumers. While it's still early days, Farfetch's very intentional and focused China strategy can yield tremendous results.
- Expanding categories. Farfetch has also made a recent push into luxury kidswear through Brownsfashion.com, solidifying its success in using its various channels to reach the widest possible target market. Its first-party Off-White brand also released its first kidswear line.
- Less and less reliance on discounts. Over the past year, Farfetch has found that it has been able to reduce its reliance on sales and promotions, which is typically the way retailers move inventory. The reduced amount that Farfetch has spent on demand generation has translated into richer margins.
- Profitability push. Farfetch is enjoying the benefits of economies of scale, and it broke past breakeven in adjusted EBITDA margins in its most recent quarter.
My recommendation here: hold your nose, buy Farfetch stock, and wait for this bullish thesis to play out for the long term.
Since Farfetch reported fiscal Q3 results in mid-November, the stock has fallen by approximately 25% (from roughly $45 pre-earnings to ~$34 at the time of writing). And while some of the growth metrics were a bit disappointing, I still see this as a mere hiccup that has no bearing on Farfetch's long-term trajectory.
Take a look at the Q3 earnings summary below:
Farfetch's revenue in Q3 grew at a 33% y/y pace to $582.6 million, unfortunately missing Wall Street's expectations of $591.2 million (+35% y/y) by a two-point margin. This isn't unique to just Farfetch: similar to many other e-commerce companies in Q3, we've started to see some of the tailwinds from the pandemic era fade as customers poured some of their wallet share back into brick-and-mortar retailers. We still have yet to see, however, how the spread of the Omicron variant and especially the recent flurry of travel restrictions in Europe will impact e-commerce sales in Farfetch's home market (if shoppers are unable or unwilling to pick up their luxury gifts in Europe's fashion capitals, sales on Farfetch may see a bump - so I'm hopeful that this is a net-positive for Farfetch, at least in the short term).
At a segment level, there's one important thing to note: Farfetch is doing a tremendous job at navigating the divide between brand and distributor. Its proprietary brands platform, made up largely of its acquisition of New Guards Group (the parent company behind popular luxury brand Off White), saw revenue grow 47% y/y to $165 million, representing just under a third of the company's overall revenue. We note as well that total GMV growth of 28% y/y remains quite a high growth rate, in the wake of the overall e-commerce landscape. This is also the second consecutive quarter in which Farfetch's GMV topped $1 billion.
The company also noted that average order values (AOV) increased from $574 to $593, a reflection of both the fact that Farfetch is selling more items at full price, as well as a gradual upward increase in average item selling prices - a great sign especially for luxury goods sellers.
Farfetch also continues to drive substantial improvements on the profitability front. In particular, the company managed to drive down corporate overhead / general and administrative spend by 928bps in Q3 to just 28% of revenue.
Figure 3. Farfetch Q3 expense trendsSource: Farfetch Q3 earnings presentation
This expense reduction, in turn, helped Farfetch boost its adjusted EBITDA profile to a 1% margin ($5.3 million in adjusted EBITDA), versus a -3% loss in the year-ago quarter. In my view, in today's jittery market, investors may eventually prize Farfetch more for its consistent profit expansion and overlook its decelerating growth. These massive overhead reductions and the first hints of breakeven adjusted EBITDA are a big step in the right direction.
Farfetch stock may be underwater now, but this company carries many merits that are worth investing in at 52-week lows. When we consider the fact that e-commerce still has plenty of room for wallet share penetration, especially in the luxury goods space which is welcoming a younger crowd of affluent buyers, Farfetch is unstoppable. Ignore the near-term noise and buy the dip.
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