It’s Not Just Blood on the High Street – ASOS et al

The trading statement this morning (17/12/2018) from ASOS (ASC) has caused the share price to fall by 40% at the time of writing. Other internet retailers such as Boohoo (BOO) fell in sympathy.

ASOS reported that revenue was up by 14% over the previous year, but warned that they “experienced a significant deterioration in the important trading month of November and conditions remain challenging. As a result, we have reduced our expectations for the current financial year”.

In effect the previous forecast sales growth for the year of 20 to 25 percent has been reduced to circa 15% (last year it was 25%). In addition margins are down which they blame on a “high level of discounting and promotional activity across the market” which they have reacted to by increasing their own level of promotional activity with more discounting and clearance sales.

They blame the weakening in consumer confidence driven by economic uncertainty plus unseasonably warm weather in the last three months. Weather is normally blamed by retailers for poor footfall in their shops so why should it affect internet retailers? It’s because it allegedly has reduced the average selling price of items purchased. But the really interesting aspect is that it is not just the UK that has suffered. Trading in France and Germany has also become “more challenging” with more promotional activity therefore required.

Note that I do not hold either ASOS or Boohoo although I have done in the past. Before this profit warning, ASOS was on a prospective p/e of 36 for the current financial year according to Stockopedia which I considered rather fanciful even given the high growth rates. Estimates will now be revised down substantially, the company is cutting capital expenditure which is always a negative sign, and they “continue to anticipate returning to a free cash flow positive position in FY20”. In other words they are still burning cash.

So it would seem that the dire stories about trading on the High Street is not just caused by the move to internet shopping. Both High Street and internet traders have been hit by declining consumer confidence, with the former also damaged by high business rates and increased staff costs.

There has been no Santa Claus rally in share prices as normally expected this year. It may be too soon to judge the outcome of all retail sales over the Xmas period but this news does suggest that there will be no Santa Claus effect there either. One has to question whether internet retailers such as ASOS will ever return to the heady 25% annual growth rates. There are too many companies getting in that game because there are no significant barriers to entry. Internet retail start-ups are spending money on marketing on the basis that they will make money sooner or later, but will they? Competition to the likes of ASOS and Boohoo can only increase.

A similar trend is being seen in the on-line estate agent market (Purplebricks et al) where competition is growing, some are giving up after running up losses, and nobody is making money due to high levels of marketing expenditure so as to grab market share.

These are markets where I have no urge to dabble in the shares of such companies at present.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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On-Line Estate Agents & Crowdfunding

I was watching the BBC television news last night when a story appeared on the wonders of a 19 year old who was already alleged to be worth £10 million after developing an on-line estate agency called Doorsteps. Yes it was great free publicity for the company.

Bearing in mind the continuing debate among investors about listed company Purplebricks (PURP) I thought it was worth a quick look. Purplebricks has a stock market valuation of £950 million despite rising losses. Will the business model work, particularly in the USA where it needs to be successful to justify the valuation? Nobody knows.

Some commentators have suggested that there are few barriers to entry into the on-line estate agency business (i.e. anyone can get into it as evidenced by the fact someone still at school did so).

A traditional estate agent will charge several thousand pounds to sell an average house (but you only pay if they do so). Purplebricks charges £1200 in the London area, and £850 elsewhere. But Doorsteps charges only £99!

Doorsteps raised £390,000 from investors via crowdfunding platform Crowdcube at a pre-money valuation of £12 million from over 490 investors. But if you look at who owns Doorsteps it is a company called Upside Capital Ltd that was only incorporated at the end of December 2016. Not exactly a long track record then is it.

Will Purplebricks put traditional estate agents out of business, or will Doorsteps put Purplebricks out of business? I suspect the answer to those questions will be a complex one but I’ll have a stab at it.

Firstly can Doorsteps conquer the market while still charging so little? Bearing in mind that they will have high marketing expenditure, still need to employ local “agents”, and pay management, admin and IT overheads, I rather doubt it. With few barriers to entry, there will no doubt be other entrants offering to do it for £95 rather than £99. Result, lots of companies with little business individually and all losing money. Who might win out on that race to the bottom is anyone’s guess. For investors it looks like an area where you are likely to lose money irrespective of which horse you back.

This myriad of low-priced entrants might also damage Purplebricks business model, who in addition already have other competitors such as Yopa, Tepilo, Housesimple and Emoov operating at different price points. It’s beginning to look like a market which has grabbed the public’s, and investors, imagination and which will soak up enormous amounts of capital as the companies all try to out-spend each other to grab market share.

One interesting aspect is the ease with which Doorsteps managed to raise money on Crowdcube. Crowdcube have over 400,000 registered users and the few hundred who invested in Doorsteps probably put in a few hundred pounds each. In effect they were punting on an investment in a private company (and hence with limited investor protections), on a company with no track record, and with an inherently risky business plan.

I fear that the crowdfunding approach to raising capital from investors as evidenced in this example will lead to a lot of disappointed investors in due course.

But having said all of the above, it is very clear that the estate agency market is changing rapidly. Some people won’t wish to pay upfront to sell a property, but others may be happy to take the chance of “no-sale”. Paying £1200 on the chance that a sale will be made and quickly may be attractive to some house sellers, particularly when their past experience of traditional agents may not be great (estate agents have a reputation for sharp practice over many years). So if Purplebricks can establish a good reputation (which has yet to be proven), and spend enough to grab a decent share of the market, they may establish a sound business, but how profitable it will be is anyone’s guess. In addition, traditional agents will react to do more on-line offers at lower cost as some are already doing. One can see that this market will become a price battleground as there seems to be little differentiation between the differing on-line competitors. That’s a recipe for low returns on capital and poor returns to shareholders in the long-term.

When the product being offered is the same, service and reputation will be a key differentiator I suggest in this market. Competing on price alone looks like a dubious business strategy however.

Note: I have held Purplebricks in the past but do not do so presently because the more a company is debated on bulletin boards and by share tipsters the less attractive an investment it tends to become. It just leads to irrational speculation, both up and down.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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