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Why Etsy Was Ripe for Activist Investors

By Jeremy Bowman - May 26, 2017 at 7:38AM

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The quirky online marketplace is getting raided by activists. Investors shouldn't be surprised.

Perhaps no publicly traded company is more culturally at odds with Wall Street than Etsy Inc (ETSY -7.70%).

The online crafts fair hosts thousands of artisans selling quirky products like portraits made out of gummy bears, creepy puppets, and a vial of dead bees.  It's a progressive-minded B corporation, and its headquarters are a hipster haven with monthly craft classes, free snacks, a printmaking studio, a community loom, and beautiful rooftop views of Downtown Manhattan.

A leaf-print necklace

Image source: Etsy.

Ironically, just across the water from Etsy's offices is the embodiment of the polar opposite of the company's communitarian, anti-corporate embrace of commerce -- and Wall Street sees opportunity in its new neighbor.

Just two years after Etsy's IPO, activist investors are already coming after the crafty online marketplace, claiming costs are bloated and looking to turn a quirky, hand-crafted machine into a well-oiled, cash-generating one.

Etsy stock has traded below its $16 IPO price for most of that two-year history, and while the company continues to put up impressive sales growth -- revenue increased 33.4% last year -- the company is still not profitable on a GAAP basis.

With a sagging stock price, bloated corporate expenses, and a unique brand, it's no surprise that Wall Street has pounced on the stock.

Here come the capitalists

Etsy stock spiked 22% the day news broke that two activist hedge funds, TPG Capital and Dragoneer, had taken stakes in the fourth most visited e-commerce site. 

Those moves followed an announcement on May 2 by Black-and-White Capital, which disclosed a stake in the company and said it would push for a sale. 

TPG, which took a 4.3% stake in Etsy and also holds positions in Airbnb and Spotify, said it seeks to "engage in discussions regarding strategic alternatives," adding, "Etsy is a unique company whose success derives from the creativity and commitment of its community." 

Etsy CEO Josh Silverman responded to the activists by saying the company is "focused on the most value-enhancing near- and long-term opportunities. We will prudently invest in areas that deliver the greatest returns." He also touted the strength of the Etsy model, saying that it's created a strong technology platform and cultivated powerful loyalty.

Do the numbers add up?

General and administrative expenses, or the cost of management and other corporate employees, rose 25% last year to $86 million. While that was slower than the company's revenue growth, it still accounted for nearly a quarter of the company's revenue last year. That's a greater percentage than the company spends on marketing or product development, two components that seem more closely tied to the business' performance.

At EBay (EBAY -2.23%), the largest pure-play online marketplace, just about 10% of revenue is devoted to general and administrative expenses, while more than a quarter of revenue is spent on sales and marketing. At Latin American marketplace MercadoLibre (MELI -9.61%), G&A expenses made up slightly more than 10% of revenue.

Etsy may be able to learn something from those peers, both of whom are handily profitable, and Etsy's marketplace model should lead to the same profitability. At its simplest, the business model allows the company to collect commissions from sales on its website with little to do other than ensure the functionality of the site and market it.

But there are signs the company is already heeding activist calls. Following the advice of Seth Wunder of Black-and-White Capital, Etsy fired former CEO Chad Dickerson and laid off 80 employees, or about 8% of its staff.

Pushing for a sale could be the next step if they can't drive significant profits. Whether they would be able to find a buyer is an open question, but the most willing partner could be Wal-Mart (WMT 1.25%), fresh off a string of e-commerce acquisitions, including for $3.3 billion, ShoeBuy, ModCloth, and Moosejaw. Such a tie-up with the retail behemoth would likely be anathema to Etsy loyalists, but the company is at the mercy of shareholders.

Whether or not a sale takes place, the stock should be better off for the activist input. Laying off staff, especially those in roles with little effect on the underlying business who perform tasks such as tracking office waste, is the right thing to do. 

Etsy's brand is strong and sales on the site continue to grow. With some cost-cutting and more efficient management, the business should eventually turn profitable.




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Stocks Mentioned

Etsy, Inc. Stock Quote
Etsy, Inc.
$70.21 (-7.70%) $-5.86
Wal-Mart Stores, Inc. Stock Quote
Wal-Mart Stores, Inc.
$124.13 (1.25%) $1.53
eBay Inc. Stock Quote
eBay Inc.
$44.18 (-2.23%) $-1.01
Mercadolibre, Inc. Stock Quote
Mercadolibre, Inc.
$699.86 (-9.61%) $-74.44

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