The bearish case against Wayfair (NYSE:W) is as straightforward as it is compelling. Simply put, the e-commerce upstart hasn't booked a profit in any of the past five years. Worse yet, rather than inching closer to the black, Wayfair's losses are ballooning. The home furnishings specialist posted a $500 million net loss last year, compared to $244 million of red ink in 2017.
And yet Wayfair has been trouncing the market over the past year, putting its returns ahead of consistently profitable peers like Amazon (NASDAQ: AMZN) and eBay (NASDAQ: EBAY). Let's take a look at why investors are willing to pay up for this money-losing business today.
Let's get engaged
Wayfair's priority right now is to win market share and build a large base of loyal shoppers. By all indications, it is succeeding. The company added $2 billion of revenue to its annual sales base last year, compared to a $1.3 billion increase in 2017. Revenue has improved at a compound annual rate of over 50% since 2014. In contrast, eBay's sales were up just 6% in 2018, and Amazon's e-commerce segment grew by 20%.
Wayfair's user engagement metrics also suggest the company is building a defensible market niche. Over 16 million users have ordered a product through its network of websites in the past year, compared to fewer than 9 million in early 2017. Those shoppers are spending about $440, on average, throughout the year. Repeat business accounted for over 6 million orders, or roughly two-thirds of all sales.
Taking a hit
Wayfair has demonstrated in recent quarters that its business can withstand direct challenges from highly motivated rivals. Overstock (NASDAQ: OSTK) in early 2018 set aside its profitability targets to slash prices and attempt to end Wayfair's market share momentum. The results of that experiment were disastrous -- for Overstock. Its profit margins sank, and sales growth remained negative.
Meanwhile, Wayfair's pricing and growth trends held up, and the company even became more efficient in its market spending. That success shows Wayfair's sales growth has more to do with the improvements it is making to the online shopping experience than to simply offering low prices.
The future is wide open
Wayfair has a long runway for growth in the core home furnishings market in the U.S. However, investors are even more excited about its potential to expand into new geographies and ancillary product categories. Germany alone represents an addressable market of $75 billion, part of the $300 billion arena that CEO Niraj Shah and his team are targeting in Europe.
And while eBay is shrinking its focus to deprioritize noncore segments like StubHub and its classified group, Wayfair's reach is expanding. The company's proprietary fulfillment network has already made it quicker and more efficient to ship bulky merchandise like sofas, pool tables, and hot tubs. It has used that flexible platform to push into other product categories such as bathroom vanities lately, and there are likely dozens of similar moves it can make in the years ahead to incrementally add to its sales base.
About those losses
Outside of the impressive growth trends, the key reason investors are accepting Wayfair's losses is that they're being driven entirely by management's spending choices. Soaring investment in the selling and fulfillment network, and adding engineers and delivery specialists, have pushed expenses up to almost 14% of sales recently, compared to 9% in 2015.
Wayfair is aiming to get that figure down to between 5% and 7% over the long term, with help from a higher sales base and reduced capital needs following its expansion push. A lot will have to go right for the business over the next few years for it to achieve that ambitious goal, but there's no denying that Wayfair is off to an impressive start.