Where Will Etsy Be in 5 Years?

Since its founding in 2005, Etsy (ETSY 2.86%) has achieved a great deal of success. The company now operates the fourth most popular online marketplace in the U.S., with over 516 million monthly visitors. Plus, Etsy's brand name has become synonymous with unique, handcrafted products.

In 2020, the pandemic turbocharged the transition to online shopping, and Etsy's stock price rocketed over 313% higher. Despite this growth, e-commerce still only accounted for about 14% of total retail sales in the U.S. in the first three quarters of 2020, according to the U.S. Census Bureau. That leaves plenty of room for future growth. So, where will Etsy be in five years?

A massive market opportunity

Etsy's marketplace connects creative sellers with buyers looking for highly differentiated products -- the kind of products they can't find anywhere else. According to management, the addressable market for these niche goods totaled $100 billion across Etsy's six core geographies in 2019. At that time, Etsy's gross merchandise sales (GMS) of $5 billion gave the company roughly 5% market share.

Image Source: Getty Images.

However, the pandemic-driven adoption of digital commerce has been a strong catalyst in 2020. In the most recent quarter, Etsy's active sellers increased 43% to reach 3.5 million, and active buyers jumped 56% to hit 69 million. Likewise, Etsy's GMS growth accelerated to 101%, reaching $6.7 billion over the first nine months of fiscal 2020. Put another way, the company's growth has outpaced the broader e-commerce market this year and in years past -- an indication that Etsy is taking market share.

Source: Etsy SEC Filings, U.S. Census Bureau. GMS: gross merchandise sales. TTM: trailing-12-months.

Despite this incredible growth, management believes the company's market opportunity is still in the early stages. But as the broader e-commerce market grows in size, so too should the market for niche and "special" items. And this should be a powerful growth driver for Etsy over the next five years.

A dynamic marketplace

While Etsy's sellers certainly can't compete with the product volume of multi-billion dollar enterprises, they can provide consumers with highly differentiated and personalized products. Not only that, but the smaller scale of the typical Etsy seller makes them more nimble than larger enterprises, allowing them to bring unique, trendy products to market more quickly. This makes Etsy's inventory more dynamic than that of the typical retailer.

Face masks are a great example of this. In the second quarter of fiscal 2020, as the coronavirus was wreaking havoc, many Etsy sellers quickly pivoted to face masks, offering consumers a way to protect themselves. In fact, over 100,000 different sellers sold masks on Etsy's platform, totaling $346 million in gross merchandise sales.

Again, Etsy's reputation for trendy, relevant inventory is an advantage that should help the company grow quickly in the coming years.

A better option for artisanal sellers

No conversation about e-commerce is complete without mentioning Amazon (AMZN 1.30%). Not surprisingly, the digital retail giant has its own marketplace for handcrafted wares: Amazon Handmade. However, Etsy was a first-mover in this market, and that advantage has allowed the company to garner greater brand-name awareness. Moreover, Etsy's 3.5 million active sellers actually outnumber the 2.4 million sellers on Amazon's marketplace as a whole. Stated differently, consumers looking for highly differentiated products are more likely to find them on Etsy.

Likewise, Amazon Handmade is little more than a side hustle for the company, but Etsy devotes all of its resources to helping small, artisanal merchants succeed on its platform. For instance, the company has invested heavily in machine learning to improve the user experience, and recently Etsy added off-site advertising to drive marketplace traffic. Ultimately, the company's focus on micro-merchants makes Etsy a better option for these sellers, and that should help the company protect its business going forward.

A final word

Investors should be aware that Etsy currently trades at an astronomical 111 times earnings and 18.8 times sales. For the sake of comparison, Amazon trades at 95 times earnings and 4.8 times sales. However, while valuation is important, I rarely (if ever) make investment decisions based on valuation alone.

So, where will Etsy be in five years? Let me preface this by saying no one knows for sure what will happen five minutes from now, let alone five years in the future. That being said, I believe Etsy is well-positioned to reward shareholders. The company's strong growth strategy has helped Etsy build a valuable brand with a big market opportunity. From that perspective, Etsy looks like a long-term winner.