It's been a rough couple of months for online marketplace Etsy (ETSY 2.86%) as its stock has lost an eye-opening 45% since late November. The now-$20 billion business experienced a surge in demand during 2020 when consumers turned to online shopping as many brick-and-mortar retailers temporarily closed.
Now that economies are opening back up, Etsy's revenue growth is unsurprisingly slowing back down. And shareholders could be wondering what a post-pandemic Etsy looks like. What should investors do right now? Is Etsy stock a buy, sell, or hold? Let's zoom in to find the answer.
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Etsy is a fantastic business
I believe long-term investors should learn to separate the stock price from the underlying business. If you take this approach, it's obvious that Etsy is an outstanding company.
In the most recent quarter (ended Sept. 30), Etsy has seen active sellers surge 103% year-over-year to 7.5 million and active buyers jump 38% to 96 million. The company's gross merchandise sales (a measure of the transaction volume happening on the platform) grew 17.9% from the same period in 2020 when it had already skyrocketed 119% from the same period in 2019. The business is registering gains on top of a monster quarter in the year-ago period, an impressive feat. Etsy's habitual buyers (those with six purchase days and at least $200 of spending in the trailing 12 months) were the fastest-growing buyer cohort in the latest quarter.
Because Etsy operates a capital-light marketplace business that simply connects buyers and sellers, it sports some superb financials. The company's gross margin of 73.3% and operating margin of 23.3% over the past 12 months are exceptional -- and these figures have improved over the years as Etsy's revenue base has increased. Moreover, the company is a cash cow, generating $584 million of free cash flow (on $2.2 billion in sales) over the trailing 12 months. Being in such a strong financial position allows Etsy to continue repurchasing shares, further boosting investor returns.
Etsy is also expanding its horizons. Last year, it spent a little under $2 billion to buy Depop, a secondhand global fashion reseller, and Elo7, otherwise known as the Etsy of Brazil. These two deals, plus the 2019 purchase of online musical-instrument marketplace Reverb, are helping turn Etsy into what CEO Josh Silverman calls a "House of Brands." According to management, Etsy's total addressable market is $1.7 trillion, providing a massive global opportunity. Entering new product areas certainly boosts Etsy's long-term potential.
According to a 2020 survey, 88% of Etsy buyers admitted that the marketplace offers items they can't find anywhere else. Couple this unique value proposition with the secular rise of e-commerce and stellar financials, and I believe that Etsy still has a long runway ahead.
Take advantage of the recent pullback
With the heightened uncertainty in the economy today, characterized by soaring inflation, the Fed's potential for rate hikes, and the ongoing coronavirus pandemic, investors have soured on high-growth stocks. The possibility of higher interest rates, which are meant to slow down a booming economy, would have an adverse impact on businesses like Etsy, which has seen its revenue, net income, and stock price soar.
I think Etsy is the baby that was thrown out with the bathwater here. The stock currently trades at a price-to-earnings ratio of 48. That's in range of the lowest level it's been at over the past five years. Etsy is poised to continue its long history of success, and investors have the opportunity today to scoop up shares at a substantial discount off the recent high.
