On Nov. 3, home goods e-commerce company Wayfair (W -2.58%) reported financial results for the third quarter of 2022, which included a whopping $431 million in negative cash flow from operations. However, management doesn't want investors to worry, because it says Wayfair has already sourced $500 million in annualized savings with plans to soon find hundreds of millions more.
While Wayfair has enjoyed spectacular growth, it currently has a cash flow problem. Here's what investors need to know.
Understanding Wayfair's cash flow
Let's couch a complex conversation in something simple to understand: revenue growth. Wayfair has grown its top line an impressive amount. Trailing-12-month revenue is up over 160% in the past five years, as you can see below. It seems consumers really like what this retail e-commerce company has to offer -- that's good.
Data by YCharts.
Wayfair uses an inventory-light business model -- most of the products on its platform come from third parties. It sells items through its portal to end consumers, collecting revenue before paying its suppliers. This is tracked with accounts receivable and accounts payable.
In times of high growth, this dynamic boosts Wayfair's cash flow as it gets money from customers and waits for a period before paying its suppliers. But the cash-flow benefit reverses in periods of revenue declines. Wayfair's business soared early on during the pandemic but has since pulled back to more normal levels. That's one big reason why its cash flow has deteriorated.
As Wayfair's management pointed out in its latest conference call with investors, the negative trends in accounts payable and accounts receivable were responsible for more than 50% of its negative cash flow from operations in the third quarter.
As a public company, Wayfair had never previously seen meaningful sequential declines in revenue, as the chart below illustrates. But large spikes in its business in recent years and the slowdown in the economy have had a more pronounced negative impact on Wayfair's business.
Data by YCharts.
How management plans to break even
For its $500 million in savings, Wayfair's management expects 60% ($300 million) to come from labor-expense improvements and 40% ($200 million) to come from operations. On Aug. 19, the company laid off workers, including many in corporate roles, as part of the plan. But that move incurred one-time expenses in the third quarter. The benefits are expected hereafter.
Regarding operations, details are scarce, but management did give an example of saving money with returned merchandise. Apparently, it's found ways to improve the process when customers return items that can save the company tens of millions of dollars. These savings hadn't been noticed or implemented previously, because the company was so focused on growth.
Management aims to find hundreds of millions of dollars in additional savings soon, which it believes will help the company reach positive free cash flow (FCF) in 2023. Again, investors don't have all the details here, other than the fact the company intends to save this money by improving operations.
Wayfair is also talking about its goals in terms of adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA). Management expects positive EBITDA in 2023. Through the first three quarters of 2022, Wayfair reported an adjusted EBITDA loss of $345 million. During this same period, it also had negative FCF of $1.1 billion.
Therefore, it indeed looks like Wayfair needs to find all the savings it's projecting in order to reach its goals for positive EBITDA and FCF.
Lingering concern for Wayfair's profits
Wayfair stock is down 90% from its all-time high, which could lead some investors to believe it's cheap. And management is also talking about profits, which could lead some to believe this is a turnaround opportunity. But I remain hesitant about Wayfair as an investment today.
Let's keep some things in perspective here: Wayfair has generated $12.4 billion in trailing-12-month revenue (that's huge) and is looking for at least $700 million in overall savings just so it can break even on a FCF basis. If Wayfair has already achieved such scale and is still struggling to this extent, it's hard for me to imagine this will ever be a highly profitable business. Breakeven looks like a good-case scenario.
Remember that FCF and adjusted EBITDA don't account for certain things that can still be drags on shareholder returns. Indeed, management says its profit goals will help it "cover" stock-based compensation, capital expenditures related to shipping logistics, and software costs. In other words, the company might look barely profitable by certain metrics in 2023, but it'll still be spending heavily on things not tracked in those particular profit calculations.
I'm of the belief that profits drive stock returns over long time periods, and I don't see a clear path to Wayfair generating profits that lead to market-beating returns. Therefore, this isn't a stock I would buy today.
