Short-sellers love to hate Zulily (NASDAQ:ZU). In fact, the fast-growing e-commerce site is one of the most heavily shorted stocks in the Internet and Catalog Retail industry today, with more than 34% of the company's shares currently sold short. If you are not familiar with how short selling works, let me explain. Short-sellers make money betting against stocks. They borrow shares from a broker, then immediately sell those shares, only to buy them back later at a (hopefully) lower price. Ideally, the short-seller profits from the difference. But if that stock goes up, short-sellers must cover their positions by buying back the stock at a higher price, incurring a loss in the process.
When many short-sellers cover their positions in a stock at the same time, this leads to a short squeeze -- a surge in the stock's price. Therefore, Zulily's high short interest could actually benefit the company's shareholders if the company gives investors a reason to push its stock higher. With shares of Zulily down nearly 6% year-to-date and the shorts piling in, let's take a closer look to uncover whether Zulily is a compelling short sell today.
The short of it
Before deciding to sell a stock short, it is important to understand that short selling involves considerable risk. Stock prices can rise for a number of reasons, such as upbeat earnings results or new product launches, thereby forcing short sellers to cover their positions at a higher price. As of Sept. 15, Zulily had 11.8 million shares sold short, translating into a short interest north of 34%. To put that in perspective, Zulily's closest rival Amazon (NASDAQ:AMZN) currently has a short interest of just 2%.
It is easy to see why so many people are betting against the e-commerce retailer today. Zulily's stock currently trades at 974 times earnings, giving it the highest price-to-earnings ratio in the industry. Throw in a PEG value north of 14 and you have a stock that looks wildly overpriced. Nevertheless, at around $39 a share today, the stock is trading near its 52-week low levels and well off its high of $73. This means that any positive news regarding Zulily could send its shares soaring, particularly given the high short interest in the name.
Investors should also keep in mind that Zulily operates in a niche market that caters to women with babies and children. This company is still in the early stages of its growth story. Moreover, Zulily's net sales grew to $285 million in the second-quarter, an increase of 97% year over year.
On top of this, Zulily is rapidly growing both its customer base and orders these days. Specifically, the company counted 4.1 million active customers by the end of the second-quarter, up 86% year over year. Meanwhile, customers placed 5.4 million orders with Zulily during the period, an increase of 92% year over year.
In addition to these encouraging sales trends, Zulily is well positioned to capitalize on the consumer shift toward mobile commerce. The company's mobile app for iOS iPhones and iPads has translated into nearly half of Zulily's order volume now coming from mobile devices. During its latest earnings announcement Zulily's chief executive Darrell Cavins explained, "Mobile is a huge opportunity for us and we'll continue our innovation in this area."
Ultimately, Zulily's strong sales growth and upward swing in both customers and orders proves management is focused on growing the business. This could come back to bite short sellers if the company is able to maintain this upward trajectory in the quarters ahead. Therefore, I believe there is significant risk in short selling shares of Zulily today, and would recommend that investors take a wait-and-see approach for now if only because short selling is in itself so risky. We have seen too many times apparently expensive shares of fast growing companies become even more expensive to the chagrin of short sellers.
Tamara Rutter owns shares of Amazon.com. The Motley Fool recommends Amazon.com. The Motley Fool owns shares of Amazon.com. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.