black-and-white Capital Calls for Change at Etsy

- Identifies a Number of Critical Operational and Governance Flaws That Require Immediate Improvement -

- Releases Previous Letters to Etsy Board Highlighting Decelerating GMS and Poor Expense Management -

- Sees Company’s Intrinsic Value Approaching $30 per share with Operational Improvements; Believes Etsy Could be Valued at Least at $15.50 if Sold Today Even Without Any Operational Improvements -

LOS ANGELES--()--black-and-white Capital LP, together with its affiliates (“black-and-white” or “we”), who collectively own over 2 million shares, or approximately 2% of the outstanding shares of Etsy, Inc. (“Etsy” or the “Company”) (NASDAQ:ETSY), today released two letters that it previously sent to Etsy’s Board of Directors (the “Board”) expressing black-and-white’s concerns regarding the destruction of shareholder value since the Company’s initial public offering (IPO) in April 2015. Etsy’s share price has declined 33% since going public, in contrast to the performance of the NASDAQ Internet Index and the S&P North American Technology Sector Indexes – each of which is up 38% and 35%,(1) respectively. Even the much-beleaguered retail sector, as represented by the Russel 3000 Diversified Retail Index, achieved a 33% gain over that period. (1)

Critical issues highlighted in the letters (available here) include:

  • Steep deceleration of gross merchandise sales (“GMS”) growth, which is even more alarming considering the macro e-commerce tailwinds Etsy is failing to capitalize on
  • Areas for operational improvements
  • Poor corporate governance, including the need to immediately separate the Chairman and CEO roles
  • Necessity of exploring strategic alternatives in order to maximize value for all shareholders

Seth Wunder, Chief Investment Officer of black-and-white commented, “With 45 million unique items across 50 different retail categories, Etsy represents a truly valuable Internet asset. The Company owns the 51st most trafficked website in the US and ranks number 4 within the Shopping – General Merchandise category.(2)

“However, management’s efforts have failed to fully capture this tremendous opportunity for growth. The disappointing deceleration in marketplace revenue growth has been compounded by a lack of expense management that has allowed general and administrative expenses to swell to a figure that is more than 55% higher than what peers have spent historically to support a similar level of GMS.(3) The Company’s historical pattern of ill-advised spending has completely obfuscated the extremely attractive underlying marketplace business model, which should produce incremental EBITDA margins of greater than 50% with low capital investment requirements.

“We are believers in the value of Etsy’s business and the unique position it occupies in the market. For the past several months, black-and-white has attempted to engage in a private dialogue with Etsy’s Board. However, after recently meeting with both Chairman and CEO Chad Dickerson and Lead Independent Director Fred Wilson, black-and-white felt now was the right time to convey its clear and fundamental concerns to the broader investment community in order to bring proper attention to the issues facing the Company and ensure that the right steps are taken to correct Etsy’s path and realize value for all shareholders.”

GMS deceleration

Several factors have contributed to the deceleration in Etsy’s GMS growth, including the Company’s horrendous search functionality. Widespread problems that are depressing the current conversion rate of Etsy’s significant traffic include:

  • Etsy’s search algorithm is not optimized for conversion
    • It is black-and-white’s understanding that Etsy’s current search algorithm is scored to favor new sellers and other factors instead of trying to deliver the listings that are most likely to convert, leaving its marketplace drastically under-monetized. This is in stark contrast to other comparable online marketplace practices.
  • Autocorrect and/or spellcheck features for misspelled words lack breadth
    • Many misspelled words yield null results
  • A surprisingly low level of critical relevancy, even irrelevant, search results

Another factor influencing the deceleration in GMS growth is poor landing page conversion, as evidenced by Etsy’s inordinately high “bounce rate,” which is 24% greater than its global marketplace peers.(2)

Without addressing the issues outlined above, black-and-white is concerned that GMS growth will continue to decelerate further, despite the favorable online marketplace tailwinds.

Areas for operational enhancements

After consulting with a significant number of product engineers and former Etsy employees, black-and-white is confident the overall buyer experience could be greatly improved by straightforward changes to Etsy’s R&D focus and marketing strategy, including:

  • Increasing seller supplied structured data at the time of listing to improve categorization
  • Returning to a data driven development culture
    • Several former employees have indicated these efforts have been minimized in recent years in favor of a more ideological product strategy
  • Shifting the majority of the infrastructure to the public cloud
    • It is black-and-white’s understanding that more than 50% of the approximately 450 people on the R&D team focus on maintaining the Company’s costly internal infrastructure
    • A shift to the public cloud would provide long-term cost savings while also establishing a more flexible infrastructure to support future growth
  • Improving marketing initiatives geared toward previous Etsy buyers in an effort to increase repurchase activity
    • Despite consistently being ranked as a top priority for management, the percentage of active buyers who purchased on more than 1 day has only increased 100 bps since 2011 and remains at a relatively low 41% in 2016(4)
  • Improve cross-sale functionality
    • Part of the reason the bounce rate is so high is that Etsy is not providing suggestions for similar items if the potential buyer does not like the initial page he/she lands on

“While we are supportive of the recent acquisition of Blackbird Technologies, we believe management’s attention, and the overall process of how R&D priorities are set within the Company, needs to be more keenly focused. Etsy needs clearly defined benchmarks for improvements in both the conversion rate of its existing traffic and frequency rate of the Company’s buyer community, which will combine to reaccelerate GMS growth over the coming years,” stated Mr. Wunder.

Poor corporate governance practices

In addition to the operational missteps, black-and-white is also disturbed by Etsy’s poor corporate governance and shareholder unfriendly policies.

Of note, Etsy currently utilizes a number of policies that are widely recognized as running counter to governance best practices, including:

  • Classified Board structure
    • In black-and-white’s view, it impedes shareholders’ ability to regularly and effectively evaluate the performance of directors and insulates and entrenches the incumbents if directors are only subject to re-election once every three years
  • Combined Chairman and CEO roles
    • Largely considered by governance experts and commentators to be a governance flaw because of the undue concentration of control and inherent conflicts
  • Inability for shareholders to call special meetings or act by written consent
    • Effectively prohibits shareholders from taking action between annual meetings

These and other governance shortcomings, including a misalignment between executive compensation and performance, have caused leading proxy advisory firm Institutional Shareholder Services (ISS) to assign Etsy a QualityScore of 10, the worst possible score on a scale of 1 to 10, indicating the highest governance risks.(5)

black-and-white believes that improving Etsy’s corporate governance would be welcomed by shareholders and ultimately help the Company reach its value potential.

Exploring strategic alternatives

Notably, Etsy’s current valuation of 2x and 11x consensus 2018 revenue and EBITDA is severely depressed when compared to its marketplace peers, which trade at 6x and 19x, respectively.(6) Similarly sized internet companies trade at 3x and 24x 2018 revenue and EBITDA, respectively.(7) This discounted valuation reflects investors’ concern regarding the Company’s ability to reaccelerate GMS growth and right size its cost structure. Based on black-and-white’s proprietary underwriting, which incorporates operational improvements highlighted herein, we believe Etsy’s intrinsic value per share is set to reach ~$30, representing roughly 170% upside, over the next few years.

We are confident that the proper strategic alignment combined with several years of compounded growth will generate a significant increase in intrinsic value. However, considering the significant amount of shareholder value that has already been destroyed under the leadership of the incumbent Board since Etsy’s initial public offering, black-and-white believes it is the Board’s fiduciary duty to immediately consider all strategic alternatives available, including a possible sale of the entire company.

We believe there are many strategic acquirers, in addition to financial buyers, that would be able to significantly reduce the Company’s bloated operating expense structure while investing efficiently in R&D to capture the macro tailwinds of e-commerce, thus reaccelerating GMS growth. Based on historic transactions involving similar online marketplaces, black-and-white is confident the Company could be sold today for a minimum of $15.50, or roughly 45% higher than the current market price. This projected acquisition value does not incorporate any of the operational improvements outlined above, assumes the Company achieves the low-end of its current 2017 revenue guidance, and takes a conservative 1-turn discount to the average revenue multiple paid in recent comparable transactions.(8)

It is our desire to maintain an open and constructive dialogue with the Board; however, we cannot sit idly by while the Company’s value continues to decline. We hope and expect that the Board will act objectively and expediently for the benefit of all shareholders. To the extent that the Board fails to do so, we are fully prepared to take any actions we believe are necessary to protect the best interests of all Etsy shareholders.

The full text of black-and-white’s previously delivered letters to the Board can be found on the following website:

Footnotes – for this press release:

(1)   Performance calculated from 4/15/2015 to 4/28/17

Source: as of 4/28/17

(3) ETSY’s 2016 G&A is ~55% greater the average of EBAY’s and MELI’s G&A expense at the time when they had similar levels of GMV / GMS
(4) Company reported data
(5) ISS QualityScore as of May 1, 2017
(6) Marketplace peer set includes: EBAY, AMZN, BABA, and MELI
(7) SMID Cap Internet Peers: YELP, TRUE, P, and GRUB
(8) Comp set includes publicly available data for the following companies / (acquirers): (PetSmart); (EXPE); Ebates (Rakuten); AWAY (EXPE); Trunk Club (JWN); Stayz (AWAY); Home24 (Rocket Internet); Eat24 (YELP); (WMT)


Sloane & Company
Dan Zacchei, 212-486-9500


Sloane & Company
Dan Zacchei, 212-486-9500