Etsy Stock: The Growth Story Is Gone (NASDAQ:ETSY)

Amid volatile markets, investors have to take care to monitor positions actively, shuffling in and out of stocks as fundamental stories and valuations change. The post-pandemic era has impacted tech stocks in a multitude of ways – some for the better, and some for the worse.

Etsy (NASDAQ:ETSY) belongs in the latter category. The online marketplace known best for its arts-and-crafts enjoyed a brief moment in the spotlight during the pandemic, when interest in collectibles as well as online shopping brought the decades-old company to all-time highs. Now, however, the company is suffering from a post-pandemic hangover and is struggling to keep up its growth. Down in the mid single digits for the year, Etsy is one of the few tech stocks to have not enjoyed a strong YTD bounce-back:

Etsy’s valuation is too rich for its relatively limited growth prospects

Etsy remains on my watchlist, but it’s not an immediate buy for me. I remain neutral on this stock as the company digests its new era of lower GMS trends. And especially as Etsy fails to drive meaningful improvements in adjusted EBITDA margin, I struggle to find justification for the company’s valuation.

At current share prices near $111, Etsy trades at a market cap of $13.83 billion. After we net off the $1.20 billion of cash and $2.28 billion of debt on Etsy’s most recent balance sheet, the company’s resulting enterprise value is $14.91 billion.

For the current fiscal year FY23, meanwhile, Wall Street analysts are expecting Etsy to generate $2.77 billion in revenue, representing 8% y/y revenue growth (we’ll cover this in the next section – but Etsy’s revenue growth is derived entirely from seller fee increases and not GMS growth, which to me is an unsustainable source of growth). And if we hold Etsy to its FY22 adjusted EBITDA margin of 28% (which is a relatively aggressive target given adjusted EBITDA margins have been in a downtrend, and Q1’23 guidance pinpoints margins at 26-27% versus Q1’22 actuals at 27.5%), its estimated FY23 adjusted EBITDA is $775.6 million.

This puts Etsy’s valuation multiples at:

• 5.4x EV/FY23 revenue
• 19.2x EV/FY23 adjusted EBITDA

To me, these valuation multiples are quite lofty considering the fact that Etsy has few growth drivers on the horizon. Its ability to continue raising seller fees will be limited – its decision to boost its transactional cut from 5.0% to 6.5% has already drawn ire from its seller base. And with high inflation and layoffs impacting a large swath of the U.S. economy, consumers have pinched their belts and reduced spending – and Etsy is exactly the kind of discretionary spend that will see a disproportionate impact.

I’d be interested in picking up Etsy stock for a rebound play if it crossed the $80 mark, a price target that represents multiples of 4.3x EV/FY23 revenue and 15.3x EV/FY23 adjusted EBITDA. Until then, I’m content to stay on the sidelines.

Q4 download

In my view, Q4 brought a bevy of bad news for Etsy bulls. Let’s start with the company’s top-line trends:

Etsy’s GMS in the fourth quarter declined 4% y/y to $4.03 billion. The company still likes to emphasize the fact that the business has more than doubled from a y/3y compare perspective (versus pre-pandemic 2019) – but note that the Q4 decline already comps against last year’s post-pandemic period. Note as well that GMS has decelerated each and every quarter in 2022.

Revenue growth is up, of course – to the tune of 13% y/y. You can see in the right-hand side of the chart above that this is being driven by a 3-point increase in take rates, driven by the company’s decision to increase seller fees. The revenue bridge below shows the contribution from transaction fee increases as well, partially boosted as well by traction in Etsy Ads (seller advertisements to promote their listings):

There is one glint of good news in Q4: the company added 9.5 million net-new buyers in the fourth quarter, which is up 51% quarter over quarter – the strongest sequential lift in new buyers since the pandemic began. The absolute nominal number of new buyers added in 2022, of course, is sharply down from 2020 and 2021 when Etsy activity was at its peak:

The company, however, invested tremendously into holiday marketing and campaigns in order to achieve these results. Per CEO Josh Silverman’s remarks on the Q4 earnings call:

We pulled out all the stops to help our sellers have the best season possible, which included holiday ad campaigns in the U.S., U.K., and Germany, spotlighting well-crafted items for all budgets, types of people, and giftable moments, out-of-home campaigns in the U.K. and Germany; increased seller participation in our annual cyber sales event, educational moments, and optimized selling tools. And last, but certainly not least, our new Etsy purchase protection program, which enhances peace of mind for buyers and sellers […]

In addition to maintaining our gains, we did, in fact, grow in some very important ways last year. Just a few examples. Strategies to introduce more buyers who identify as men to the joys of Etsy resulted in 22 million male active buyers at year-end, up 124% since 2019 and now at our highest level yet. We reactivated 24 million buyers who lapsed over the prior 12 months, the most ever reactivated in one year.”

The company also notes that it managed to improve search page load times by one second, which alongside other performance improvements drove an estimated incremental $100 million in GMS.

Etsy’s adjusted EBITDA, while remaining profitable, did suffer from a margin front. As seen in the chart below, Q4 adjusted EBITDA margins of 28.1% fell 240bps relative to the year-ago Q4:

Full-year 2022 adjusted EBITDA margins fell 290bps to 27.9%; and as previously noted, the company’s Q1 guidance calls for a 26-27% margin, which at the midpoint is 100bps worse than 27.5% in the year-ago Q1.

Key takeaways

Etsy is failing to deliver either growth or meaningful profitability expansion, and with the stock’s valuation multiples already at premium levels, I fail to see any incentive to buy in now. Stay on the sidelines here and wait for the stock to come down further before buying.