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RedBubble (ASX:$RBL): A Winning Marketplace

Updated: Nov 26, 2021

Summary: Redbubble is a leading marketplace with properly incentivized insiders and strong flywheel effects while trading at a considerable discount to its underlying value. As of FYE21, Redbubble had $701mm AUD in GTV, $553mm in marketplace revenue with a 5-year revenue CAGR of 41%, $53mm in EBITDA, and $99mm in cash. Redbubble is a global company, with customers in North America (67% of FY21 revenues), EU (15%), UK (11%), AU/NZ (6%), and ROW (1%). Redbubble had 9.5 million unique customers purchasing products from 728,000 independent artists during the same period. As of late November 2021, Redbubble has a market capitalization of ~$945mm AUD, down ~50% from January 2021 highs.

 

Marketplaces are extremely attractive business models. They bring both parties of a transaction together and are economically rewarded for doing so. For buyers, marketplaces offer a "one-stop-shop" experience which provides greater selection and optionality to buyers among other benefits. For sellers, marketplaces offer a steady stream of customers at a relatively low cost to the vendor. What makes marketplaces such great investments is the defensibility around them - the more buyers on the marketplace, the more attractive a marketplace becomes to sellers and vice versa. This effect - the high value add of each user to the business - is known as the network effect. For another intuitive way to think about it, think about how Facebook gets more valuable with each new friend of yours that joins it.


Redbubble is an Australian-based print on demand (POD) marketplace for independent artists. Independent artists can upload designs that can be printed on a variety of different products (t-shirts, hoodies, wall art, phone cases, masks, stickers, etc.) using Redbubble's network of fulfillment POD centres. Redbubble's value proposition is very simple. Independent artists provide Redbubble with designs for products to be sold on the marketplace, and in return, should a sale be made, the artist will receive 15% of the sale with no further work needed. Redbubble handles all of the "heavy lifting" that can be a nuance to independent artists trying to sell their designs, such as product sourcing, shipping logistics and costs, quality assurance, and pretty much everything else related to starting your own e-commerce business. Compared to the capital and time-intensive route of starting a business to sell designs from scratch, Redbubble offers a low-risk alternative for those interested in selling their designs without risking capital or needing any business "know-how".


Once products are purchased on Redbubble, the order is sent to the most strategically located fulfillment centre where the item is printed to order - this is a nice added benefit, as Redbubble does not need to hold inventory (favourable working capital, no inventory write-offs, etc.)


A look at Redbubble when you search for Rick and Morty


While doing my due diligence on the company, I chose the festive route of picking Christmas t-shirts for me and my girlfriend. While I'm sure you'd all love a novel of my experience, I'll synthesize it below with an overly simple points system:

  • The product of choice was a Peanuts Christmas shirt, the specific design I chose was only on Redbubble, as far as I could find (+1)

  • Similar shirts on Amazon were priced similarly, so I couldn't find much of a cheaper substitute (+1)

  • Shipping costs were approximately ~$6 CAD for the two shirts, which is not a deal-breaker but obviously not Amazon Prime (-1). That being said, the expected arrival was ~7 days, and I received my package in 2! (+1) This area of the business should improve as the fulfillment centres scale, but it is worth noting there are areas to improve. (+0)

  • Being the suave buyer that I am, I accidentally purchased the wrong size for myself (two size mediums instead of my large). I emailed Redbubble support using a link in my order confirmation email, and within 1 hour I received the following email.

Also at the end of the email, a line that stuck out to me

  • Customer service matters and this was definitely an exceptional experience. (+1) It cost me nothing to redo the order correctly and the gesture of donating a shipped order is classy. "Luckily" from a business perspective, I only received my correct order. Fortunately, I don't have a history of fat-fingering trades like I do when I online shop.

  • The product quality was good, the print didn't feel cheap, and the design is truly one I couldn't find elsewhere (+1).

After shopping on Redbubble, I can safely and objectively say that I will continue to seek future products - especially gifts - on Redbubble.

 

Industry tailwinds also provide additional insights into the growth we can expect from Redbubble in the future. While Covid undoubtedly accelerated it, global e-commerce spend is anticipated to grow at a 9% per annum rate to ~$1.05bn USD by 2024. Redbubble's TAM within this is their estimated ~35-40% of that spend (~$400mm USD by 2024), which consists of customers looking for unique and meaningful products.


The growing creator economy has also provided meaningful traction behind business models such as Redbubble. Increasingly, individuals are looking for additional sources of income and ways to monetize skills like graphic design. While I won't speculate on particular projections, I believe Redbubble will benefit from the growing adoption of "side hustles".


Industry competition is another area where Redbubble looks strong. While Redbubble does have similarities and arguably some competition among other marketplaces such as Amazon and Etsy, its primary competitors are other print-on-demand sites. As you can see, among the top 8 print-on-demand market participants, Redbubble takes the lead for monthly traffic.


Hey artists, which of the following websites do you want to sell on? Hint - it's a rhetorical question.


Source: "Best Print on Demand Sites for Artists"


Note, that Merch by Amazon is a competitor as well. As scary as it is to hear that Mr. Bezos is coming for a piece of the pie, I'm not all that frightened. In my previous Christmas shirt example, I directly compared my experience with Amazon's. The shipping was on par in speed while falling behind in cost (only if you're a Prime customer), the price was the same, and the quality was there. Redbubble stands toe to toe with Amazon as a print-on-demand platform. Furthermore, I strongly believe the brand they have created around supporting independent artists is strong. Redbubble benefits from strong SEO, repeat customers who love the platform, and sellers who also might not want their products competing with undercut Amazon alternatives.


Finally, as a Rick and Morty fan myself, I'd love to tag their licensing of the brand as a nice win for the business, and an indication that Redbubble is in the conversation for bigger licensing accounts. Is Amazon an ideal competitor? No. Are they set to take Redbubble's cake and eat it too? I don't believe so.


Speaking of licensing, a big bear case for Redbubble is the various products sold on the website without proper licensing. This is not the case for all or even the majority of Redbubble products - as mentioned Redbubble does have successful prominent licensing agreements with brands such as Rick and Morty.


Redbubble has been sued by organizations ranging from Atari to Hell's Angels. A recent court decision in favour of Redbubble against Atari sets a strong precedent (that also excellently explains Redbubble's legal defense) that ultimately found that Redbubble was not liable for the sales of unlicensed merchandise. I am not a lawyer, but I am familiar with precedents and the strong influence they have on future legal cases of similar nature. While I'm sure organizations will continue to try to make a quick buck off Redbubble lawsuits, I am confident that the outcome will not deviate from Atari's "total loss" of the court case.

 

What do I love about Redbubble?


In F21, repeat purchases grew faster than first purchases. I think this says two things:

  1. Customers are finding value on Redbubble, with 42% of FY21 marketplace revenue coming from repeat purchases. This is extremely important, as this inherently lowers customer acquisition costs and speaks to the quality of the marketplace and its value add capability.

  2. As a certain percentage of customers typically become repeat purchasers at fairly consistent rates, this will only compound as the marketplace grows

Source: Redbubble Investor Presentation, October 2021


The economics of a Redbubble transaction are attractive:

Redbubble isn't like most marketplaces, charging a transaction fee in exchange for facilitating the transaction. They sell the product directly to the customer, which has the following pros and cons in my mind.


Pros:

  • Ability to ensure quality from start to finish on the platform (shipping, production, etc. handled by the firm versus a potentially unprofessional seller)

  • The ability to seek efficiencies to gain a larger share of the economics (anticipated ~13-18% EBITDA margins on marketplace revenue by CY24, versus typically smaller marketplace transaction fees of GMV.)

  • Negative working capital (Redbubble generates cash extremely quickly, receiving funds from customers before they have to pay vendors)

Source: Redbubble Investor Presentation, October 2021


Cons:

  • Lacks the same pricing power of marketplace peers such as Etsy, which can and have increased transaction fees.

  • Limited to selling the products Redbubble can produce with fulfillment centres versus marketplaces where customers simply list any product they can sell within marketplace rules.


Redbubble benefits from serious flywheel effects:

This is Redbubble's economic moat - broken down, they are network effects and economies of scale. Picture, that as more customers come to Redbubble, more artists are drawn to the platform (which means new designs, and new customers), while fulfillment centres can scale which allows them to lower costs and improve services - which in turn, drives more customers, which... you get it.


While this is one of the most important aspects of the company, it doesn't need much of an explanation.


Network effects: More artists = more customers = more artists = more customers


Economies of scale: More customers = cheaper faster shipping


Plugging the two equations in together leaves you with the wonderful flywheel effects that Redbubble benefits from. These effects are extremely difficult to compete with.


Redbubble's insiders are aligned with shareholders

If you're still reading this, you're probably somewhat interested (or know me, so thanks!) I can appreciate that synthesizing this information would be more digestible this far into the write-up, so here I go.

  • As per Redbubble's recent remuneration report, the board of directors are now paid in cash rather than given equity, and there is also now a minimum amount of equity they need to hold (eventually purchasing enough shares to match their annual base fee, as is it for all execs)

  • On February 10th, 2021, Redbubble entered into a loan recourse agreement with new CEO Michael Ilczynski for $1.6mm, using the funds along with $400k of personal capital to purchase Redbubble shares at an average price of $5.53.

  • Redbubble founder Martin Hosking (okay, a quick summary: Martin stepped down feeling burnt out along with some public backlash, new CEO stepped in, eventually got kicked out by the board for lack of execution, Martin stepped back in as interim CEO, then Michael joined, phew) who still owns ~10% of the company sits on the board of directors.

  • Long-term incentive plans have been restructured as share appreciation rights. For executives to reach these awards, total shareholder returns must reflect an annual compound rate of 10% for 3 years. If this is not met by year 3, year 4 is next in line with an additional 10% compounded onto the prior 3 years. If shareholders win, insiders win.

Source: Redbubble 2021 Annual Report


Redbubble is trend-resistant

I can't take credit for this reason, but I can give it to my good friend and the person who helped me dive into investing, Phil. Phil is quite the investor and an avid reader. He pointed out that the problem with retail businesses (in this case, online retail) is that while they can be Wall Street darlings when things are going well, they can be also victims of shifts in consumer preference (think Hot Topic). These retailers are quite levered with their leases let alone capital structure choices, and these negative consumer trends can have devastating reverse operating leverage effects that severely impact profitability.


Redbubble is inherently resilient to selling "out of fashion" merchandise. Why? New designs are uploaded onto the website every single day. These new designs are typically some of the most relevant in pop culture and consumer preferences - after all, these are artists trying to make products they think will sell. As a matter of fact, I like to think of it as if Redbubble has the world's largest, most incentivized product design team at a fixed cost of 15% of revenue. Ultimately, Redbubble's trend resistance means there is a significantly lower chance of obsolescence, which is exactly something every rational investor should want in a long-term investment.

 

Let's talk numbers.

I built a simple discounted cash flow model (DCF) for Redbubble. I felt that my assumptions were relatively conservative, and I got quite an adequate mid-double-digit margin of safety. Admittedly, however, I believe that going through someone's DCF is like looking at a scenic picture (scenic if there's upside). While it might look nice, it probably won't truly strike a chord with you. Similarly, I believe my screenshots of my DCF would be like showing you a picture of a picture. At best, you will smile and nod and convince yourself you understand why I showed you. That being said, let's talk numbers that I've run that don't involve a slew of my own assumptions. Just good old management guidance and an EBITDA multiple sensitivity table. Note: Management's guidance is for CY24+, so with Redbubble's fiscal year ending June 30th, we'll assume CY24 projections hit as of FY24.


Management has guided the following as per their most recent investor presentation:

Now I'm not one to say that management guidance is always going to be accurate, however, the numbers roughly line up with what I got for the business, and frankly, I think; 1) management has a decent idea of what they're doing, and; 2) there's little incentive to over or undershoot guidance given how quickly the market can overreact to guidance changes -especially downward revisions. Remember, management are shareholders and stand to make a "good" bonus for long-term share appreciation, not quick spikes up. Anyway, here's what I got - if you forget where these numbers are coming from, look up.

As you can see, even if Redbubble's multiple contracts to 10x EBITDA (versus ~19x as of November 22nd, 2021), your rate of return is still exceptional. While I acknowledge that this math is quite simple, and the exercise was relatively "lazy", I have never found comfort in over-calculating myself into thinking I'm correct. I used management's arguably modest numbers and only multiples at or lower than what the firm is currently trading at. Big IRRs in the face of multiple contraction for Redbubble paints a very pretty picture when you realize the business is trading for ~5x management CY2024 EBITDA estimates.


Additionally, given that F24 would only account for half of CY24, when we push back our IRR table to F25 or 4 periods, we get the following:

When over half of the foreseeable possibilities result in a >30% IRR, Mr. Market might have panicked a little too much.

 

Why does the opportunity exist?

Now for the fun part. Despite being a profitable, rapidly growing business with attractive unit economics and an economic moat, it hasn't all been sunshine and cartoon stickers for Redbubble's short-term followers. As I mentioned, Redbubble has halved from its January 2021 highs. I'd like to note, however, that technical analysis/stock charts have no impact on my investing, I am just painting the picture of how Mr. Market has been feeling lately. Let's break down what (I believe) makes the market upset about Redbubble.


Remember all of those management changes Redbubble has had? Yeah, that can sometimes be a headache for shareholders especially when you don't have the happiest track record with CEOs (a founder with public scrutiny and an ex-CEO ousted by the board) although I think Michael brings strong experience as the prior CEO of SEEK's Asia Pacific & Americas segment. Taking a quick look at SEEK shows a relatively happy shareholder base of a growing business.


Redbubble's guidance for the near-term was soft, and I think that's fair. After growing marketplace revenues 54% from F20 to F21, a cool down is expected. For reference, Redbubble is saying that F22 marketplace revenue will only be slightly higher than underlying F21 marketplace revenue. What is underlying? Mask adjustments! In F21, Redbubble sold $57mm worth of masks! I don't find it all that alarming that management is saying growth for the upcoming fiscal year will be slower. Physical economies are reopening, F21 was a record e-commerce year, and $50mm in masks aren't a likely normalized revenue stream.


But wait - there's more! Not only did Redbubble give soft guidance compared to the previous 5 years of mid-double-digit growth, but they also mentioned that "Targeted investments will continue to be made and will affect Gross Margin, Marketing and OPEX lines". For a business with such attractive returns on capital, I don't view investments that hinder short-term profitability as a bad thing. I actually read a Seeking Alpha author's take on Redbubble, who cited that prudent investing wasn't something shareholders wanted to hear... I find myself on the opposite side of that camp. I like the business how it is, and I don't think there is any rush to make any dynamic, exciting, or "sexy" investments - driving top-line growth through artist acquisitions is and should be the companies continued and careful focus.


Summarily, I believe the reasons Redbubble is currently being discounted by the market include recent management volatility, soft short-term guidance, and an impact on short-term profitability through targeted investments.


A quick additional downside I'd like to acknowledge. Reporting everything in Australian Dollars isn't my ideal currency. Historically, the business has actually outperformed the stated growth rates, however, currency headwinds have eroded performance. Do I love the AUD? No, but it luckily isn't one of the many currencies out there that absolutely decimates value.

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Calm down, Australia, and stop panic selling your Redbubble shares. Or do, this article is not investment advice - and I'll take them if you don't want them!

 

Final thoughts.

Sooooo... that was a bit longer. But I hope you enjoyed the read. As always, please share your thoughts on this article. If you're interested in reading more like this, feel free to subscribe (for absolutely free) by entering your email into the subscription box on the home page. But before I go, that was a lot of information, let's summarize.

  • Redbubble is an Australian print-on-demand marketplace with global customers. Independent artists upload their designs to Redbubble, and if there's a sale, they make 15%!

  • The e-commerce industry is growing at high rates, which inherently helps Redbubble.

  • Redbubble has a lot of great attributes including strong recurring customer rates, attractive economics, flywheel effects, aligned insiders, and trend resistance.

  • The numbers make sense, and they look really nice too.

  • People are selling their shares for very cheap forward multiples, let alone putting away the calculator and qualitatively assessing the business. The wisdom always isn't in the crowd, especially when the crowd focuses too much on the short-term.

Thank you for your interest in my ideas, and I hope you enjoyed your stay at The Idea Fund.


Whossayn

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