Description

Channeladvisor is a B2B software company with a dominant market position within its niche, no debt, 100%+ net revenue retention, LDD organic growth, and strong FCF generation. The company is currently trading at 2x revenue and 10x EBITDA (11x EBITDA ex SBC). We believe a Company with these characteristics is deserving of a higher multiple. Management agrees. The company has bought back 6% of shares outstanding since May, and has re-upped the buyback program for the same dollar amount.

ECOM is emerging from a multi-year business transformation, accelerated by COVID. Its core customer base has seen a big shift to large enterprises, away from small eBay merchants.

The stock has been washed up in the tech drawdown, despite its strong FCF generation and relatively predictable earnings trajectory. We think recession fears and concerns over post-COVID e-commerce “give-back” are sufficiently priced in at current levels, and that risk/reward skews heavily to the upside.

ECOM was last written up by specialk992 in October 2020 with a well-timed call. We think the opportunity is even more attractive now, with many additional proof points that the business has inflected and is gaining momentum.

Business Overview / Recent Trends

ECOM’s core SaaS solution provides ecommerce sellers with a single interface to manage product listing, inventory, pricing, and order flow across multiple e-commerce channels. Listing requirements on marketplaces such as Amazon/eBay/Walmart are ever-changing, and maintaining compliance across large product catalogs is an arduous process. Non-compliance directly results in lost sales due to downtime or poor placement. ECOM automates manual tasks to minimize listing errors and maximize listing visibility. The product also automates tasks such as inventory allocation across channels and pricing adjustments to respond to competition.

Contracts are typically 1-year fixed subscriptions based on expected GMV, with a variable charge for overages.

ECOM is the undisputed market leader and is really the only enterprise level offering in the market. No competitor comes close in terms of feature set or breadth of built-in integrations. For comparison, competitor Feedonomics, did ~$20mm in sales last year with an ARPC of <$20k (vs. $170mm sales and $70k ARPC for ECOM). Competition mainly comes from in-house teams that manage direct integrations to Amazon/eBay using multiple point solutions.

ECOM segments its customers between Brands and Retailers.

• Retailers include traditional B&M retailers running eCommerce sites

• Retailers also include eCommerce resellers that acquire inventory and sell through online channels such as eBay

• Brands are defined as companies that mainly sell their own product (e.g. Asics, Whirlpool, Yeti).

Retailers dominated the eCommerce landscape back in 2013 when Channeladvisor IPO’ed. This group made up 85% of ECOM’s customer base, with a heavy tilt towards eBay sellers. Back then, most brands still relied fully on channel partners for distribution and had no DTC capabilities. Awareness was growing but brands that were interested in DTC were held back by a myriad of logistical challenges and an underdeveloped fulfillment ecosystem.

After a brief stint as a SaaS darling, ECOM growth began decelerating in 2014 as eBay GMV stagnated and small eBay resellers started churning off. At the same time, many B&M retailers started running into financial trouble and going out of business.

From 2016 to 2019, consolidated revenue growth decelerated from 13%, 8% ,7% to -1%. Growth was 12% in 2020 and 18% in 2021. The current stock price seems to imply that ECOM was a one-time beneficiary of COVID, and that revenue trajectory will imminently return to its previous trend line. We view this as a highly unlikely scenario.

Just looking at the topline growth doesn’t tell the full story. Much of the pre-COVID churn from Retailer customers was by design, resulting from a pivot in strategy.  

ECOM’s focus the past few years has been growing Brand customers. This segment was historically small but has been fast growing as brands invest in their DTC operations in order to build direct relationships with customers and exert more control over their brands. From 2017 to 2019, Management restructured the entire business (R&D, S&M, G&A) to emphasize Brand customer growth and deemphasize Retailer customers. Brand customers are more financially stable, have higher ACV, higher retention, with higher expansion opportunity. The segment was growing at ~24% CAGR from 2016 to 2019, before hitting 25% and 39% in 2020 and 2021.

The business today looks very different than a few years ago. A few key metrics to illustrate this:

•  ECOM grew brand customer count from ~550 in Q4 2019 to over 1000 today. The solution is very sticky, with a 60-to-90-day onboarding period that involves migrating lots of SKU level data. Once a brand customer is onboard, we don’t see them leaving under normal circumstances.
  
  

•  Revenue from brand customers will cross the 50% mark this year, up from 20% in 2018. This is key. As brand customers increase, overall revenue will accelerate as the drag from Retailer customers becomes incrementally less impactful.

• ARR per customer has increased from ~$40k in 2017 to $70k+ today
  
  

• Enterprise customers (>$100k ARR) are the fastest growing cohort, now making up over 50% of customer base

• Net ARR retention has increased from <85% in 2017 to 100%+ today

Marketplace mix has improved too. eBay exposure is now 20-25% of GMV, down from 40%+ five years ago. More importantly is the growth of Channeladvisor’s “long tail” of 200+ marketplaces, which now account for 25% of GMV, up from 9% in 2018. The long tail consists mostly of niche marketplaces (luxury, furniture, autoparts), and is growing 3x faster than the big three of AMZN, eBAY and WMT. These specialty marketplaces offer a more curated and appealing selection of products within a particular category than “general store” marketplaces do. We are bullish specialty marketplaces and think they continue to outpace overall eCommerce growth. The increasing relevance and number of specialty marketplaces also further enhances ECOM’s core value proposition – enabling customers to manage and scale across multiple channels much more efficiently than in-house teams.

The company today is on much stronger footing than at any point in its history. Issues with eBay sellers churn will be increasingly less relevant going forward. With a strong product, long term e-commerce tailwinds and an underpenetrated market, we think ECOM has a long runway to deliver double digit revenue and earnings growth for many years to come.

Financial Outlook / Valuation

Our base case (presented at the end of the writeup) is quite punitive. We are modeling a multi-quarter recession resulting in a sharp deceleration of Brands bookings in 2H22 and 1H23, and above-historical levels of Retailer customer churn. We assume a return to trend growth in 24/25. Valuation is based on 2025 forward EBITDA, discounted back to today. Obviously the near-term macro outlook remains highly uncertain, but we think there is a healthy margin of error to achieve double digit returns given the undemanding valuation. More likely, we think the stock rerates over the next few quarters as the company demonstrates the durability of its revenue growth. In the meantime, we expect management to continue buying back shares.

Our projections are well below consensus and may prove too draconian. The solution is mission critical with high switching costs. Customer balance sheets are also historically strong. Management said in May that they continue to see bookings strength. The company recently started a system-wide price increase which should provide additional uplift to 2023 numbers. Furthermore, contracts are loosely tied to nominal GMV levels, providing a certain level of built-in inflation protection. It should also be noted that eCommerce continued to grow through 2008 and 2009 (although off a smaller base). 

Looking further out, strong secular tailwinds remain in place. US e-Commerce penetration (~14% of retail sales) remains well below other countries such as the UK (35%) and China (45%). Despite a temporary post-COVID slowdown, US eCommerce is expected to deliver double digit growth for many years to come. Most brands are also still early in their journey in building out DTC operations. ChannelAdvisor’s core product remains underpenetrated (<5% of TAM) with a long growth runway and an increasingly relevant value proposition.

No direct comps exist but SaaS companies with similar growth/margin profiles typically trade north of 5x+ revenue. Competitor Feedonomics was acquired last year for 7.5x revenue. With ECOM currently trading at 2.0x revenue and 11.0x EBITDA, we think there is plenty of headroom for multiple expansion as the valuation gap closes vs. peers.

Risks

Prolonged recession / depression resulting in more than expected customers going out of business

We think consensus 2023 numbers are too high and need to be taken down (although same can be said for most companies).

Catalyst

Continued growth post-COVID

Potential acquisition by a strategic or financial buyer. ECOM would be immediately accretive to a whole host of B2B e-Commerce SaaS companies.

Continued share repurchases