Purple Is the New Green - an Asymmetric Investment Opportunity
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Purple Is The New Green - An Asymmetric Investment Opportunity Dane Capital Management, LLC Value, special situations, long/short equity, hedge fund manager Dane Capital Management LLC Summary Purple represents a best-of-breed, bed-in-a-box, direct-to-consumer mattress supplier, enjoying explosive growth due to a differentiated product and viral digital marketing. Revenue is expected to grow from $66.5mn in 2016 to $190-194mn in 2017, with near breakeven EBITDA. 2018 revenue is anticipated to increase to $370mn-480mn, up 95-147% with positive EBITDA. Growth has occurred despite no outside funding, but from strong word of mouth and viral videos. Anticipate additional organic growth, new products, international, and brick and mortar (Mattress Firm, etc.). With just 1% current mattress market share, Purple could exceed $1bn+ in 3-4 years with 15% EBITDA margins. At 10x EBITDA, that implies a stock price approaching $30. Purple is under the radar screen despite a ~$600mn market cap because it went public via SPAC. We believe the story will resonate with growth investors and note strong insider alignment. We believe Purple (PRPL) has the potential to be one of the great growth stories of the next few years. It has gone from $5.8 million in sales in 2015, to $66.5mn in sales in 2016 (its first year selling mattresses), to an estimated $190-194mn in 2017, representing a 189% y/y growth rate in 2017, almost 3x that of the industry. At the midpoint of guidance, the company anticipates 121% growth in 2018, to $425mn, again almost 3x industry forecasts. Notably, this has all been self-funded, until Friday, February 2nd's business combination with Global Partner Acquisition Corp. Some working capital adjustments and the repayment of $8mn on its Wells Fargo (WFC) secured revolving loan facility should leave the company with over $35mn in cash on its balance sheet and an approximate neutral net debt position (We anticipate a new working capital line to be put in place at better terms). We believe that Purple could achieve revenues in excess of $1bn by 2021 through ongoing growth in its core DTC (direct-to-consumer) channel, the addition of brick-and-mortar partners, product extensions in the sit and stand segments, and via international expansion. At $1bn+ in sales, with a 15% EBITDA margin (the high-end of management's 3-5 year, medium-term margin outlook), we believe shares could triple based on a 9.4x EV/EBITDA multiple - the current blended multiple of Sleep Number (SNBR) and Tempur Sealy (NYSE:TPX) - with the potential for a premium multiple given Purple's superior growth rate. Of course, if it appears this trajectory is achievable, the share price should appreciate well in advance. We note that Purple also has warrants (PRPLW) that trade freely. They have a strike price of $11.50 and a duration of 5 years from the close of the transaction. Based on our Black-Scholes analysis (modified to account for the callable nature of the warrants), we believe fair value is $1.35-1.50 based on the current price of the underlying equity, or 50-70% upside. It's worth mentioning that warrants traded as high as $1.28 in January, prior to the closure of the transaction being a certainty. We note, miniscule, money-losing British bed-in-a-box (BIB) company Eve Sleep (EVE.L) went public last May at 12x trailing revenue - its shares are up 20% since its IPO. Its sales grew ~130% in 2017 (a rate well below Purple's), meaning Eve shares now trade at 5.3x trailing EV/revenue and 2.6x 2018 vs. under 3.1x and 1.3x for Purple, respectively. While Purple is expected to be only modestly profitable in 2018, its price-to-sales is lower than slow growth at Tempur Sealy. Purple is somewhat of an unusual investment for Dane Capital. Traditionally we are very cheap - we like EBITDA multiples in the mid-single-digits and FCF yields that exceed 10%. Based on current metrics it doesn't look cheap, but we believe the risk/reward is highly asymmetric. Admittedly, this could eventually prove to be a great short, but we think anyone shorting today is probably at least several years too early given the company's significant runway for growth. There's a lot we like about the Purple story. It's hard to catch lightning in a bottle. - Anonymous Idiom A lot to like about Purple We will go into greater detail on several of these topics later in this report, but we wanted to lay out a number of points upfront. Strong grassroots/viral interest in Purple's offerings Highly differentiated form factor, that has IP protection (78 patents including Hyper-Elastic Polymer™), in an otherwise increasingly crowded BIB market Substantial opportunity for product, channel and geographic expansion Impossible to integrate/dislocate a mattress into another product (i.e., Fitbit (NYSE:FIT) or GoPro (NASDAQ:GPRO) can be imitated and integrated into other products) - that can't be done with a mattress Meaningful scale, but still only 1% market share, so lots of runway for growth. Purple can grow 5x solely domestically, and still have just 5% market share Secular tailwind supporting rapid move to online versus brick and mortar mattress purchases Significant insider ownership While there is little in the way of hard book value (true of public mattress comps as well), we believe there is a healthy margin of safety and a significant asymmetric risk/reward profile We note that Dane participated in a $25mn subscription (8-K here, see Baleen Investment) given our confidence in Purple's prospects, with several well-regarded, long-term, value-oriented funds as our co-investors. Table of Contents: 1a. Thesis 1b. Our thoughts on consumer brands - catching lightning in a bottle 2. 3 basic questions 3. Industry background 4. Company background 5. SPAC deal dynamics and valuation 7. Risks 8. Catalysts and conclusion 1a. Thesis We believe that Purple has the potential to experience significant growth for the next several years due to: 1. Ongoing shift to on-line from brick and mortar in the mattress segment 2. Successful viral marketing (over 1 billion YouTube (NASDAQ:GOOG) (NASDAQ:GOOGL) views) and unique technology driving a differentiated bed feel (bolstered by 78 patents or patents pending) 3. Growth in adjacent products such as sitting and standing (for example, insoles) 4. Potential to expand into brick-and-mortar channels (a 50 store pilot with 3500 store chain Mattress Firm has been going well, with additional locations to be added) and a pilot program with a different 1000 store chain in the works - pilot to begin with 9 stores in February - not to mention many additional conversations with potential channel customers 5. International expansion Based on management guidance for 2018, our view of Purple's market share gains and the trajectory of the industry, we present 2 cases: Source: Purple/GPAC investor presentation, Dane Capital estimates We believe that in crowded segment, Purple stands out as highly differentiated. Its hyper-elastic polymer creates a different feel than any other mattress in the market and is unique versus traditional memory or polyurethane foam. Source: purple.com It also has viral YouTube videos. We believe that Purple's Goldilocks ad, with over 145mn views, has more views than all other BIB brands have on YouTube combined. Source: Purple YouTube Goldilocks Video We think creating something truly viral is not simply a matter of spend, it's a matter of luck, timing, and capturing the public's imagination. If it were that easy, big consumer players would build brands and not buy them. We believe that Purple can maintain its momentum. In our view, with almost $200mn in annual sales, but with just 1% market share and patents that ensure no knock-off products, we think the runway for growth is significant. 1b. Our thoughts on consumer brands - catching lightning in a bottle Dane has some strong views regarding what makes a successful public consumer product stock We look for differentiated form factor/product design/market niche Huge grassroots/viral interest (lower than peer user acquisition cost) Inability to make knock-off/me-too products or to integrate functionality into existing products/brand Low market share, but enough scale to be a player Ideally, such a stock comes at a very low valuation, but that's infrequently the case with hyper-growth companies. With Purple, we believe we have an asymmetric investment which could grow its business markedly for several years, and in our view, has limited downside. Our firm's view on high growth consumer stocks reflects my experience from my first job after college, working at Snapple Beverages (DPS), soon after its original IPO in 1993. Having frequently reflected on what made Snapple an enormous success, the things to come to mind are 1) differentiated form factor, and 2) huge grassroots interest. Snapple was not an overnight success. It was founded in 1972 and only introduced its iconic iced tea in 1987 - a far better product than the artificial swill sold in cans by dominant incumbents Lipton and Nestea. Snapple only moved beyond the Northeast beginning in 1988. The company's 3 co-founders realized that their "summer drink" was selling more and more all year round - they had literally caught lightning in a bottle; there was no business plan that said they were going to make it big with iced tea. There was a burgeoning groundswell of grassroots interest as Howard Stern and Rush Limbaugh (who both legitimately liked Snapple) pitched the product.