By Brandon DaSilva
Thriving US economy driving online sales
There are two trends that US consumers are experiencing. First is the allocation of disposable income away from conventional brick-and-mortar stores and towards online shopping. Second, due to the decline of prices at the pump, the average American has more in their pocket to spend elsewhere. Both these underlying trends are tailwinds for e-commerce platforms that have significant sales in the US., CafePress Inc (NASDAQ:PRSS) is one of these platforms that is going to benefit, especially since 87% of its customer base is from the US.
Can CafePress be repaired?
CafePress is a company that allows consumers to “shop, create, and sell individualized products” on their website. These products are completely discretionary, and because of that, the increase in disposable personal income in the US is going to serve as a tailwind to drive revenues. Each individualized product is designed by someone who holds an account on the website, and each designer is able to follow and be followed by other designers. This essentially creates a community within the website, which is important for any website to create a large customer base. The designers are prone to tell their friends to check out their design, and their friends might tell their friends, and a network effect will pursue. However, this effect only turns positive results if consumers are satisfied with the product.
Unfortunately for CafePress, once the founders of the company (Fred E. Durham III and Maheesh Jain) left in 2011, customer satisfaction took a huge downturn. The new management took CafePress public in April 2012, and under their control, the stock price fell about 70% within six months. This was all due to management becoming unfocused on their business by making acquisitions that held no synergies. These acquisitions were non-core to the business of CafePress, drove up the expenses and tighten margins.
All hope seemed to be lost for CafePress, until August 12, 2014 when the original founders came back to run the company. Fred E. Durham III owns over 10% of the shares outstanding, and overall insider ownership is at 30%, indicating that interests are aligned with shareholders. In fact, Fred E. Durham III has been consistently been purchasing shares on the open market, which signals that he thinks CafePress is undervalued and that it is a good time to buy.
Activist Investor Lloyd Miller is also building a position in CafePress, owning over 10% of company. Not only are the open market purchases a bullish signal, but a long term holder like Miller shrinks Cafepress’ already small float.
Cutting out the fat and growing core business
With the founders back, the company wanted to focus on sticking to their core business and growing organically rather than through unfocused acquisitions. Thus, one of the first steps was divesting. In November 2014, all assets from thevinvitationbox.com business were sold off. The same happened in March 2015, when all assets from Arts and Groups business were sold. This shows management’s efforts to make CafePress a much leaner company.
In fact, this divestiture was a big reason for the recent drop in stock price after Q1 2015 earnings came out. Revenues for Q1 2015 dropped 11% from revenues in Q1 2014, and the overall market sentiment seemed to be negative surrounding this decline. These figures did not include the revenues from the recent divestitures, while the revenues for 2014 did.
Since revenues from the Arts and Groups business represented 35% last year, it is important to back this number out of the 2014 revenues to get a more accurate representation of growth from the core business. After backing this number out, we see that CafePress actually grew revenues from their core business by 36% in Q1 2015 from Q1 2014 (below).
Not only are core revenues getting a lot better, but management said that their “quality is improving, [their] delivery speed is faster and [their] customer satisfaction survey results have improved across the board.” This tells us that management is doing a good job growing the company in a lean manner. Going forward they expect to stick to their core business and secure high quality licensing agreements similar to those secured in 2014; they signed and implemented licensing agreements with Breaking Bad, Walking Dead, and Supernatural.
CafePress’ large cash position
The recent divestitures left CafePress with a ton of cash. The company’s cash balance, as of March 31 2015, was $51.4 million, equating to $2.93 in cash per share. With the stock trading at $4.50 levels, that means that nearly 2/3rd of company value is held in cash. This provides investors with limited downside risk.
Management expects to use this cash in two ways. Invest to improve current operations, although they haven’t specified any particular investment plan. The other way in which they are using their cash is through a stock repurchase plan. CafePress currently has 17.5 million shares outstanding, and they approved a plan to repurchase 20% of these shares within the next year, indicating once again that management thinks their stock price is currently undervalued.
CafePress has historically burned the most cash in the first quarter of the year, largely due to paying off their accounts payable balance. They had net operating cash outflows of 13.3 million in Q1 2014, and 12.4 million in Q1 2015. However, by year-end, the company makes up for the first quarter in terms of cash flows and has historically retained positive net operating cash flows, which I believe will be the case again in 2015.
The Presidential Tailwind
The 2016 presidential election should prove to be an important tailwind for CafePress’ 2016 revenues. There is potential for history to be made if Hillary Clinton becomes the first female president in history. The last time presidential history was made in 2008, Barack Obama was named the first black president, causing CafePress revenues to spike 10% as a result. Clinton is the early favorite, which could forecast a similar demand for customized merchandise.
Geeknet was recently rumored to be acquired by Hot Topic, a customizable clothing retailer, until a mystery buyer bid a higher price of $20/share for the company. This would value Geeknet at a sales multiple of 1, validating this as a benchmark for e-commerce names dealing with customizable products.
Zulily, which has larger revenues than the other comparables, has a very similar business model to both Geeknet and CafePress. The same can be said for Etsy.
From the valuation below, we see that CafePress is valued well below competitors. Using sales multiples, CafePress trades at a 50% discount to the next cheapest peer, Geeknet. This is largely due to management’s poor attempt to grow the company at the risk of customer satisfaction. However, if/when the original founders are able to turn CafePress around, look for the price to trade at similar multiples to peers. 100% upside isn’t out of the question here.