For this weeks edition of ValueTeddys Snap Judgements we are taking a look at Naked Wines. A seemingly interesting business, that has been popping up here and there in my Twitter feed.
Naked Wines sell a very wide selection of wines online, and they offer membership for some premium services. Overall the wine selection seems very good, and they claim to be able to service the smaller independent winemakers, which are too small to be serviced by larger players. Naked Wines also aim to offer lower prices than traditional players, because they cut out the middlemen such as importers and retailers.
The membership program, offers what seems like good value for those who regularly want to try out new wines. Members (Angels) get access to some exclusive wines, they get discounts on many of the wines. As an Angel, the customer supports the winemakers by putting at least 25 GBP per month towards their next order. This minimum deposit is 40 bucks for the US offer.
Furthermore, I note that something happened in 2015 that lowered the profitability significantly, and that recent years have been unprofitable. This seems to with some of the business’ history. In 2015 Majestic Wines acquired Naked Wines, and took the new name and ticker. Majestic Wines is the largest wine retailer in the UK, and in December 2019 Naked Wines divested this part of the business.
Moving on to the financials, all figures in GBP for the full year 2020 sales increased from 178 m to 203 m, and gross profit from 68 m to 77 m. This looks like good growth rates with intact gross margins. Unfortunately, Naked Wines are a couple of million short of operational profitability. Administrative expenses are unchanged at 47 m, and distribution costs have increased at the same rate as sales, from 30 m to 34 m. On the bright side, the operational loss is almost half of what it was in 2019. -5.3 m in 2020 compared to – 9.9 m in 2019. After tax and interest the loss totals -6.6 m in 2020 compared to -9.6 m in 2019. Note that these figures are on a continued business basis. Since the announced divestment, Majestic is accounted for as discontinued operations. Adding the total profit of Majestic of 14,8 m, the net result totals a little bit more than 8 m for 2020.
This is a good place to talk a little bit about how I go about analyzing businesses that are currently unprofitable on an operational basis. The first question I like to ask is “How much sales are needed to break even”. In this case, looking at 2019-2020, I note that the gross margin and the distribution cost increase at the same rate as sales while administration costs are unchanged. This is very good because it makes it possible to break even without any major change except for increased sales. Deducting the distribution costs from the gross profit, we get roughly 20% margins. Given that these presuppositions hold, Naked Wines need about 240 m of sales to cover fixed administrative costs of 48 m. Give a bit of rounding error, and I end up with a rough estimate that Naked Wines need to increase sales by 20% in order to break even. Note that this is on continued operations, assuming that the margins 2019-2020 are not decreased. To me, this looks quite possible. The second question is: “Can the growth be funded by the business or will additional external capital be required”. To answer this we need to take a peek at the balance sheet and cash flows.
First of all, the total debt is close to 80 m, which is more than well covered by the current assets alone of 130 m. Of which 70 m is in inventory and 54 m in cash. There is also 113 m of equity on the balance sheet. I would categorize this as a very solid balance sheet, and there are no red flags or question marks that arise on my first pass through.
In the cash flow statements, I note that the operations burned less than 1 m, and discontinued operations added 22 m. Looking at continued operations, I think it looks like the growth can be self funded easily. Even looking at the much worse 2019 cash burn of 9 m, this can easily be covered by the cash on hand. Moving on, there are lots of events that I deem one offs, for example a cash addition of 63 m from disposal of operations, and 22 m used to repay debt. There was also 3.7 m of cash used to pay a dividend, which I question in a company that should be focused on growing. At least the dividend for 2020 was lower than the 5 m used in 2019.
So using the assumptions regarding growth and margins, and extrapolating the 13% growth rate from 2019 to 2020, it should take about 2 years to break even. Given the current cash position and cash flows, this can easily be self funded. Now it is up to you, or whomever is considering this investment to asses if these assumptions are likely. The first assumption I would question is the growth rate, which I can only imagine being positively influenced by the pandemic.
No analysis is complete without a look at the valuation. Given a market cap of 650 m GBP, we get P/S 3.2, and P/Gross profit 8.4. P/Gross profit less distribution costs is roughly 15. Given a conservative figure of a net cash position of 50 m, the enterprise value is about 600 m. This gives EV/S 3 and EV to gross profit less distribution costs of about 14.
To me this looks like a very interesting case for several reasons. First, the business is interesting, both the market it serves and the connection between wine makers and wine enthusiasts, as well as the business model. Secondly, its not very expensive on first pass. And thirdly, lots of smart people on the Tweetmachine seem to like the case. However, it is traded on the LSE, which makes it a slight hassle to trade. Also, it has had a huge run in the last year, and i mean huge. It has run from below 3 GBP to well above 8 GBP, which causes some mental headwind in buying. All in all, I like the case, and I will be adding WINE to the top of my watchlist.
That was this weeks edition of ValueTeddys Snap Judgements. I hope you liked it, and remember that none of this is financial advice and I’m not your financial adviser. If you want to suggest stocks for me to look at, you can tweet @ValueTeddy, and do check out valueteddy.com.