This week's casual valuation is Bark, a company that's down more than 85% since it became public back in December 2020. It's a small-cap company with a market cap of close to $320m and is not (yet) profitable.
The post will be divided into a few segments:
- Understanding the business
- Understanding the historical financial performance
- Laying down some assumptions to value the company
- Valuing the company based on assumptions significantly different than mine
What is Bark?
If the name itself wasn't explaining enough, it is a dog-centric company, selling products in the US in 4 different categories:
– Play (Toys/treats)
– Food
– Health (Treat-like dental sticks & gel toothpaste)
– Home (Dog beds, bowls, collars, leashes)
Is it revolutionary? Not really, there's nothing special about the products that they're offering, in fact, it is a pretty simple company to understand. However, there are two things that stand out:
- There are subscription plans where the dog owners receive a monthly package, tailored to the dog (based on breed and certain characteristics). These packages can be either related to toys/treats or food. The # of subscriptions increased significantly:- March 2015 – 200k- March 2019 – 1,046m- March 2022 – 2,265mAgain, nothing revolutionary, and any company that is in this industry can offer the subscription model. It is a model that can be easily replicated.
- Over 90% of their revenue is generated DTC (Direct-to-consumer) through their websites, hence, their margins are higher than if they were to sell the same products through a 3rd party.
So, we are now aware of the products that they sell, but we still need to uncover how they do it.
The manufacturing of the products as well as the logistics (including delivery to the final customer) are being outsourced. The company is only involved in the R&D, Marketing/Sales activities as well as preparing the orders. For that purpose, they have 3 leased office spaces (1 in New York and 2 in Ohio) and 3 leased warehouse and distribution centers (in Ohio, Kentucky, and Nevada).
As of 31st March 2022, they had 643 employees, divided into 5 buckets:
– 227 Bank ambassadors (employees responsible for customer service, dealing with orders/complaints)
– 125 Marketing, general & administrative
– 102 Operations & fulfillment center employees
– 96 Engineers, data scientists & technology staff
– 93 Designers & creative team members
There are a lot of mixed reviews when it comes to the company's products (including the subscription model). There are quite a lot of satisfied customers, but there are also plenty of others that are either unhappy with the quality of the contents of the package (for example, the dog destroyed the toy within 24 hours), and oftentimes regarding the package being late. Although that is being outsourced to a third-party company, Bark is ultimately responsible for customer satisfaction.
Toys as a product aren't something that is needed monthly. There comes a time when an additional toy doesn't add value to the collection of toys accumulated over time. Hence, the company has a 7% monthly churn rate and this doesn't come as surprise.
Historical financial performance
The company's fiscal year-end is March 31st (this date was mentioned a couple of times above) and the latest quarterly report is as of June 30th, 2022. Therefore, when I'm referring to the year 2022, that is the period between April 1st, 2021 to March 31st, 2022, and when I'm referring to the last twelve months (“LTM”), that would be the period between July 1st, 2021 up to June 30th, 2022.
The revenue increased from $224m in 2020 to $379 in 2021, representing a growth of 69% as the company became public. If there's one thing that's well-known about companies that become public, is that their recent historical performance is better than their performance in the near future.
Bark was no different in that aspect, the growth to 2022 declined to 34% and the projected growth for 2023 is 10%. This explains the decline of the share price to a large extent. When a company goes public, the starting point for future expectations is its recent past performance. However, when there's a significant deviation from that, the price adjusts.
The gross margin was relatively stable (between 56% and 61%), which is quite good for a company at this stage. But, there's a minor catch and we'll get to that in a bit.
The other operating expenses that the company has to cover are :
– General & Administrative (which grew from 52% of revenue back in 2020 to 60% in LTM) and;
– Advertising & Marketing (which decreased from 21% of revenue back in 2020 to 14% in LTM)
This leads to a negative operating margin ranging from -12% (back in 2020) to -18% in LTM.
It isn't surprising for a high-growth company at this stage to lose money. The question is, how is it going to become profitable?
One of the arguments is economies of scale. In theory, as the company grows in size (in terms of revenue), the operating expenses grow at a slower pace, hence the margin improves over time. However, so far, that doesn't seem to be the case. Yes, the advertising & marketing expenses did decrease (as % of revenue), but that isn't the case for general & administrative and that's where the company needs to make the biggest improvements.
So, here's the catch:
There are so-called fulfillment costs. They represent those costs incurred in operating and staffing fulfillment and customer service centers, including costs attributable to receiving, inspecting, picking, packaging, and preparing customer orders for shipment, outbound freight costs associated with shipping orders to customers, and responding to inquiries from customers.
Now, based on this description, what is your first thought about these costs? Where do they belong, what do they relate to?
In my opinion, these are direct, variable costs that will increase as the company grows in size. The more orders they have, the more products they need to ship, and the more it will cost them to receive, inspect, pick, package, and prepare customer orders as well as higher outbound freight costs.
However, these costs (amounting to $53m in 2020, $95m in 2021, and $151m in 2022) are part of GENERAL AND ADMINISTRATIVE expenses.
So, what I did was, I shifted them to the cost of goods sold, to better understand the impact on the gross margin. The outcome –> Gross margin close to 30%.
Now that gives a different perspective on the company's profitability as well as the operating margin that I can expect when it's a mature company.
The company provides nice overviews when it comes to subscriptions, customer acquisition cost (“CAC”), and the LTV (“Lifetime value”).
For 2022, the CAC was $53.43, and the LTV was 4.7x.
What does this mean? If we multiply the two, we get to an LTV of around $250. That's the value that a customer will bring over their lifetime. This $250 is the gross profit that the customer will bring, based on the company's measure (which excludes the fulfillment costs mentioned above).
Is this illegal? Absolutely not. Bark publicly discloses its accounting policies and it has the right to use this approach. Do I agree with it? Not really.
The balance sheet
The company has a relatively simple balance sheet. Here are the key points as of 30th June 2022:
– Cash of $177m
– Inventory of $158m
– PPE (including leases) of $75m
This represents over 90% of the entire balance sheet.
The debt position isn't significant consisting of $76m long-term debt and $53m leases.
Assumptions about the future & valuation
There are only a few analysts that focus on this company as it's relatively small in size and not profitable.
My assumptions:
– Revenue growth of 10% for the next 3 years, then declining to 5% and then to 3.9% (same as the risk-free rate). The analysts' expectation involves 25% growth in 2024, which I personally cannot include in my forecast as I cannot fundamentally explain what can cause such a jump, hence, I am being more conservative.
– Operating margin of -10% for the next year, improving to 4% in year 5 and ultimately to 10% starting from year 7.
– A discount rate of 10.51% (WACC-based), decreasing to 9% over time (assuming the company becomes more mature and hence, less risky)
Based on these assumptions, the fair value of the company is $503m ($2.85/share).
The current market cap is $319m ($1.81/share).
Note: I have taken into account the cash, debt, and deferred taxes on their balance sheet as well as the outstanding equity options.
However, out of the $503m, only $48m is due to the present value of the cash flows in the next 10 years! The majority is based on the value that the company generates afterward as a stable, mature, profitable company.
Hence, the fact that it is trading below what I consider intrinsic value is justified to some extent. There's a lot of uncertainty and Bark still needs to prove that it can find its way to profitability.
It is definitely reassuring that the company's management is buying and not selling shares.
What if my assumptions are significantly wrong?
Based on the assumptions above, the revenue will grow by 76% to $927m in 10 years and the operating margin will be 10%.
I am aware that my assumptions could be significantly wrong. So, let's take a look at how the value of the company (per share) will change based on different assumptions regarding the revenue 10 years from now and the operating margin:
| Revenue/Op. margin | 8% | 10% | 15% | 20% |
|---|---|---|---|---|
| 50% ($782m) | $1.8 | $2.5 | $3.9 | $5.4 |
| 78% ($927m) | $2.1$ | $2.9 | $4.5 | $6.3 |
| 100% ($1,042m) | $2.3 | $3.2 | $5.1 | $7.0 |
| 150% ($1,303m) | $2.8 | $3.9 | $6.2 | $8.7 |
The table illustrates how much the company needs to grow and how high should the operating margin be so that Intuit is fairly valued today.
The last column of 20% would've been appropriate if the gross margin of 55% included all the expenses. Since that's not the case, if the company is to become profitable (which is yet to be proven), I could only forecast an operating margin as high as 10%. Is it possible that it gets to 15%? Absolutely!
The company has a good customer base built, so it wouldn't be surprising if another company acquires it.
What are your thoughts on Bark, its products, and its valuation?
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