ThredUp: Too Early To Be Bullish (NASDAQ:TDUP)

Elevator Pitch

I have a Hold rating assigned to ThredUp Inc.’s (NASDAQ:TDUP) shares. TDUP’s trailing twelve months’ Enterprise Value-to-Revenue and Enterprise Value-to-Gross Profit multiples are very low at 0.29 times and 0.49 times, respectively. However, it is premature to call TDUP’s stock a Buy now. ThredUp’s Q4 2022 guidance indicates that the company’s near-term prospects are weak, and the company continues to burn cash at a time that its revenue is under pressure. As such, it is more prudent to award TDUP with a Hold rating.

Company Background

Listed on the Nasdaq on March 26, 2021, ThredUp describes itself as “one of the world’s largest online resale platforms for women’s and kids’ apparel, shoes and accessories” in the company’s fiscal 2021 10-K filing.

TDUP generated 76% and 24% of its top line from consignment revenue (selling on behalf of third parties) and product revenue (derived from the sale of its own inventories), respectively for FY 2021. Consignment isn’t just a more significant sales contributor for the company; it is also more profitable. The FY 2021 gross profit margins for ThredUp’s consignment and product sales, were 78% and 52%, respectively.

Q4 Guidance Was Disappointing Amid Concerns About Financial Strength

Last week, ThredUp provided updated financial guidance for the fourth quarter of 2022 in tandem with its Q3 2022 financial results announcement.

Specifically, TDUP expects to deliver top line, gross profit margin and non-GAAP adjusted EBITDA loss margin of $63 million, 63%, and -15.5%, respectively for Q4 2022 according to the midpoint of its guidance.

In contrast, the company was anticipating a much better financial performance for the final quarter of this year back in mid-August 2022. When ThredUp previously reported its Q2 2022 results, it guided for fourth quarter revenue, gross margin and adjusted EBITDA margin of $71 million, 65%, and -9%, respectively.

Also, the downward revision in ThredUp’s Q4 2022 management guidance translates into expectations of a poor financial performance for the company in the very near term.

The fourth quarter revenue guidance of $63 million implies that TDUP will reverse from a +7.4% top line expansion for Q3 2022 to a -13.6% sales contraction in the current quarter. Management also sees TDUP’s gross profit margin declining from 66.1% in Q4 2021 and 65.5% in Q3 2022 to 63% for Q4 2022. Furthermore, the updated management guidance points to ThredUp’s EBITDA loss margin worsening from -14.5% for Q4 2021 to -15.5% in the last quarter of this year.

ThredUp noted at its recent third quarter earnings briefing that the “deterioration in consumer health towards the end of Q2” has “continued into Q3” and it observed “an unprecedented degree of early holiday promotion pressure” starting in the middle of October. These were the main reasons for TDUP’s weaker than expected Q4 2022 financial guidance.

While TDUP hasn’t offered guidance for next year, the sell-side’s consensus financial projections suggest that ThredUp will continue to underperform in the short term. In terms of top line, analysts see TDUP achieving either negative or flattish revenue growth on a YoY basis in the Q4 2022-Q2 2023 period. With regards to profitability, the sell-side doesn’t expect ThredUp’s quarterly gross margin to recover back to Q2 2022 levels (68.9%) or better in the following year.

At the same time, there are worries about TDUP’s financial position and cash flow.

ThredUp generated a negative operating cash flow of -$37 million for Q3 2022, which is worse than the company’s -$14 million negative operating cash flow in Q3 2021. According to financial data sourced from S&P Capital IQ, TDUP is expected to achieve negative free cash flow of -$106 million and -$46 million for fiscal 2022 and fiscal 2023, respectively. In comparison, TDUP had cash and marketable securities amounting to $131 million as of September 30, 2022.

In the worst-case scenario, there is the risk that TDUP might need to either take on more debt or raise fresh equity financing, assuming that its future revenue falls short of expectations, and its actual cash burn turns out to be larger than expected.

Valuations Are Reflective Of Low Expectations And TDUP Has Long-Term Growth Potential

ThredUp’s stock price has fallen by close to -94% in the last year, while the broader market as represented by the S&P 500 corrected by just -16% in the same time period.

In the past year, TDUP’s trailing twelve months’ Enterprise Value-to-Gross Profit metric has compressed from 10.6 times to 0.42 times based on valuation data obtained from S&P Capital IQ. In the same time frame, the trailing twelve months’ Enterprise Value-to-Revenue multiple for ThredUp derated from 7.6 times to a mere 0.29 times.

In other words, ThredUp’s valuations imply that investors have very low expectations of the company’s future prospects. If and when the company returns to positive revenue growth and gross margin expansion and credit risks have eased, TDUP’s shares do have room to climb.

Moreover, the market might turn its attention to ThredUp’s long term growth potential and re-rate its shares again, when short term headwinds are eventually alleviated.

According to the 2022 edition of the company’s yearly research report, the size of the worldwide secondhand apparel market will more than double from $96 billion in 2021 to $196 billion by 2025. This is expected to be driven by favorable supply and demand dynamics. In the report, TDUP cites surveys suggesting that almost three-quarters of “retail executives say they have or are open to offering secondhand”, and 62% of “Gen Z and Millennials” consider secondhand products first prior to going for brand new ones.

Concluding Thoughts

I am rating ThredUp’s shares as a Hold. The current risk-reward for TDUP is balanced. On the negative side of things, I have an unfavorable view of ThredUp’s Q4 2022 guidance and its current cash flow and balance sheet metrics. On the positive side of things, the secondhand apparel market’s long term growth outlook is reasonably good, and TDUP’s current valuations have priced in most of the headwinds.