One of the companies whose share price has recovered nicely from last fall’s significant correction — the S&P 500 lost 9.4% from the beginning of August 2023 through the end of October — is Wayfair (NYSE:W), the online furniture retailer. Wayfair stock is up roughly 44% since hitting its 52-week low of $37.85 at the end of October.
On May 17, Barron’s reported that Wayfair was opening its first large-format store in the week of May 20. It opened on May 23 in Wilmette, Illinois.
KeyBanc analyst Bradley Thomas believes large-format stores could add up to 40% in additional revenue over the next decade.
While I can appreciate the sentiment, Wayfair has been a chronic disappointment for long-time shareholders — the people that bought its IPO shares in October 2014 at $29 and still hold today.
If there’s a company to mess up a perceived “golden” opportunity, Wayfair would be it. Here are three reasons not to buy W stock despite the brick-and-mortar news.
Profits Are Hard to Come By
The company reported its Q1 2024 results on May 2. The headline —Wayfair Announces First Quarter 2024 Results, Reports Fourth Consecutive Quarter of Strong Profitability — suggests good times are ahead for shareholders.
The second part of the headline said it had generated four consecutive quarters of strong profitability. From my quick check, it made $75 million in adjusted EBITDA in Q1 2024. That’s a 2.7% margin, up 320 basis points from a $14 million loss in Q1 2023.
So, I’ll assume it was referring to non-GAAP profitability.
The adjusted EBITDA profit over the past four quarters is $395 million based on $75 million in Q1 2024, $92 million in Q4 2023, $100 million in Q3 2023 and $128 million in Q2 2023.
That’s a 3.3% EBITDA margin.
Of course, it continued to lose money on a GAAP basis. Its accumulated deficit at the end of March was $4.27 billion. At this strong rate of profitability, Wayfair will take over a decade to whittle that down to positive retained earnings.
Because of this, its long-term debt accounts for almost as much, at $3.10 billion, as its total assets, at $3.24 billion, at the end of March.
With negative free cash flow in 2023, how will it finance a major store expansion while still paying down debt? It won’t.
Who Says Wayfair Wins When Industry Recovers
The KeyBanc analyst argues that the furniture retail industry is in a funk because of higher interest rates and inflation. Once these two factors go away and Wayfair opens more large-format stores, it will be in a position to grow.
“Our industry work and analysis suggests W could add 15-40% to its total sales (and a greater increase in EBITDA) over the next decade, through the expansion of stores in large markets,” Thomas wrote in a note to clients, Barron’s reported.
“In the near term, industry challenges remain a risk,” Thomas said. “However, longer term, we continue to see growth opportunities and expect significant industry recovery potential.”
I understand the premise. However, I have a hard time believing that a retailer that’s racked up $4.3 billion in accumulated deficits over the past decade will suddenly figure out how to sell furniture profitably.
Warren Buffett has often said that retail is a very tough game. As a result, with a few exceptions, Berkshire Hathaway (NYSE:BRK-A, NYSE:BRK-B) tends to avoid retail stocks.
Who says Wayfair will benefit from a turnaround in furniture retail?
Ikea Might Have Something to Say About It
The large-format store opened by Wayfair in Illinois has 150,000 square feet spread over two stories and 19 departments. It even has a restaurant.
Let’s assume for a second that the analyst is right about the additional sales, and Wayfair’s brick-and-mortar business adds 40% to the top line.
With $12 billion in 2023 revenue and a 5% increase in annual sales over the next decade — and that’s being generous — it would finish 2034 with $19.55 billion in revenue. Being even more generous, let’s assume it has an EBITDA margin of 10%. That would generate nearly $2 billion in EBITDA.
Compare that to Ingka Group, the business behind Ikea’s retail stores. In 2023, it had 44.3 billion euros, or $47.9 billion, in revenue, 5.4% higher than a year earlier. The U.S. accounted for nearly 15% of 2023’s revenue. Its operating profit was 2.0 billion euros, or $2.16 billion, an operating margin of 4.5%.
I find it hard to believe that Wayfair, which has never been able to make money online, will outhustle one of, if not the world’s largest furniture retailers. It’s not happening.
From my perspective, Wayfair stock is worth no more than half its current share price. The expense of opening these large-format stores will bury it in debt it can’t repay, and bankruptcy is imminent if it follows through with its plans.
On the date of publication, Will Ashworth did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.co0m Publishing Guidelines.
