Rent The Runway Stock: A Speculative Play On Fashion (NASDAQ: RENT)

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These days, renting cars or equipment or books has become commonplace. In addition to creating a revenue stream for the owners of said products, it also allows those renting them to get access to these products at what is often a substantial discount compared to what they would pay if buying the products outright. One company that has taken this concept and transformed it for the clothing market by integrating a subscription model is Rent the Runway (NASDAQ: RENT). Due in large part to the COVID-19 pandemic, fundamental performance achieved by the company has been rather mixed on the top line. The business experienced a tremendous decline in active subscribers during the 2020 fiscal year. But the worst for the company does appear to be past it. The firm has returned to growth but this does not mean that it makes for an attractive opportunity right now. In the event that management can push the company to generate positive cash flows, there might be some upside for investors moving forward. But as of now, the fundamentals don’t seem to justify a vote of confidence for the firm.

A new way to approach fashion

Today, Rent the Runway operates as the world’s first and largest shared designer closet. In essence, the company empowers its customers to gain access to over 19,000 styles spread across 780 brand partners. Customers of the company use the company’s online platform to search for brands that they like. Once they identify the assortment of items that they want for their first shipment, they then receive the items in question, wear them, and return them. Users can wear these items for as long as they want and choose to return either some or all of the products in question. Once they return them, they can then rent more. According to management, the company’s subscribers typically visit their app about five times per week on average.

As I mentioned already, all of this takes place through a subscription package that the company offers. Most of these packages involve either one, two, or four shipments per month. Pricing here starts at $ 94, $ 144, or $ 235 per month, respectively. As part of this subscription package, subscribers can also customize their plans with the goal of adapting to a changing lifestyle, changing needs, and fluctuating budgets. The way the company accomplishes this is by giving the ability to add or remove spots for additional products for single shipments at either $ 27 or $ 31 per item, as well as change the number of shipments per month for a cost between $ 39 and $ 50 per shipment per month if they so choose.

There are two other main ways that Rent the Runway generates revenue. The first of these is the Reserve offering management provides. Through this, customers have the ability to book styles for periods of four or eight days in order to be used for a specific upcoming event or events. This service also includes a free backup size of the customers choosing and it provides the ability to enable the customer to rent a back-up style at a discount. The other source of revenue management detailed is the reselling of its products. In essence, the company provides used clothing from its platform to consumers at discounts ranging from 10% to 85%. This also includes giving consumers the ability to just buy any of the products they previously ordered under the subscription that they would not prefer not to return.

Historical Financials

Author – SEC EDGAR Data

Over the past few years, the fundamental condition reported by Rent the Runway has been rather volatile. In 2019, for instance, the company generated revenue of $ 256.9 million. Sales plummeted in 2020, coming in at just $ 157.5 million for the year. This 38.7% plunge in revenue was driven by a significant reduction in the number of active subscribers on the company’s platform. That number shrank by 59%, declining from 133,572 to just 54,797 in a 12-month window. The good news for investors is that this decline was short-lived. As the economy opened back up, the number of subscribers to the company’s platform surged, climbing to 115,240 by the end of the company’s 2021 fiscal year.

When it comes to the company’s bottom line, the picture has been far worse. In 2019, for instance, the business generated a loss of $ 153.9 million. This loss widened, understandably, to $ 171.1 million in 2020. But instead of improving in 2021, it widened further to $ 211.8 million. One positive here is that a significant portion of the company’s cost structure is non-cash in nature, including stock-based compensation for employees. A more appropriate way to look at the company’s value is through the lens of the operating cash flow. But even this has shown no true improvement. In 2019, this metric was negative to the tune of $ 37.6 million. The picture then worsened to negative $ 42.8 million in 2020 before improving ever so slightly to negative $ 42.3 million last year. A similar trend can be seen when looking at operating cash flow but ignoring changes in working capital. Meanwhile, EBITDA for the company has remained almost flat, ranging from a high point of negative $ 18 million in 2019 to a low point of negative $ 20.3 million in 2020. Last year, EBITDA was negative in the amount of $ 19.2 million.

Historical Financials

Author – SEC EDGAR Data

Now with the pandemic mostly behind us, you might think that the company could return to strong growth. Sadly, that does not appear to be the case. Revenue for the 2022 fiscal year is now forecasted at between $ 295 million and $ 305 million. This comes as the company is forecasting an increase to between 130,000 and 132,000 subscribers by the end of the first quarter of its 2022 fiscal year. It’s unclear how many subscribers the company is expecting by the end of 2022. But while revenue is slated to grow, profits will still be elusive. The company is currently forecasting an EBITDA margin of negative 5% to negative 6%. Using midpoint figures, this implies a reading of negative $ 16.5 million. Given the company’s other financial figures over the years, it’s almost guaranteed that operating cash flow and profits will be negative as well.

Because of this, you can’t truly value Rent the Runway. And you cannot base a decision on investing in the company on anything other than speculative faith that the business will grow into its cost structure. What we can know, however, is what kind of cash flow the company might need in order to be a justifiable investment. Right now, the firm’s EV (enterprise value) stands at $ 373.48 million. To be trading at an EV to EBITDA multiple of 10, the business would need to generate EBITDA of $ 37.3 million. For this multiple to be 15, the number would be $ 24.9 million. When you consider where the company is today, that seems like an awfully large disparity to make up.

Takeaway

Conceptually speaking, I find Rent the Runway to be an intriguing company. Management claims that the platform has helped over 2.5 million lifetime customers and that is certainly worth something. But fundamentally, the picture for the business is rather disappointing and I see no signs that indicate a material improvement in this in the foreseeable future. As a speculative prospect, Rent the Runway might make for a reasonable play. But for anybody basing their investment thesis on true fundamental value, this is not the kind of company you want to consider buying into.

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