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Eve Sleep – Is this a Boohoo or an AO World? Tough call but it’s not a Boohoo

By Cynical Bear | Sunday 2 July 2017

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from ShareProphets). I have no business relationship with any company whose stock is mentioned in this article.

Thought I’d write a few sleep-related pieces today and am starting with initiating coverage on the mattress e-tailer, Eve Sleep (EVE). The company joined AIM in May raising £35 million and there is a lot to like about the business, but is it really worth over £130 million?

As I say, there is a lot to like about Eve Sleep. Starting with management, the CEO, Jas Bagniewski, appears to be a decent enough entrepreneur with a good looking track record. In addition, and importantly, the business has made the very wise choice of getting Paul Pindar in as Chairman, one of the more impressive businessmen I’ve come across in my career, and Paul has installed an ex-Capita guy in as CFO, so one would hope that that side of things will be run professionally enough.

The investor base looks pretty solid too. The business was backed by Octopus and DN Capital in its early stages and has since got Neil Woodford on board, who is now the largest shareholder with over 18%, and there are couple of other institutions on board too.

I’m no marketing guy but its branding looks sleek and modern which is a good start in an industry not particularly known for such a thing.

Its growth has been very impressive having only been around a couple of years or so. Revenues for 2016 grew to £12 million and it has expanded globally across many different territories in quick order, albeit that the UK still accounted for about 64% of its 2016 revenues. Such growth has come at a cost though and losses for 2016 were £11.3 million. The cash burn appears to have accelerated a touch in 2017 as £5 million was needed to be raised pre-IPO in March to keep the growth going so presume the £4 million or so at year-end didn’t last too long.

It joined AIM in May raising £34.9m at 101p. Since then the share price has come off a small amount down to 98p valuing the company at £135 million. So the big question is whether it is worth that much considering it is currently burning cash like there is no tomorrow?

I understand why there is a need to invest to grow the brand and so the cash consumption doesn’t worry me particularly just yet; however, with any e-commerce retail play, I try and work out whether I think this will be the next ASOS (ASC) or Boohoo (BOO), both of which have been incredible success stories, or more like an AO World (AO), down over 50% from its IPO price.

It may be my natural bearish nature but for me this has more similarities with the latter than the former. Mattresses are infrequent, high-value purchases akin to the white goods sold by AO World. By their very nature, one would envisage that many people would prefer to try out a mattress before using it and despite the fact that deliveries and returns are free, the hassle around that element of that shouldn’t be underestimated.

Like any e-commerce model, with decent gross margins at just under 50%, it largely comes down to whether the business can build a brand and market sufficiently efficiently to get its “cost per acquisition”, or CPA as it is known, down to a low enough number to enable it to sell mattresses profitably.

I note that the CPA increased from £176 in 2015 to £245 in 2016, which is always going to make making a profit tricky on an average order value below £450 but, being generous, that could be down to a lack of knowledge of which marketing channels work best, and I do note that it stated that its CPAs had been decreasing. The business has stated that it has an aspiration to get its CPA down to £100 which should make the unit economics work, so I will be very interested in seeing how this metric evolves going forward and hope it is mentioned in the forthcoming trading update on 12 July.

For me the jury is still out here as I’m not convinced the mattress market has the right characteristics to be ripe for disruption in this way. I’m definitely not a buyer at the current share price and the only thing stopping me shorting is the calibre of the Board, well largely the Chairman if I’m honest, and the solid investor base. I will be watching the numbers like a hawk though, particularly the CPA, as my instinct tells me that this is a shorting opportunity. I will update following the trading update in a couple of weeks’ time.

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