The Ratings Game: Wayfair stock is soaring, but one analyst says growth will ‘hit a wall’

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Wayfair Inc. stock soared nearly 9% in Wednesday trading after reporting better-than-expected results and increased sales during the COVID-19 pandemic, but Neil Saunders, managing director at GlobalData Retail, says the numbers show the e-commerce home retailer will soon stall.

The stock has skyrocketed more than 131% over the past month.

“Worryingly, despite spending more on advertising than last year, the increase in net sales has now fallen below the 20% mark,” Saunders wrote. Sales growth for the first quarter was 19.8%, reaching revenue of $2.33 billion.

“The rise in active customer numbers has also moderated and the average ticket continues to fall,” said Saunders.

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“To be fair, the top-line uptick is one that most retailers would kill to achieve. However, it needs to trend much higher if Wayfair is to eventually find a pathway to profitability; the fact it is not suggests the company will, at some point, hit a wall in terms of growth which will leave it extremely exposed.”

Active customers were up 29% year-over-year, totaling 21.1 million for the quarter. Average order value was $235, down $2 from last year.

Saunders highlighted the high cost of advertising, with Wayfair spending $275.8 million during the quarter, up from $244.0 million last year. Saunders puts that at $13 per customer.

“Given active customers spend around $112 each quarter, this means 11.6% of that value is immediately absorbed by advertising expense,” he said. “That, in our view, is quite unsustainable.”

Wayfair W, -0.14% , on the other hand, is bullish about the future, noting that the coronavirus pandemic is accelerating the shift to e-commerce.

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“It is likely that e-commerce adoption is going to step change across a wide swath of categories,” said Niraj Shah, Wayfair’s chief executive, on the earnings call, according to a FactSet transcript. “In our case, millions of new customers shopped at Wayfair over the last several weeks.”

Beginning in mid-March, Wayfair saw a jump in demand for things like cookware and kitchen appliances, work-from-home necessities and children’s items.

But Shah said the company’s results were driven by plans put in place long before the pandemic.

“To be clear, we are not orienting internally around these revenue run rates, but this does create a unique opportunity to serve our returning and new customers and to accelerate the shift to online in our category,” he said.

“We believe there are clearly definable long-term advantages accruing to Wayfair in this period.”

Other analysts are upbeat as well.

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“Wayfair is seeing a step function in growth (90% year-over-year quarter-to-date) as consumers increasingly shift to e-commerce amid COVID-19 and shelter in place,” Raymond James wrote. “At the same time, Wayfair began to demonstrate solid operating leverage that should continue throughout 2020.”

Raymond James rates Wayfair stock market perform.

“The most significant change in the Wayfair story is the rapid margin inflection (~1 year ahead of schedule), driven by scale/cost discipline along with healthy double-digit sales growth,” wrote Suntrust Robinson Humphrey, noting the coronavirus-related sales growth.

“While it’s too early to tell how sticky these share gains will be, the combination of EBITDA profitability and sales acceleration makes us incrementally positive.”

SunTrust rates Wayfair stock hold with a $163 price target, up from $110.

Wayfair shares has gained 22.8% over the past year while the S&P 500 index SPX, +1.72% is up 0.4% for the period.

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