Saturday, 8 November 2014


I’m a yoga fan and have been practicing for years so the following idea is especially interesting to me. Don't worry I’m not here to convert you to any shaman/guru stuff, ask you to read this post in a lotus position or to extol the virtues of sustainable living but there is money to be made in the yoga, conscious and sustainable living/lifestyle trend that seemingly has no end in sight.

Gaiam is a Colorado based company that makes products for yoga, fitness and general sustainable living. The company was started in 1988 by a very interesting guy by the name of Jirka Rysavy. I’ve previously linked a few articles about him (here, here and here – do read them if you haven’t yet). To cut a very long story short (and the following by no means gives credit to his remarkable accomplishment) he emigrated from what then was Czechoslovakia to Colorado and cut his teeth in business. He started the predecessor of Corporate Express by rolling up small competitors in the office supply business. He figured that the trick to beat the other guys like Staples is to go wholesale (i.e. no superstores), target mid to large scale businesses as customers and keep the number of SKUs low and cheap by ordering in very large quantities, essentially scale in a business where margins are tiny. This worked so well that by 1999 revenues grew to around $4bn and the business was bought by a Dutch competitor for $2.3bn (EV basis). More details on the company and story here.

Back to Gaiam. Up until a few years ago the company was an eclectic collection of businesses. The core theme has always circled around sustainable living but the expression of this idea has certainly evolved. To give you a sense, it used to be a large shareholder in Real Goods Solar (US based solar energy company; now c. $1m stake remaining), owned Vivendi Entertainment (GVE; video distribution; sold in Q4’13), besides developing their core business yoga, fitness and other products. In the meantime they’ve also started a Netflix style subscription video service (Gaiam TV) with content around sustainable living (yoga and sports videos, movies, series etc).

The current core businesses are branded goods (clothing, home, sports and other apparel products) and Gaiam TV, which will be split into two companies as announced earlier in April 2014. Currently the fully diluted market cap is $187m with sales of $156m last year. Let’s see what you get for this price.

In 2013 the segment generated around $150m sales by selling yoga and other fitness products via retail (around 38k locations globally inc. Target, Whole Foods or John Lewis in the UK) and through e-commerce/catalogue. The company uses it’s direct to consumer channel to test and refine products, which they can launch across their retail channel, which is a great advantage to have. Within the retail stores Gaiam operates 15k store-in-store facilities as well.

The key story here is the growth in the adoption of yoga and thus increase in sales of related products. There are various numbers out there in terms of market size but according to the company overall market was $10bn in 2012 vs $5.7bn in 2008 (CAGR of 15%, while the number of practitioners grew 7% p.a. in the same period).

However, with growth you get competition and thus brands are piling in to the market. Lululemon is of course the most well-known brand and with the highest mind-share but companies like Nike, Under Armour etc are making an entry. There is no clear leader in the mid-market segment which is what Gaiam is going after and given their positioning as one of the original yoga brands, great and expanding distribution network they have a good shot at succeeding or at least be in the top 3.

Gaiam took all of its yoga, fitness and related video content and built an online subscription network around it (you can think of it as the yoga Netflix). The titles can be streamed via their website and most devices (Apple TV, Amazon Fire, mobile platforms etc). Currently the company has over 6,000 titles, charges $9.95/month and had subscribers of about 46k last year (about 80k currently).

A few interesting stats about the business: (i) current conversion rate from trial to paying subscriber is over 75%, which is huge and (ii) producing an hour of content is about $4k on average (vs $4m for Netflix; yes I know it’s not a fair comparison: all you need is a few mats and some yoga pants vs paying Kevin Spacey to play a scheming politician). To add to the first point I’ve asked many people who either practice or teach yoga and they are huge fans of Gaiam TV and practically couldn’t stop raving about it.

The business generated about $5.6m in revenues last year and mgmt. guides for doubling this year. On a recent earnings call they noted that the company is runrating $10m in revenues. Now this business is still lossmaking (EBIT loss of $8.3m in 2013; about $2-2.5m burn per quarter) as money is being plowed back into growth, however mgmt. also indicated that if they’ve stopped spending on growth they could get this business profitable by Q2’14.

And this is key. The company announced that they are splitting the business into two due to the usual story for splits (growth, mgmt. focus, capital allocation etc) so Gaiam TV will be out in the open and people will be able to look at the businesses and financials better.

Which brings me to valuation, for which I think sum of the parts is the best approach. The current market cap is $187m, however the company has a lot of non-operating assets: $27m cash/investments (after adjusting for op. cash needs); $28m (tax impacted) net operating losses; $6m working capital adjustment from the GVE asset sale and about $20m value for HQs that they own outright, on which mgmt. is “exploring options”. If you net these off, you get to a value of around $106m for the operating business. The company generated sales of $156m last year so it trades at an implied 0.7x sales.

Next year they are on track to do around $160m in revenues (it doesn’t look like much improvement as the company changed in how they account for revenues for externally sourced products in their branded goods segment, now it’s on a distribution basis vs buy and resell; great news for working capital). Assuming Gaiam TV doubles sales to $11m and you slap a 3x multiple on it (where Netflix traded through the cycle; similar multiple to a recent Gaiam TV roll up acquisition), you get to $34m, which essentially means that the branded business that generates $150m in sales is valued at only $72m or 0.5x sales. This is basically what’s implied by the market.

This is how I think of fair value: $20-30m for Gaiam TV, (2-3x P/S)  $120-150m (0.8-1x P/S) for Branded Lifestyle and the bucket of non-operating assets of around $80m. This gets you to a range of $220-260m in total or $9-11 per share.

What’s the downside? Slowdown at Gaiam TV, continued deferral to profitability, lack of take-up and slower roll-out of new Gaiam branded products and delays/cancellation of the split. I’m guesstimating valuation would drop to $110-160m or $5-7 per share (essentially 0.7-1x of estimated forward company sales). Taking the above at mid points you get a downside of $6 per share and upside of $10 per share vs current share price of $7.7.

When you buy into Gaiam you are making large investment in Jirka and his mgmt. team. Jirka owns 25% of the company but controls 75%, via supervoting shares. I guess his experience at Corporate Express lead him make sure that at his next venture he is in charge of his own faith. He has proven once that he can successfully roll-up a fragmented industry by focusing on a niche and he is replicating the same model to an extent at Gaiam.

Your conclusion whether to buy into Gaiam will come down to (i) how comfortable you feel with control situations (I like it when mgmt. is rational) and (ii) whether the above risk/reward is sufficient for you. I’ll be sure to watch the company.