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.
