A 2x Comeback Is Possible For This Covid-Era Growth Stock That Crashed 80%

Etsy stock (NASDAQ: ETSY) has crashed by around 80% from the highs seen in 2021, with the stock currently trading at about $56 per share. Several factors have driven the sharp sell-off. For one, consumers have been scaling back on discretionary spending due to a mixed economy and this has impacted Etsy, which primarily sells unique and higher-priced products. Competition has also been mounting from Chinese discount platforms such as Temu and Shein as well as Amazon’s Handmade offering. The trend is visible in Etsy’s gross merchandise volumes, which declined 2% year-over-year during the most recent quarter. Investors have also broadly rotated out of the big Covid-19 winners over the past two years or so and this has also impacted Etsy. At the current price level, Etsy stock trades at about 25x trailing earnings and 23x forward earnings. Is this pricey? Probably not. Especially if you consider the fact that the company’s earnings have the potential to grow by over 2x the current level in the next few years.

While Etsy stock was a Covid-19 favorite – rising close to 4x over 2020 alone – the stock has performed worse than the broader market in each of the last 3 years. Returns for the stock were 23% in 2021, -45% in 2022, and -32% in 2023. In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, is much less volatile. And it has outperformed the S&P 500 each year over the same period. Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics. So can Etsy stock bounce back? We provide a scenario below that could see the stock recover, by looking at key metrics including revenues, net profit margins, and price-to-earnings multiple.

While Etsy grew its topline by about 7% in 2023 to about $2.75 billion, sales are likely to grow at low single-digit growth for 2024 to levels of a little over $2.8 billion. However, things could get better. Etsy has executed well in carving out a niche for itself in the e-commerce space by focusing on handmade products, vintage items, and craft supplies. The company has steadily expanded its customer base despite the currently weak economy with active buyers on the platform growing marginally to 96 million over the last quarter while active sellers grew almost 6% year-over-year to 8.8 million. The growing base of active buyers indicates that Etsy’s core product is still popular with customers. Moreover, the company has also been investing in improving its product, offering improved search, promotional tools, and a dedicated “gift mode”. Etsy has also invested considerably in displaying high-quality handmade products via a mix of human curation and artificial intelligence tools. This could give the company a leg up over lower-priced players who could have more mass-produced products. The growing customer base, meaningful product improvements, and higher number of sellers could help Etsy’s revenues rebound as the economy and consumer spending pick up.  If sales grow by about 10% each year – not a particularly lofty number – between FY’25 and FY’27 led by economic recovery and Etsy’s considerable investments, the company’s sales could grow by a net of about 1.35x to about $3.75 billion by 2027.

Combine revenue growth with the fact that Etsy’s Net Margins (net income, or profits after all expenses and taxes, calculated as a percent of revenues) could get better as well. Net margins stood at about 11% in 2023 up from negative levels in 2022. Etsy’s larger e-commerce platform peers such as eBay had net margins that were more than 2.5x of Etsy’s margins as of last year.  Considering this, it’s reasonable to assume that Etsy’s margins could improve by at least 1.5x to about 16% by 2027. Why is this possible? Etsy’s key fixed costs of Product Development, Marketing, and Administration are likely to grow at a much smaller rate than its revenues, while variable costs – which primarily include credit card payment-related costs and cloud hosting costs – could also be better negotiated as the company gets larger. So is 2x growth in earnings possible in the next five years? Yes. This looks very reasonable when you combine 1.35x revenue growth with 1.5x margin expansion.

Now if earnings grow 2x, the P/E multiple will shrink to half its current level, assuming the stock price stays the same. But that’s exactly what Etsy’s investors are betting will not happen! If earnings double over the next few years, instead of the P/E shrinking from around 23x now to 11.5x, we think that the multiple could actually remain flat, or potentially even expand, as investors reward the company for its improving momentum with negative sentiments around the stock easing.  This could make a 2x rise in Etsy stock a real possibility in the coming years – with the stock returning to levels of over $110.

What about the time horizon for this high-return scenario? In practice, it won’t make much difference whether it takes 3 years or 5 – as long as Etsy is on this revenue expansion trajectory, with margins holding up, the stock price could respond similarly. We currently value Etsy stock at $65 per share, 17% ahead of the market price. See our dashboard analysis on Etsy valuation 

[1] Returns as of 9/6/2024
[2] Cumulative total returns since the end of 2016

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