The RealReal: Interesting Business Model that Burns Cash

The RealReal, Inc. (REAL) is an online luxury consignment site that engages in the consignment of luxury goods across different categories, including women’s, men’s, kids’, jewelry, watches, and home and art. The firm sells pieces from designers such as Cartier, Chanel, Christian Louboutin, Gucci, Hermes, Louis Vuitton, and more. The company was founded in March 2011 and is headquartered in San Francisco, CA.

I am bearish on shares of The RealReal, as despite the losses of nearly 66% in the one year and approximately 20% in 2022, the company has little financial strength, and profitability is poor, as it is a money-losing business. The stock has vastly underperformed the market in the past year.

The RealReal Business Model and Circular Economy

The company has the vision to extend the life of luxury items, supporting a more sustainable future and circular economy. What is the circular economy?

“The circular economy is a model of production and consumption, which involves sharing, leasing, reusing, repairing, refurbishing, and recycling existing materials and products as long as possible. In this way, the life cycle of products is extended.”

The circular economy at its core aims to reduce waste to the minimum level. Raw materials used in the production, design, and distribution of goods give a continuation to their reuse, repair, and collection, enabling recycling to reduce residual waste as much as possible and extend the life cycle of products. This process reduces greenhouse gas emissions and thus supports the environment while adding economic benefits, too, like the creation of jobs.

As of September 30, 2021, The RealReal had reported 1.07 billion liters of water saved by selling on TRR since its founding and 21,801 metric tons of carbon saved, numbers that prove sustainability is a core value for the firm.

History of The RealReal IPO

The company went public on May 31, 2019, raising $300 million at an IPO price of $20 a share. Its current price, around $9.20 on February 11, 2022, represents a loss of 54% compared to its IPO price.

Q3-2021 Earnings

REAL stock earnings have struggled to become positive as of Q4 2019.

In its investor presentation back in November 2021, TheRealReal made a bold statement that the pandemic is effectively behind us.

Some of the most important highlights in Q3 2021 were total revenue of $119 million, which increased 53% and 46% compared to Q3 2020 and Q3 2019, respectively, GMV (gross merchandise value) of $368 million that increased 50% and 46% compared to Q3 2020 and Q3 2019, respectively. Further, gross profit of $71 million increased 44% and 37% compared to Q3 2020 and Q3 2019, respectively.

The firm saw strong active buyer growth in Q3 2021, recovering off the Q4 2020 lows. Gross profit per order increased to $94 year-over-year compared to $90 in the same quarter a year ago.

Turning to the bad news, net Loss was ($57 million) for the third quarter of 2021, compared to ($44 million) and ($25 million) in the same periods in 2020 and 2019, respectively. GAAP basic and diluted net loss per share was ($0.62) compared to ($0.50) in Q3 2020. Total operating expenses surged to $122.25 million versus $91.15 million in Q3 2020.

Loss from operations widened to ($51.16 million) versus ($41.62 million) in Q3 2020.

Fundamentals – Risks

As per its latest quarter, REAL’s debt/equity ratio of 4.56 shows that there is a lot of debt that makes the financial strength very poor. REAL stock has a Piotroski F-Score of 1, which is too low, implying poor business operations, and an Altman Z-score of -0.3, which is in the distress zone.

Total shares outstanding have increased by 4.3% in the past year, whereas the company has widening losses from 2017 until 2020 and net losses in the first nine months of 2021. The company’s cash burn problem is hard to ignore.

In the first nine months of 2021, REAL reported a cumulative free cash outflow of ($148.6 million)

Valuation

The RealReal stock is relatively overvalued based on its price/book ratio of 7.8x compared to the U.S. online retail industry average of 2.6x.

Wall Street’s Take

Turning to Wall Street, the RealReal has a Moderate Buy consensus based on six Buys and three Hold ratings. The average RealReal price target of $18.56 represents 103.7% upside potential.

Conclusion

The RealReal has a unique business model that fails to deliver profitability despite sales growth. The financial strength is poor with no signs of net profitability yet, whereas a high level of debt and a cash burn problem makes it a very risky stock overall.

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