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Morningstar | Farfetch Results as Expected, but Merger With Toplife Strengthens the Competitive Positioning

We are maintaining our no-moat rating and fair value estimate per share of USD 17.1 as Farfetch reported annual results broadly in line with our estimates. Revenue came in 2.5% ahead of our expectations and an operating loss of USD 173 million matched our expectations. The company displayed better-than-expected scaling of G&A but less leverage on costs of goods sold, versus our expectations, as scale benefits were reinvested in better customer proposition, such as free shipping.

For 2019, Farfetch expects to grow GMV by 40%, below the 50% we estimate, and deliver an adjusted EBITDA margin of negative 18% to negative 19% (in line with negative 18% in 2018).

During the latest quarters Farfetch made several deals that should solidify its competitive positioning going forward, such as the acquisition of Stadium Goods, signing a deal for online channel development for Harrods, and, most importantly, merging JD.com’s Toplife into Farfetch's platform. China remains the most promising area of luxury online commerce development, with online luxury sales penetration still behind that in the U.S., with its young and tech savvy demographic and generally healthy growth of luxury demand. We previously argued that big Chinese e-commerce platforms could become formidable competitors in this growing market with their Toplife and Luxury Pavilion divisions. Hence, these platforms partnering with existing online market leaders (Alibaba’s JV with Richemont’s YNAP, Toplife merging into Farfetch) could lead to a less intense competitive environment for the incumbents and provide significant opportunities for Farfetch and YNAP to capture growth in this market. We believe such deals underscore the value that these big platforms attach to the relationships with luxury brands that platforms such as Farfetch and YNAP have built over time. Access to significant numbers of potential luxury consumers in China could further increase Farfetch’s attractiveness to luxury retailers and brands.

Under the deal, Farfetch link will be integrated into JD.com app, providing Farfetch access to JD’s 300 million active users. The deal economics look attractive, Farfetch’s existing commission fees to its suppliers would apply and a commission to JD.com will be paid out from the bypassed demand generation expense. We note that JD.com remains a significant shareholder of Farfetch with around 16%-17% stake.

Although B2B solutions remain small part of the business currently (we estimate less than 10%), the business now counts 17 clients, including Chanel and Harrods. As we argued in our report, “Farfetch Is Well Placed as Online Luxury Takes Off,” white label online solutions to brands and retailers can increase switching costs with Farfetch's partners over time, solidifying its competitive advantage.