2023-06-07 11:04:25 ET
Summary
- The Honest Company, Inc. has seen one disappointment after another.
- Mostly (gross) margins are the issue.
- With cash balances down, there are no quick fixes for The Honest Company, as all options are on the table here.
Investors in The Honest Company ( HNST ) are wondering if the company was really honest to them. Shares of the company have been a disaster since the public offering, and in February of last year I wondered what was up for the stock, in an article simply called, "Honestly?"
Ever since, The Honest Company has been flat with regard to sales, but the company has seen increased losses, setting the company up for a dire outlook, with no triggers and quick fixes in sight, all while cash balances deplete rapidly.
A Recap
The Honest Company went public in May 2021, and the poor first day performance was an ominous sign with the benefit of hindsight. Relative low sales multiple and a good mission looked justifiable (certainly in that environment), but growth was hard to be seen and margins were lackluster, although that required very strong execution.
The Honest Company might have been best known due to Jessica Alba, the actress and entrepreneur who had observed an allergic reaction from laundry detergent with her own child. This started the development of suitable products which focused on people, health, fairness, and the planet.
Founded in 2012, the company was focused on diapers, wipes, personal care and wellness products, as the businesses commanded a $1.5 billion valuation at $16 per share. This valuation was applied to a business which generated $235 million in sales in 2019, although accompanied by an operating loss of $31 million. Revenues were up 28% to $300 million in 2020 with losses down to $13 million. The resulting 5 times sales multiple was more or less in line with Procter & Gamble ( PG ) and Kimberly-Clark Corporation ( KMB ) , although they posted much less convincing growth rates but much better margins.
Ahead of the IPO, there was a bad sign, with first quarter sales in 2021 seen up just 10%, as the slower pace of growth was seen hand in hand with deleveraging on the bottom line. This continued during the rest of 2021, and in February 2022 shares were down to just $5, which meant that the valuation dropped to half a billion, even including a $90 million net cash position.
The resulting operating asset valuation of just over $400 million meant that sales multiples collapsed, even as sales growth has come largely to a standstill, with operating losses increasing (in part due to the IPO). Hence, there would be a great opportunity if a resulting 1 times sales multiple could expand, but for that kind of growth, margin improvements would need to be delivered, for which there were few signs on the horizon (if any).
Coming Down Further
After trading around the $3 mark for most of 2022, The Honest Company shares fell to $1 and change by March of this year, after the latest disappointment for investors. In the end, the company grew 2021 sales in a modest fashion, up around 6% to $318 million. Disappointing is that operating losses of $13 million in 2020 rose to $37 million for 2021, although the fourth quarter showed some improvements.
The company guided for flattish sales in 2022, with adjusted EBITDA losses seen between $5 and $10 million. That was a very disappointing outlook, however, after adjusted EBITDA losses came in at $3.5 million for 2021, suggesting modest deleverage on that front.
Forwarding a year in time, we have seen the business "delivering" largely on these promises, with revenues down just over a percent to $313 million and change, and operating losses up to $50 million. The adjusted EBITDA loss of $22 million was bigger than guided for, a disappointing result. The worst is that absolutely no sign of improvement was seen in 2022, in fact the contrary.
Moreover, the 2023 guidance calls for flattish revenue and EBITDA developments, which is simply shocking. This is furthermore concerning as cash balances were down to just $15 million, as the continued losses depleted these holdings in a rapid fashion.
A 21% increase in first quarter sales, as reported in May, looks interesting with revenues up to $83.4 million. The problem is that this seemed to be driven by promotional activity, with the dollar gross profits being actually down slightly year-over-year, indicating that severe margin pressure is seen. This means that operating profits rose by more than four million to $18 million and change, on the back of a $10.3 million EBITDA loss.
Following the strong first quarter sales number, the company now sees low single digit revenue growth, but adjusted EBITDA is seen between minus $25 and $30 million, marking some deleverage on that front. This is simply frightening given the dwindling cash balances.
What Now?
With a market value of just around $150 million, The Honest Company, Inc. trades at a non-demanding multiple of less than 0.5 times. This looks very modest in relation to reported growth, as the issue is that of a wrong cost structure. It seems that a couple of years into the growth story the company should have sufficient base to cater to this niche with a $300 million revenue base, but the price-quality is simply not accepted by the marketplace and hence the business is not able to post a profit.
This is the big concern about The Honest Company, as normal margins on such a sales base could unleash great potential, but the reality is that gross margins are under great pressure. While cash balances are down, the company fortunately has no debt outstanding, and access to a revolving credit facility. That being said, there are literally no signs of a genuine margin improvement, or signs of an imminent takeover, as The Honest Company, Inc. now simply seems to move full speed ahead to a financial distress event.
For further details see:
The Honest Company: Running Out Of Options