CDON (CDON.SS) | Deep Dive

Updated: Aug 1


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Key Points

  • CDON is one of the largest e-commerce companies in the Nordic region

  • Shift to marketplace-focus to improve business fundamentals

  • Competitive moats such as customer knowlewdge from legacy business and network effects to protect CDON's gross merchandising value

  • Declining headline figures conceal rapid 3P GMV growth

  • Increased coverage to kickstart price discovery process

  • DCF-backed fair value estimate of SEK1,253, representing a possible upside of 90.9%


Overview

Company Overview



CDON, founded in 1999, is one of the largest e-commerce companies in the Nordic region. CDON has a wide range of consumer electronics, books, games, movies, sports and leisure items, clothing, shoes, furnishings, and toys. It extended its assortment by opening up for external merchants in 2013 and started to reduce its own inventory in 2018. In 2019, it achieved positive EBITDA. As of 2020, CDON has about 2.3 million active customers and over 1,500 merchants.


CDON has two business segments, CDON Marketplace (3P) where revenue is generated from third-party merchants and other services, and CDON Retail (1P), in which revenue is from its own warehouse or drop shipment. CDON aims to drive growth by adding new merchants, increasing the gross merchandising value (GMV) of existing merchants, and launching new services for its merchants. In contrast, CDON is gradually phasing out its CDON Retail, by phasing out the sales of its own inventory. CDON Retail mainly sells products not offered by external merchants via CDON Marketplace.


CDON’s revenue is derived from Sweden and other Nordic countries. The company’s geographical contribution mix has remained relatively constant between 2017 and 2019 with Sweden contributing ~58.7% of the company's total revenue and Other Nordic Countries contributing ~41.3%.

CDON is ranked as the top 10 most popular webshops in Sweden in 2019, trailing other players such as Zalando.se and adilibris.com.


Industry Overview

The e-commerce industry in Sweden, and by extension, the Nordics, is a highly fragmented one. According to Euromonitor, the top 19 e-commerce players in Sweden own less than 50% of the total market share. Additionally, CDON is said to have 1.6% of the Swedish e-commerce market share.

Sweden led the Nordics in terms of total value e-commerce purchases followed by Norway, Denmark, and Finland. In 2019, the total value of e-commerce purchases totaled SEK 243 billion in the Nordics.


The Nordic e-commerce industry is said to be in the expanding phase, behind countries in the advanced phase such as US, UK, South Korea, and China.

Clothing/footwear consistently capture the largest number of shoppers across Denmark, Finland, Norway, and Sweden. This is followed by pharmacy products and home electronics.


Share Price Movement

The chart above shows CDON's stock price movement. Since its listing on 6 Nov 2020, CDON’s stock price has been very volatile. CDON's stock price was given a massive boost when Brad Hathaway of Far View Capital Management presented his investment thesis on CDON at MOI Global's Best Ideas 2021. Following its FY20 earnings release, the company's stock price declined by more than 20% intraday as GMV and revenue growth expectations were not met. After management explained that platform changes and supply chain disruptions affected growth in the earnings call, investor sentiment recovered, and the stock traded upwards to finish the day in the green. Shortly after, the stock reached a high of SEK 975 following SEB Group’s initiation with a target price of SEK 850. However, the sector rotation out of growth stocks and the temporary resignation of the CEO added selling pressure and caused a 36.7% decline from its all-time high to the 5th March close.

Investment Thesis

We expect CDON's Gross Profit to continue to grow by a CAGR of 23.4% to SEK873 mn in FY2025. This growth is anticipated to be supported by a (1) shift to a marketplace-focused business which is expected to improve business fundamentals and 2) widening competitive moat. In addition, we believe that an increase in analyst coverage would kickstart CDON's price discovery process.


Thesis 1: Shift to Marketplace Focus to Improve Business Fundamentals

In 2013, CDON opened its website to external retailers signaling the start of its transition from a 1P into 3P business model which is now CDON’s key focus and growth driver. CDON highlighted that its ambition to transform into a marketplace was driven by the lower capital intensity requirements and ability to provide a wider range of products. We believe that the benefits of a Marketplace Model (3P) are three-fold.


a. Margin Expansion due to Lower Costs per unit Profit

On a unit economics basis, CDON’s 3P business is vastly superior to its 1P business as shown by the gross profit margin of its 3P business (93.4%) being 84.1% pts higher than its 1P business (9.3%).

Based on our gross profit analysis using our base-case assumptions, we estimate that gross profits will increase by SEK 2.95 for every SEK 100 GMV change from 1P to 3P. We also believe that benefits in earnings extend below the gross profit line as cost-savings from a decrease in selling and admin expenses also play out.

The 20.3% pts expansion in overall gross margin from FY17 to FY20 as a result of CDON's gradual 1P to 3P shift demonstrates our thesis. Based on our projections, in our base case, although FY21’s total revenue is expected to continue to decline, gross profits are expected to grow by ~52%. Therefore, we believe CDON’s transformation from a 1P to 3P model will continue to increase its long-term profitability.


b. Lower Capital Intensity

The 3P model does not require CDON to hold any inventory. As such, as CDON relies less on its 1P business, it can stock less inventory, directly leading to lower working capital requirements. In fact, a shift to a 3P-focused model has allowed CDON to have a negative working capital of ~SEK 173m in 2020. This is beneficial for the company as its cash increases when its size increase. This facilitates growth as the company would not have to finance its inventory for growth. According to CDON’s 2019 Annual Report, the company has been deploying this capital into automation to make it easier for new merchants to drive sales, which will eventually benefit CDON in terms of an increase in net sales. Given the significant decrease in working capital requirements from a 3P model, CDON can reinvest its cash to develop its revenue streams allowing it to continue to grow at high rates.


c. Increased Streams of Income

Compared to a traditional 1P business where the dominant, and often sole, income stream is from the profit on product/services sold, CDON’s 3P business opens up a suite of revenue sources. Currently, CDON revenue is generated from take-rate commissions on marketplace GMV, from monthly merchant subscription fees (launched in Q4/20), and advertising income. In its 2020 year-end report, CDON highlighted the possibility of other revenue streams such as integration with external marketplaces, order management support to fulfillment centers, and offering a complete digital sales channel for brands, manufacturers, and merchants.


In addition, during its 4Q20 earnings call, when questioned on the possibility of creating its own cloud software service (akin to Amazon Web Services) and payment service (akin to a Shopee Pay), management acknowledged the possibility of working on these suggestions in the future.


Thesis 2: Widening Competitive Moat

Legacy Business Provides Unparalleled Local Expertise

We believe that CDON’s more than 20 years of retail experience will continue to allow it to thrive and maintain market share in the Nordic market. CDON’s legacy business should provide it with first-hand data of consumer behavior in the Nordics, allowing the company to have a superior shopping experience, conduct more effective marketing campaigns, and work more closely with brands that match its consumers’ tastes and preferences. We also believe that its legacy business provides the company with access and an existing relationship with the top merchants in the region.

We note that in 2019, most of the top 10 webshops in Sweden are veteran retail players, with more than 10 years of retail experience in the Swedish and Nordic regions. At the same time, we also note that none of these companies are headquartered outside Europe. We believe these serve as strong indications of the competitive advantage local retail veterans have over other international e-commerce players.


Network Effects to Widen Competitive Moat

In addition to the competitive advantage generated by the company’s legacy business, strong network effects are also expected to come into play.

We believe that as the leading e-commerce platform in the Nordics, CDON will be able to capture the interest of users looking to shop online. This will result in an increase in CDON’s GMV, allowing it to increase its earnings and cash flows. This in turn provides CDON with a greater ability to onboard more merchants, resulting in active merchant growth. With a greater selection of brands and products, CDON becomes even more attractive to buyers, generating active customer growth. We believe that such self-perpetuating cycles of network effect will drive GMV and net sales growth.


At the same time, given that CDON Marketplace requires low/no inventory, as GMV grows, the marginal cost for providing services will continue to remain low, directly translating to higher gross margins. This is evident in FY20 when the company’s 86% YoY 3P GMV growth was accompanied by a 1.32% pts increase in 3P gross margins.


We expect the benefits of the network effect to impose a strong barrier to entry to any new or potential entrants to the industry. Therefore, ensuring that CDON’s market share remains intact and its GMV potential could be realized.


Thesis 3: Increased Coverage to Kickstart Price Discovery Process

According to Yahoo Finance, the average trading volume of CDON’s stock is a mere 197,445. This is almost 60 times smaller than the OMX Stockholm 30 Index (^OMX) average volume of 11,492,816. We believe that this is an indication that CDON’s shares remain unknown to the broad international investors.


Declining Revenue Figures Conceals Astronomical 3P GMV Growth

One of the reasons CDON’s stock remained inconspicuous could be its declining revenue figures. From 2017 to 2020, CDON has experienced consecutive years of revenue decline, with y-o-y declines as high as 28.8%. While we believe that such declines are not a cause for concern, as we expect gross margins to increase due to the shift from a 1P to 3P model, we opine that this had made the company seem unattractive at first sight, resulting in CDON’s shares being glossed over by many investors.


Lack of Sell-Side Coverage

We believe that the lack of sell-side coverage had also contributed to CDON being hidden from institutions and other retail investors. Through our research, we were only able to find a single equity report covering the company – an initiation report by SEB commissioned by CDON. As many investors might depend on equity reports for stock ideas and trades, this could have led to the stock falling under the radar of investors.


We are Near a Pivotal Turning Point

We believe that CDON is at a turning point. From our primary research, we found out that CDON is actively hiring an Investor Relations Manager.

We found and google translated a LinkedIn job post in Swedish and noted that CDON is hiring an Investor Relations manager that is able to write in both Swedish and English and can increase CDON’s exposure to international investors by booking roadshows/group calls.

Hints of CDON’s effort to beef up its appeal to international investors can also be seen in the company’s Financial reports section of their website. While CDON’s 2019 and 2018 annual reports were published in Swedish, which rendered them un-reader-friendly for non-Swedish readers and investors, CDON has published its first financial report in English representing a positive step towards attracting international investors. We hypothesize that CDON is in the works of trying to appeal to a more international market of investors.


We opine that as CDON beefs up its English Investor Relations team, interests of more institutional and retail investors will be attracted. This could lead to more demand for CDON’s shares, providing upward pressure on CDON’s stock price.


Valuation

Based on our excel financial model, which is accessible to our Snowball Community members for download [sign up here], we derived a fair value/share of SEK1,253 using a Discounted Cash Flow analysis (DCF) with the Exit Multiple Method as our primary valuation method. This represents a possible upside of 91% from the last closing price of SEK656. We supported our valuation with a DCF using the Gordon Growth Method, which yielded a fair value/share of SEK1,217.

Key Assumptions:

  1. Applied WACC of 10%, which is conservative given that the Capital Asset Pricing Model cost of equity yields a WACC of ~5%.

  2. EV/EBITDA exit multiple of 16.7x, which is the 25th percentile peer EV/EBITDA multiple

  3. FY26-FY30 Free Cash Flow to Firm (FCFF) growth rate of 15.6%, which is the y-o-y FCFF growth rate of 15.6% in FY20.

  4. FCF terminal growth rate of 2.1%, which is the average of Sweden’s GDP growth rate from 2015-2019

The tables above show CDON's sensitized fair value in our Exit Multiple method and Gordon Growth method DCF calculations.

To project CDON Marketplace’s GMV, we applied a declining factor on its GMV growth rate. We applied a declining factor of 70% for our Bear case, 30% for our Base case, and 20% for our Bull case respectively. We believe that our estimates are fair given that the Nordic countries' total market spend on online shopping is SEK814,910 million in 2019 according to Statista, compared to our FY2025 base case GMV of SEK7,187 mn, representing a 0.88% market share. We then applied a conservative take rate of 10% (vs FY2020’s 11.5%) and a conservative gross margin of 90% (vs FY2020’s 94.1%) to arrive at our gross profit estimates.


Risks

1. Competition from E-Commerce Giant Amazon

Amazon officially entered the Swedish e-commerce market on 28 October 2020 through dedicated site amazon.se. According to BCG, Amazon previously enjoyed ~2% market share through cross-border trading.

Comparing Amazon.se’s performance with CDON’s for January 2021, Amazon.se’s total site visits is~1.6x higher than CDON's. We also note that total visits appear to be diverging, possibly indicating that Amazon is eating into CDON’s existing market share. We believe that this could be possibly due to a price leadership strategy Amazon adopts when attempting to capture market share in new markets. However, we believe that the e-commerce industry is not a winner-takes-all market and that it is large enough for Amazon.se to coexist with CDON and other Nordic e-commerce players.


Further analyzing the site visit analytics, the average user spent 72.36% more time on CDON than Amazon.se. This could also possibly indicate a superior conversion rate for CDON.


Additionally, CDON has a long history in the Nordic region which may enable it to create a more local-centric website and develop better merchant relations helping it to maintain its market share.

Overall, we are cognizant of the potential consequences of Amazon’s entrance and will closely monitor CDON’s GMV growth and compare CDON’s web visit statistics to its peers but we believe the total addressable market is large enough for multiple platforms to thrive but CDON must focus on crafting its unique proposition.


2. Execution Risks Exacerbated by CEO Kristoffer's Absence

Despite being the market leader, CDON is still in the early stages of growth with many potential avenues for further growth (i.e. mobile application, payment processing). This gives rise to potential execution risk.