Purple Innovation Warrants PRPLW
September 12, 2018 - 8:39pm EST by
phn19
2018 2019
Price: 0.20 EPS 0 0
Shares Out. (in M): 16 P/E 0 0
Market Cap (in $M): 287 P/FCF 0 0
Net Debt (in $M): 17 EBIT 0 0
TEV ($): 304 TEV/EBIT 0 0

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Description

Long: Purple Innovation Warrants (PRPLW)

 

Disclaimer:

 

Small float and not a lot of trading volume so this may just be a PA idea – the equity trades an average of $200k per day and the warrants trade even less.

 

Investment Overview:

 

Purple (PRPL) is a manufacturer of differentiated mattresses and related accessories that came public through a reverse-merger with a Special Purpose Acquisition Company (SPAC). The stock has underperformed due to operational issues and an optimistic valuation post IPO driven by bullish targets put out by the selling company that have been adjusted down since. The downward revision to guidance along with the market turning bearish on the commoditized, unprofitable “Bed in a Box” category has torpedoed the stock.

 

Despite the stock weakness and consensus negativity, we believe PRPL has a differentiated product and a market opportunity that should allow it to continue growing and generate positive EBITDA in the future. A much less “controversial” trade in our opinion are the SPAC warrants for ½ a share at $0.20. These are struck at $11.50 and offer significant upside (9x multiple of money) if the stock gets to our upside valuation case of $15 / share, even on a probability adjusted basis.

 

Capitalization:

 

 

Industry Overview:

 

Purple is currently focused on the US market, so we’ll spend the bulk of this section just discussing that (although we would note that the company plans to expand internationally in the medium term). The wholesale mattress industry in the US is roughly an $8B industry that has grown at a 7.6% CAGR since the cycle turned in 2008. Of that, roughly ~$1.2B of sales are DTC, up from effectively $0 in 2013.

 

*Note that the data above (from PRPL’s slides) includes a >2x gross-up on traditional channels for the estimate of retail sales markups*

 

The mattress industry is dominated by large manufacturers that sell through traditional retail channels (Tempur Pedic and Serta Simmons are roughly 70% market share). Over time most of the industry’s growth has come from price as the technology adoption (sleeping on a mattress instead of the floor) is obviously already quite high. This has come as a natural function of consumers moving to higher priced mattresses over time, and the industry has significant correlation to economic cycles given this dynamic.

 

 

Just a quick overview on types of mattresses (going to try to keep it short / to the point):

  • Foam (~30% market share):

    • There’s a variety of different foam applications with polyurethane and memory foam being the most popular

      • Polyurethane is the “lowest quality” of foam used in mattresses; however, it is the easiest to compress and ship DTC. This is basically what Casper participates in, and it is fairly inexpensive but has a short lifespan

      • Memory foam is typically what’s found in the “higher quality” TPX volumes, which is designed for comfort & contours the body

  • Spring (~45% market share):

    • Generally firmer mattresses that are durable and cheap

  • Hybrid (~15% Share)

    • Basically a mix of the contour of memory foam with springs supporting the mattress. Generally higher quality than traditional memory foam

  • Air (~5% Share) – This is largely SNBR, which is a public company (they’re vertical and sell a variety of luxury products in their own stores)

 

Separately, it’s important to temper expectations for the real market opportunity for DTC. Currently, DTC is only 7% of overall market share, and hyper-bulls believe that this could grow to 25-30% of total industry revenues. We use more tempered numbers, largely because mattresses experience some level of brand loyalty for existing brands (the “if it ain’t broken, don’t fix it” consumer) and consumers out there just looking for the cheapest options, which we estimate to be 50-60% of the industry volume all together.

 

However, it is certainly still an opportunity, and equally as large, if not larger, is the growth opportunity we see for PRPL to grow within the DTC category vs. competitors like Casper, Saatva, Tuft & Needle, or Leesa. The chart below shows how PRPL has been rapidly gaining market share.

 

 

Product Overview:

 

Purple is a DTC mattress manufacturer (if it wasn’t obvious) that uses a proprietary “Hyper-Elastic Polymer” technology. The company was formed in 2015 by Terry & Tony Pearce, brothers who have a background in engineering, manufacturing, and design. The technology is innovative as it fits into none of the mattress categories highlighted above, and was originally used in wheelchairs. It technically fits into the category of hybrid mattresses as it uses both springs and high-density polyurethane foam, but adds in the “Hyper-Elastic Polymer” on top. This is basically what the product looks like today:

 

 

To summarize the difference in material detailed above, we’ve included this slide from the company’s investor presentation:

 

 

The company has 78 granted or pending patents as of the transaction date, and it owns 2 manufacturing facilities with 4 machines.

 

Product Reception:

 

So how has the differentiated product been performing? Our diligence work would imply that it’s been quite good so far. This has been part of the bull thesis for a while, so we won’t belabor this point as much. However, from what we can tell, a significant portion of product reviews have been fairly positive so far. Across the largest DTC mattress companies, Purple has by far the highest ratings between its own website, Amazon, and Sleep Advisor, across quite a few reviews.