|Shares Out. (in M):||460||P/E||11.1||10.3|
|Market Cap (in $M):||10,147||P/FCF||0||0|
|Net Debt (in $M):||6,362||EBIT||0||0|
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Qurate consists of three businesses: QVC, HSN and zulily. QVC is the core of the enterprise, representing c. 85% of profits, whilst zulily and HSN were acquired in 2015 and 2017 respectively. QVC and HSN are teleshopping companies – they broadcast live, 24-hour programming where TV hosts pitch products that run the gamut from fashion, beauty and jewellery to home and electronics. zulily is a daily-deals ecommerce business with a focus on millennial mothers. HSN and zulily’s revenues are 100% US-based, whereas QVC derives 30% of sales internationally from the UK, Germany, Japan, Italy and France. QVC also operates a 49%-owned joint venture in China, which launched in July 2012 and became profitable in late 2017.
The origins of Teleshopping go back to the 1970s, but it really took off when HSN (Home Shopping Network) went public in 1985 and QVC launched in 1986. These two businesses finally came together in December 2017 and now have over 90% of the US home shopping market, and a dominant position overseas.
Qurate’s largest individual shareholder, John Malone, holds 40% of the company’s voting rights and a c. 6% economic stake, worth nearly $600m. Qurate is his third largest public holding, behind Liberty SiriusXM and Liberty Global. Malone has had a remarkable record of creating value in the media space over many decades and under his watch Qurate has regularly returned capital to shareholders, with $8 billion of stock repurchased since 2006, which would be worth $11.2 billion today. Qurate’s current market capitalization is $10 billion.
Qurate is led by Mike George, who has been CEO of QVC since 2006. George was previously a senior partner leading McKinsey’s North American Retail Industry Group before joining Dell as Chief Marketing Officer from 2001 to 2005. George owns a 0.3% stake in the business, worth c. $30m. In one public interview, George discusses how new management hires at QVC are restricted to merely observing and learning about the business for a full six months. They are advised to write down any changes they might wish to make but told to hold back from acting on any of them until the onboarding period has passed. The reason given is that QVC is such a unique business that newcomers often mistake its foibles for faults; they question supposedly flawed practices, only to later realize that these quirks are in fact key to QVC’s enduring success. Our research supports the view that QVC is unique in the retail landscape; its management understands and endeavours to preserve this differentiation.
Shoppers are typically fickle individuals, forcing retail businesses to compete aggressively on price. It may come as a surprise, therefore, to learn that QVC boasts nearly 90% annual retention amongst its core customer base. QVC’s existing customers (defined as current-year purchasers who also purchased from QVC in the prior year) have stuck with QVC at a rate of between 88% and 90% since 2009. This rate translates across geographies as well – the US and international businesses each individually sustain the same 88-90% range. Moreover, close to 90% of QVC’s revenue comes from this existing customer base, with only 5% coming from brand new customers in any given year. The balance comes from “reactivated” customers, defined as those who have not purchased in the last 12 months.
The QVC shopping habit itself is surprisingly consistent. QVC’s core customer base has averaged between 24 and 26 item purchases per year since 2009, a statistic that once again applies both in the US and internationally. Over the same time period, QVC’s total customer base has expanded from 11 to 12.7 million (or 14 million, if including its nascent joint venture in China). During the financial crash, QVC’s US revenues fell by 6% before recovering, but globally they only fell 1% as overseas performance was particularly strong.
These do not read like the numbers of a typical retailer. This is because QVC’s offering is fundamentally different. QVC focuses on discovery. It is a channel for shoppers without specific purchase intent, who want to be shown interesting new products. There seems to be a fairly common misconception of QVC as a predatory merchant; people conjure an image of spivvy salesmen peddling tat to hapless channel-hoppers with limited disposable income. In fact, QVC’s core customer is a woman in a household of above average net worth. She is typically a home-owner, married, college-educated, aged 35-64 and shopping for herself. She enjoys shopping, which she values as a form of entertainment as much as a practical necessity. QVC curates its offerings with this viewer in mind, sifting through the vast expanse of potential merchandise to find the kinds of items she might want, and then presenting them in a way that facilitates her decision. The presentation is key, and it’s a process that QVC has spent more than 30 years perfecting.
As part of his effort to avoid the fast-paced, hard-sell routine of other networks, the founder, Joe Segel implemented a talk-show format at QVC. The idea is that two or more hosts discuss the product between each other, so that the viewer is listening in on a conversation, rather than being targeted with a sales pitch. Hence, when long-time QVC hosts David Venable and Mary DeAngelis, say, discuss the ins-and-outs of a food mixer whilst showing it in action, the viewer feels she is getting an honest demonstration from people she knows and trusts. Indeed, many QVC hosts are mini celebrities to their regular viewers.
The loyalty of QVC’s customers is complemented by the enthusiasm of its suppliers. Vendors choose QVC because it offers them a rare opportunity to promote their products at length to a captive audience of interested shoppers. One supplier we spoke described it as like investing in an infomercial, but getting the advertising aspect for free. Indeed, many vendors have reported experiencing a knock-on effect whereby a QVC product segment subsequently lifts sales of that product across non-QVC channels as well.
QVC’s large audience and long-form content structure make it a particularly powerful platform for small businesses to tell their story. Niche beauty brands have had particular success in using the channel as a launchpad for unknown products. For example, Jamie Kern Lima, founder of “IT Cosmetics”, got her big break on QVC in 2010, and sold six thousand units of her under-eye concealer in just ten minutes. Audiences appreciate the chance to see and hear from a passionate entrepreneur who believes in her product. IT Cosmetics was sold to L’Oréal in 2016 for $1.2bn. From our own network, we spoke to multiple suppliers who reported launching new products on QVC and achieving millions of dollars of sales within a matter of months.
In addition to its favourable sales model, QVC benefits from an advantaged cost structure. As a delivery-retail business, QVC neatly sidesteps the problems of waning footfall that are currently afflicting large American retail chains. This store-free structure allows QVC to maintain capital expenditures at only 2% of revenue as well as low inventory levels, which it can nimbly adjust based on real-time customer order data. As a result, QVC’s EBIT margins lie in the mid-teens, much higher than the mid-single-digit margins sported by traditional retailers such as Target, Walmart, Nordstrom, Macy’s etc.
Internationally, several video retailers compete with QVC, but in its home territory of the US (which accounts for 75% of QVC’s profits), QVC is the largest player by far, with $6 billion of sales in 2017. HSN held second place with $2.3 billion, and Evine was a distant third with $0.7 billion in sales. The five-year average EBIT margin for each has been: 15% for QVC, 9% for HSN and 1% for Evine, evidence supporting the case that QVC enjoys a durable scale advantage.
QVC has modest growth opportunities in current international markets, albeit with the wild-card potential of a future boom from its China JV. The US is a mature, but steady market.
20-year QVC veteran, Mike Fitzharris has now taken over as president of HSN. Fitzharris was previously COO of QVC UK and then CEO of QVC Japan. Management plans to focus on margin improvement at HSN first before aiming for renewed top line growth. HSN accounts for 10% of Qurate’s profits.
zulily is an app and ecommerce site that offers daily deals on apparel, home and beauty products. Its core demographic is millennial mothers, a younger audience than QVC and HSN. zulily was acquired by Qurate in 2015 for $2.4 billion, a 15% discount to its 2013 IPO price (and less than half its post-IPO peak), but still a steep multiple of its c. $100m forward-estimated EBITDA. The jury is still out on whether zulily will prove a sensible acquisition. The business is currently growing in the mid-teens, with a mid-single-digit EBITDA margin. We see zulily as potential upside in our Qurate model, but do not bank on continued growth from this early-stage business in our valuation. zulily accounts for 4% of Qurate profits.
The bear case
Three perceived threats loom largest over the Qurate investment case: cord-cutting, obsolescence and Amazon.
For about 30 years the teleshopping industry grew on the coattails of American cable TV. But traditional cable and satellite subscriptions peaked in 2012, went sideways for a few years and are now declining at about 3% p.a. as younger customers switch to watching video on Netflix and YouTube. So, one may wonder what’s to stop teleshopping following cable on its way back down. It should be noted that the lead cord-cutting demographic is males under 35, rather distinct from QVC’s core viewership of 35-65 year-old women, which is likely to be a laggard in the cord-cutting shift. But in any case, QVC’s fate is no longer tied to cable. QVC has been early to embrace the complete range of video platforms, including YouTube, Roku, Facebook Live, smartphone apps and its own website. A free-to-access QVC livestream is never more than a couple of clicks away for a shopper with a device and an internet connection. Digital viewership across these platforms has been posting triple digit growth for the last several quarters, suggesting that video retail can happily evolve beyond the confines of the TV screen.
QVC-sceptics, who see the company as an outdated relic of the 1980s, may be surprised by the company’s strong digital acumen. Over 50% of QVC’s sales are made via digital channels (i.e. the web or one of their various apps), and over 60% of these sales come from mobile devices. On revenues of nearly $9 billion, this implies that QVC is one of the leading ecommerce companies in America. Many news outlets have deemed QVC’s unexpected technological prowess worthy of a headline or two: “QVC: the unlikely juggernaut of mobile shopping”, The Washington Post, October 2015; “QVC has quietly become successful with streaming audiences, and nearly half its revenue is from ecommerce”, Adweek, June 2017; “QVC’s plan to survive Amazon might actually be working”, Bloomberg Businessweek, February 2018.
The high quality of QVC’s apps also comes as a surprise to many. In a 2015 Business Insider article on Apple TV, journalist Steve Kovach writes: “this is going to sound absurd coming from a 30-year-old male… but I think the best app on Apple TV right now is the QVC app”. At Metropolis, we found QVC’s mobile apps to have a clean design which is intuitive and easy to navigate. Live video runs smoothly as soon as the app opens. Search results for QVC’s inventory automatically run a video clip of the product. The US version of QVC’s iOS app has a 4.8 / 5 star rating, based on over 200,000 reviews.
Ever since the 1980s, QVC has monitored inbound phone traffic in real-time to garner insight on the most effective sales techniques. For example, if a host describes a particular aspect of a product and this correlates with a spike in calls, the producer will see this and ask the host to repeat the action later in the show, testing for a causal link. QVC has accumulated decades of understanding and applying what works with this feedback loop. In this respect, QVC was a data-driven company long before the practice became mainstream. It is also worth noting, that QVC has always had a direct relationship with its customers due to the home-delivered nature of its business. This gives QVC an extensive customer purchase history dating right back to the founding of the company, data that would be the envy of most traditional retailers.
The Amazon threat has existed for many years but has yet to make a dent in QVC’s steady customer retention record. QVC claims that Amazon meets a different need and offers a complementary experience. This argument is supported by the fact that over 70% of active QVC customers report shopping at Amazon as well.
As it happens, Amazon tried to compete with QVC quite directly in March 2016 when it launched “Style Code Live”, a web-based video retail channel where a small group of hosts would discuss and demonstrate Amazon products. The initiative was shut down in May the following year.
Valuation and conclusion
We started investing in Qurate when it was trading on a 9% free cash flow yield. Our model projects very modest growth over the next two years and no growth thereafter. The business is buying back shares at the rate of 7-8% of its market cap per annum. Assuming that it continues to do this for another 3 years, and were the share price to stay flat, Qurate would be trading on a free cashflow yield (on its enterprise value) of over 14% and a PE of c. 5x.
Qurate is an unusual company. It is not quite ecommerce and not quite media. It has a business model that seems antiquated. It serves a niche community that few investors can relate to. Until very recently, it was a tracking stock, making it ineligible for listing on the S&P 500 index. As of October 2018, it is still not included in the index, despite a higher market capitalization than at least 50 other S&P 500 stocks. It has limited sell-side coverage; Macy’s and Nordstrom have similar market capitalizations to Qurate, yet Qurate is covered by 16 analysts, versus 37 for Macy’s and 43 for Nordstrom. In short, there are several reasons which might explain why the stock is being ignored by much of the market.
We always seek to invest in companies that provide both quality and value. Coincidentally, the letters QVC stand for quality, value and convenience. Conveniently for us, at current prices, we believe Qurate Retail Group offers both quality and value to investors as well.
Inclusion in S&P 500 index
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