Revolve Group: Softer Shopping Behavior Stalls Top-Line Momentum, but Long-Term Growth Inspirational

Equity Analyst

Sean Dunlop

Associate Equity Analyst

Grace Na

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The Revolve Group has carved out an interesting competitive niche in the attainable luxury category, leaning heavily into the strengths of the e-commerce channel--breadth of selection, scalability, and ubiquity of access--to reach a mobile-first, millennial and Gen Z audience across its online properties. With the firm cycling through 219,000 styles on its REVOLVE and FRWD (luxury) marketplaces during 2022, and with roughly 1,000 new styles launching weekly, the firm has positioned itself as an "online source for discovery and inspiration," capturing more than $500 in after-return spend among its base of 2.3 million active buyers, by our estimates.

We take a positive view of the firm's strategy, with an ongoing shift toward mobile and e-commerce channels figuring to provide meaningful growth tailwinds in the near to medium term. Roughly 67% of Revolve's sales came through the high-conversion mobile device channel in 2022, while e-commerce penetration continues its rise in the U.S., with apparel category sales hovering around 40% penetration.

Revolve maintains a handful of growth levers that should allow it to capture more than its fair share of industry growth. The addition of beauty, athleisure, and casualwear sales layers, snowballing momentum from the nascent loyalty program, and a growing international business represent the lowest hanging fruit, in our view. Growth remains the top priority, with Revolve estimating just 3% penetration among its target demographic in the U.S., and returns on advertising spending continue to look alluring. Further, a growing mix of private-label fare should drive moderate near-term gross margin expansion, as the retailer surgically rebuilds inventory around its private-label brands after pulling back amid pandemic concerns. For reference, private label sales represented just 22.4% of total sales in 2022, a far cry from the 36% figure in 2019.

Finally, considering management's openness about its pursuit of a tuck-in brand acquisition, we believe that the pursuit of a strong label in underpenetrated offerings like luxury, beauty, or menswear could bolster the firm’s competitive position and help capture incremental wallet share.

Business Strategy & Outlook

The global retail apparel market is intensely competitive, with operators forced to compete along the lines of design, fit, price, fulfillment speed, and quality. The industry espouses zero switching costs, features minimal capital intensity, and seeks to slake effectively insatiable consumer demands, resulting in high barriers to success and extreme fragmentation. Further, innovation cycles continue to shorten, threatening a key source of historical cost leverage (batch manufacturing), and there exist few segments of the market beyond athletic wear and the ethereal luxury enclave that lend themselves to differentiation along the lines of quality, manufacturing technology, or brand cachet. Operators that do carve out a moat, in our view, typically build a competitive advantage around a well-recognized or iconic brand, benefiting from pricing power, better full-price sell-through, margin stability, conspicuous consumption, and, in the case of luxury products, investment value. While cost advantages sporadically arise in the space, they’re generally subordinate to brand intangible assets, with operators benefiting from lower marketing expenditures (and commensurately higher operating margins) derived from brand recognition, in lieu of boasting a competitive edge from volume-driven leverage over manufacturing costs. 

As we weigh Revolve’s competitive environment, value proposition, and strong quantitative results, we admit that the firm remains something of an edge case, with 21% average adjusted ROICs set to handily exceed the firm’s 11% cost of capital (by our estimate) through our explicit forecast period. Nevertheless, we view a no-moat rating as appropriate for several reasons--the half-life we witness among online-only stores, the increasingly quick route to scale enabled by connectivity and social media, particularly considering Revolve’s dependence on influencer marketing, low penetration in its target market, and the risk that a scaled e-commerce competitor in the space could pose. As we outline below, Revolve operates in what strikes us as a vulnerable competitive niche--beholden to its ability to manage product risk, constantly onboarding emerging brands to support sales growth, with incentives encouraging successful third-party labels to churn or diversify, trying to maintain higher price points amid a very price-elastic target demographic (Gen Z and younger millennials), and sharing target markets with larger peers (narrow-moat Nordstrom, and privately held Saks) whose forays into e-commerce could add meaningful price pressure and slow customer acquisition.

Our apparel coverage universe is effectively bipartite, with two industry groups falling under the broader umbrella--luxury products and apparel retail and manufacturing. The former is quite amenable to moats, but the latter has proven much more competitive, seeing about 60% of the firms we cover benefit from a durable competitive edge. While Revolve somewhat straddles the line, generating 15%-20% of sales through its subsidiary online luxury marketplace (FRWD) and boasting meaningfully higher sales prices than the true fast fashion or mass merchandise competitive set, we view the apparel framework as more appropriate. The marketplace’s pricing is too attainable to appeal to the ultra-wealthy, and, taken in tandem with a relatively short operating history, suggests that the firm’s investment value, conspicuous consumption, and brand cachet can’t be meaningfully compared against the industry titans of the early 20th century. As a result, our framework leans heavily on pricing power to offset category inflation, brand recognition, and margin stability as hallmarks of a competitive edge.

The Revolve business model features a number of attractive features, from enviable price points and algorithmic inventory management to a young, engaged millennial and Gen Z customer base and ethereal (85%) full-price sell-through. The firm blunts fashion risk with quickly turning, shallow orders, and has effectively navigated evolving performance marketing environments across myriad platforms—Facebook, Instagram, TikTok, and in-person events. Importantly, the firm’s value proposition appears to appeal to a different customer group or purchase occasion than do mass vendors like Shein, no-moat Asos, Boohoo, or Princess Polly, blunting competitive pressure from hard discounters (though the size of Revolve’s niche consequently remains unclear). Further, the firm's growth runway remains relatively unencumbered, with plausible contributions from additional sales layers, international expansion, cross-selling between the firm's more accessible RVLV marketplace and its luxury FRWD property, and natural accretion from an ongoing shift toward mobile commerce (67% of the firm's 2022 sales base) and apparel e-commerce.

All things considered, Revolve’s asset-light, digitized approach results in a handful of compelling metrics that could be construed as traces of a moat. The firm’s real-time demand forecasting augments the model’s resilience, and an extraordinary breadth of products, with 219,000 stock-keeping units filtering through the site during 2022 helping to avoid the pitfalls of mono-brand sales and the fading relevance of mid-tier labels like Abercrombie or J Crew. While penetration of the target demographic remains light (around 3% of U.S. 18-44-year-old-women), wallet share within that segment is meaningful, with more than $500 in net spending per active customer in 2022 attesting to Revolve's strong resonance, despite nearly ubiquitous preference for brand diversification in the apparel category (for perspective, the average U.S. consumer spends around $1,400 per year on clothing and footwear, though this likely understates Revolve's core customer's allocation). While Revolve’s lack of scale works to its disadvantage, seeing just north of $1.1 billion in 2022 net sales, this is at least somewhat alleviated by an emphasis on “emerging” brands with $10 million or fewer in annual sales, which together with low-20% private-label penetration results in an inventory that sees minimal overlap with traditional competitors. Nonetheless, we should be careful to distinguish between heady growth and enduring competitive advantages, delicately balancing the allure of an attractive, capital-light model with difficulties inherent to brand building in a completely virtual space. For quickly growing e-commerce companies, we believe that the burden of proof for enduring competitive advantages lies with the company, viewing marketplace network effects, switching costs, and cost advantages as more likely to endure than a virtual brand.

In our view, while the apparel category can lend itself to brand loyalty and price premiums, we view difficulties competing for digital shelf space, a dearth of evidence that would support pricing power (through comparable margin figures), and disadvantageous structural features of the industry as sufficient qualitative deterrents. As an emerging brand, and absent a physical footprint, Revolve has relied heavily on advertising and marketing investments to attract traffic, averaging 15% of sales over the last five years--against just low-single-digits at fast-fashion mainstays like Inditex and H&M and 4%-10% at most mass merchants, as we’ve outlined in previous research. While recognition and pricing power should be evaluated separately, both are important—and Similarweb data suggests that roughly 45% of Revolve’s traffic arrives organically, against low- to mid-70% at most of the large luxury fashion houses. This is often the trade-off for e-commerce firms, eschewing high street rental expenditures and retail salaries but paying dearly for digital shelf space, to similar effect—our operating margin forecasts are broadly in line with our apparel coverage in aggregate, and meaningfully behind benchmarks from moaty operators in the industry. In truth, this is the thread that we believe merits the bulk of our attention. While Revolve’s sales are knocking on the door of the top 25 apparel firms in the U.S., its gross margins (the closest proxy for pricing power) have clocked in nearly 20% lower than competitively advantaged luxury peers and approximately 8%-10% lower than mass market competitors over the past five years, likely attributable to return rates between 50%-55% (well beyond 30%-40% standards in the industry). Operating margins have fared little better. The firm’s value proposition and product mix attract purchase occasions driven by style, fit, and price, and individual purchase (rather than gifting) all of which point to diminished brand loyalty and augmented price sensitivity. Our fear is that the REVOLVE marketplace carries the cyclicality of upmarket brands without the cachet—a dress for a night out or a handbag might be the easiest place to tighten a budget—and could consequently find itself challenged to appeal to a value-focused consumer during more challenging operating environments and simultaneously hard-pressed to raise prices without inadvertently alienating its core demographic if it moves upmarket. 

On the cost advantage side of the ledger, we view Revolve’s lack of scale and shallow inventory purchases, in tandem with its hefty marketing spending, as obviating any advantages attributable to rent and payroll savings from an online-only model. Historically, we’ve considered cost advantages as attributable to one of two causes: scale-driven leverage over manufacturers, with a relatively homogenous product suite and longer inventory seasons permitting more cost-effective batch manufacturing, and lower marketing expenditures relative to competitors, generally arising as an epiphenomenon of a brand intangible asset. We don't see compelling evidence to suggest that Revolve benefits from, either. 

Finally, as we consider a period of step-change evolution in the fashion industry and an inability to fully capitalize relevant operating expenses (cloud-hosting, research and development), we view a no-moat rating as appropriate, despite commanding quantitative returns. In our view, the former factor accentuates the risk of creative destruction, while the latter serves to artificially inflate adjusted ROICs, suggesting a much smaller margin of safety—and eroding our confidence in the narrow-moat horizon for excess returns—than would superficially appear to be the case. We remind investors that just 10 years ago, we caught the first whiff of e-commerce in earnings transcripts for LVMH and Richemont, but in 2022, some 21% of luxury sales took place through that channel (Bain), and our most recent forecasts suggest roughly one third online penetration within a decade. The change has been even more pronounced in mass apparel, which benefits from lower risk of fraud and more attainable price points. With no real glass ceiling on a long-term retail apparel e-commerce equilibrium, we suggest that similarly disruptive changes could happen over the course of the next 10 years, as we consider experiential retail, the impact of newer technologies like augmented and mixed reality on the apparel space, and an extraordinary ability for digital firms to achieve scale. Consequently, our line of sight for companies without meaningful evidence of pricing power or cachet, analog moats like expensive fulfillment networks, advantaged proprietary datasets, commanding cost advantages, mission-critical business services that espouse switching costs, powerful and self-reinforcing network effects, or efficiently served markets with meaningful barriers to entry demands caution. This is not to suggest that moats are impossible to manufacture in the e-commerce space, simply that the burden of proof must be quite high—meaningful revenue retention, subscription models, a brand cachet built over the course of decades or centuries, strong penetration amid a target market, or some other distinguishing feature that protects economic value creation, particularly should one of the firm’s larger competitors (or a new entrant) target the space in question.

None

Economic Moat

Revolve

Revolve Group, Inc. engages in the retail of next-generation fashion for millennial and generation Z consumers. It operates through the following segments: Revolve, and Forward (FWRD). The Revolve segment offers constant newness and discovery through a broad assortment of premium apparel, footwear, accessories and beauty products. The FWRD segment offers a curated assortment of iconic and emerging luxury brands with a strong and differentiated point of view. The company was founded by Michael Mente and Mike Karanikolas in 2003 and is headquartered in Cerritos, CA.

Earnings data Q3 2023

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Revolve Group, Inc. engages in the retail of next-generation fashion for millennial and generation Z consumers. It operates through the Revolve and Forward (FWRD) segments. The Revolve segment offers constant newness and discovery through a broad assortment of premium apparel, footwear, accessories and beauty products. The FWRD segment includes a curated assortment of iconic and emerging luxury brands with a strong and differentiated point of view. The company was founded by Michael Mente and Mike Karanikolas in 2003 and is headquartered in Cerritos, CA.

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Revolve Group operates two online clothing retailers in the United States as well as internationally. The company has experienced financial challenges in 2022 and 2023, including falling gross margins and trailing revenues. Despite these challenges, I believe the stock is worthy of a buy-rating as the stock has fallen into a reasonable valuation and the long-term growth story should still stand.

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LOS ANGELES , Sept. 5, 2023 /PRNewswire/ -- Revolve Group, Inc. (NYSE: RVLV), the next-generation fashion retailer for Millennial and Generation Z consumers, will present at the Piper Sandler Growth Frontiers Conference on Tuesday, September 12, 2023 at 3:00 p.m.

Revolve Group, Inc. to Present at the Piper Sandler Growth Frontiers Conference on September 12

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Revolve Group (RVLV) Reports Q2 Earnings: What Key Metrics Have to Say

Revolve Group, Inc. (NYSE:RVLV ) Q2 2023 Results Conference Call August 2, 2023 4:30 PM ET Company Participants Erik Randerson - Vice President of Investor Relations Mike Karanikolas - Co-Founder and Co-CEO Michael Mente - Co-Founder and Co-CEO Jesse Timmermans - CFO Conference Call Participants Anna Andreeva - Needham & Company Randy Konik - Jefferies Edward Yruma - Piper Sandler Mark Altschwager - Baird Kunal Madhukar - UBS Jim Duffy - Stifel Simeon Siegel - BMO Capital Markets Ethan Saghi - BTIG Lorraine Hutchinson - Bank of America Rick Patel - Raymond James Janet Kloppenburg - JJK Research Associates Operator Good afternoon. My name is Audra, and I will be your conference operator today.

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LOS ANGELES , Aug. 2, 2023 /PRNewswire/ -- Revolve Group, Inc. (NYSE: RVLV), the next-generation fashion retailer for Millennial and Generation Z consumers, today announced that its Board of Directors has authorized a stock repurchase program of up to $100 million of its Class A common stock. "Our cash flow generation and strong balance sheet afford us the financial flexibility to authorize a stock repurchase program as part of our efforts to enhance stockholder value while continuing to invest in exciting growth opportunities ahead," said co-founder and co-CEO Mike Karanikolas.

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LOS ANGELES , Aug. 2, 2023 /PRNewswire/ -- Revolve Group, Inc. (NYSE: RVLV), the next-generation fashion retailer for Millennial and Generation Z consumers, today announced financial results for the second quarter ended June 30, 2023. "Aspirational consumer discretionary spending remains challenging, particularly on goods in the U.S. for our younger customer demographic, which is evident in our second quarter financial results," said co-founder and co-CEO Mike Karanikolas.

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LOS ANGELES , July 19, 2023 /PRNewswire/ -- Revolve Group, Inc. (NYSE: RVLV) announced today that it will release financial results for the second quarter ended June 30, 2023, after the market close on Wednesday, August 2, 2023, followed by a conference call at 1:30 PM (PT) / 4:30 PM (ET) on the same day.  Shortly following the release of its financial results, the company will make available a Q2 2023 financial highlights presentation at http://investors.revolve.com.

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Revolve Group, a fashion retailer primarily catering to young, aspirational shoppers, is leveraging digital and mobile technology to meet the unique fashion needs of millennial and Gen Z customers. Despite this, the company's stock has contracted by 54% since its listing in June 2019, underperforming both the ProShares Online Retail ETF and the broader SPDR S&P Retail ETF. We touch upon a few key operating metrics that could weigh on the share price. Despite the erosion of wealth so far, RVLV's stock could be attractive for those looking for short-covering opportunities, with the percentage of the company's float, which is short standing at 54%. However, the stock is not particularly cheap to own, and it's unlikely that value-conscious investors would be tempted to pay P/Es of over 25x for a business unlikely to provide any earnings growth over a two-year time frame.

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LOS ANGELES , May 12, 2023 /PRNewswire/ -- Revolve Group, Inc. (NYSE: RVLV), the next-generation fashion retailer for Millennial and Generation Z consumers, will present at the following investor conferences: Needham Technology and Media Conference on Thursday, May 18, 2023 at 1:30 pm ET / 10:30 am PT     TD Cowen Future of the Consumer Conference on Tuesday, June 6, 2023 at 10:40 a.m. ET / 7:40 a.m.

News for Revolve Stock (RVLV)