Higher Capital Costs and Slower Profit Ramp-Up for Farfetch

We are reducing our fair value estimate for no-moat Farfetch FTCH to $12.20 per share from $18.70 after incorporating 2022 numbers into our models. This largely reflects our assumptions for a higher cost of capital for the company (weighted average cost of capital assumptions increased to 10.3% from 8.9%) to reflect a more challenging environment for Farfetch in attracting capital in the near term alongside persistent needs for external financing to support growth. We are incorporating slower scaling of profitability than initially expected, in line with management’s capital markets day guidance (10% adjusted EBITDA margin in 2025 versus 14.5% in our prior assumptions). We also factor in higher share-based compensation than in our prior assumptions in line with the trend of the past four years. Despite a significant cut to our fair value estimate, we still see the shares as deeply undervalued, with more than 100% upside to our new fair value estimate.

In 2022, growth slowed substantially with gross merchandise value increasing by only 2% year over year in constant currencies and decreasing by 4% in U.S. dollars (44% CAGR over the previous three years). Revenue was up 12% in constant currency, helped by an in-store revenue increase. The number of active customers increased by 6%, but average order value came under pressure. The third-party take rate was strong despite weakening business trends at 32.1% and 190-basis-point growth year on year, signaling the brand value that retail partners still see in Farfetch. It has been grappling with the discontinuation of business in Russia, lockdown measures in China (over 30% year-on-year decline), and general slowdown in online spending following reopenings in the developed world. The company should benefit from an easier comparison base in 2023. We still believe the structural trend toward higher online penetration of luxury spending is intact.