Dropshipping luxury: A financial teardown of Cettire

How does ASX-listed company Cettire manage to dominate the luxury e-commerce scene? Despite some fierce competition, Cettire is keeping its profits intact. In this latest financial teardown, financial expert Jason Andrew analyses the financials behind this fashion powerhouse.

Cettire, an ASX-listed company, operates as a pure-play e-commerce dropshipper of luxury goods.

Founded in 2017 by Dean Mintz, it spun out of Ark Technologies, an incubator Mintz established in 2014 to nurture startups. Since then, its growth trajectory has been nothing short of extraordinary.

In FY18, it recorded $500,000 in revenue. By FY23, this figure skyrocketed to $416 million.

Impressively, in the first half of FY24 alone, revenue hit $354 million, translating to an annualised rate of over $800 million

Investors who bought into the IPO in December 2020 at $0.50 per share would now enjoy a 7.5x return – that’s a 95% CAGR.

As an e-commerce and finance dork, I’ve watched Cettire from afar, casually reading their annual reports.

Despite its extraordinary growth, I’ve always maintained a bearish stance on the company – and been consistently proven wrong, mind you.

My scepticism about Cettire isn’t just because it’s in a category I don’t understand – although good gawd, I wouldn’t be caught dead wearing something as ugly as this, let alone fork out $5,900 for the ‘privilege’!

No, my scepticism stems from its business model. Cettire operates as a dropshipper, meaning:

• it doesn’t own any private label products;
• it doesn’t manage its own logistics; and
• it’s a price taker, not a price maker.

But somehow, their profits haven’t been eroded by all of the copycat drop-ship bros flooding platforms like TikTok.

This is particularly odd, because there haven’t been any other notable success stories among competitors in this category.

Take, for instance, Cettire’s much larger, direct competitor, Farfetch. When it listed on the NYSE in 2018, Farfetch recorded $2.3 billion in sales in FY23, but failed to turn a cash profit. Facing bankruptcy, it resorted to selling its assets in a fire sale to a private equity firm.

Farfetch is currently facing a class action lawsuit from investors, alleging securities fraud against Farfetch Limited and its executive team. Simply put, it’s hard to make a buck in this business model.

To add to my case, Cettire’s CEO and founder Dean Mintz has offloaded ~$330 million+ in shares in the last two years, while still retaining a 30% stake. Amazing result for him personally!

I have no issues with insiders selling down shares – everyone needs to make their nut – but holy moly, you can buy a lot of yachts with $300 million. How many does a guy need?

And finally, just last week the Australian Financial Review did some great reporting on the company, uncovering that it may not be fulfilling its obligations to pay customs duties on its orders. Despite levying these duties on customers, the company appears to be neglecting its responsibility to remit them to the government.

Perhaps their “edge” is a customs duty arbitrage strategy?

Now, I’m not implying any malice, but it did get me thinking – what is the secret sauce to Cettire’s business model?

Is this business a genuine gem or a house of cards?

Join me in this financial teardown as I aim to figure this out.

Before we start, a quick disclaimer: This article constitutes my personal views only and is primarily for entertainment purposes. It should not be construed as financial advice in any shape or form.

In other words, if after reading this article you decide to spend $5,900 on a Prada 3D Flower Detailed Button-Up Shirt, don’t blame me for your buyer’s remorse.

The Cettire business model explained

Cettire operates entirely on a dropship business model, which means it doesn’t hold any physical inventory.

When customers make purchases on the Cettire website, products are directly shipped to them by the supplier.

This pure-play dropship model offers several advantages:

1. Scalability: Cettire can expand its product range by sourcing third-party brands globally.
2. Minimal risk: The company faces minimal inventory or returns risk as these are handled by the supplier.
3. Working capital efficiency: With favourable supplier terms, Cettire receives cash for goods sold upfront and pays suppliers 30-60 days later.
4. Global reach: Cettire can access a global market without the need for physical store locations.
5. Low overheads: There’s no need for capital‑intensive stores or warehousing facilities.

To support its operations, Cettire relies on an in-house “proprietary technology platform”. This platform handles tasks such as product and inventory management, pricing strategies, order fulfilment and global logistics. It likely integrates with suppliers’ and freight partners’ ERP systems via APIs for real-time inventory updates. The website’s front end appears to be built on Mailchimp Open Commerce (formerly Reaction Commerce).

The downside of this model is evident in Cettire’s lower gross margins, which hover at around 23% due to its exclusive sale of third-party luxury brands. In comparison, private label brands could potentially achieve higher margins, as seen with luxury conglomerates like LMVH, which boasts gross margins of 65% or more across its portfolio, including brands sold by Cettire like Christian Dior and Kenzo.

Now, you might be thinking a ~23% gross margin seems pretty weak. And you know what? It kind of is. But it’s actually on par with what you would expect from a marketplace business that sells other people’s stuff. For example, during its early days before transitioning to a marketplace model, Catch.com.au maintained a 27% gross margin on in-stock products.

But what Cettire lacks in margins, it gains in operational leverage.

Operational leverage

The main challenge for most dropship business models is their defensibility. Profits are often eroded by copycats, which is why it’s rare to see enduring businesses in this category. There’s a reason why dropship bros on YouTube peddle courses; if they were actually successful, they’d be too busy doing it themselves.

Profits are typically competed away in two ways:

1. Gross margin: Selling a wildly available product in a sea of competitors often leads to a “race to the bottom” scenario via discounting. While this may result in taking more sales, it also compresses margins. As the saying goes, the problem with playing the discounting game is that you might win.
2. Marketing efficiency: As a pure-play e-commerce business, the primary customer acquisition channel is through paid ad spend. With businesses crying for the same customers and keywords, the cost per click tends to rise. Sure, while investing heavily in paid acquisition can drive revenue growth, it may also lead to a faster-growing Marketing Efficiency Ratio (MER) % – the ratio of paid marketing to net revenue – resulting in increased sales but declining contribution margins.

Remarkably, Cettire has managed to maintain both its gross margin and a strong MER at scale.

Take a look at Cettire’s key metrics:

Returns and discounts are fairly high at 23%, but not inconsistent with industry benchmarks in the fashion category.

Cettire’s gross margins, also known as Delivered Margin, are improving.

Meanwhile, the MER is stable at ~8%.

What’s driving Cettire’s impressive marketing efficiency is its rate of repeat customers, accounting for 58% of sales, alongside a growing Average Order Value (AOV).

So, there’s no denying the numbers – it’s clear that Cettire’s customers are returning and spending more.

The main point I’m making here is that despite its low gross margin, Cettire’s MER is on point. This results in a robust Contribution Margin of around 15%.

A quick explainer on contribution margin

The contribution margin represents the variable profit for every $1 of sales. It’s calculated by subtracting your business’s total variable expenses (including fulfillment, cost of goods, advertising and payment processing fees) from the total net sales.

While it’s similar to gross profit margin, the key difference lies in its inclusion of variable advertising costs. For example, an e-commerce business typically spends a significant amount on variable digital advertising costs to generate sales.

By taking into account all variable costs associated with selling a product, the contribution margin becomes the most accurate measure of how profitable your advertising efforts are.

Learn more about contribution margin here.

Cettire’s contribution margin of 15% is pretty solid and falls within the range typically seen in e-commerce marketplace business models. Take the ASX-listed Temple and Webster, for example. Despite having higher gross margins, it has a similar contribution margin of 15.8%.

This is significant for Cettire because its fixed costs are incredibly low compared to the revenue and gross profit it generates. In FY23, Cettire’s annual payroll costs amounted to a mere $3.2 million, a pretty modest figure for a business of its scale.

According to LinkedIn, the company only employs 36 staff.

Running a business with over $550 million in annual revenue with just 36 staff is no joke – that’s a revenue per employee of $15 million and growing!

Talk about leverage – I wonder how many AI agents they have running customer support tickets?

And that gives us an insight into Cettire’s competitive advantage – operational leverage.

So why aren’t there more competitors copying this model and eating away at their profit?

Competitors and supplier agreements

A quick Google Shopping search for a product listed on Cettire’s website, like the ‘Prada Mini Bucket bag’, reveals Cettire’s competitors.

Interestingly, Prada itself doesn’t stock or sell the same product.

Luxury brands typically maintain tightly controlled supply chains and rarely allow retailers to discount their products. As we know, discounting carries the risk of tarnishing brand reputation.

This poses a challenge because luxury brands are not immune to the typical merchandise planning issues.

If you’re a merchant, you know how hard inventory management is. I can see you nodding your head right now. The most costly mistake a merchant can make is over-ordering stock.

Having too much stock is a BIG problem. Picture hundreds of thousands of dollar bills sitting in your warehouse, doing nothing but taking up space and collecting dust. That’s your unsold inventory.

It’s not always your fault. Merchants can get caught out with excess stock for all sorts of reasons:

• The style falls out of fashion
• Unpredictable supply chain issues
• Inaccurate demand forecasting
• Broken SKUs

Now, I don’t know this for sure, but my hunch is that Cettire and other competitors in the space seem to be able to squeeze 20%+ gross margins on the resale of products by capitalising on their supplier’s buying mistakes.

This is a win for luxury brands like Prada because it helps protect their brand value. They can offload surplus products through a discount retailer like Cettire, rather than resorting to drastic markdowns all over their store that could devalue their brand image. As long as these merchant partners maintain a ‘luxury brand’ ethos, it actually solves a problem for them.

Luxury brands probably don’t want to flood the market with dropship bros, so I imagine these exclusive supply agreements are pretty hard to secure.

The ultimate challenge for Cettire is that they are at the mercy of luxury goods suppliers. If these suppliers were to terminate their agreements, Cettire’s business model could be jeopardised. That’s why strategically, it must continue to onboard more luxury brands to its platform to mitigate this supplier concentration risk.

Free cash flow conversion

One of the core features of Cettire is its asset-light business model, which investors typically love. There’s a high correlation between asset-light businesses and ones that generate strong free cash flow.

To be honest, with a reported net income of $16 million in FY23, I was expecting Cettire to be printing cash. The company generated $24 million in free cash flow in FY23, which is fine, but not as much as I would have thought.

In FY23, the cash appears to be absorbed by two balance sheet accounts that raise some eyebrows:

1. Accounts receivable
2. Purchase of intangible assets
   

Working capital

If Cettire receives 100% of the money upfront from customers and pays its suppliers 30-60 days later, it should have a negative cash conversion cycle. Surprisingly, it doesn’t. A portion of cash is tied up in accounts receivable and inventory.

If Cettire is a 100% DTC dropshipper, why does it have accounts receivables and inventory?

The notes accompanying the balance sheet don’t offer much explanation.

In FY23, $22 million – or 5% of revenue – is being absorbed by “other receivables,” which has doubled from the previous three years. On face value this might not seem significant, but when you consider the business generated $16 million of net income in FY23, a $22 million write-off of this receivable to the P&L pretty much kills profitability.

This isn’t the only questionable accounting capitalisation policy. Cettire appears to be in a habit of capitalising a bunch of website and software development costs in the form of intangible assets. My hunch is a chunk of this relates to payroll for software developers.

This treatment could be legitimate, especially if the back-end involves proprietary software. But my personal view is the only reason why a business capitalises wages is to simply inflate reported EBITDA.

Remember, you can fudge EBITDA but you can’t fudge cash flow.

Summing up

Setting aside potential accounting anomalies, there’s simply no denying that Cettire is a rocketship of a business. Its sales are exponentially growing, with no sign of slowing down. The company also has plenty of room to grow, especially considering it hasn’t yet tapped into one of the largest markets for luxury goods – China. This is where the future trajectory of the business will be very interesting.

I’m still not convinced about the long-term sustainability of this model. It’s also in a category that I admittedly don’t fully understand.

But that’s alright – I’m happy to be proven wrong. Ultimately, it’s genuinely great to see another Australian company doing well on a global scale.

This article was first published by SBO Financial.