Koovs (KOOV) – Another roll of the dice for the world’s final frontier
Koovs is an Indian Western clothing e-tailer competing for the final frontier in internet commerce. Billed as the next ASOS, Koovs has many an old hand from the ASOS management team but some caution must be exercised when comparing the two. ASOS grew organically and was consistently profitable; instead Koovs went for the land grab method similar to Amazon – capture the market and then vastly scale up to profitability on sheer volumes and reliance. It is my opinion that following the recent fundraise that Koovs now offers attractive speculative exposure in a huge market yet to be won.
Koovs came to AIM in 2014, raising £20m. They believed that they had enough to reach profitability, but management were surprised (perhaps AIM investors were not so surprised) when it turned out that this wasn’t enough. From 2014 to 2017, the company grew revenue from just £632k to £8.7m. Whilst the top line growth is stunning, the company has, until recently, been trading at negative trading margins – that is, they have been selling clothes for less than the cost of making them. For this reason, Koovs has always been a bargepole for me, as continuous equity has been required diluting shareholders further and further. Since listing, Koovs has raised £45m in new equity and £9m of convertible debt, meaning that until the recent refinancing £64m has been invested into the company. Today’s market cap of £33m post fundraise shows how disastrous this investment has been so far.
The company is a pure play on Indian retail e-commerce. This is a market still in its infancy, with all of the growth yet to come. If the company can successfully execute its objectives then the prize is a country with a 1.3 billion population coming online with a booming, youthful, and aspirational middle class. There is no guarantee that this will come to fruition, but there is also no reason why India should not follow the rest of the world in online penetration. Hardman and Co see India hitting 50% penetration in 2021 with about 650 million users.
Mobile driving internet penetration
Mobile access will drive internet access as the Indian government have stated that they wish to get India online quickly in their ‘Digital India’ initiative. Smartphones are very popular due to their versatility – banking, email, job applications, even government records can be used via a smartphone – and so the mobile operators will deliver the infrastructure to keep up with the demand. There are currently around 300m smartphones in India and it is likely that this growth which will help push internet penetration rates to 50%+. India is not like the UK where payment is up front, instead cash on delivery is common. Whilst this will be problematic when it comes to scaling up, it goes a long way to removing distrust as consumers only pay when the goods are tangible and in their hand. Credit card on delivery will help vastly when Koovs begins to scale.
Demonetisation threw a spanner in the works of Koovs’ growth trajectory, as overnight the Indian government decided to make the vast majority of currency in circulation no longer legal tender. Whilst this was very problematic for everyone in the short term as trust was dented and money was not available it forced a lot of the population to go digital. This was an attempt to force the black economy into the eyes of the government, and whilst this hit the hyper-growth of online businesses instantly it will be better for the economy in the long term.
Lack of capital
The dent in growth had an adverse effect on Koovs’ ability to raise further capital (necessary for its growth model) and so had to scale back marketing significantly, in turn softening sales. In September 2017, marketing was cut from £600k per month to just £150k, and the upcoming results show the effects from this as revenues were down 37%. However, Koovs is now enjoying 40% of repeat customers, and so it is likely that a sharp upturn in marketing spend will really move the needle in top line revenue growth.
Goods and Services Tax (GST)
The Indian government has introduced a Goods and Services Tax, which, whilst unhelpful coming so soon after demonetisation, is expected to have a significant beneficial effect on commerce across India. This standardises many administrative procedures making business simpler, and will benefit Koovs directly as they will be able to offset tax on its marketing expenditure against its total GST bill.
STRUCTURE OF NEW FUNDRAISE
The new financing sees old shareholders diluted massively again, as shares in issue will increase from 175.4m to 233.3m in this round, though that is not of concern to new shareholders such as myself. The refinancing is done in three parts: 1) Future Group (not FUTR.L), 2) an equity raise, 3) a subscription deal with HT Media.
Future Lifestyle Fashions Limited (FLFL)
FLFL is part of Future Group (not FUTR.L), India’s largest retailer, and they have conditionally agreed to take a cornerstone stake of up to 29.9%. This is the maximum allowed under London Stock Exchange rules as they would have to make a mandatory bid under the Takeovers rule at 30% and above.
FLFL are a bricks and mortar retailer with some online presence. That they have chosen to take a significant stake means that they both see huge potential for the company and synergies to be benefitted from. Koovs will benefit from cross-selling and being able to take advantage of click and collect from FLFL’s store portfolio. This deal is expected to boost revenues and achieve EBITDA breakeven much sooner than anticipated.
FLFL will provide the company with more cash as they increase their stake in further rounds, giving Koovs the capital they need to flourish.
Alongside the FLFL deal there is a vanilla equity raise to raise a further £10.5m at 15p, with an additional £1.5m investment from Chairman Lord Waheed Ali.
HT Media Subscription
There is a further deal with HT Media, one of India’s largest media companies and owner of the Hindustan Times, for Koovs to acquire four £6m tranches of media at six monthly intervals over the next two years, of which 70% will be satisfied with new share issues in Koovs and the remaining £1.8m to be acquired by cash each round. This was finalised with the deal stretching to four years, which is a better deal for Koovs.
The deal is smartly structured as the higher Koovs share price goes, the less dilution to the share issue. Whilst the conversion price for the first tranche is 10p, future tranches will be done at the lower of either the three month average closing share price or the most recent round of equity fundraising. One hopes that the company can now use the cash to create value and increase the share price, otherwise it is perhaps not so good a deal.
This deal was conditional on the company raising at least £6m of new equity which has now been achieved. As mentioned previously, Koovs boasts a 40% repeat customer rate and with a £24m war chest for marketing alone, this has potential to be transformational for the company should they get their strategy correct.
Since taking the helm in 2015, Mary Turner has made drastic improvements to the business. Brand awareness has increased from 1% two years ago to 18-21% today. This is important because as an online retailer no brand awareness translates into no sales. No one can buy from someone they don’t know about.
The business has been streamlined by moving everything to Delhi aside from the design team. Having buying, merchandising, and marketing in India means that these teams are much closer to the target market and are more capable of negotiating and sourcing. Remote teams were over-ordering and had little control of stock and bargaining. It makes sense that marketing should be as close as possible to the market and in touch with the sentiment. As Western design is Koovs’ focal point the design team remains in London to provide the company with their niche and unique point of sale.
Customer service focus
Another instrumental change Mary Turner has made has been in focusing on customer service; Koovs as a customer care centre specifically centres on responding to customers through various mediums whether it is a call or mail, or through social media. In times of busy periods they have external staff that can be relied upon in times of need. This model allows the company to scale up when necessary and avoid being caught understaffed and unable to respond, and the company claims it is easy to recruit staff as Koovs is seen as a ‘cool’ and attractive place to work. High employee retention rates mean costs are reduced through re-hiring and re-training, and a motivated workforce provides many benefits, especially in customer facing roles. These changes have driven Koovs’ NPS to the highest in its category, even beating Amazon.
Tech platform revitalised
The technology platform has been updated and was previously web-facing despite 70% of e-commerce in India being conducted on mobiles. This bizarre strategy has now been rectified with a new app launched in 2016 with which 80% of orders now come from. The app is regularly updated and built so that patching can be done frequently rather than a whole system overhaul which put a spanner in sales.
These changes should see Koovs positioned well for the future, with a design team focused on their niche, local teams working effectively, a trained and scalable customer service team, and a continuously updated app, backed by effectively deployed capital as opposed to scrimping and saving.
Further capital required
This financing deal provides Koovs with a large amount of capital, a four year steady stream of marketing credits, and further injections of cash through the FLFL deal which should benefit margins and drive turnover on its own. Though this is the largest raise in Koovs’ history since the IPO in 2014 and the company is at its most advanced stage yet, the company remains unprofitable and has a high cash spend in order to execute its land grab strategy. I do not believe that this will be the last round of finance required to achieve a breakeven profit after tax, but I do believe that this deal allows for significant value creation and that the next round of financing will be at a higher level. Due to the demonetisation strategy of the Indian government this halted Koovs’ strategy and made it difficult to raise further capital, meaning the stock price drifted to as low as 6p in recent months. Running out of cash again with no further raises in the future will be detrimental to Koovs’ growth and momentum strategy, and set the company back.
The heroin of discounting
Further risk lies with the competition. Both Amazon and Flipkart have huge amounts of capital to utilise and though this is helping to drive the market online they are not shy about feeding the discounting demands. Whether Koovs can negate the deluge of discounts will depend on the strength of their brand image and the willingness of customers to pay up for Koovs offering.
The market in India is very price-sensitive and very much bargain driven. At the moment, all online retailers are helping to drive the market online despite many running at negative gross margins and relying on heavy discounting to drive turnover. At some point, these retailers will need to scale up and reduce the addiction of discounting in order to make a profit, but for now it is all about making the market. Koovs has done well by building up their gross margin for now they are not in the ethnic or unbranded commodity market where the discounting is at its worst. By focusing on their specific design it is hoped that Koovs can avoid margin damage (anyone who says ‘margin investment’ deserves a smack) as much as possible.
This re-financing now provides Koovs with a serious swing of the bat. They are competing in a huge, infantile market where many serious players are operating and helping to drive the market forward. Though the apple is large there are only so many bites to go around; many smaller players are not going to succeed and will go bust. Koovs may be able to drive revenue through marketing spend but ultimately if they cannot convert this revenue to profit the land grab will be in vain. So far, any investors in the IPO have been diluted into oblivion and are currently 94% down, as listing was at 180p with the price currently around 10p. It is my view that Koovs will need more capital at some point though they now have an opportunity to capitalise on this large raise and aim for higher share price raises minimising dilution.
With only 1% of retail spent online (17% in the UK and 16% in China) there is huge scalable growth potential for the winners of this market, as online itself is set to rise with a government keen to digitise the world’s third largest economy. Hardman estimate that Koovs’ addressable market will grow from $2bn today to $7bn in 2022. A young population and booming middle class provides a salubrious and attractive market in an economy yet to make the transition and come online encouraged by government support, as India has the highest forecast economic growth of any major country in the world today. Koovs therefore offers substantial upside, with none of the funding risk that was a problem previously.