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GMV growth sustained; margins bounce back

FSN E-Commerce Ventures (Nykaa) demonstrated continued topline strength with GMV growing 49% YoY driven by 32%/137% YoY growth in BPC/Fashion. While the company saw a relatively lower GMV to Revenue conversion as Fashion segment continues to grow faster and accounts for higher share of GMV, there was a sharp uplift in gross margin to 46.3% in 3QFY22 driven by 1) higher mix of fashion, 2) higher mix of higher end products in BPC, and 3) increasing share of owned brands. The company continued to invest in brand building with advertising expense accounting for 14% of revenue as Nykaa Fashion launched its first ever TV campaign “For Nakhrewalis, By Nakhrewalis” starring its first brand ambassador Alaya F. Despite fulfilment expense also rising due to COVID-related delays in warehouse roll-out, the company managed to post a strong EBITDA margin of 6.3%, inching towards FY21 EBITDA margin of 6.6%. We believe a strong driver of margin improvement is the swift improvement in advertisement revenue (33%/53% QoQ/YoY growth) with brands picking Nykaa’s platform for high-intent buyers. We retain ‘BUY’ rating with a Mar’23 TP of INR 2,120 (~15% upside) as we expect growth investments (in team as well as brand) to continue delivering robust returns for a sustained time period.

Strongest ever quarter with GMV crossing INR 20bn:

Driven by 32%/29% and 137% /17% YoY/QoQ GMV growth in BPC and Fashion, respectively, Nykaa crossed INR 20bn GMV benchmark in 3QFY22. We postulate that this growth was a result of Nykaa’s sustained higher investments in advertising in FY22 as customers onboarded earlier in the year would have been active shoppers during the festive season.

Sharp rise in gross margin to 46.3%:

Driven by 1) higher mix of fashion, 2) higher mix of higher end products in BPC, and 3) increasing share of owned brands, Nykaa delivered the highest gross margin ever. While we do understand that festive season shopping could have resulted in reason 2) above, the other two reasons would continue to sustain even going forward. This gross margin improvement also resulted in EBITDA margin improving to 6.3% despite advertising expense accounting for 14% of revenue.

Marginal growth in unique visitors but unique shoppers grew sharply in 3QFY22:

The company saw 4%/1% QoQ growth in BPC/Fashion unique visitors but unique shoppers grew faster at 9%/23% QoQ, demonstrating the impact of Nykaa’s Pink Friday Sale and other initiatives in live commerce. With 22.0/16.4mn unique visitors on the company’s BPC/Fashion platforms, Nykaa has already generated a strong top of the funnel with loyal customers.

Maintain ‘BUY’, Mar’23 TP of INR 2,120:

While we have raised estimates marginally as we continue to see strong fundamentals in Nykaa’s business, but a rise in WACC to 11.5% (from 10.5% earlier) has resulted in a revised TP of INR 2,120 (INR 2,480 earlier). We believe Nykaa will continue to remain the default online BPC platform in the country with increasing market share in online fashion. Key Risks: Sharper than expected rate-hike environment and non-sustenance of higher AOVs.

Nykaa to continue bringing premium foreign brands to Indian customers:

In 3QFY22, Nykaa introduced foreign brands such as Sol de Janeiro, Elemis, 111Skin, Nudestix in BPC and Scandinavian brand, NA-KD in Fashion. With Nykaa management continuing to explore further brands to introduce in India, we believe they will keep their loyal customer base excited with new product launches and ever growing curation of products. As most of these brands are not available on any other platforms in India, this also enhances stickiness of customers.

Omni-channel play enhanced with 12 new store launches this quarter:

As 3QFY22 started seeing a return of shoppers to physical stores, Nykaa stayed ahead of curve by taking its store count to 96 in 45 cities as of Dec 31, 2021. The company launched stores in Tier 2/3 cities such as Rajkot, Jodhpur and Trivandrum and hence continued its foray to get closer to customers and enabling a touch and fee experience.

Advertising expense is a dispensable expense that can be tuned lower at will:

Nykaa has ramped up advertising expense in FY22 with 13.0% of revenue being spent in advertising in 9MFY22. We did anticipate this uptick in advertising as the company continues to grow its customer base with Indian shoppers having shown rapid rate of adoption of digital transactions. However, this did impact margins in H1FY22 with EBITDA margin falling to 3.3% in comparison to 6.6% EBITDA margin in FY21. We recommend considering brand advertising expense as an investment as the benefits of building a strong brand can continue to accrue over a long-term horizon. Additionally, as seen during COVIDimpacted FY21, the company can always tune this expense lower and will spend only when it can afford to spend

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