Qurate Retail ($QRTEA) - A deep value opportunity

Largest video commerce player that generates decent free cash, all the while priced like it is going bankrupt

Mr Market has priced the company like it would go into bankruptcy (~$0.9-1B in FY22 adjusted income vs current market cap ~$1B). This pessimism comes from 3 factors: Qurate’s largest distribution centre caught fire, which handles ~25-30% of their shipments, their leveraged balance sheet & secular headwinds of people moving on to streaming for their entertainment. I am not very concerned about the fire, since this is a temporary phenomenon. Qurate would recoup much of their losses through insurance. Below, I have tried to outline the opportunity here.

What is Qurate Retail (QVC)? How do they make money?

Qurate Retail is a tele-shopping company that sells products mainly in Home, Beauty and Apparel via television & online channels. QVC shows are telecasted and streamed where QVC hosts, celebrities, product specialists showcase the product, talk in depth about the features of say a kitchen appliance or a piece of clothing. Viewers watching can then order it through multiple options - online, mobile, phone. Of late, they make most bookings through online channels (more than 2/3rds of FY22 revenue).

The set for these TV shows typically have an upscale yet homely appearance. Qurate goes long distances to ensure their TV hosts are best in class. These hosts have a segment in regular programming, much like any typical channel. Each TV host undergoes 6 months of training before they can have a show. Regular QVC viewers end up creating a strong virtual relationship with TV hosts & shows, especially women in 35-60 age band. This is the first hook.

QVC carefully curates the products showcased on the channel. These are mainly in home, beauty and apparel categories but are often unique, exclusive ones that are not typically available in general or big box retailers. QVC also has flash-sales giving viewers a brief window to make a purchase. Thus creating a sense of urgency. This becomes their second hook.

Qurate TV channels are also strategically placed right next to popular TV channels in the remote so as to ensure customers land up at QVC while browsing. Qurate spends extra to ensure these right spots are reserved for QVC, HSN (~5% of sales) on a commission basis with TV operators. This also prevents other competitors coming in to take market share as it would be harder to get the prime spot to ensure maximum eyeballs on their products. This way, we can have customers stumble upon QVC channels thus creating a loop for repurchases. Their third hook.

The Opportunity for Investors

Unlike traditional e-commerce and offline retailers where long-tail is fat and chunky, QVC’s revenues (& profits) comes from their super users.~15% of their 9.2M customer base are ‘power users’, who buy 20+ products from Qurate in a year ($3.3K per customer per annum). This power user base been highly loyal across years despite the larger decline in cable TV connections. QVC only discloses super-user stats for their US business. Let us estimate the economics of this super-user business. I have used simplifying and conservative assumptions here.

QVC US Super-user business:
Est. number of of users: 1.4M (~15% of 9.2M QVC US customers)
Spend per super-user: $3000
Revenue: $4.1B
Gross profits: $1.45B (assuming similar gross margins profiles)
Pre-tax Income: $0.7B (Gross Profits - SG&A - Interest)

QVC makes ~70% of their income purely from super-users which are the most loyal, durable segment. While this segment has not grown tremendously, it has stayed constant with ~2% of new users becoming super-user every year for last 5-7 years. To put it other way we are buying QVC US Super-user business at 1.6 times earnings and we get their other ventures (QVC international business, flash-sale e-commerce website & offline retail) completely free.

Risk & Downside Protection

Qurate Retail has ~6.8B in long term debt. All their LT debt is in fixed interest, with 3B of total renewing over next 5 years. One of the concerns in the market is their leverage, which we disagree with:

1/ Qurate has managed to have ~$1.5B per yr (5y avg) cash flow from operations vs ~$6.8B in long term debt. Their LT debt to CFO is under 5, which is much lower than most peers.

2/ If Qurate's revenue were to fall, they would still be able maintain liquidity. They have ~0.6B in cash in bank and 13 distribution centres, 3 call centres which could easily be sold off to service these loans in near term, generating additional ~1B. We know this because management has started sale-leaseback of their distribution centres.

3/ Additionally QVC has $2.7B bank-credit facility to give them longer run-way, should the weaker macro-sentiment draw out for longer.