Online Fashion WHICH BUSINESSES WILL MAKE THE CUT?

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1 INDEPENDENT TECHNOLOGY RESEARCH SECTOR UPDATE MAY 2013 DIGITAL MEDIA Online Fashion WHICH BUSINESSES WILL MAKE THE CUT? From Boo.com to $5bn+ Exits for Investors Despite much scepticism that initially surrounded the migration of the fashion vertical to the online channel, at $41bn it is now the second largest and fastest growing e-commerce category in the US. The sector has yielded some of the best returns in the Internet space for investors, for instance Net-a-Porter and YOOX. It is our belief that a second wave of businesses will drive further lucrative exits. No Amazon for Fashion Drives Opportunities Strong association with fashion labels rather than apparel items makes it difficult for a single online destination to cater to all audiences. Instead, the ecosystem is becoming increasingly complex with the number of apparel sites up by a staggering 126% year-on-year. New Models Challenging the Old Guard With increased confidence in the Internet channel, inventory light models such as marketplaces have emerged, bringing independent brands and boutiques directly to the consumer. We view luxury P2P in particular as one of the key growth verticals. The Internet has also been an effective launch pad for vertically integrated pure-play online labels with exclusive collections these sites may be a potential threat to the established online department stores. Big Data Defining Trends With complex product descriptions and an overwhelming volume of brands, the fashion industry is lacking the taxonomy necessary to help retailers organise their merchandise for consumers and understand the key market trends. Our view is that new data-driven models will redefine the industry. Unfashionable Companies Desperate to Enter the Fray Exit trends are shifting from consolidation strategy to acquisitions by businesses outside the apparel and e-commerce spaces, as the sector is perceived to be a high growth and profitable opportunity. New entrants, such as media groups, supermarkets and generalist retailers, are pushing up valuations. We review the major investment trends and potential exits. MANISH MADHVANI London: SASHA AFANASIEVA London: Important disclosures appear at the back of this report GP Bullhound LLP is authorised and regulated by the Financial Conduct Authority

2 Table of Contents Introduction... 2 Apparel Attractive Category... 2 Social Nature of Purchase Drives Strong Social Media Engagement... 2 Democratisation and Globalisation of Trends... 3 Fragmentation due to Market Idiosyncrasies... 4 Traditional Brands Late in Digital Implementation... 4 Ecosystem Becoming Increasingly Crowded... 5 Shopper Engagement Evolution... 7 Brand Building is Critical... 7 Fashion is Media... 7 Social Shopping... 8 On the Go Capturing Users on Mobile is Key Supply Chain Distribution Pure-Play Online Labels Niche Selection Inventory Light Marketplaces Offline Online Convergence Model Behaviour Monetising Discovery Subscription Not Viable for Fickle Users Luxury No Longer Members Only Collaborative Consumption Return of Vintage The Feedback Loop Stock Cycle Management Big Data: Unravelling User Behaviour and Market Trends Virtual Fitting Rooms Investment and Acquisition Dynamics Growing Investment in New Business Models Is there a bubble? Investment Shifting to Vertical Specialists and Marketplaces Exit Predictions Selected Company Profiles This reports looks into the latest trends in the online fashion market, following on from our first research coverage of the sector in October The first section provides an overview of the development of the market. We then look at the changing behaviour of consumers online and how apparel sites are addressing this with new engagement methods. The next section assesses how the supply chain has been impacted by new online fashion business models. The fourth section examines new business models that have established differentiating ways to engage with the consumer, while the next assesses new B2B business models. In the sixth section, we reveal our views on the latest investment and exit trends in the online fashion segment. Finally, we profile some of the most promising players in the space.

3 INTRODUCTION Apparel Attractive Category The apparel e-commerce vertical has overcome many challenges to become one of the most lucrative sectors for investors and entrepreneurs alike. Since the shaky early boo.com beginnings in 1998, its online future has been frequently questioned: will users ever feel comfortable to purchase fashion items without trying them on; will brands ever allow their products to be sold outside of the carefully curated shop environment? Despite being perceived as one of the least suited verticals for online consumption it has become the second largest e-commerce sector after computer electronics (18% of total e-commerce), and the fastest growing in the US 1. Forecast to reach $73bn in market size by 2016, it will contribute nearly a quarter of total e-commerce growth in the US between 2012 and With achievable gross margins around double that of consumer electronics, and the fact that it has become one of the first product categories to attract the luxury brands en masse, it is of little surprise that exits in excess of $5bn have been achieved over the past four years 2. It is our belief that innovative new models in the online fashion sector such as marketplaces (including peer to peer luxury), tailored fashion, prescription and eyewear, as well as fashion data analytics, will drive further high profile exits. E XHIBIT 1 US M ARKET S IZE AND C UMULATIVE A NNUAL G ROWTH BY E - COMMERCE V ERTICAL Market size ($bn) 90,0 80,0 70,0 60,0 50,0 40,0 30,0 20,0 10, market size 2016 market size CAGR 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% CAGR in market size Computer and consumer electronics Apparel & accessories Books / music / video Auto & parts Furniture & home furnishings Health & personal care Office equipment & supplies Toys & hobby Food & beverage Other Source: emarketer, September 2012; GP Bullhound analysis Social Nature of Purchase Drives Strong Social Media Engagement Online fashion content is one of the most engaging segments within e-commerce and highly integrated within the social sphere. In an analysis of visitors to apparel and Facebook sites, ComScore found that c.40% of Facebook s audience visit apparel sites versus 30% of overall online audience, which implies that a Facebook user is 33% more likely to visit an apparel site than the average user. Furthermore, the shared audience between apparel and Facebook sites is 98m visitors 3. 1 Source: emarketer, September Source: Capital IQ; GP Bullhound analysis 3 Source: ComScore Media Metrix, Europe, May GP Bullhound LLP

4 E XHIBIT 2 C ROSS- V ISITATION ACROSS F ACEBOOK. COM AND A PPAREL S ITES U NIQUE M ONTHLY V ISITORS (MAY 2012) Apparel 121k in total 98k cross over 266k in total Source: ComScore Media Metrix, Europe, May 2012; GP Bullhound analysis Democratisation and Globalisation of Trends If before, high-end trends would take time to trickle down to mass market level, product trends are now shared across every segment of the industry, and selling out simultaneously across each segment too. An illustration from EDITD data analysis shows how the printed trousers trend in March 2013 was evident across the entire apparel price range. Mainstream adoption of social media and the ease of access to the Internet have caused this democracy of trends the average consumer is more informed about trends in fashion and their demand for newness, paired with the industry's ability to manufacture, swiftly results in high-end trends hitting mass market at the same time Julia Fowler, EDITD 4. Online fashion is also truly global. Newly launched sites are able to reach an international audience and leverage worldwide trends and influences. Thanks to the evolution of the web and the social media revolution, fashion is now much more global than before. There is a global fashion community out there, and a global zeitgeist, Jose Neves, Farfetch 5. E XHIBIT 3 I LLUSTRATION: F AST S ELLING P RINTED T ROUSERS Market segment Price Styles Sold out rate Mass market Up to % Premium market % Luxury % Source: EDITD, March Source: EDITD, March Source: Informilo, January GP Bullhound LLP

5 Fragmentation due to Market Idiosyncrasies As we predicted in our earlier research on online fashion (2008), no single Amazon for fashion has emerged globally. While in the UK online fashion department stores like ASOS and Net-a-Porter prevail, in France it is the private sales player, Vente-Privée, that has become dominant. Much of this has been driven by many factors, including: Different shopping patterns: shopper behaviour varies across regions, making it tougher for businesses to expand international offerings without significant adjustments. For instance, on the logistics side, users in Germany are used to catalogue shopping, free returns and ordering several sizes of the same item to return the unsuitable ones. In the UK, on the other hand, return rates are significantly lower; however users expect rapid product delivery. These factors have hampered growth of apparel private / flash sales models, based on stock consignment and longer delivery times; Offline fashion market structure, such as concentration and pricing level of local brands: the UK has a much higher prevalence of mid-range, high street brands, while in the US, outlet stores are highly popular within the mid-level offering; Audience specialisation: consumers prefer to visit specialised sites, that either address a particular product niche or audience type. For instance, ASOS and Net-a-Porter will not have significant brand overlap as they cater for different audiences there is no benefit to users to access both under one virtual roof; Regulation: in France, Vente-Privée was able to attract numerous luxury brands to its limited time sales concept, as there are regulatory restrictions on the number of sales days that can take place through the traditional brick and mortar channel. It is our belief that the nature of the industry and consumer demand will drive further fragmentation and personalised sites. Traditional Brands Late in Digital Implementation Traditionally brick and mortar brands and retailers, particularly in the premium and luxury segments, have been slow to develop their online retail channel due to the fear of their offering becoming lost and undifferentiated amongst other retailers on the web. "Many luxury brands have been reluctant to embrace new technologies as their values rest on craftsmanship and tradition," says Olivia Solon, associate editor of Wired magazine 6. Futhermore, there is risk of brand devaluation through losing control of the consumer shopping environment. Brick and mortar retailers are able to control how the product is presented and where, whereas in the online environment there are adjacency issues: a full price luxury product can be retailed next to a product from a lower value brand or one at a discount. Big brands like PPR and LVMH are very afraid of pushing the Internet it s more of a company branding strategy which explains the story, according to Xavier Court, co-founder of Vente-Privée 7. For instance, Burberry is one of the more advanced brands in terms of online media campaings ranging from a bespoke trench coat ordering portal, to live catwalk show streaming; however it generates only 6% of its revenues online. The other hurdle for brick and mortar retailers is the complex logistics and customer service required for the Internet channel. Retailers with significant presence in the catalogue channel have been able to migrate online 6 Source: Independent, 24 September Source: Company information 4 GP Bullhound LLP

6 more quickly for example N Brown has over 50% revenues from the Internet 8, and Otto Group online sales represent 53% of total multi-channel retail 9. Our view is that brands will further develop their presence online, whether through collaborating with existing portals or establishing their own online activity. E XHIBIT 4 E - COMMERCE P ENETRATION IN THE A PPAREL S ECTOR, 2012E 10% 10% 6% 6% 3% 2% 2% <1% <1% <1% <1% Source: Citi Research, April 2013; Company information; GP Bullhound analysis Ecosystem Becoming Increasingly Crowded The online fashion space is getting crowded with traditional brands / retailers, e-commerce enablers, and pure-play e-tailers investing in the sector. Fashion Brands Although with some delay, traditional fashion brands have started to focus on their online presence, often relying on experienced third-party e-commerce services specialists to deliver logistics and customer services. For instance, YOOX Group launched its whitelabel e-commerce solution to brands, including logistics and customer care. Now the Group is powering over 30 mono-brand sites, such as Armani.com and Bally.com. YOOX is now driving 8.3m unique monthly visitors to such sites with a third of 2012 revenues coming from this segment 10. Other brands have been aggressively investing into their online offering and digital branding independently. Superdry, a leading UK brand focusing on urban designs, has announced it will be increasing its focus and investment in its online store and mobile app to drive sales, as well as barring ASOS from selling its goods in certain countries. It s the most profitable part of our whole business, says Julian Dunkerton, chief executive of Supergroup, Superdry s parent company. If shoppers go on to ASOS and find Superdry, I m happy. But if they tap in Superdry to a search engine and it comes up with another website, that s wrong 11. E-commerce Enablers On the e-commerce enablement side there is intense competition as solutions like ecommera, Shopify, Magento, and BigCommerce as well as SaaS tools like Mailchimp, RJ Metrics, Shipwire and the rise of 8 Source: Citi Research, financial year Source: Company information, financial year Source: YOOX Group, Q Source: Financial Times, 21 February GP Bullhound LLP

7 Amazon Web Services have made it significantly easier and cheaper for retailers to build and manage e- commerce storefronts. Pure Play Start-Ups Numerous online pure-play start-ups have also emerged in the sector, attracted by market size and growth, high ticket prices and strong user monetisation: in the past year nearly $1.6bn has been invested in online fashion start-ups versus $1bn the year before 12. Increased Competition Online apparel industry is becoming increasingly crowded with the number of apparel sites growing by 126% year-on-year while traffic to the sector overall has grown only by 7% in December 2012 versus last year 13. As a result, there is increasing competition for online users, and apparel suppliers have more choice than ever of online retailers to partner with. The sector is continuously reinventing itself through new ways of acquiring and engaging with audiences and operating within the supply chain, stemming both from new start-ups to traditional and online businesses launching or recreating their existing e-commerce offering. E XHIBIT 5 T OTAL A PPAREL W EBSITES AND U NIQUE M ONTHLY V ISITORS R EPORTED BY C OMS CORE (EUROPE) Number of websites Websites reported by ComScore Traffic reported by ComScore Unique monthly visitors (m) Source: ComScore, 2013; GP Bullhound analysis With this flux in the online fashion sector, we believe businesses will increasingly be evolving to maintain competitive differentiation. 12 Source: Capital IQ; GP Bullhound analysis; Note: excludes transactions with undisclosed values 13 Source: ComScore, 2013; GP Bullhound analysis 6 GP Bullhound LLP

8 SHOPPER ENGAGEMENT EVOLUTION Brand Building is Critical Users are unlikely to search for specific products online, unlike with electronic appliances or books, as they have a strong association with the brand itself rather than the product item. As a result, attracting users is less straight forward than investment into online acquisition marketing, such as search engines, price comparison websites or affiliate advertising. Retailers need to be differentiated from competition through curation and relaying the relevant brand story to their audience. Whether brick and mortar or online, retailers with significant product overlap differentiate themselves through their retail environments and brands (for instance, Harvey Nichols, Harrods and Liberty have very different branding and retail spaces). If in all retail categories building a brand is key, in fashion it is crucial to survival. Using sought-after fashion labels for promotion has also been highly effective and online apparel retailers have focused on building these relationships: for instance, ASOS launched Fashion Finder, a service that publicises the brands it does not sell in order to promote itself as a fashion destination rather than just a store. Similarly Vente-Privée used the power of the brands retailed through its flash sales to drive dramatic member-get-member growth without any spending on search engine marketing in France from 2003 onwards. Members grew from c.41 thousand to 18m during the decade to 2013 a growth rate of 85% per year 14. Celebrity endorsement has also been a highly effective driver, with new businesses such as Stylemint adopting celebrity ambassadors to promote their brands. As the competition in online apparel intensifies, successful players need to adapt their offering and brand to entice users away from competitors. We identify the key must-haves as content, social and mobile. Fashion is Media As Net-a-Porter has shown, editorial content is highly effective in engaging audiences and establishing a brand, subsequently the online magazine / store format has emerged as one of the key trends in online fashion: If you work at a fashion magazine, your role in life is to guide the reader through the world of fashion and edit it for them. Why can t shops do that? Nick Robertson, CEO of ASOS 15. The convergence of content and commerce is evident from both sides: online magazines such as Harpers Bazaar (ShopBazaar) and influential bloggers are introducing storefronts within their sites, as traditional e- commerce sites are developing online content. Some sites are using several fashion-specific platforms such as 72Lux that enable e-commerce and magazine integration. Online content in fashion has been used predominantly to drive user engagement and to message the brand, rather than merely drive search engine optimisation. Burberry, for instance, had several initiatives such as the Burberry Bespoke, where users can design their own product with over 12m different variations. Another Burberry website, artofthetrench.com, allows visitors to post photos of them wearing their trench coats or send them to relatives and friends. "Honestly it makes no difference at all" how many custom coats Burberry sells, says Angela Ahrendts, CEO of Burberry, "It's customer engagement. You want them to engage with the brand 16." 14 Source: Company information 15 Source: Financial Times, 21 February Source: Wall Street Journal, 3 November GP Bullhound LLP

9 E XHIBIT 6 I LLUSTRATION OF B URBERRY B ESPOKE Source: Wall Street Journal, 3 November 2011 Other rich media formats have emerged, such as online TV Shopping platform Joyus, which promotes selective products in short online videos. By offering a service to online customers in a similar way to TV networks such as QVC, the site drives engagement and conversion to purchase. Furthermore, the in-house technology platform enables behaviour analysis that can aid brands to understand user engagement and conversion. In the age where users are ever more demanding when it comes to entertainment from their mobile and desktop devices, this format is an effective way to differentiate the brand. Social Shopping Instagram-esque e-commerce platforms such as Fab.com and The Fancy, with online visual product catalogues and personalised subscription s, attribute their phenomenal growth to highly engaging format and social sharing: 50% of Fab users in Europe come from social sites 17. We believe that apparel is one of the earliest adopters of social commerce and will continue to develop: nearly 40% of Pinterest buyers purchased from the clothing category, and jewellery and accessories was the second most popular category with 23% of customers Source: Guardian, 9 April Source: Company blog, 17 July GP Bullhound LLP

10 E XHIBIT 7 T OP 10 C ATEGORIES P URCHASED ON P INTEREST A CCORDING TO US B UYERS (MARCH 2012) 39% 23% 22% 18% 14% 11% 10% 8% 6% 5% Clothing and apparel Jewellery, handbags and accessories Art, art supplies and hobbies Home, garden & pool / spa Health & beauty Footwear Flowers, food, drink & gifts Baby gear Entertainment (e.g. books, music, instruments, movies, tickets, etc.) Sporting goods Source: Company Blog, 17 July 2012 Cracking the viral effect is still difficult it appears that most fashion players are using the social platforms for brand promotion and customer dialogue, rather than to acquire users. Nevertheless, it gives a more even playing ground for smaller retailers to establish their brand. Through establishing an effective social media strategy, online apparel properties are able to engage more with their user base: indeed out of the 25 fastest growing branded social communities in the UK, nearly half are online fashion and beauty retailers. In our view much experimentation has yet to be done with social channels, but online fashion businesses are certainly moving the dial in this sphere. E XHIBIT 8 T OP 25 D IGITAL B RANDS BY F ACEBOOK C OMMUNITY G ROWTH IN T HE UK 513% 366% 350% Fashion and beauty retail 194% 192% 164% 155% 147% 138% 134% 121% 115% 107% 105% 93% 86% 75% 74% 73% 67% 63% 58% 52% 48% 47% Surfdome Ocado Missguided Toolbox Moonpig Gorgeous shop ChemistDirect Getlenses.co.uk UKhairdressers Boohoo.com Feel Unique All Sole Overclockers UK Mankind Wiggle espares Secret Sales Net-a-Porter Kiddicare ASOS Not on the High Street MyProtein ebuyer.com play.com The Urban Retreat Boutique Source: Tamar Brand Love, GP Bullhound LLP

11 On the Go Capturing Users on Mobile is Key While there was scepticism as to whether users can effectively select apparel on smaller screens, in fact it is the top retail category on mobile: over 37% of smartphone shoppers have purchased clothing or accessories versus 28% for books and consumer electronics 19. New visual social models such as Joyus, Fab and Fancy have strongly focused on the mobile channel to ensure higher engagement with users and spontaneous purchases, particularly through s: 40% of Fab s daily logins come from mobile with ipad users being especially valuable members (twice the lifetime value of web users) and 10% of all ipad users on Fab convert to purchase in the first week of having the ipad app. In comparison, established models have some way to go large online retailers, ASOS and YOOX have less than 20% of traffic from mobile. With a growing proportion of audience s time spent on mobile devices, we believe that developing this channel will be paramount for online fashion sites. E XHIBIT 9 M OBILE AS P ERCENTAGE OF T OTAL T RAFFIC 40% 30% 30% 25% 25% 25% 20% 20% Fab.com Botticca Lyst ThredUp Etsy Vente-Privée Yoox ASOS Source: Companies information 19 Source: ComScore, December GP Bullhound LLP

12 SUPPLY CHAIN DISTRIBUTION Pure-Play Online Labels ASOS, the most visited fashion website on the planet 20, was founded in 2000 retailing items emulating celebrity fashion. While it was initially selling third party brands that were similar to outfits seen on screen, in 2004 it launched its own range, which has been critical in driving its popularity and protecting itself from competitors such as Amazon and ebay. Furthermore, through vertically integrating the value chain, ASOS was able to offer better pricing to its user base and generate higher gross margins. Today, ASOS offers over 1,000 different brands and 55% of revenues come from its own brand 21. One of the main challenges of the online label business model is designing a product that is valued by the target audience and establishing a new brand. Several sites have overcome this by investing in celebrity endorsement (Stylistpick, Shoemint). Others have introduced user personalisation such as Shoedazzle, Gemvara and Send The Trend. There are significant operational complexities with the model, such as building a strong network of manufacturing partners and significant inventory risks if the products are not sold. Everlane has focused on a relatively narrow product range of essential items, maintaining full control over the design and production, and partnering with high quality manufacturers to keep prices affordable. Furthermore, the site aims to build a community around its products to collect feedback from its user base, currently at 400,000 active members another way to ensure their designs remain popular 22. Our view is that while the online channel is highly effective for distribution, particularly through driving social communities, the business is fundamentally an apparel label, which requires significant investment in designer and production talent. Whether selling the items online or through an offline boutique, businesses like Everlane need to provide fashionable and good quality items. The fact that this is possible through the Internet with a relatively minimalist business structure presents a threat to traditional fashion labels. Niche Selection Efficiently targeted sites are able to differentiate from other sites and establish a loyal customer base with repeat purchases. For instance several sites are now targeting the male audience Mr. Porter, Dollar Shave Club, BrandiD, Menlook, Trunk Club, Outfittery. Not only do these sites reflect male shopping behaviour, but also different inventory management: assortment is narrower and the key basic articles do not change significantly from one season to the next. Vertical targeting also enables more favourable relationships with brands and suppliers for instance, Sunglasses Shop s high-end presentation of the site and product focus enabled them to retail luxury items, which were previously not sold online. Vertical specialisation may also enhance the site s position in organic search and reduce the cost of customer acquisition. Online sports-focused private sales site, Sportpursuit, for instance, has been able to drive 5x year-on-year growth through strong member-get-member traction within its community of sports enthusiasts. Moreover we have seen the emergence of luxury apparel sites targeting the childrenswear verticals with players such as AlexandAlexa, backed by Tiger Global and MMC, and Smallable, headquartered in Paris, both showing strong year on year growth. Other examples of niche sites include accessories (Send the Trend, Boticca, MyOptique, Sunglasses Shop), pregnancy wear (Isabella Oliver), lingerie (Figleaves), denim (SoJeans), sportswear and equipment (Wiggle, Surfdome). The trade-off between specialist and generalist approaches is that the frequency of purchase may be lower within a specific category (for example lingerie versus general apparel) and fewer cross-selling opportunities, 20 Source: ComScore, Source: ASOS 2012 Annual Report 22 Source: Techcrunch.com, 13 December GP Bullhound LLP

13 unlike for an online department store. Online shops such as Zalando have started diversifying into other categories to increase number of items per order and frequency of purchase. We believe this will also contribute to consolidation in the sector for businesses that opt for acquisition strategy rather than organic expansion into new verticals. Inventory Light Marketplaces With a growing number of fashion boutiques, emerging independent brands and retailers both online and offline, numerous business models have emerged to aggregate and organise the offering. Marketplaces, such as Farfetch and Boticca, take advantage of global fashion trends and connect their global user base with local boutiques and brands from around the world. For instance, UK-based Boticca generates 50% of its revenues from Europe and 30% from the US. On the other hand, Not on the High Street, Kitsy Lane and Modcloth aggregate local communities of independent and professional designers and cater to audiences that are looking for unique pieces. Larger retailers are also following suit: ASOS launched Marketplace, which allows designers to set up boutique stores on its site, selling their own creations and one-off vintage items, with ASOS receiving c.10-15% commission 23. ASOS Marketplace has over 65,000 products listed, 500 boutique sellers from 95 countries, 28,000 individual sellers from 98 countries 24. An emerging trend of luxury retail online is evident in the fast growing 1stdibs marketplace, which raised $42m in December 2012, following a series A round of $60m in The business sells rare antiques and desirable objects through a network of c.1,700 dealers, and has tripled its presence in Europe in We are convinced that the marketplace model is particularly effective in fashion, where there is significant retailer fragmentation both offline and online (see Introduction section). The key is to establish strong branding and liquidity in this winner-takes-all business model. Offline Online Convergence The convergence of offline and online is evident: on the one hand traditional retailers are promoting online offering as an extra retail channel, as well as a way to improve the service currently offered: for instance, Burberry offers ipads in-store for users to see what is available but not in stock. On the other hand, online retailers are also introducing offline presence. ASOS partnered with a number of high street retailer chains as well as small merchants to provide product delivery and pick-up points. Online sites are opening stores to further promote their offering. Everlane launched a pop-up Christmas store where users are offered extra personalisation features, while Trunk Club offers a luxury tailoring service to its members through their permanent showroom. Over time there will be deeper integration of the two channels: already 69% of recipients in a recent Nielsen study claimed the Internet is important in the decision-making process when purchasing new products offline 26. Furthermore, apparel is the second most popular category for showrooming examining the item in a brick and mortar store, but shopping online to find purchase the item at a lower price. We believe that omnichannel retail, where users view and shop online and offline, will be a major trend if before pure-play online was seen as efficient, providing access across several channels is now becoming critical. 23 Source: Financial Times, 21 February Source: ASOS 2012 Results presentation 25 Source: Alt Assets, December Source: Nielsen Global Survey of New Product Purchase Sentiment, Q3 2012; Note: based on respondents with online access only; new products are defined as any product not purchased in the past 12 GP Bullhound LLP

14 E XHIBIT 10 C ATEGORIES OF I TEMS P URCHASED VIA SHOWROOMING Consumer electronics 56% 72% Apparel, clothing & accessories 47% 39% Books Appliances Toys Jewellery & watches Other 29% 26% 28% 22% 29% 21% 15% 18% 10% 8% %of women %of men Source: ComScore, January 2013 Note: represents percentage of men / women who purchase the items via showrooming or browsing in shops and searching for the best price and purchasing online 13 GP Bullhound LLP

15 MODEL BEHAVIOUR Monetising Discovery Product discovery in fashion is more complex than in other verticals. Price comparison, text search and consumer reviews are less relevant: firstly, product taxonomy is not as well developed as in other sectors, and secondly, users relate much more with the brand itself than the product independently. There has been much experimentation in the last few years to differentiate from other numerous online retailers and enable users to discover relevant items: Curated approach: where users follow stylists or celebrities to find new items (such as Send the Trend, Stylistpick, ShoeDazzle, Outfittery) highly relevant for the fashion vertical, but may be more difficult to scale as there are only so many customers each stylist can serve. The consumer values the human touch in the process, and loses interest if the process starts to feel automated; Personalised / algorithm based method: where users selections are analysed for new suggestions similar to that of Last.fm in the music industry (such as Dressipi, Lyst) classification and taxonomy of products in the fashion vertical make this difficult as a single tool to use, but over time this could be viable, particularly as it is combined with social graph data; Social: where users share their fashion items with other users, predominantly through photos and other rich media (for instance Polyvore, Chicisimo, Go Try It On, Pose, Kaleidoscope, StyledOn) has been shown to be highly engaging, but amongst a younger audience that does not necessarily have the spending power. Furthermore, a user may share or like certain products online, but may not necessarily buy. As a result monetisation has not been clear cut; Visual search: impressive image recognition players like Snap Fashion enable users to search for items by taking photos on the app. While it is still fairly early stage in monetisation, it has the potential to revolutionise the user experience, as Shazam once did for music discovery. The models above vary in terms of user engagement and monetisation for instance, social content sites like Go Try It On are further away from transactions versus curated sites like Send the Trend. There will be some convergence to bridge the gap between user engagement, monetisation and scaling, driven by the type of audience targeted and products sold. For instance, through personalisation and targeting, StylistPick was able to increase conversion by 33% 27. Outfittery, on the other hand, is able to offer high stylist involvement, particularly on the first purchase, as the average basket value is at 300. It can then use a more data driven approach in subsequent purchases as its algorithm based system learns more about the user. In all cases, we believe there needs to be an element of human touch: in the fashion industry users require strong curation of content and offering, which can not be automated. Subscription Not Viable for Fickle Users Subscription-based models effective in digital content sectors (for example Spotify, Netflix) have been replicated in the e-commerce sector with significant investment to date: over $65m raised for ShoeDazzle alone. While the model provides better revenue stream visibility, customer churn is an issue, particularly driven by increasing competition and the difficult task of sourcing relevant, highly sought after products every month. Furthermore, making the customer economics work is difficult due to higher delivery and return costs in comparison to those in the digital content sector. 27 Source: Econsultancy, 14 December GP Bullhound LLP

16 Several sites that were previously subscription based, have pivoted the model to more traditional e-commerce offering for instance, Stylistpick and Birchbox. Similarly, Bag Borrow or Steal originally a subscription based rental service, is introducing a pay-as-you-go model and a standard e-commerce / outnet offering. Other models, such as Outfittery and Trunk Club, provide a more flexible subscription plan, where users are still contacted on a regular basis by the stylists to put together their preferred outfits. The users then pay only for the clothes they keep upon delivery. High average basket value ensures that the personalised service, which reduces user churn and returns, can be recouped within the first few orders. The main differentiation is the pull approach of the stylist, where the user requests the items to be sent, rather than the push approach, where products are sent on a regular basis. E XHIBIT 11 C LASSIFICATION OF S UBSCRIPTION B USINESSES E-commerce Daily deals / Private sales Stylist Subscription VIP member / Loyalty fee Try then buy Rent Bag Borrow or Steal Me Undies Outfittery Panty by Post Shoedazzle Stylemint / Jew elmint / Shoemint Stylistpick Trunk Club Key Current model Prior model Source: Company information; GP Bullhound analysis Luxury No Longer Members Only Initially apparel labels were enticed to the online channel by the prospect of shifting unsold stock in a trusted high-end shopping space. The private sales model in particular, pioneered by Vente-Privée, experienced tremendous scalability in contrast to the standard outlet model due to: 1) Quick inventory turn-over through flash sales attracting premium brands; 2) Private membership and limited time sales offering brand protection from exposure in search results; 3) Exclusive membership model as an effective marketing tool for attracting loyal customers; 4) High-end brands more comfortable with the private premium shopping environment to conduct sales on the site. E XHIBIT 12 V ENTE- P RIVÉE AND YOOX G ROSS R EVENUE C OMPARISON 1,4bn 1,2bn 1,0bn 0,8bn 0,6bn 0,4bn 0,2bn 0,0bn Yoox Vente Privée 2006A 2007A 2008A 2009A 2010A 2011A 2012A Source: Company information 15 GP Bullhound LLP

17 The rapid growth of the private sales model has been strongly linked to the local idiosyncrasies: after over 10 years since founding, still around 80% of Vente-Privée s sales are from France 28, where there are relatively low return rates in contrast to other geographies (Vente-Privée s return rates are below 5% versus 25% for YOOX s). Local regulation, limiting the number of sales days in brick and mortar shops, also provides additional incentive to brands to sell their stock through online sales. In other geographies, the model has not been as effective. Despite over $240m investment and gross revenues of over $600m, Gilt has only just reached profitability on EBITDA basis 29. The business has moved away from the private sales model to the flash sales concept like Fab.com users do not need to subscribe to view the sales campaigns. Furthermore, the company has rapidly diversified into other verticals such as home ware, food and travel. In the UK, the private sales model has been successful for non-apparel verticals, such as homeware (Achica), as users are more tolerant of longer delivery times. One the other hand, the existing luxury apparel retailer, Net-a-Porter, has been able to offload excess stock via its outlet channel: Outnet.com. Luxury brands and high-end users are becoming more at ease with the online channel: last year online sales of personal luxury goods reached 6.2bn, growing three-times faster than the total personal luxury goods market, and are expected to reach 15bn by It is estimated that 98% of affluent consumers are shopping online 31. As this trend continues, the member-only private sales model becomes less relevant, and other models are starting to have strong traction, such as marketplaces in apparel (Farfetch, The Real Real) and other luxury sectors (1stdibs). Furthermore, we are seeing the emergence of hyper-luxury offerings online: Moda Operandi allows their price-insensitive user base to pre-order collections straight from the runway. Collaborative Consumption Return of Vintage ebay was a pioneer and dominant player in the P2P vintage clothing and accessories market, but other sites are disrupting this segment. Focus on vertical specialisation and creating a luxury environment for users has proven critical in high-end vintage retail. Sites such as Covetique, Vestiaire Collective, Videdressing, The Real Real, Byronesque, Vaunte, 1 st dibs, ensure reliable product authentication and high quality control to promote users trust, and streamlined logistics for the increasingly demanding customers. Poshmark focuses on the social element of collaborative consumption where users can view each other s virtual closets and shop. ThredUP specialises in children s clothing, where clothes are of resale quality as children grow out of them very quickly. Commissions vary depending on the logistical involvement of the online marketplace for instance Shop Hers takes 18% commission but does not take on the production of site content, instead the users are responsible for creating listings and marketing the items to fellow users. Covetique, on the other hand takes over 37% commission, but the site takes the pieces in, photographs and checks for authenticity, making it easier and hassle-free for users to unload unwanted pieces. As users are becoming comfortable with sharing clothes online, the apparel rental market is also moving to the Internet channel, with Bag Borrow or Steal and Rent the Runway in the US and Wish Want Wear in the UK. Rent the Runway allows women to rent designed clothes and accessories at 10% of retail price (or from $50 to $200 for a four night loan). The business has over 3m members and 170 designer brands, and recently raised $20m funding led by Condé Nast Publications in November 2012, as well as $4m in March 2013 led by American Express and Novel TMT Ventures 32. This online rental model requires more complex inventory 28 Source: Bloomberg.com, 29 January Source: Techcrunch.com, 9 December Source: McKinsey & Co, Source: Luxury Society 29 Jan Source: Techcrunch, 11 March GP Bullhound LLP

18 management and effective offering diversification to maximise orders per user or reduce working capital requirement, but is viable as users want to recreate red carpet glamour. Another trend in collaborative consumption is design crowdsourcing (for instance ModCloth has launched this buyer programme). While this offering is useful for understanding customer behaviour on the site, we believe it is a not a scalable model as users expect short delivery times, particularly for spontaneous purchases. Moreover, except for the few true fashionistas, the majority prefer to have the products ready and curated in a certain way that fits their lifestyle, rather than having to design them. 17 GP Bullhound LLP

19 THE FEEDBACK LOOP Stock Cycle Management Inventory management is a critical factor for online retail in most sectors, but presents added complexity for the apparel vertical in unsold stock or returns: Fashion trends are difficult to project, unlike other product verticals where new product design is driven by performance and feature improvements (for example electronics); Several seasons per year means that the retailers need to manage different cycles of stock, particularly when their audience is sensitive to how old the stock is; Quality of product, such as the cut, texture of fabric and colour are difficult to convey without physically touching or trying on the item; Different sizing standards across apparel labels, styles and geographies. A number of business models are addressing these problems through compiling and analysing user, stock and market data to aid retailers who are selling via the online channel. Big Data: Unravelling User Behaviour and Market Trends Several of the new generation discovery sites (see Monetising Discovery Section) collect their users data to provide insights to brands and retailers. There is some way to go before these models are fully scaled and monetised. Complexities arise particularly in the fashion apparel segment, where product taxonomy needs to be created from scratch. For social data, it is especially difficult to monetise, as those who are more active in sharing their selections are not necessarily the buyers. Furthermore, many online retailers already have a formidable amount of data available from their existing users the question remains whether these databases can really compete. Other sites are assessing the data available on the Internet for instance fashion specific, EDITD, Fashionbi, as well as general social analytics companies like Social Bakers. EDITD is able to collect and analyse data from apparel retailer sites, social media, runways and newsletters to deliver fashion analytics to retailers, who are becoming increasingly mechanised in their product buying and design. While the use of data will continue to grow and evolve, the human touch is still fundamental to successful online retail. Retailers still heavily rely on strong buying teams that understand their customers: for example Nasty Gal buys only limited runs so as not to get stuck with stock that does not move, and sells 93% of its inventory at full price in an industry that usually marks down a third of all styles 33. Nevertheless, we believe that data analytics will revolutionise the industry across retailers of all price ranges. Virtual Fitting Rooms One of the key difficulties facing online apparel retailers is the high rate of return of items: in the UK it is estimated that 60% of consumers order multiple sizes and almost one in three clothing purchases made online are returned in response to the UK s lack of standard sizing 34. Return rates vary depending on type of product and geography ASOS reports returns of around 30%, it is closer to 50% for Zalando in Germany 35. Estimated costs of returns include the following in addition to the postage and package fees: Double visa costs: if the item is shipped from a different jurisdiction and there are import costs; Product discount: garments generally take over a month to be returned, resulting in the item being resold out of season at a discount, resulting in an average value depreciation of 50%; 33 Source: Forbes, 28 June Source: Kelkoo, July Source: Kinnevik 2012 annual results 18 GP Bullhound LLP

20 Customer experience: users who are not satisfied with the delivered item are less likely to return to the site, reducing repeat purchase rates. In addition to returns, users are reluctant to make purchases online at all as they are unable to try on the item. According to an Internet shoppers' survey commissioned by Fits.me, 32% of users hesitate when buying clothes online as they are unsure what size fits them best, and a further 30% as they are unable to try before buying 36. E XHIBIT 13 R EASONS C USTOMERS H ESITATE WHEN B UYING C LOTHES O NLINE 30% 32% 16% 10% 6% 6% Too difficult to shop on a mobile device Slow shopping times Difficultly of return process Unable to try before buying Unsure what size fits best Shipping fees too high Source: Internet Shoppers Survey, commissioned by Fits.me, July 2011 Several virtual fitting room solutions aim to reduce returns and improve conversion through: 1) Outfit configurations: software to superimpose outfits on models in order to better display the product for users while minimising production costs (such as My Virtual Model / Mimicme, Looklet). The segment is already seeing signs of monetisation, as online retail businesses are looking to minimise the costs of displaying their growing apparel ranges online; 2) Augmented reality solutions: aimed to show the product on a person through overlaying the item on their image. Agencies such as Holition have developed sophisticated online applications to engage the user and drive purchase conversion. For instance, when Holition worked with the Swatch Group watch brand Tissot to enable users to try on a virtual watch from the window in Selfridges, the revenues for the department store s boutique increased by 85% during the course of the two week activity 37 ; 36 Source: Fits.me commissioned Internet Survey, July Source: Company information 19 GP Bullhound LLP

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