Etsy, Inc. (ETSY) Earnings Call Transcript & Summary

I'll just add 2 other things are slightly different about our marketing right now. One is our LTV, or lifetime value, has increased because of things like adding offsite ads, which is effectively a take rate increase, and that allows us to spend deeper and still be -- maintain our internally required ROI thresholds. And the other thing is that we're beginning to explore investment in markets outside of the U.S. We tested that a little bit in the fourth quarter of last year in the U.K. And we're going to go back in and test in the U.K. and Germany again as we enter the fourth quarter and to see -- we tend to test everything and make sure we're comfortable with the attribution we're giving, and the incrementality we get from those investments. But can we take the successes and the learnings that we have from the U.S. and apply them another parts of the world? That's something else that we'll be doing with our marketing investments.

Got it. Now as sellers grew 12% sequentially in the second quarter GMS grew over 100%. Are you seeing any supply constraints in the market? And what are you doing to really add sellers to the platform?

Great. I love those 2 questions in combination because no, we are not seeing any supply constraints. So we should pause for a minute and note that demand doubled on the site in almost overnight and our sellers fulfilled on that effortlessly. So what you can take from that is we have at least twice as much supply as we need on the site. Now I don't think that's true. I think we've got way more than twice as much supply. Again, what we know is you can double demand and see 0 impact on our supply chain, so it must be something substantially more than double that pushes the limits of supply. So I think if you were to ask sellers, the #1 problem with Etsy, is there's too many sellers. There's just too much competition. Now we think competition is great for buyers. But in the United States, we have 0 investment on adding sellers. There's not 1 person or $1 of marketing that goes to adding sellers. And yet, we're adding a lot of sellers because in the United States, we're well known. And if you make things on the U.S. and you want to sell them and you haven't figured out to come to Etsy, you may not have the scale or the will to actually succeed in business. So it's not clear. And it's not clear to us right now that adding sellers actually add sales. We may take the same size pie and just cut it into even thinner slices. In other markets, the U.K., France, Germany, India, we're now investing, we are working on building supply, adding more sellers so that we can have -- build over time, robust 2-sided marketplaces in those markets. And in those markets, we do have supply gaps where we don't have as much inventory across as many categories as we'd like. And so when we talk about what we mean by core markets, the 6 core markets, the U.S., plus the other 5, what we mean by that is that those are markets where we're investing disproportionately and actually adding supply and adding demand to build a 2-sided marketplace.

Can I add one quick comment there? Is that our television ads has a dividend of attracting more sellers into the marketplace as well. So the sellers see the opportunity. And as more Americans are unfortunately out of work, I think that has also been -- Etsy has been a place where for $0.20, you can open a shop on Etsy. So a pretty low barrier to entry and a safe payment for many people that have been able to find a way to make an income for their families by coming to Etsy pretty easily. And the other nonmonetary way that we have encouraged sellers to the Etsy marketplace, when we saw this huge surge in demand for masks, we were -- Josh put out, I think, the video blog or a blog that said, "Hey, if you know how to sell, come and help us, America needs masks." And a lot of sellers rose to that challenge. Some of them were already sellers on Etsy that happened to know how to sell, where some of them were new sellers as well.

And bread is another interesting example there, where we didn't do anything. People came online to start buying bread or bread making things like yeast mixes became very popular, because they're wanting to do their home baking projects. And word got out in the baker community. And with us doing nothing, suddenly this whole thriving bread making community happened on Etsy, and it happened literally overnight and with no effort from us. So I think that's the beauty of a scaled 2-sided marketplace like Etsy. Once your brand is established, supply finds demand, it just finds it. If the demand is there, the supply will find us.

That's a great answer. Coming to -- coming back to demand creation and offsite ads, and I'm sure you've been asked this question multiple different times. But the margin from off-site ads in the second quarter was probably impacted by the fact that you were waiving fees for the first 1 month, while you are still spending to acquire traffic. As you look at the initiative longer term, what kind of steady state margins should we kind of think of on that line of business?

So it's a great point. So we waived fees for a month. So we have not yet seen a full quarter of offsite ads. But the other offsetting factor to the full benefit of offsite ads is that, a year ago this time, we had some amount of our revenue coming from Google Shopping, a product that we were a similar property. We're selling to sellers so that they could put their marketing dollars to buy PLAs that we placed on their behalf. And so not all of the off-site ads revenue was incremental in the quarter. So when we get to a year from now, we will have lapped that Google Shopping revenue. The -- just a reminder on offsite ads, that's basically a subsidy to the amount of money that we would already be spending on PLA. Sellers don't pay a dime unless they've made a successful sale. And it's not 100% of the ads that we place result in a successful sale. So for instance, if somebody clicks on a listing for red phone case, and you go to that seller's listing for the red phone case, and they choose not to buy that seller's red phone case, but somebody else's red phone case, nobody pays for that ad in that circumstance. We also don't -- right now, we don't offer SCM as one of the products that is subsidized by a seller's own budget. So it's -- not 100% of our efforts are resulting in that incremental transaction fee that we get from sellers. So just one metric that we put out there to keep in mind, we said that 21% of our GMS came from paid marketing efforts. So the vast majority of our marketing -- vast majority of our GMS was free coming to us from other channels that were free. And that was a high, I'd say, for that metric. We're usually in the 15% to 18% of our total GMS is coming to us for free. So you can note that the spike, just kind of get a sense of where that total paid GMS number may settle out now that we're getting some increased spend on performance marketing and subsidization of that may help us.

So as a follow-up to that, Rachel, would it make more sense to not look at offsite ads or look at the margins on offsite ads, simply because of the incremental GMS that it generates and the incremental take that you can get from the incremental GMS? So maybe investors should focus more on that side of the economics, which you don't directly see in the dollars?

Well, I guess, the way I would look at it is that all of our marketing spend is the equation of lifetime value minus cost of acquisition. And 2 things have happened in this last quarter. Lifetime value went up because we're now getting the subsidy. And cost of acquisition went down, that may be temporary, but because CPCs and CPMs are down as many advertisers have sort of set it out, while they're not able to actually travel industry, for instance, a lot of physical retail, for instance, their marketing dollars wouldn't have been that effective while they're closed. So we were able to spend more. Rather than drop it to the bottom line, we were able to spend more and maintain our ROI thresholds that we set for ourselves. So we will always earn back our cost of capital and perhaps then some on all of our spend based on that equation of lifetime value to cost of acquisition. Does that makes sense?

It does, totally does. Free shipping, let's come to that. Free shipping was a big initiative last year. And most sellers that could benefit from free shipping have probably already done it. Have you seen higher velocity for products with free shipping? And from a buyer perspective, have you seen an increase? And I don't know if you do buyer surveys, but have you seen an increase in customer satisfaction levels because of free shipping?

Josh, I think you're muted.

Thank you. Got it. So we do a monthly Net Promoter Score of buyers. And consistently high cost of shipping was a top 3, and usually the #1 complaint from buyers. And so in 2019, we did a huge push to get free shipping adopted by our sellers. And now over 70% of item views are eligible for free shipping. And since we've done that, free shipping is typically not a top 3 concern for buyers. It's dropped down to a much lower place. Interestingly, Etsy's prices are too expensive, has also fallen very significantly as a complaint among detractors. And so I think the perception of pricing on Etsy being more competitive generally has really benefited. And I think that set us up really well for the COVID moment. And so many people have come to Etsy for the first time or come back to Etsy and haven't been on the site in a while. I think they're now seeing free shipping everywhere, which is pretty consistent with what they're expecting in all of e-commerce, right? I don't think we're different than -- we used to be different in a bad way, now I just think we're much more consistent with what they're seeing. And so I think that's very helpful, and I think we've made a tremendous amount of gains there. I'm not sure how much more gain we're going to make in the very near-term on cost of shipping. So instead, we've turned our attention to expected delivery date. When will the item arrive? And that's an area where there is also a meaningful opportunity for us to do better. We don't own logistics. We don't know warehouses. We don't ship the item ourselves, so it's not as much under our control. I will say, I think that, that's a strength of Etsy. Most of the products in Etsy are made to order. They're very often customized or personalized. So the kinds of products our sellers sell, they simply can't make them in quantity and then put them in a warehouse and have them sit and wait to ship. And what that means is that the advantages that some of our competitors have, Amazon or Walmart, for example, simply don't apply to our segment of the market. It's a much more level playing field. And we think that's great, but that means we need to invest in tools to make sure that our sellers are actually meeting the expectations of buyers. So some of the things we've been doing mostly sellers. And now I'm speaking about expected delivery date specifically. Sellers tend to, when they first come on Etsy, set what they call -- what we call processing time. How long will it take from the time I receive an order to the time I put it in the mail? And they set it and forget it. And so what we've done is we've been running algorithms to look at how long does it actually take them to make items and put them in the mail? And we're giving them very specific guidance on, we think you should update your processing time by the following. Sometimes, that means making it shorter, sometimes that means making it longer. And we're seeing very good uptake of our recommendations. So sellers seem really willing to take our recommendations and implement that. We've also, I think, have an opportunity to do better in keeping buyers informed on where the item is in the making process. And I think in doing that, we can also do a good job of showing that special takes time sometimes, but that it's worth the wait. Show the actual item being made just for you, and as part of the fulfillment process. And I think that can be fun. Domino's pizza has an app that shows your pizza in the process of being made, right? Well, this is cooler than that because it's actually some item that's literally being handcrafted for you. So I think there's a lot of opportunity for us to do better now. And when is the item going to arrive? And also, what happens if I don't like it? And the kinds of return policies that you need when items are often customized or personalized is maybe different than what other sites need to work with. And again, I think that speaks to the uniqueness of Etsy, and the strength of Etsy is we get better and better at those kinds of things. I think we'll set ourselves further and further apart from the sort of mass e-tail competitors.

That's interesting. And that brings me to another question about product development. And like it's like a question that we keep getting from investors often is the low-hanging fruit is gone, what's next? And the question is, what's next? And literally, that's a question for you. But another one is you talked about investing in visual search and what have you. So 2 things, one is, what's next? And then how should we think of the investment levels for the -- whatever is next?

Great. Let's see. For those of us who have been tracking us for a while, in 2017, we did some pretty -- in 2017 and 2018, we did some pretty big bold action. And then everyone started saying, "Oh, maybe you've plucked all the low-hanging fruit." And then in 2019, we launched free shipping. We launched offsite ads, and we bought Reverb. And everyone said, oh, you're moving to it, not everyone. Some people were concerned that we were moving too fast and taking on too much. And I am sort of really happy that we did those things when we did them. And so this is a team -- I believe that the opportunity we are facing is enormous, and this is a team that has appetite to move with urgency and to do bold things. And that didn't stop in 2018, you saw it in 2019, you saw it in 2020, and I think we're going to continue to work with urgency and boldness. I think we're at the very early stages of unpacking the opportunity that Etsy has. I think we can be a much, much bigger company than we are. And I think we have a lot of work to do. So when I think about the pillars of our right to win, search and discovery, human, trust are the 3 big ones. So search and discovery, and you just mentioned it, but visual search. I think we've done a much better job. If you know the keywords to enter into our search engine, we are going to do a pretty decent job now of showing you highly relevant search results. But you need to speak the Etsy language. You need to use the same keywords our sellers use. And that's a pretty high bar and many people are not that Etsy articulate. Do you know what the word Boho means? And would you be able to attach that to a style now that's a whole style. That means a lot, many, many people would know what that means. But you need to be able to speak that kind of language to really navigate Etsy well. So the opportunity to do browse and visual search, for us to just show you things. And if you like them, we'll show you more things like that. The ability to create curated collections and have you navigate through curated collections. I think these are huge opportunities for Etsy to do so much better in the future. And where there's a lot of existing technology that other companies have pioneered that we can apply to Etsy and make Etsy much, much better. In human, the opportunity to tell the story of the item were -- we were just talking about expected delivery date. And to show the process of the item being made, for example, we just launched video on Etsy, just 1 month or 2 ago. And we're in the very early stages now of getting sellers to take videos of their product and upload those videos. I think those are things that can make Etsy so much more human than it is today. And on trust, making sure that now you're going to feel like the shipping price is fair, but is it going to arrive on time? And what happens if I don't like it? Those are key areas of opportunity. And then the last, the fourth pillar, is our sellers' unique collection of items. And for that pillar, I think, doing a better job of telling sellers what they need to do to rank higher in our search engine. What are those -- the processes they need to adopt? What are the metrics they need to be able to live to? The more we can give them a very clear dashboard of health metrics, and the more they can see, these are the next 1 or 2 actions I need to take to push my prominence up. I think they'll be very responsive to that and the whole market then will benefit.

Great. I think we are definitely over time. But before you go, quick question for Rachel. We've seen all the ask, Josh wants to invest in so many different things to improve the user experience, the buyer and the seller experience. How should we think of like margins in 4Q and maybe going into '21 because of all the investments?

Unfortunately or fortunately, Josh and I are very like-minded about investing for top line growth and we measure everything. So even all of the things that Josh just talked about, on the product side, we measure it with an ROI lens, for things that we can. So we look at a unit of product development effort, which would be the engineers, the product managers, the Q and design people and analyst at the squad, and we try and say how much yield per unit of cost are we getting for a lot of things? But then there are things like the cloud investment that you can't really measure it that way, and thank goodness, we did make that kind of investment because when we saw a huge surge in a very early April, had we not invested in the cloud, we would have fallen flat on our face, but we might have lost a significant amount of GMS for our inability to serve up pages as we needed to. So we gave guidance for Q3 of 28% to 32% margins, and we said that's a little bit higher guidance than we even wanted to give because we want to be able to take this moment and reinvest. Marketing, we can reinvest very, very quickly. And investment in people and product takes us longer. So we expect -- and we didn't give guidance for Q4, but we would expect more of that investment in people will show up in the margins for Q4. And then, of course, all of that second half investment will annualize -- on the people side will annualize in 2021, so you would expect to see more of it there. And the long-term guidance we gave in March of 2019 was at scale. So in a 5-year time period, when we get to 2023, when we think it'll be more at scale, we would expect margins to be 30% or higher. We saw a moment of being at scale in Q2, but that's -- like I said, we got there for a moment. We want to now take advantage of that and reinvest that top line, and it's too soon in our maturity to stop investing is how I put it.

Great. Thank you so much. Thank you so much for spending so much time with us, Josh and Rachel. With that, I think we should close. We are way above -- we are way beyond the limit. So thank you so much. Have a great rest of the day. Thank you.

Thank you.

Thank you.