LONDON, United Kingdom — About six years ago, in the very early days of BoF, I met an entrepreneur named José Neves and invited him to speak at a BoF panel discussion in Austria. José was running a shop in London called B-Store and, as a boutique owner, had started to feel the pinch of the financial crisis. What intrigued me, at the time, was a platform called Farfetch that he was developing with a new model for taking boutiques like his online.
Over the subsequent years, José and I have met from time to time to discuss fashion and technology, to share entrepreneurial war stories and to ask each other's advice. So I was delighted for him and his team, on Wednesday, when the company announced an $86 million Series E round of investment, valuing the company at $1 billion, serious market validation for a model that José has been working on for more than eight years.
But as soon as the news broke that Farfetch was now officially a "unicorn" — Silicon Valley speak for companies that are valued at $1 billion or more — the conversation moved almost immediately to whether the valuation was justified.
On social media, scores of observers, using a twist on the company's name, called the valuation "farfetched," while the Financial Times posted a video asking whether London's start-up scene was overheating, pointing at Farfetch as a potential sign of a technology bubble. Founder José Neves justifies the valuation by citing the company's focus on "high-end luxury fashion," as opposed to other online marketplaces, like EBay, which cater to mass audiences.
According to market reports, the company, which has yet to cross over into profitability, is estimated to drive about $350 million in gross merchandise volume (GMV) with about $90 million in resulting revenue from commissions (the company is said to take a 25 percent commission from its partners).
A company's valuation should ultimately be driven by its momentum and growth, the scale of its revenues and the ability to drive cash flow. Indeed, according to a blog post by the highly respected investor Fred Wilson of Union Square Ventures, marketplaces should be valued as either 1x gross marketplace transactions (a measure of scale) and/or 20x EBTIDA (a measure of profitability and cash flow) "for internet marketplaces that are growing fast and are category leaders."
In the case of Farfetch, an EBITDA multiple is not possible as the company is not profitable. But if Farfetch were valued at 1x GMV, it would be worth about $350 million today using Wilson's 1x multiple. Or, said differently, Farfetch's current valuation is almost 3x its estimated GMV and much higher than Wilson's multiple would allow.
So what gives? In order for José's argument to be true (i.e. that because this is a luxury marketplace, it should earn a higher valuation) Farfetch should also earn more commission per gross dollar and therefore more profit over the long term (and therefore more EBITDA for Wilson's other benchmark multiple).
According to EBay's website, the company earns 10 percent commission on its transactions, meaning that Jose may have a point — but, in this case, Farfetch doesn't deserve a higher multiple because of its luxury positioning, but simply because the platform is charging a higher commission and earning more revenue per dollar of GMV.
This is just an educated guess, however. Without precise knowledge of the company's internal economics and its path to profitability, it's hard to gauge for sure.
So is the current valuation a stretch? We won't know for sure until a few years from now when the business is bought or files for an IPO and Jose and his investors are either vindicated or disappointed.
Either way, this is a significant accomplishment for a fashion-tech business! Congratulations to José and the Farfetch team. We are happy to have tracked your journey right from the start.
Enjoy our top stories for the week gone by:
Fashion ‘Unicorn’ Farfetch Raises $86 Million at $1 Billion Valuation
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AnOther Magazine to Launch Digital Cover Developed With PCH
AnOther Magazine is set to unveil a digital magazine cover, developed with Irish entrepreneur and supply chain guru Liam Casey’s company, PCH.
And don’t forget to check out BoF Weekly, a week in review published with Flipboard and updated every Saturday.
Imran Amed Founder and Editor-in-Chief