Betterware: A Direct Sales Company Growing Like A SaaS Business (NASDAQ:BWMX)

In March, Betterware (BWMX) became the first Mexican company to list directly on the NASDAQ.

It is without question that its performance both as a company and as a stock has been nothing short of stellar. Management has raised guidance and expects growth to continue organically, via international expansion, M&A, and increased investments.

BWMX has developed a robust business model in what can often be a challenging country and sector to penetrate. Its deep understanding of consumer behavior and market dynamics combined with a cost-effective structure and powerful logistics platform has positioned the company as the undisputed leader in the houseware industry.

As SPACs are increasingly a dime a dozen, mean reversion dictates that the flood of SPACs in the market is sure to produce some disappointments – there simply aren’t enough high-quality businesses out there. BWMX is no such example, maturing impressively against a backdrop of one of Mexico’s worst ever crises.

BWMX presents a unique opportunity for investors to extract alpha that has risen to dominate the Mexican market and has set its sights on regional supremacy. We’ll delve into the company’s business model, which will in turn highlight management’s exceptional ability to execute, rounding out one of the most promising companies to stem from beyond the US’ borders.

(Source: Betterware’s Q3 Earnings Release)

Background

Founded in East London in 1928, Betterware (in its original form) was a multi-level marketing (MLM) company that sold household products. It went public in 1986 and was one of the best-performing stocks during the early 1990s, rising by as much as 124,900%.

This would prove to be the company’s high point, going into administration in 2018. The only surviving assets from the company’s collapse were the Betterware trademarks. As a result, Betterware de Mexico emerged from HQ’s debacle as its own entity. In March of this year, Betterware de Mexico completed its merger with DD3 Acquisition Corp. (DDMX).

This mid-cap, high-growth company has robust fundamentals and tailwinds that are driving increasing growth metrics, propelled by its high cash conversion, asset-light business model, and sustained growth.

Company Timeline

1995 – Betterware de Mexico is founded.

2001 – Following an impressive track record in the consumer goods industry as Chairman of Tupperware Americas (1994-1999), Chairman of Sara Lee – House of Fuller Mexico (1991-1993), and Chairman of Hasbro Mexico (1984-1990), Luis Campos acquired Betterware, taking on the role of Chairman and serving as its CEO until 2018.

2015 – 2018 – Betterware grows its Revenue at CAGR of 37%, EBITDA at CAGR of 41% and its distributor and associate network at CAGR of 45%.

2019 – DDMX and Betterware de Mexico enter into a definitive agreement in August.

2020 – Merger is completed in March with the emergence of Betterware (BWMX) as the combined entity.

So what is multi-level marketing anyway?

MLM is a strategy direct sales companies use to encourage existing distributors to recruit new distributors who are paid a percentage of their recruits’ sales. These recruits are known as the distributor’s “downline.” Distributors have the added benefit of making money through direct sales of products to consumers.

Naturally, you might be thinking, “this is a pyramid scheme.” Not necessarily, but as we’ll explore, the answer is quite nuanced. MLM is a legitimate business strategy, but it’s not without its fair share of controversy.

Allow me to explain.

MLMs that are actually pyramid schemes are those that use money from new recruits to pay people at the top rather than those actually performing the work. These are predatory schemes that take advantage of people by selling them the illusion of financial independence, only to bleed them dry. Pyramid schemes can be spotted when there’s more focus on recruiting than actually selling the product the company produces, red flag.

Digression aside, BWMX does not operate as a MLM distribution network, as opposed to its British origins. Instead, its distributors and associates receive a cut from sales made by other distributors and associates, rather than compensation for recruiting. Now that we know what BWMX does not do, let’s examine how it brings home the bacon.

Business Model

Betterware’s business model and network of distributors and associates is specifically designed to cater to Mexico’s unique demographic, geographic, and economic dynamics. The world’s 15th largest economy is characterized by its small and dispersed communities, low retail penetration and complex logistics network. Therein lies BWMX’s brilliance – it has managed to reach customers while maintaining low costs by saving on last mile delivery, contributing to the company’s high operating and EBITDA margin.

Two-tier sales model & compensation scheme

BWMX operates a two-tier direct selling model comprised of distributors and associates. Its current reach extends to over 3 million households in 800+ communities across the country.

(Source: DD3/Betterware Investor Presentation, August 2019)

The company’s incentive program consists of discounts on the products their distributors and associates sell, which is basically an implied commission. Product discounts for distributors range from 12-16% depending on their business size per catalogue. For instance, they’ll earn 12% for sales of MXN$18,000-39,000 (~US$874-$1,893), 14% for sales of MXN$40,000-79,000 (~US$1,942-$3,835), and 16% for sales above MXN$80,000 (~US$3,883). Associates, in turn, are granted a 24% discount on product purchases.

As an added bonus, distributors and associates earn Betterware Points, which can be redeemed for furniture, appliance, electronics, and home décor. If certain sales and growth thresholds are met, distributors can even earn free trips, while associates earn special discounts on products.

(Source: Betterware.com, TAG initiating coverage)

Distribution

The product distribution sequence is fairly straightforward: BWMX delivers products to distributors on a weekly basis, who then shift them on to associates, who finally put them into customers’ hands. Distributors are granted a two-week credit line to pay for the products, whereas associates make no initial investment or product purchases to join, waiting instead for orders from other associates to place an order with the distributor.

The company’s model lends itself to depending on growing its distributor and associate base in order to boost sales. Historical company growth shows a direct correlation to its distributor network growth.

(Source: DD3/Betterware Investor Presentation, August 2019)

Customer touchpoints

Customers can place orders through an array of channels, including contacting an associate or distributor over the phone, through a WhatsApp message, or directly in person. The company has begun rolling out its own app and website in select markets in northern Mexico, and it expects to achieve nationwide deployment by year-end 2020. BWMX believes this new channel will enable the company to attract new customers in previously untapped markets, increase big data analytics, improve customer behavior understanding, and further automate its operations with increased efficiency. This will streamline the company’s operations by funneling customer purchases through the app, which will in turn geolocate the closest-available associate, who will then receive the purchased products and deliver them to their customers. Admittedly, it’ll be interesting to test the adoption rate, given the majority of customers currently pay for their orders in cash upon delivery.

Technological infrastructure

Moreover, BWMX’s business intelligence platform, BetterNet, tracks distributor and associate weekly performance in an effort to maximizing selling force efficiency. Its proprietary mapping system identifies communities ripe for penetration. As adoption increases, BWMX will build its brand equity with its customers, increasing its moat along with it.

(Source: Betterware Investor Presentation, August 2020)

Product portfolio and manufacturing

BWMX’s focus is on the home organization segment, comprised of a portfolio of products that span across six categories. Its sales distribution by product category, based on 2019 sales, are: kitchen and food preservation (40%), home solutions (17%), bathroom (14%), laundry & cleaning (10%), technology and mobility (9%), and bedroom (9%).

The average selling price of BWMX’s products is a little over US$5, ranging from US$0.70 and topping out at US$50. Additionally, the SKU distribution is evenly spread across price points, given a third of products are below US$5, another third are between US$40-50, and the final third is in between the two.

Each catalog runs for about six weeks, meaning that products are marketed via 9 catalogs throughout the year. Every edition has around 400 items, of which 10-15% are new. The company has both internal and external designers, yielding around 300 new products per year. Its go-to-market strategy can take from five to nine months, on average, breaking down to two to four months for product conceptualization and three to five months for manufacturing.

(Source: Betterware.com)

Of the 200+ third-party manufacturers BWMX works with, most of them are located in China. Specifically, BWMX sources 89% of its products from China, and the remaining 11% is produced domestically. Given China’s strategic importance to the company’s operations, BWMX operates an office in Ningbo, China, that supervises more than 40 containers shipped weekly to the company’s headquarters. The office oversees factory certification, product quality assurance, and product innovation. Products emanating from China are paid for in USD, while locally-made merchandise is paid for in MXN.

Currently, the company ships out the entirety of its products from its distribution center in Guadalajara. BWMX expects to inaugurate a new distribution center with its accompanying warehouses by 4Q2020, replacing its current facility and increasing capacity by more than 150%.

Target Demographic

BWMX primarily targets the mid-to-low income consumers, defined as the C and D demographic segments. These two segments represent 59% of the Mexican population and 18.7 million households, per the Mexican Direct Selling Association (Asociación Mexicana de Venta Directa).

Launching a SPAC before it was cool

DD3 Acquisition Corp. was founded in 2018 by DD3 Capital Partners, a Mexico City-based asset management firm with over US$100 million in AUM. A highly experienced management team, Martin Werner and Jorge Combe most recently served as Partner and Managing Director at Goldman Sachs’ (NYSE:GS) Investment Banking Division in Mexico City, respectively. Collectively, they’ve executed over US$90 billion in deal value.

Just over a year after IPO-ing on the NASDAQ, DDMX announced its intention of completing a merger with Betterware. The key transaction highlights were the following:

(Source: DD3/Betterware Investor Presentation, August 2019)

As a result of the deal, management retained control over the company, aligning stakeholders’ interests. Further, best practices such as IFRS accounting and a robust corporate governance structure were put in place. Today, the company’s board of directors has a majority of independent members, who themselves happen to be leaders of their respective industries.

Per DD3’s Investor Presentation, Betterware aligned well with their initial investment thesis, promising much growth going forward. The EV at the deal’s announcement has already tripled on a market cap basis, so it’s fair to say that the “upside to materialize in the public markets” has come to fruition.

(Source: DD3/Betterware Investor Presentation, August 2019)

In the years leading up to the merger, Betterware had been displaying impressive growth indicators, increasing company EBITDA at a CAGR of 41% 2015-2018 while also improving its EBITDA margin. The combination of a diversified product portfolio, a growing sales force of more than 400,000 distributors and associates, and a singular logistics platform with zero last mile cost made for a compelling investment opportunity.

(Source: DD3/Betterware Investor Presentation, August 2019)

Finally, upon close inspection and juxtaposed with its peers, Betterware was trading at a significant discount, all while having some of the highest margins, growth, and free cash flow conversion. It’s important to note that BWMX does not have a direct comparable given its particular business model, thus resulting in a peer group composed of direct sellers, US retailers, and Mexican retailers.

(Source: DD3/Betterware Investor Presentation, August 2019)

Snowflake who?

BWMX posted record third-quarter results, driven by continued revenue growth and an increased distribution network. As Mexicans have repurposed their home layout, the company has seen sustained demand in an economy where spending has generally contracted. BWMX’s reported sales are net of returns, VAT taxes, and the aforementioned discounts are passed down to its network.

On a year-over-year basis, net revenue has increased 199% to MXN$2,271 million (US$110 million) from MXN$759 million (US$38.8 million). This is directly correlated to the company’s increase of 186% in distributors and 179% in associates, as people have looked to complement their incomes as a result of layoffs and salary cuts. These trends have been overwhelmingly defensive for BWMX.

BWMX’s triple-digit expansion has been the result of its significant investments in enhancing its commercial strategy via technological channels and platforms. In what would have seemed like an arduous outlook at the onset of the pandemic, especially by virtue of the company’s person-to-person interactions, BWMX successfully navigated the “new normal” to new heights.

(Source: Betterware’s Q3 Earnings Release)

In the nine months spanning 2020, net revenues saw a 103% jump to MXN$4,659 million (US$226 million) compared to the same period last year. Again, its increased distribution network propelled forward an 111% increase in volume to 84.3 million units sold, as opposed to 40 million in 2019.

Gross margin decreased to 54.6% in 3Q20 vs 59.9% in 3Q19, mainly due to: i) a 320 basis point depreciation of MXN compared to USD, negatively impacting production costs paid for in USD and ii) a 210 basis point increase in air freight costs, incurred in an effort to meet the surge in demand.

EBITDA also increased by an impressive 234% to MXN$730 million (US$35.4 million) from MXN$219 million (US$10.6 million) the year prior, while astonishingly improving its margin to 32.2%. The EBITDA increase during the first nine months of this year was around 118% with a margin of 29.1%.

Everything looks great, right? Well, everything except the Net Income line. The good news is that the decrease of -187.2% YoY is due to accounting purposes concerning the company’s warrants (a technicality we won’t explore in depth here that concerns IFRS’ treatment of warrants as a derivative financial instrument). Bear in mind that this has no effect on the company’s cash flows or operating income. So, if we remove the impact of these warrants, Net Income actually increased a whopping 214.7% to MXN$456 million (US$22.1 million) from the same period relative to last year.

(Source: Betterware’s Q3 Earnings Release)

BWMX’s financial position is strong, as reflected by its Q3 Balance Sheet. The company has increased liquidity as a direct result of its solid operating results, while long-term debt decreased. The surge in consumer demand is further illustrated by a 420% increase in accounts payable as BWMX has attempted to keep pace. The company’s warrants have also appreciated to MXN$517.8 million (US$25.1 million), in line with the company’s momentous 265.74% stock price increase since its March listing.

A deluge of companies have suspended their guidance for the foreseeable future due to the uncertainty enveloping their businesses. BWMX, nonetheless, has been one of the standout performers during the pandemic across the board, and such is management’s confidence in its “clear and executable growth plan,” that it raised its EBITDA expectations for fiscal year 2020. Previously, management had guided to EBITDA of MXN$1,450 million (US$70.4 million), and has now revised upward to a range between MXN$1,900-$2,100 million (US$92.2-$101.9 million) – a minimum 31% increase. They also expect EBITDA margin to oscillate between 26.2% and 28.9%.

It is of no surprise that such positive results have prompted the board to propose a MXN$330 million (US$16.02 million) dividend to shareholders.

Growth catalysts

Despite COVID-19’s impact on the Mexican economy, coupled with the government’s lack of fiscal stimulus, BWMX’s performance has had little to no correlation with the broader context. Consumers have reallocated spending to reflect their increased time spent at home vs. social gatherings and the company’s pool of distributors has been further bolstered.

Mexico’s houseware market is estimated at US$4.85 billion, growing at an annual rate of 5%. BWMX’s growth rate has long exceeded that of the industry since inception. The company’s market penetration has a long runway ahead, as it estimates having reached merely 20% of its target market as of year-end 2019. For the next three years, penetration is expected to rise to 22%, 25%, and 27%, respectively.

As the saying goes, “the riches are in the niches,” and BWMX continues to expand its product assortment by exclusively focusing on home solutions. It has yet to venture into other verticals falling beneath the home solutions umbrella, providing an opportunity to consolidate its business as a hub for all things home-related.

In 2019, BWMX began its international expansion by pilot testing in Guatemala. Given the country’s geographic proximity and similar consumer demographics, Mexico’s southern neighbor was a natural choice to test its model abroad. The company expects to broaden further into Central and South America in the coming years, with markets such as Colombia, Peru, and Costa Rica being lined up. This will enable BWMX to continue its growth trajectory, leveraging a business model that has been refined over the years.

These expansions could very well be hastened by acquisitions of targets that possess similar business models and/or could instantly enlarge BWMX’s product offering overnight.

Risks

As with any investment, there are an array of risks associated with BWMX’s performance moving forward. These range from the company’s reliance on a growing distribution network to management’s ability to execute. Moreover, the company could potentially be exposed to certain external factors such as interest rate and currency risk, along with increased competition in the houseware sector.

• Low liquidity: A mere 3.1 million shares are publicly traded (less than 10% of its total).
• Limited history: Having debuted on the Nasdaq in March of this year, the company has a limited track record, and as a result financial information is still scarce.
• Distribution network growth: The company’s growth is highly dependent on its ability to continue to attract both distributors and associates. Up to this point, this model has been highly effective for BWMX’s cost structure, in that its network performs last mile delivery, reducing advertising and distribution costs significantly. If the company were to struggle to grow its network in the near future, its financial performance could be materially impacted for the worse.
• Expansion risk: BWMX’s international expansion strategy is still unproven. Given the high initial costs associated with entering new markets, coupled with little to no brand awareness, the company could struggle to replicate its business model in Central and South America.
• Execution risk: In line with opening new markets, the company has stated its desire to accelerate growth via M&A, yet it has no history of successfully integrating acquisitions.
• Currency risk: BWMX’s revenue is denominated in MXN, while 89% of its products are imported from China and paid for in USD. Fluctuations in the foreign exchange rate could severely impact its COGS.
• COVID-19: The pandemic has brought about tailwinds in the shape of increased customer emphasis on their homes. However, there is still much uncertainty going forward on how long COVID will last, the effects it might have, and how it will continue to play toward BWMX’s detriment or benefit.
• E-commerce: A second order effect of COVID-19 has been increased digital adoption. Currently, BWMX’s target demographic and consumer landscape has favored the company’s results, as communities are spread out, distribution logistics are yet to be integrated and can be complex, and the finance gap continues to widen for consumers. E-commerce penetration is bound to rise over time, and BWMX’s ability to adapt and execute on its digital offering will be key in keeping up with these trends.
• Competition: Established quasi competitors such as Amazon (AMZN), MercadoLibre (MELI), and Tupperware (TUP) all cater toward the same demographic to an extent. While these companies are not actively focused on the home-related goods sector, their vast financial resources could pose a risk for BWMX in the longer term if they were to venture into this niche.

Valuation

We sought to value BWMX with a comparable multiple analysis among direct selling companies, houseware companies in the US, and consumer companies in Mexico. It’s worth remembering that there can be plenty of EPS volatility as a result of FX fluctuation. As a result, we have opted for using the EV/EBITDA valuation method.

Currently, BWMX is trading at an EV/EBITDA multiple of 8.9x on our 2021 EBITDA estimate of US$126.2 million. This estimates a conservative EBITDA growth rate of 30%, bearing in mind that the company has averaged 52.52% EBITDA growth YoY. Juxtaposed with the global average of its peers, who average 10.1x, BWMX is slightly below the industry, yet within the same ballpark.

(Source: Curious Capital, with data from Seeking Alpha)

While applying this multiple reaffirms BWMX’s potential upside, it must be stressed that the company’s higher growth rate and improving EBITDA margins are significant leading indicators that suggest it can support a higher valuation multiple going forward.

(Source: Curious Capital, with data from Seeking Alpha)

COVID tailwinds are expected to continue well into 2021, but even if that were not the case, the fact that BWMX continues to build its market penetration from a mere 20% today is an attractive proposition for any investor. If BWMX can pull off similar growth metrics during the following quarters and years, expect significant upside.

Conclusion

If you’re looking to diversify your portfolio away from US stocks, BWMX could prove to be a great addition. The company has shown a tremendous ability to execute, growing at levels that only the best software businesses can achieve.

There’s still a significant amount of market penetration to go, the company continues to invest in expanding its product line, and it has reiterated its lofty ambitions going forward. BWMX has also proven how its focus on product innovation and investing in state-of-the-art technology has reaped dividends (literally).

If past performance is any indication of future success, BWMX will continue to shine. Take the period between 2003 and 2019, wherein the company grew at a CAGR of 20%. For context, AMZN grew at a 28% from 2005-2015. Not too shabby.

As an added bonus, were the company to issue shares, the increased liquidity would make the stock even more attractive, so keep tabs on further developments.

However, we’ve yet to see how international expansion and potential M&A deals pan out, plus there’s the added uncertainty brought about by COVID.

In BWMX, the public markets have been introduced to a winner that has put Mexico on the map in a meaningful way.

Thanks for reading this far. Stay tuned for more.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.