No-moat Kogan’s KGN fiscal 2024 results were largely disclosed, including adjusted earnings before interest, taxes, depreciation and amortisation (“EBITDA”) of $40 million, an almost 500% improvement on the previous corresponding period. However, the adjusted net profit after tax of A $21 million beat our estimate by about 20%, owing to lower underlying amortization expenses. The higher adjusted earnings underpin higher-than-expected fully franked dividends of $0.15 per share, representing a payout of 75%.

Fiscal 2024 was marked by a significant improvement in the online retailer's profit metrics, with adjusted EBITDA margins as a percentage of revenue rising to 9%. This is well ahead of the low point of 1% in fiscal 2023 and above prepandemic margins of 7% in fiscal 2019. We forecast EBITDA margins to gradually expand to durable levels of around 18% by fiscal 2027, with the higher-margin platform and verticals businesses expanding and fixed costs fractionalizing over a greater sales base.

Sales momentum and profit margins are still improving. In July 2024, gross sales increased by 2% compared with the prior corresponding period (“iPCP”). We believe group sales growth in the Australian business is higher than average, held back by a cyclically weak New Zealand consumer. For instance, Australian gross sales had increased by 2% in the June 2024 quarter, while sales in New Zealand dropped 13%. We think this momentum is carrying into early fiscal 2025. Nevertheless, we anticipate the overall macroeconomic backdrop to improve for retailers in Kogan’s core Australian market in fiscal 2025, driving group gross sales to increase by 6% to $857 million.

We temper our near-term outlook, with our previous very optimistic expectations looking unrealistic against recent operating performance. But we still expect the margin to expand materially in fiscal 2025. We maintain our fair value estimate of $10.70.

Business strategy and outlook

Kogan’s business strategy is broadly based on low-price leadership. However, as the competitive outlook intensifies from both Amazon and omnichannel retailers, Kogan is adjusting by launching a new online marketplace and building its product offerings in bulkier goods. Compared with new entrants and most traditional retailers, while replicable we believe Kogan is far ahead on its supply chain, operational automation, IT, and sourcing capabilities. It outsources delivery and uses third-party logistics providers for warehousing, but has built a proprietary least-cost routing system that automatically calculates the best carrier depending on the article ordered.

Kogan’s strategy for its exclusive brands is largely data-driven, and seeks to identify and fulfil established demand for consumer products or categories at competitive prices. The firm analyzes Google search trends and product sales on competitor websites to identify strong consumer demand, and then manages and invites manufacturers to tender for new product contracts mostly through its Shenzhen sourcing office.

Kogan is increasing private label exposure in bulkier goods including white goods, built-in kitchen appliances, and furniture with the bolt-on acquisition of Matt Blatt in fiscal 2020. The firm also started delivering bulky goods to Brisbane, Perth, and Adelaide after expanding to 13 fulfilment centers in fiscal 2019. Although typically lower margin, we consider building a differentiated product offering around big-ticket items as a sound strategy. As fulfilment of bulky goods can be challenging to automate and usually requires dedicated handling, Kogan is competing less with Amazon’s fulfilment expertise, and in categories with generally less online competition overall.

We see great potential in Kogan’s relational business growth through its Kogan First membership model. Kogan First is a loyalty subscription service that allows users to pay less for products and delivery and gives access to exclusive offers. Kogan First has seen impressively fast user adoption since it launched in 2019. As of June 2024, Kogan First had over 500,000 members.

Moat rating

Given low switching costs for customers to comparison shop and increasing online competition from both Amazon and omnichannel retailers, we don’t believe Kogan is differentiated enough from a product, shopping experience, or process standpoint to award an economic moat. However, we still expect Kogan to boast high returns on capital, and attribute this to structural industry tailwinds of online migration, the ramp up of its marketplace, and being a capital light business by nature.

We think Kogan benefits from traces of two moat sources, cost advantage and network effect, but don’t yet have confidence that either will prove durable over the next decade. Starting from scratch in 2006 as a pure-play online retailer, Kogan’s process and associated cost advantage of sourcing direct from manufacturers and selling online, enabled the company to undercut most rivals on price.

Since then however, comparably lean supply chains have become plentiful, direct-to-consumer efforts have increased, and traditional retailers have improved their own online presence, eroding this cost advantage. For instance in TVs, Australia’s leading consumer electronics retailer JB Hi-Fi launched an exclusive value TV brand, "FFalcon," in fiscal 2020. Highlighting the importance of price as a key differentiator, third-party brands revenue also fell 25% in first-half fiscal 2020 on the prior period, largely due to a change in GST laws forcing Kogan to charge GST on items under AUD 1,000 shipped directly from their overseas warehouses.

As it grows its roughly 4 million active customers, Kogan group’s platforms across Australia and New Zealand are becoming more valuable to third-party brands and advertisers but they are far from achieving critical mass and a dominant network effect. Demonstrated by the sharp decline in third-party brand sales in first-half fiscal 2020, customers seek value not just range, and it remains to be seen how much value and retention a larger network would create given Kogan’s relatively low operating leverage.

Group gross sales per customer were virtually flat over the last four years despite an increasing number of brands and customers. In addition, it appears Kogan spent significantly more in marketing to acquire additional customers in fiscal 2019, contrary to a network effect. Kogan launched its membership program, "Kogan First," to improve customer retention, which achieved 502,000 subscribers as of June 2024. However, both Amazon and eBay offer cheaper membership programs for a larger range of products on their platforms. Kogan has also attempted to leverage its customer base and extend into numerous other products and services, but aside from prepaid mobile phone plans, other cross-sales have been immaterial.

The company aims to fill product gaps and offer a broader range through both its third-party business and marketplace. In third-party brands, due to new GST laws effective July 1, 2018, Kogan was forced to charge GST on items under AUD 1,000 shipped directly from their overseas warehouses, effectively raising prices substantially. As a result, global brands contributed just 33% of third-party brands revenue in first-half fiscal 2019 down from 70% in first-half fiscal 2016. This reflects not only the sharp decline in global brands sales but also Kogan’s increased focus on domestic third-party partners.

For marketplace, Kogan’s strategy is to attract more sellers with its growing customer base, which in turn may attract more customers. Kogan launched its online marketplace in fiscal 2019 and takes a 10% commission on gross sales. Like Amazon, we expect the company to eventually offer sellers a fulfilment service at a higher fee but don’t believe Kogan will build its own in-house fulfilment.

We see the outlook for Kogan’s mobile segment as being potentially challenging. A trend of postpaid plans improving their offering to consumers with shorter contracts and more peace of mind poses a longer-term headwind. With the TPG-Vodafone merger and TPG’s aggressive track record, prepaid pricing may decrease further to chase more subscribers but may not translate to an increase in Kogan’s commissions if subscribers stay relatively flat.

Aside from Kogan’s mobile segment, we forecast contributions from other business verticals to remain relatively immaterial. Given the current climate, Kogan Insurance has suspended travel and landlord insurance while a supplier of Kogan Travel also became insolvent in fiscal 2020. Through these other businesses, Kogan aims to leverage the Kogan brand and gain incremental earnings without requiring investments in working capital. There are also economies of scope on offer by fractionalizing IT costs across numerous products and services, but we expect these benefits to be small assuming limited success outside of the mobile business. Finally, the company is investing heavily in marketing to grab land in the fast-growing online channel. Kogan pays for customer databases and advertisements, but we believe traffic from free sources will increase as sales scale. A key challenge will always be customer retention. Kogan launched its own membership program in late fiscal 2019 but faces stiff competition against both Amazon Prime and eBay Plus.

Kogan bulls say

  • Kogan is well placed as a pure-play online retailer due to structural tailwinds from online migration.
  • Kogan First has the potential to double its current subscriber base, growing the recurring income stream it generates and strengthening customer loyalty.
  • Marketplace is expected to significantly improve margins as sellers cross-list on its marketplace for greater exposure.

Kogan bears say

  • Current unprecedented growth is vulnerable to potential higher unemployment and physical retail reopening in the near term, and growing competition from Amazon and omnichannel retailers in the long term.
  • The third-party brands business faces cannibalization from sellers migrating to marketplace, and increased price competition since GST laws were effective from fiscal 2019.
  • Mobile is expected to remain challenged with improving postpaid plans longer-term.

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Terms used in this article

Star Rating: Our one- to five-star ratings are guideposts to a broad audience and individuals must consider their own specific investment goals, risk tolerance, and several other factors. A five-star rating means our analysts think the current market price likely represents an excessively pessimistic outlook and that beyond fair risk-adjusted returns are likely over a long timeframe. A one-star rating means our analysts think the market is pricing in an excessively optimistic outlook, limiting upside potential and leaving the investor exposed to capital loss.

Fair Value: Morningstar’s Fair Value estimate results from a detailed projection of a company's future cash flows, resulting from our analysts' independent primary research. Price To Fair Value measures the current market price against estimated Fair Value. If a company’s stock trades at $100 and our analysts believe it is worth $200, the price to fair value ratio would be 0.5. A Price to Fair Value over 1 suggests the share is overvalued.

Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn more about how to identify companies with an economic moat, read this article by Mark LaMonica.