On May 31st, The RealReal, the largest luxury second-hand marketplace, filed to go public. The company’s S-1 provides the first extensive look at the eight-year-old company. What follows is a breakdown of key aspects of The RealReal’s business, which gives us a sense of how efficiently the $334 million it has raised so far has been put to use.

Investor positioning

The RealReal is known as one of the largest luxury secondhand marketplaces, which allows buyers to find luxury products for less than it would cost to buy them at full price and sellers to earn liquidity on their purchases, which are previously sunk costs. There were three key investor positioning choices in the filing that speak to The RealReal’s challenges and opportunities ahead:

  1. The primary message from The RealReal to buyers and sellers is earning or saving money. But to investors, the company leads with sustainability, saying its marketplace “contributes to a more sustainable world.”
  2. The company says that it aims to “extend the lifecycle of luxury goods in a way that honors luxury brands.” The word “honor” is key, since many luxury brands—Chanel, which has a pending lawsuit against The RealReal, chief among them—are skeptical of resale and believe it cuts into their full-price businesses. The RealReal’s positioning here acknowledges that it will need to play nicer with luxury brands, which should be in its best interest. Luxury brands need to catch up to a changing industry, but they will always act from a conservative position since they have a lot to protect. The RealReal likely hopes its open-minded approach toward working directly with luxury brands will show that secondhand can be beneficial for everyone.   
  3. The filing says the platform aggregates and curates “unique, pre-owned luxury supply that is exclusive to The RealReal across multiple categories, including women’s, men’s, kids’, jewelry and watches, and home and art.” This is only partially true; each secondhand product is unique, but there could be dozens of the same model of Birkin Bags or Rolexes on the platform. This messaging plays into the perception that retailers today need to have unique products in a world where there are nearly infinite places to buy the same items. The company’s list of product categories also foreshadows the platform’s ambitions to sell much more than accessories and apparel. But in 2018, 67% of GMV was in women’s, 24% in jewelry and watches, 6% in men’s and only 2% in home, art and other—proof that the company has a long way to go to diversify its core business.

The market

From a market perspective, The RealReal is positioning itself at the intersection of the luxury goods market—it cites a Bain report saying the market will nearly double by 2025 to $412 billion—and the resale market—it cites a Frost & Sullivan report noting that the total addressable market of luxury products in the U.S. available for resale is $198 billion. This is the classic, “If we only take a small piece of a big market…” pitch, but the winds are definitely blowing in The RealReal’s direction: It’s hard to believe that secondhand will ever be less relevant, especially as consumer calls for sustainability grow louder. Also, if there is a recession soon—signs show one is looming, but no one knows when—The RealReal’s business would likely suffer from declining consumer spending, but would be more insulated than luxury brands themselves thanks to greater affordability for luxury consumers still looking to buy but spend less. The company also said that of the 58 million U.S. households with annual incomes of more than $50,000 in 2017, its active buyers represented less than 1% of these households, implying that they have a big market to grow into. However, most luxury brands target households with over $100,000 in annual income, so it’s unclear if The RealReal’s target market will actually be interested in its products, or if The RealReal can truly expand the luxury market itself, which it has not yet done at 1% penetration of this demographic.

Business

GMV and Revenue

The platform had $711 million in gross merchandise value (GMV) for 2018 (up 30% from 2017), which represents the total merchandise value available on the platform, comprised of 9.4 million items, 2.6 million of which were added in the past year. Out of this, The RealReal made $207 million (up 55% from 2017), which comes from its “take rate”—the percentage it collects for facilitating every transaction—which was 35.5% in 2018, up 5% from 2017.

Buyers

As of Q1 2019, The RealReal had 416,000 active buyers (defined as someone who makes a purchase at least once a year, which was up 30% from 2017) in approximately 60 countries, out of 11.4 million users (defined as anyone on The RealReal’s email list or using its app). This means the company has converted just over 3% of its user base into buyers, which is low. Farfetch, for comparison, had 1.1 million active shoppers when it went public, and even with over $200 million less in GMV, The RealReal has many less customers to turn to.  

AOV

The platform’s average order value (AOV) was $446 in 2018, up only 2% from 2017. This lack of growth is somewhat surprising, and illuminates why the company is trying to add higher-ticket items to the platform. If repeat purchase rate is high, the lack of AOV growth might be less of an issue—while the company did not disclose any information around this, simple math shows that each active buyer in 2018 made 3.8 orders on average (the company processed 1.59 million total, up nearly 30% from 2017), which is quite impressive. Eighty percent of GMV (effectively sales) is being bought by repeat purchasers—also a good sign.

Returns

However, like many online brands and retailers, The RealReal has a sizeable return rate, which was 28.7% of GMV in 2018. This is much better than a company like Revolve, which was closer to 50% in 2017, but still a bit high for a company selling supposedly unique goods.

Consignors

Interestingly, the company did not disclose how many active consignors it has, even though it stated almost all of them are individuals, not professionals. Consignors earned on average 65% of the value of each product they sold in 2018 and some even earned as high as 85%, which helped drive liquidity across the platform. The company also shared that as of Q1 2019, 53% of consignors are buyers and 13% of buyers are consignors. The former is quite good while the latter is definitely an area to improve on, proof that converting buyers into consignors is still a work in progress.  

Technology and network effects

Like many platforms and brands, The RealReal claims that it has a network effect: more sellers on its platform lead to more buyers. This seems more likely for The RealReal than many other digital brands and retailers, but there are still limits. One of the most interesting parts about The RealReal’s business is that to introduce shoppers to the benefits of buying secondhand, it employs heavily discount-driven messaging. But the excessive use of promotions raises the question of whether there is enough demand for all of the products the platform is stocking.

In the last two years, 60% of The RealReal’s products sold within 30 days of their listing and 80% sold within 90 days, amounting to very strong sell-through. The company would likely say this is the result of all of the data it collects and its increasingly automated pricing, but it will still be important to watch what happens as more products join the platform. The company also touts RealReal 360, which gives consignors and buyers a unified view of activity on the platform, while also giving employees a single view of each customer whether they are online or in-store, something many legacy brands are trying to implement but have largely failed to do given their technology stack.  

But these investments come at a cost. The company’s technology expenses rose 44% while revenue only grew 35% in the same period. It is common for tech companies to front-load their infrastructure investments, and these results are not as bad as those of other companies, but The RealReal should reverse it over time in order to prove the health of its underlying business.   

The organization

The RealReal employs 180 luxury managers who serve more than 40 major metropolitan markets in the U.S., as well as more than “100 highly trained gemologists, horologists, brand experts and art curators who collectively inspect thousands of items each day.” These people allow the platform to trade on trust, allowing The RealReal to certify the authenticity of every product it lists, which makes it a better alternative than the opaque black and grey markets for luxury products. This is the most human aspect of the platform’s business, since authentication today still requires an actual person’s eye and mind. It’s also a stark contrast to The RealReal’s focus on technology as discussed above, though ideally, the technology helps make these individuals more efficient in the future. To prove this point, this equates to an average of $3.95 million in GMV per sales person and $1.15 million in revenue, possibly some of the highest revenue per salesperson metrics in the retail business, which should improve further over time. Even so, headcount growth in this area is worth watching to see just how efficient technology can make a human-driven process.

Marketing

The RealReal did not disclose a lot of information about its marketing efforts, but it did drop some hints. It focuses its advertising on bringing new consignors into the marketplace, which means it believes it’s a seller-first platform. (If the sellers bring their products, the buyers will come, as the logic goes.) In 2017, the company followed other modern brands’ shift to more traditional advertising and started running TV ads. While marketing expenses increased 22% in Q1 2019, marketing as a percent of overall revenue decreased 17%, a good sign that it is finding more marketing efficiency. It also said that in 2018, 49% of its web traffic came from organic channels, including search—another healthy sign. But while the company succeeds in getting people into its funnel, it’s having trouble getting consumers to convert, considering that only 3% of users have purchased a product.

Unit economics

This brings us to the business’ unit economics, perhaps the most important set of metrics in determining its health. When it comes to consignors, the company has seen an increasing amount of GMV with each subsequent cohort from 2014 to 2018, which shows that it is getting better at attracting higher-ticket items as the business matures. Additionally, repeat consignors are accounting for a larger portion of total GMV, which was over 79% in 2017 and 2018, up from 64% in 2014. On the buying side, the business is seeing similar results, with 2018 buyers spending the most compared to prior years and repeat buyers accounting for over 82% of GMV in 2018. The percentage of buyers who are also consignors has grown every year from 31% in 2014 to more than 40% in 2018.  

When it comes to customer acquisition cost (CAC), however, the business shows some mixed results. Buyer CAC was $224 in 2014 and was $121 in 2018, proof that the company has found more efficient ways to market and that a true network effect is taking hold. But there are problems when it comes to lifetime value (LTV). In 2015, the company broke even on each customer it acquired after six months, and started profiting from there, with LTV equaling 3.5x CAC three years later. However, in subsequent years, while the LTV:CAC ratio has increased after the first three months, it has fallen for the same cohort over the course of six months, 12 months and 24 months, meaning that The RealReal’s earliest users have the highest LTV, while its more recent users are not spending as much. This questions the strength of the platform’s network effect, since these cohorts should be increasing, not decreasing, over time.

However, the one bright spot is when buyers turn into consignors, since a user in this cohort from 2015 has a LTV:CAC ratio of 11.1x, compared to only 3.5x if this person were only a buyer. This highlights a big challenge, but also an opportunity for The RealReal: The company needs to keep increasing the 53% of consignors who are buyers and the 13% of buyers are consignors—that is where its true business potential lives.

Retail

One of the The RealReal’s more recent developments is the opening of retail stores in New York and LA, which give both buyers and consignors a physical place to partake in the marketplace. The company plans to open additional stores in the future, but continued growth on the retail front could also complicate the company’s operations, as it will need to decentralize a lot of its current authentication and selling processes. The tradeoff on the revenue side might benefit the challenges on the process side, but this will be something to look out for.

Overall business health

While many other articles about The RealReal’s business have focused on the company’s operating losses, which totaled almost $76 million in 2018, operating profitably is a choice and the company has decided, like many other startups, to invest in growth. The more concerning issue is the company’s deteriorating unit economics, which illuminate that less valuable customers are joining the marketplace as it grows. This is what the company needs to focus on, and can be solved for by both lowering CAC and increasing LTV. It’s possible that The RealReal is a bit ahead of its time and consumers are not ready to embrace this trend en masse. It is also to be determined how the increasing liquidity of luxury secondhand affects the market, since the more products are available the more prices drop, which could be good (more users) or bad (lower LTV).

Either way, after raising more than $334 million in capital to power its business, but only having $207 million in 2018 revenue, the company will need to show quickly that it can earn more than it has raised. Luckily for anyone watching the company, there is no better mechanism to discover whether this is true than the public markets, and it will be clear soon enough if The RealReal’s business is sustainable.