Casper: Direct-to-consumer brands like the mattress company and others are sowing doubts for investors

Early on, CEO Philip Krim had a vision for his startup, Casper, which launched in 2014. He aimed to build the “the Warby Parker of mattresses” he declared. Later he would grow those ambitions, saying he wanted Casper to be a lifestyle brand—the “Nike of sleep”—as the company expanded into sleep-aids and electronics.

But in late January, the mattress-maker valued previously estimated to be worth some $1.1 billion, took a 32% haircut on its valuation as it filed for an IPO, estimating that it would sell 8.3 million shares at a price range of $17 to $19 apiece—raising as much as $182.4 million.

The problem? Casper’s filing comes just as investors may be tiring of such ‘disruptive’ direct to consumer startups. On the heels of disappointing IPOs from Uber and SmileDirectClub, as well as the nonstarter that was WeWork, some investors have also begun to harbor basic doubts about the valuations, growth prospects, competition and fundamental strategies of companies like Casper that have come to dominate our Instagram feeds.

Indeed the ease with which consumer products—mattresses, bras, socks, glasses, shampoo and the like—can be copied have some backing away. The business models, say experts, have a very small “moat” to defend against competitors. Recent stumbles include Honest Company, which fell from a valuation of $1.7 billion at its peak to under $1 billion. More recently, Brandless, which sells beauty products and household goods, has stumbled. (Brandless and Honest Company did not respond to requests for comment.)

“I think there will be [a shake out],” Andrew Dudum, CEO of a brand also often dubbed direct-to-consumer, Hims, said in a Digiday podcast last year.

“As a general matter, these direct-to-consumer companies are about branding and marketing—so they suffer from some of the same factors that made life so difficult for WeWork,” said Rett Wallace, CEO and founder of Triton, a firm that focuses on evaluating new listings.

As for Casper, “I’m not optimistic that they are going to have a strong acceptance form public markets,” says Sandy Kory, managing director at Horizon Partners. “Right now, markets are saying, if you are spending a lot on sales and marketing, and you have software unit economics, you might not make it.”

There has been a veritable explosion of bed-in-a-box makers, including entrants such as Leesa, Purple, and Tuft and Needle. Both Tempur Sealy and Serta Simmons now have their own mattress that come in boxes (with Serta Simmons acquiring Tuft and Needle last year), while Amazon and Walmart are also building their own brands.

“Mattress companies have seen a lot of competing products come in,” says J.P. Morgan High Yield Research Managing Director Carla Casella. “While they have patents, it’s easy to create variations.” Meaning a giant can skirt such patents by, say, mixing in spring coil or foam—and tada!—a new product is born.

“With the space, there certainly is interest in Casper—but there is a lot of debate about the value of the business and the opportunity for them to grow,” says Wedbush Securities analyst Seth Basham.

Casper vs. Purple

An interesting comparison is to look at Casper compared with rival Purple Innovation. That bed-in-a-box company, which went public in 2018 by merging with a public shell company, is profitable and is valued at $600 million.

Moreover, as Basham noted in a recent note, Purple is growing faster than its rival. In the first nine months of 2019, Casper’s revenue grew $20.3% to $312.3 million, while Purple’s revenue grew 46.7% to $304.1 million, Casper also spent more to acquire that growth. Sales and marketing expense represented 36.5% of sales in those nine months, above Purple’s 30.9%.

A basic price-to-sales comparison, at Casper’s estimated public market valuation of $768 million, suggests that investors are willing to pay $1.87 per dollar of sales based on the 12 months ending September. Purple in comparison is a slightly better deal, at $1.57 in the same period. “Purple appears to be a stronger business than Casper at the current time based on data in Casper’s S-1,” Basham wrote.

“The economics work better if #Casper sent you a mattress for free, stuffed with $300,” Scott Galloway, NYU Stern Professor of Marketing wrote in a post after analyzing the company’s S-1.

Another potential flag for investors when it comes to DTC companies: the often generous returns policies that consumers have come to expect. At Casper, product discounts, returns, and refunds grew 77% in 2018 to 2017, exceeding the company’s 43% growth in net revenue in the period.

These no questions asked policies, in which customers can return mattresses after 100-day trials, have a viable business argument: It builds the brand and if the product is good, chances of a buy rises. But as the Wall Street Journal pointed out, it’s a policy that some customers seem to abuse. As more entrepreneurs seek to create companies that disrupt existing industries with a website and better customer service, customers haven’t become more loyal, but in turn have become more promiscuous in their search for low prices and discounts.

And for Casper, these discounts were no small chunk: Total revenue topped $400 million in 2018, but that $80.2 million in returns, discounts, and refunds cut 18% off the topline. It’s hard to gauge exactly how much of the chunk came from returns, but credit-card-data analysis firm Second Measure estimated the figure to be around 10% of sales as of mid-2019.

Concessions in public markets

Even Casper itself seems to be dialing up the caution. An early filing suggested the company was continuing with the dual-class share structure popularized by tech companies but maligned by corporate governance experts.

“We will have two classes of common stock outstanding after this offering: Class A common stock and Class B common stock. The rights of the holders of Class A common stock and Class B common stock are identical, except with respect to voting and conversion rights,” the June confidential filing stated.

That language was gone by its October filing and remained absent in its most recent registration. The company’s roadshow deck meanwhile briefly outlined a “near-term path to profitability,” though the slide was vague on details and lacked a timeline.

“Casper will definitely get some traction, but I don’t think it’ll ever take over,” said Casella, who has covered the mattress space for two decades. She points to other mattress disruptors such as Purple or Sleep Number that have remained on the fringes.

The company’s strong brand gives it a chance to expand further in the sleep economy, says Basham. Though with a focus of profitability now at the fore and a lower cash pool than what it’s private market valuation suggests, growth will certainly be more difficult. And it needs the cash.

“We believe that our sources of liquidity and capital will be sufficient to finance our growth strategy and resulting operations, planned capital expenditures and the additional expenses we expect to incur as a public company for at least the next 12 months,” the company’s filing read.

What’s not yet clear is whether investors will embrace Casper, or will decide it’s time to think outside the box.