Part 2: Deep dive on On Running ($ONON)
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Company: On Holding
Ticker: (ONON)
Website: On-Running.com [click here]
IPO date: September 15, 2021
IPO price: $24.00
Stock price at the time of writing: $22.44
Outstanding shares: 317,520,000 shares
52 week high: $29.18 on March 22, 2022
52 week low: $15.44 on October 11, 2022
ATH: $51.45 on November 17, 2021
Market cap: $7.10 billion
Enterprise value: $6.95 billion
Headquarters: Zurich, Switzerland
Number of employees: 1,700+
Average price target from analysts: $26.16 — 16.4% upside from current price
Next earnings report: Tuesday, March 21st
Investor Relations [click here]
Q3 2022 Press Release [click here]
Q3 2022 Earnings Call Transcript [click here]
Outline
Introduction [part 1]
Company Background [part 1]
Opportunity [part 1]
Products [part 1]
Business Model [part 1]
Customers [part 1]
Competitive Advantages [part 1]
Management [part 2]
Culture [part 2]
Financials [part 2]
Risks [part 2]
Ownership [part 2]
Valuation [part 2]
Investment Model [part 2]
Analysts [part 2]
Technicals [part 2]
Conclusion [part 2]
Unless you’re a paid subscriber you won’t be able to read any further, here’s what is behind the paywall:
Part 1 of the 8,000+ word writeup on On Running (ONON)
link to my investment portfolio spreadsheet with holdings, sizes & performance
link to my investment models for all current portfolio holdings
link to my daily Zoom webcasts
My investment portfolio is up +26.8% YTD and up +562% from early 2020. All of this data is available on my investment portfolio spreadsheet. FWIW, some of my largest positions have had a really great Q4 earnings season including CELH, LNTH, MELI, FOUR, TMDX, GLBE, SDGR, UBER, and XPOF.
In case you missed it earlier this week, here’s part 1 of the ONON writeup:
https://jonahlupton.substack.com/p/part-1-deep-dive-writeup-on-on-running
Management
On is an executive-led company with two co-CEOs.
Three co-founders are still at the company's helm, serving in different roles.
On runs as a partnership with five partners (two co-CEOs and three co-founders) cumulatively holding the majority of the voting power (due to Class B shares) but no more than 10% of the entire company.
On has an extensive leadership lead comprising 17 executives. Some of them started at On as interns, and many are industry outsiders bringing fresh perspectives.
The most notable members of the leadership team:
David Allemann is one of the co-founders and has served as the Executive Co-Chairman since April 2021. Allemann was previously the Global Branding and Marketing Director of On since January 2010. He has been responsible for the production set-up of On and leads the marketing, product design, and digital business for On. Prior to joining On, Allemann served as Chief Marketing Officer for Vitra, one of the world’s iconic design furniture brands, from 2006 to 2010. Allemann also served as the Managing Director of the advertising agency Young & Rubicam in Switzerland from 2002 to 2006 and advised global clients as a strategy consultant at McKinsey & Company in their sports, internet, and media practices from 2000 to 2002.
Caspar Coppetti is one of the co-founders and has served as the Executive Co-Chairman since April 2021. Coppetti has been a Chairman and Global Sales Director of On since January 2010. Prior to joining On, Coppetti served as a Managing Partner and Chief Strategy Officer for the brand agency Young & Rubicam from 2004 to 2010. Coppetti also worked at McKinsey & Company as a Management Consultant from 2001 to 2003.
Martin Hoffmann is the Chief Financial Officer and has been Co-Chief Executive Officer since January 2021. Hoffmann joined On in July 2013 and has served as the Chief Financial Officer since then. Prior to joining On, Hoffmann served as the Chief Financial Officer of Valora Retail, a publicly traded European retail company, from November 2009 to June 2013, where he was responsible for managing the financial operations and actions.
Marc Maurer has served as the Co-Chief Executive Officer of On since January 2021. Maurer joined On in March 2013 and has served as the Chief Operating Officer since then. Prior to joining On, Mr. Maurer served as Head of Business Development and Marketing for Valora Retail, a publicly traded European retail company, from April 2012 to March 2013, where he was responsible for driving the company’s business development strategy. Mr. Maurer also worked at McKinsey & Company as an Engagement Manager from April 2007 to March 2012.
Wim ter Schüren has served as Head of Technology since 2018. He previously worked in different technology companies, including in the gaming industry. He was also a Head of Development for otto.de, a German mail-order company and one of the world's biggest e-commerce companies.
Alex Griffin has served as a Chief Marketing Officer since 2022. He was previously a Global Head of Marketing at On from 2017 to 2022. He worked in the creative industry at the beginning of his career.
All executives have a base salary and annual performance cash bonus opportunity, as well as participation in certain pension and long-term equity incentive plans and certain other benefits.
The company has an experienced board of directors that independently oversees the management of On.
Some notable members of the board of directors:
Alexandre Pérez is the founder and Managing Partner of Point Break Capital Management, one of the early investors in the company. Perez has an extensive experience in the financial industry and in capital management.
Ken Fox is the founder of Stripes, a growth equity firm that invests in branded consumer and SAAS companies. Fox was the first investor in the company. He is also actively involved with many current Stripes portfolio companies, including Monday.com and Udemy. Fox also served on the boards of Grubhub (GRUB), Blue Apron (APRN), and Flatiron Health (acquired by Roche). Fox has an extensive experience in the consumer sector.
Amy Banse has served as senior adviser to the executive committee of Comcast Corporation, a global media and technology company (including Comcast Ventures, its venture capital arm), since September 2020. Banse joined Comcast Corporation in 1991 and held various positions at the company. She also serves as a director of Adobe and a number of other companies, including Comcast Ventures’ portfolio companies. Banse has extensive experience in starting, investing in, and building businesses, as well as serving in executive leadership roles.
Dennis Durkin served in a number of roles at Activision Blizzard (ATVI) from 2012 to 2021, including Chief Financial Officer. He was also an Xbox Chief Financial Officer and Chief Operational Officer for more than six years and spent at Microsoft for a total of 12 years.
Culture
On's mission is to ignite the power of the Human Spirit through movement.
This mission significantly shapes the company's innovations and actions.
Today, the company strives to make high-performance products with the lowest possible footprint and engineered for circularity. Therefore, it is now primarily focused on three core areas: recycle, reuse, and reduce.
While running as a partnership, the founding team takes the matter of building the team very seriously.
The On's core values:
Rethink and Venture into the Unknown (the explorer spirit) – embrace the human drive for positive change by being different, taking a more contrarian view, and taking smart risks to discover new innovations, markets, and directions.
Build The Better You (the athlete spirit) – new opportunities to strive for excellence; the more we train, the more we learn.
Start and Finish as a Team (the team spirit) – when everybody contributes, the team wins; those who contribute the most, lead the team. At On, leadership is earned, not given.
Get Smart To Save The Planet (the survivor spirit) – invent new, better materials that are recyclable, separate after use, and move towards a circular product.
Deliver Wow (the positive spirit) – give, don’t take. Be selfless, not selfish. At On, we take pride in living the Positive Spirit and delivering Wow.
Headquartered in Zurich, Switzerland, the company has 8 offices globally: Portland (US), New York (US), Shanghai (China), Tokyo (Japan), Sao Paulo (Brazil), Berlin (Germany), Melbourne (Australia), and Ho-Chi-Minh City (Vietnam), the company employs 1700+ members of 52 different nationalities with different mindsets and cultural backgrounds.
The company had zero layoffs in 2022 and still actively hires (over 180 job openings).
The company runs its own research and development facility (On Lab) in Zurich, where the team designs and engineers all products, allowing the company to take complete control of manufacturing processes down to the details.
Relentless culture of innovation has driven On to repeatedly introduce numerous groundbreaking technologies designed to change the running experience and create continuous excitement for fans as the company brings new products to market.
The company also launched a number of programs, like Right to Run – a community-led initiative to support running as a fundamental right.
On has an average rating on Glassdoor of 3.4 out of 5 based on over 145 reviews, with just 66% of reviewed would recommend the company to a friend. On apparently does not have a CEO rating on Glassdoor.
Financials
Net Sales
Q3 2022
Net Sales CHF 328.01 million ($347.36 million), up 50% from the same period last year
Net Sales was above the $330.4 million consensus
DTC sales increased 40.7% to CHF 106.6 million, while wholesale sales increased 55.6% to CHF 221.4 million
Net sales in North America grew 57.1% to CHF 176.3 million, in Europe grew 31.8% to CHF 116.5 million, in Asia Pacific grew 85.2% to CHF 24.2 million (driven by the strong rebound in China and the continued momentum in Japan and Australia), and in Rest of World net sales increased 150% to CHF 11 million
Net sales from shoes grew 51.6% CHF 310.9 million, while apparel increased 32.4% to CHF 15.2 million and accessories 25.2% to CHF 1.9 million
YTD 2022
Net Sales CHF 855.4 million (+60% YoY)
Analysts' consensus for FY 2022 $1.22 billion
Gross Profit / Gross Margin
Q3 2022
Gross profit margin decreased to 57.1% from 60.2% amid inflationary and supply chain pressures impacting the company
The strength of the U.S. dollar, in conjunction with the weakness of the euro in ratio to our reporting currency Swiss francs, had a significant negative impact on our gross profit margin
Gross profit reached CHF 187.4 million compared to CHF 131.3 million in the previous year period
YTD 2022
Gross profit CHF 470.36 million
Gross margin 55%
Operating Expenses
Q3 2022
Operating expenses were 44.73% of total revenue, a slight improvement from 49.26% in the same period a year ago
YTD 2022
Operating expenses are 46.75% of total revenue so far
Profitability
The company became profitable on an Adjusted EBITDA and Net Income basis in 2022
Net Income grew to CHF 84.1 million so far in 2022
In Q3 2022, the company achieved a record adjusted EBITDA of CHF 56.3 million in the quarter, exceeding CHF 50 million for the first time in the company's history
YTD 2022 Adjusted EBITDA CHF 103.5 million
Adjusted basic EPS CHF 0.07 (consensus was CHF 0.11, miss by CHF 0.04)
Guidance
“Our order book for the first half of '23, the current demand we are seeing, and the much-improved supply environment put us in a strong position to drive continued strong and durable growth, both in Q4 and beyond.” – said Martin Hoffmann, On's co-CEO.
Management now expects CHF 1.125 billion ($1.193 billion), up CHF 25 million ($26.52 million) from the previous forecast and slightly above the $1.18 billion analysts' consensus.
This new top line reflects strong full-year growth of 55% compared to 52% in the previous guidance.
Adjusted EBITDA expectations were also raised to CHF 148 million ($157 million) from CHF 145 million ($153.83 million), guided in the previous quarter.
The company reconfirmed the goal of an adjusted EBITDA margin of 13.2% for the year.
Balance Sheet
Net cash at the end of Q3 was reduced to CHF 493 million from CHF 557.7 million at the end of Q2 2022
Net working capital was CHF 382.6 million as of Q3 2022, which reflects an increase of 104% compared to FY 2021
Long-term debt is CHF 345.9 million
Share-based compensation
SBC as of Q3 2022 was CHF 2.68 million (0.31% of total revenue)
However, the majority of the 2022 share-based compensation expenses will be in Q4 2022
SBC in 2021 was CHF 192.4 million (26.5% of total revenue)
3.37% dilution since the company went public in September 2021, while the stock price depreciated 36%
Free Cash Flow
Cash from operations was negative CHF 157.1 million in nine months of 2022
FCF was negative CHF 223.8 million
Analysts expect the company to generate FCF in 2023
Risks
Current demand is wicker across the board (slowing discretionary spending everywhere) and will most likely persist throughout the entire of 2023
Margin contraction (due to lower inventory levels because of supply chain issues)
The entire industry of sportswear is currently struggling (with big players like Nike, Adidas, and others not having a great year)
Potential takeover (not good for the long-term investors as the company can be acquired at a small premium)
Competition (significant competition with two similar brands Hoka and Brooks)
Other companies can easily imitate On's products
Fashion trends (On goes out of fashion)
International expansion (expensive, time-consuming, success is not guaranteed)
The company may need to raise additional capital to grow the operations, leading to dilution (dilution since going public is approaching 4%)
The company identified a material weakness in the internal control over financial reporting in connection with the preparation of its financial statements for the year ended December 31, 2020, and may incur significant costs in connection with remediating this material weakness.
Strong US dollar and FX fluctuations
On is a foreign company on the US stock exchange (special rules apply when the company is exempt from certain rules, not in favor of shareholders)
The complex dual-class structure of ordinary shares, and as a result, the total voting power in the hands of five partners
Ownership
As of Q3 2022, the company had 317,520,000 shares outstanding
The founding team (consisting of five people) owns approximately 7.5% of the company
Several PE firms own shares of the company, with Stripes being the largest (~6.5%)
Two private investors (Carlos Sicupira and Marc Lemann) own together almost 12% of the company
The largest institutional investor is FMR (~9%), though not that many institutional investors own the company
The company is considerably owned by the general public (~30%)
No information about insider transactions (will be updated in the 2022 annual report)
Valuation
I’m not going to try and argue that ONON is a cheap stock but it’s definitely fairly valued and much cheaper than NKE if we’re looking at PEG ratios.
I’m going to use the $6.95 billion enterprise value from part 1 of this writeup to keep things consistent even though ONON is down 5.5% over the past few days, all of which happened today in the big market selloff.
Using the numbers/estimates below, ONON is currently trading at:
4.5x 2023 EV/SALES
30.3x 2023 EV/EBITDA
50.6x 2023 EV/NET INCOME
If you consider that ONON is expected to grow revenues by 35.4% this year, EBITDA by 57.1% this year and net income by 42.1% this year then ONON is not overvalued at these multiples. If they can continue growing EPS by 40-60% for the next few years than the stock deserves to trade at a 50-60x earnings multiple. If however revenues come in lower than estimates and margins come in worse than expected, leading to lower net income (EPS) and slower EPS growth than that multiple will need to come down as well. The risk to valuation is disappointing financials (perhaps from a global recession) that results in multiple contraction. If analysts believe that ONON can only grow EPS by 30% per year for the next few years than it no longer deserves to trade at 50x earnings or net income like it does today. In the short run stocks are impacted by the broad markets, macro, yields, etc but over the long term the stock performance is much more tied to individual fundamentals specifically revenue and EPS growth.
In order to get estimates like these you can signup at Tikr.com
Investment Model
I kept my estimates mostly in line with the consensus numbers from the analysts however mine are slightly more bullish because I expect ONON to continue surprising to the upside as the ON brand continues to gain momentum and market share. I just got home from the gym and out of 100 people that I saw there tonight, at least 15-20 of them were wearing ON sneakers. This goes for men and women. They’ve done a great job appealing to both sexes.
As you can see from the spreadsheet below, if ONON hits these numbers (revenues & margins) and assuming a P/E multiple of 34 in 2026 or FCF multiple of 45, then you’d end up with price targets of $48.82 or $63.46 depending on which metric you’re valuing the company on. It’s pretty common for software companies to get valued on FCF but not sure I’d seen that from a shoe company before so I’d say it’s probably better to focus on the P/E columns however with the stock current trading at $21, getting to $48 in the next few years would be a nice return for shareholders.
It’s pretty wild that ONON was founded in 2010 and now just 15 years later could be valued at $15-20 billion (although this was the valuation right after their IPO).
Here’s a link to the investment model [click here]
Analysts
As you can see below, we don’t have much activity or commentary from the analysts since ONON’s Q3 earnings report in mid-November. That triggered a few upgrades, downgrades and price target changes but the analysts have been very quiet ever since. In just the past couple days ONON announced they’ll be reporting earnings on Tuesday, March 21st so we should get another round of analyst changes in the days following that earnings release. Even though I do like ONON for the next few years (assuming they can hit the estimates in our models), I’d be shocked if they blew us away with some super bullish guidance — I think the macro backdrop is too challenging for that right now. In the event they disappoint on top line guidance (ie revenues), they better provide some better margin forecasts leading to similar EBITDA and net income expectations otherwise the stock would likely go down 10-15%. This is what happened to DOCN (Digital Ocean) when they reported Q4 earnings, their revenue guidance was slightly below estimates but their EPS and FCF guidance was way above estimates — essentially putting a priority on “profitable growth” for this year.
Here’s what the analysts are saying:
November 25th: Morgan Stanley analyst Alex Straton lowered the firm's price target on On Holding to $26 from $34 and keeps an Overweight rating on the shares, citing more conservative out-year topline growth assumptions following the company's Q3 earnings report.
November 21st: UBS analyst Jay Sole raised the firm's price target on On Holding to $32 from $30 and keeps a Buy rating on the shares after its Q3 results. The company's "exceptional growth" is set to continue, the analyst tells investors in a research note.
November 20th: Goldman Sachs analyst Richard Edwards upgraded On Holding to Buy from Neutral with a price target of $28, down from $37, post the Q3 results. The analyst expect On's "strong" product proposition centered on innovation to drive continued "rapid growth and best-in-class gross margins." On is set to benefit from structural tailwinds as sportswear fashion market penetration rises and its shift to direct-to-consumer "provides strong margin tailwinds," Edwards tells investors in a research note.
November 17th: Baird analyst Jonathan Komp raised his estimates for On Holdings and said he would be a buyer on any pullbacks. He said they have shown a strong performance Q4-to-date, healthy 1H23 orders, and its ongoing brand momentum provide clear visibility to achieving near-term growth expectations. Komp maintained his Outperform rating and $31 price target on On Holdings shares.
November 17th: Credit Suisse analyst Michael Binetti lowered the firm's price target on On Holding to $28 from $34 and keeps an Outperform rating on the shares. Heading into 2023, the analyst thinks On Holding has order books and direct-t0-consumer growth drivers to support guidance to a high-30s% revenue growth rate. And while FX should continue to be a gross margin pressure next year, On Holding noted 350bps of excess air freight headwinds should reverse in fiscal 2023, and planned pricing increases should add +80bp of year-over-year gross margin tailwind, Binetti says.
Technicals
As you can see in this first chart which goes back to the IPO date, we’re still below the VWAPs from the IPO as well as the all time high. It’s very possible that both of those areas will provide significant resistance on the way back up. There’s also a decent volume shelf between $16 and $18 where the stock was basing for several months last year, basically from May 2022 to January 2023 it was in that relatively tight trading range.
The most notable thing on this chart besides the repeated rejections at the DTL the past few days was the bounce this morning off the VWAP from December lows as well as the 50d sma. I’d like to say that 50d sma will provide support but I have no clue if that’s true and given the current state of these markets with the jobs report tomorrow, the CPI report next week and the FOMC meeting in two weeks there are clearly bigger forces at play that company specific fundamentals or technicals. With ONON above the 50d sma (for now) and the 200d sma, I think you can say the stock is in an uptrend therefore it’s probably safe to buy however if ONON breaks the 200d sma it’s probably a good idea to get out and way for a better entry point. If ONON can’t hold the 200d sma there’s definitely a risk of revisiting those December lows in the $16 range. I like ONON but I’m not willing to ride it 30% lower, if it starts to breakdown and loses all the moving averages on this chart then I’ll take my loss and move on.
Conclusion
I suspect some of you are already familiar with ONON and own a pair of their sneakers but I’m sure there’s another portion of you that have never heard of this company before but you’ve seen their sneakers before and just didn’t know what brand they were. ONON is making a big push into the footwear market and I suspect NKE and others are taking notice. When ONON came public in 2021 they had done $459M in revenues the prior year, now they’re expected to do $1.5B in 2023 so that’s up 3x in 3 years and according to analyst estimates they could 3x again over the next 3-4 years. If they can continue growing top line by 30% or more per year while expanding their profit margins then the stock should do well from current prices. If revenues come in lighter than expected and/or margins start getting squeezed then the stock could be a disappointment for investors. I think this next earnings report in two weeks (assuming they give us 2023 guidance) will give us a lot of clarity on what we should expect from ONON this year and then using that guidance we can update the investment model to determine if this stock is still worth owning at these prices.
Even though I think NKE buying ONON makes a ton of sense, the odds are that it doesn’t happen which means if we’re going to own ONON they need to have strong fundamentals and a reasonable valuation — at the current time they have both which is why I own it. If either of those things changes then it will no longer be in my investment portfolio.
Even if ONON gives us a strong earnings report in 2 weeks with better than expected guidance, the stock might still struggle the next few months because of the other macro/market stuff happening ie rate hikes, recession fears, etc.
Hope you enjoyed this writeup and feel free to let me know if you own any ONON sneakers and what you think of them. I’ll probably buy another pair in the next 3-6 months. As I mentioned in the intro (part 1), my four favorite brands right now are NoBull, APL, Hoka and ON. If you need any tips on sneakers feel free to send me an email, always happy to share my feedback.
Have a great week 😊
~Jonah
PS: don’t forget to check out my other Substack at tradingcharts.luptoncapital.com and my Stocktwits room [click here]
Disclaimer: The stocks mentioned in this newsletter are not intended to be construed as buy recommendations and should not be interpreted as investment advice. Many of the stocks mentioned in my newsletter have smaller market capitalizations and therefore can be more volatile and should be considered more risky. I encourage everyone to do their own research and due diligence before buying any stocks mentioned in my newsletters. Please manage your portfolio and position sizes in accordance with your own risk tolerance and investment objectives.