The global retail sector is gargantuan, with about $30 Trillion in sales, the US makes up about 15% of this. The retail sector has been facing both revenue and margin compression as it is squeezed by rapidly growing e-commerce players. The future looks bleak unless the retail experience fundamentally changes. The digitization of retailers is looking to be the solution. It has the potential to increase revenues and margins for retailers while bettering the customer experience, a win-win. As this industry evolves, there will be a blurring between the retail and e-commerce experiences. Amazon's acquisition of Wholefoods, and the multiple investments of Alibaba, Tencent, and JD.com in retail chains have demonstrated that physical points of sale will be at the core of tomorrow's omnichannel offerings. Some components involved in this digital transformation will include electronic shelf-edge labels, self-checkout terminals, shelf-scanning robots. This article is about the adoption of electronic shelf labels and two companies that are poised to benefit from it.
An electronic shelf label (ESL) is simply a digital price tag. It is a shopper-facing technology that has features such as dynamic pricing, tap to buy, and accessible web pages. In the United States, there is hardly any penetration of ESLs, whereas in countries such as France there is a 30-40% penetration rate-globally it is estimated at a 5% penetration. We are defining penetration to be the number of ESLs divided by the total number of paper price tags. ESLs drive greater in-store efficiencies due to factors such as less labor cost in switching out paper price tags. Although this isn’t a big deal for a small store, imagine a Walmart that has 100-150k SKUs per store, changing those tags out is a herculean task. Here is an anecdote about changing paper price tags- safe to say, it is the poster boy of drudgery. Price changes are also occurring twice as frequently as they used to five years ago and this acceleration is even faster in nonfood sectors that face steeper competition from the e-commerce players.
Employees would also be freed up to do other value add activities such as bettering the customer experience, a departure from the customer experience today in which you think you have stumbled into a deserted store. Displays make microweb pages available and with a tap of a smartphone, the ESL customers can conveniently access reviews and other useful data about the product. Other advantages of ESLs are dynamic pricing, giving retailers increased agility to get rid of soon-to-be-obsolete technology or close to expired goods. Dynamic Pricing allows for other uses such as increasing price for high-demand products. A perfect use pricescase would have been the great toilet paper run of 2020. Increasing prices on toilet paper would have helped manage inventories by stemming demand and increased margins for retailers.
So how do employees like it? They can’t get enough of ESLs, posting images such as the one below.
We believe two factors will be axiomatic for the acceleration of ESL adoption: Low cost ESLs and increased data transmission. Low-cost ESLs (keeping all else equal) will enable widespread adoption as the payback period for retailers is dramatically shortened. Retail is an incredibly low margin business ( typically around 1-3%) and low payback periods are a necessity. Retailers, generally not the most technical savvy bunch, struggle to break free from the inertia of budget cycles. Decreasing the payback period would help overcome this inertia. Data transmission or communication will continue to increase between customers and retailers at the point of sale. Retailers will be able to leverage more and more data about customers to drive revenue and profitability. For example, there are now video rails that can promote advertisements at the POS, all vying for the customers' attention. This digital real estate will be incredibly valuable as time continues.
ESLs and other add-ons such as shelf monitoring have significant effects on retailers’ margins, approximate impacts to retailers are charted below. Estimates show both revenues and net margins can increase by about 5%. A rough analysis of the impact ESLs can have shows an increase of greater than $50 Billion added to the bottom line for global retail. We arrived at this using simplistic assumptions such as using 26T as the total global revenue and using an average margin of around two percent. As for the number of paper price tags out there that can be replaced- estimates for the grocery sector alone are around 10 Billion. This would put the TAM for ESLs between $20-50 Billion.
On SES Imagotag
Currently, the two companies that are the market leaders are Pricer (PRIC-B:OSLO) and Ses Imagotag (SESL:FR). Given the nascency of the industry and the duopoly that dominates it, we will look at both companies in this article. We will begin by examining SES. SES is the ESL market leader with about 250mm ESLs installed to date, this is about a 50% market share. By revenue, SES is about 50% larger than Pricer and by bookings, it is about 3x the size. They have gained market share at the expense of Pricer, who was the previous market leader until 2012. The CEO Thierry Gadou is relentlessly focused on reducing the cost and effort to install ESLs for retailers-calling it the Total Cost of Ownership (TCO). This covers everything from plug n play to reducing IT costs through using the cloud, preventative maintenance etc. SES has been growing revenues at about a 21% CAGR for the last 10 years (graph shown below) and its annual bookings have grown at about a 33% CAGR! This has been primarily through Europe up until 2017 when SES entered the US and Asia markets.
SES began its foray in the United States back in 2017 and has been gaining ground slowly until 2019, when it won an exclusive nationwide partnership with Kohls (1100 stores). SES has also recently partnered with Walmart Canada in over 300 stores in April of this year. SES customers include 11 clients among the top 50 North American retailers and 4 among the Top 10. SES has consistently been the leading innovator in the ESL space, first rolling out NFC technology, then cloud-based solutions, the first four colored ESL, and more recently introduced value add services such as the AdShelf (advertising video rail) and shelf monitoring. SES is typically ahead of Pricer by about two years with innovations. SES also spends about 4x what Pricer does on R&D. In 2018, SES came up with Operation Leapfrog, a plan to increase their advantage over competitors. It is seldom that companies set ambitious and specific KPIs and publicly commit to them. Below were metrics they set out to achieve by the end of 2022.
VUSION 2022, a 5-year strategic plan driven by BOE's investment to:
o Accelerate the global adoption of digital labels thanks to increased ROI for retailers
o Strengthen SES-imagotag's leadership in the digitalization market physical commerce by 2022
o a doubling of customers within the Top 2000 of global distribution
o an installed base of 500 million connected electronic labels
o revenue of 800 M € achieved
o 50% in Europe and 50% in Asia-Pacific / Americas
o > 20% revenue in software, data and services
o 20% EBITDA margin
The pandemic has delayed the achievability of these goals by about 1 year. If SES can achieve this, it would represent greater than a 40% CAGR over the next three years. It is important to add that while revenues stalled (only growing by 11%), order entries did not, increasing 34% yoy.
SES’s business started off as a mediocre one, primarily selling hardware. However, their growing SAAS offering- named VUSION - fundamentally changes their business model for the better. These offerings enable retailers the ability to dynamically price their products, monitor inventory on the shelves, and more recently play advertisements on installed video rails. We suspect that limited real estate at the point of sale will be highly sought after in the coming years.
“In the future, advertising spending by brands will gravitate more and more towards points of sale and store shelves for greater effectiveness and impact.” Marketing Director - Nestlé
VUSION is the culmination of five years of R&D and acquisitions (Imagotag, Findbox, PervasiveDisplaysInc, MarketHub). SES has also partnered with Cisco-Meraki, HP-Aruba, Huawei, Mist, Lancom, and Microsoft Azure for retailers to be able to connect seamlessly to ESLs. This is a key differentiation point of the VUSION platform. VUSION has been strongly received with revenues growing at double the revenue of their hardware business since 2018. Vusion has been growing at around a 65% CAGR and currently makes up 13% of total revenue. This cloud based solution has been rolled out to about 4,000 of their stores they have a presence in or about 20% of their total footprint. Even if software makes a small portion of SES hardware sales (say 5% per store per year) , this business could be generating 150mm in recurring revenue very quickly. SES’s 20% SAAS goal by 2023 puts them at about 160mm revenue generation. Having a large ESL footprint, SES can charge less for both their hardware and software components than their competitors. Wright's law and a growing SAAS segment will provide SES with an inflection point in growth and profitability. At its current valuation, SES is trading at about 6x 2023 EBIT which we think is significantly understating the value of this business by multiples.
Both of the below graphs from the SES FY 20 presentation show a growing portion of the revenue stream coming from value-add software and “maintenance” on their installed base. Both growing revenue streams are significantly higher margin than their initial ESL install revenue base. Usually, this method of upselling is not the best way to conduct business however given the razor-thin margins of retailers, the extremely low install margin is needed to demonstrate the value add of ESLs. Retailers can then build conviction in ESLs, increasing their willingness to spend on other add ons.
Other partnerships SES has made have been on the manufacturing side. In Dec 2017, BOE Technology partnered with SES, acquiring 60% of the company in the process at about a ten percent premium. BOE Technology is a leading Chinese semiconductor display firm based in China. They partnered with SES to get their foot in the door of the retail sector and SES benefited from access to the Chinese market and their manufacturing capability. Asia is typically a very tough industry to break into unless you have some heavy hitting partners. Here is what PWM, the de facto leader in gas station technology electronic displays said about the Chinese market.
“The Chinese market is hardly regulated so there is still a lot of potential. With China, as a foreign company in a market dominated by national players, it all depends on the local partner you have in the country. That’s what will determine your success – a good, connected partner that sees the benefits of working with a Western supplier”
SES has an exclusive supply contract with BOE’s manufacturing facility in Chongqing that has a production capacity of 150mm ESL. This contract extends until Jan 2024. This factory can produce half of SES total production needs for the foreseeable future. Their partnership with BOE in Chongqing also gives SES an advantage in terms of the transportation of their goods. This is because Chongqing connects to almost all of Europe by rail via the Silk Road. Shipment by rail to London from Chongqing is almost twice as fast as shipment by sea (18 days vs 30 days) and cheaper than air freight. One can see the effects of this with the marked increase of transportation costs Pricer incurred whereas SES hardly saw an increase. The other half of SES’s production needs is subcontracted to a manufacturer in Eastern Europe. Based on nameplate capacity (> 300 mm ESLS), SES can meet ESL demand for the next 5 years.
SES Conclusion As the e-commerce and retail worlds blend, the retail experience will begin to offer a much better customer experience with features such as tap to pay, dynamic pricing, and convenient access to product info. Employees will be able to spend more time helping customers, an advantage that retail will always have. We believe as ESL adoption evolves, the main selling point of ESLs today, which is the cost of labor to replace paper price tags, will be the smallest contributor to the aggregate value that ESLs bring to retailers and customers. Given the acceleration of these trends, SES’s dominant position in this space, and their increasing profitability, we believe SES to be at a minimum worth double its current valuation.
The continued reduction of ESL costs will accelerate retail demand and could perhaps cause an asymptote in demand past a certain level. As the manufacturing scale of ESLs increases, this will increase the odds of this happening.
The convergence of e-commerce players with retail will lead to more digitization at the store level as the customer experience becomes blended. Amazon Fresh stores are an example of this.
An increase in costs such as employee wages or higher taxes will incent retailers to look more closely at other methods.
BOE Technology recently sold 1.3mm shares to supposedly increase the liquidity of SES ( it only trades about $600k/ day). If BOE was to liquidate their entire position, this could present a short-term stock overhang and more importantly would present a risk to SES’s future Asian revenues if BOE was to sever the business relationship. This is the biggest risk to SES at the moment.
More share dilution could occur. SES has diluted its outstanding shares by about 30% over the last 4 years. There has been no dilution for over a year and we would be surprised if there is any further dilution given that the CEO, Gadou, owns about ten mm worth of shares or about 20x his annual salary, and BOE owns 60% of the company.
The larger retailers could turn to ESLs and add ons being done in house. Kroger experimented with this in 2018. We ascribe a lower risk to this.
One would think an ESL- a small piece of plastic with some circuitry inside- would converge to a commoditized product, after all, ESLs aren’t the most complicated piece of gadgetry out there. However, there is a surprising amount of differentiation. Transmission technology, transmission capacity, product service life, mono- or bi-directional communication, compatibility with other stores systems, scalability, installation process, label design, and adaptability are all key points and there are tradeoffs between them. Below are some KPIs about Pricer’s ESLs. Pricer’s ESLs have almost 2x the battery life of its competitors' products at greater than 10 years! However, a tradeoff is that Pricer's ESLs have a lower data transmission rate than low-frequency radio waves (SES). We think given the size of the addressable market, there will likely be a need for both products. Pricer and SES have both been around for around twenty years with no clear winner between the technologies they use.
Pricer used to be the dominant ESL leader with about 60% market share up until 2012. At the time SES had about 30% market share. So what happened? It is hard to pinpoint as it is likely multivariate, but a large reason seems to be that Pricer had a loss of vision and leadership. The CEOs were on a revolving door for about 5 years with hardly any change in their products. Whereas SES enjoyed a 22% CAGR for the last ten years, Pricer saw a more laggardly 12% CAGR. In 2018 Helena Holmgren took the reins and Pricer seems to have not just stabilized but has grown significantly since then. Pricer has recently won contracts with large retailers such as Carrefour and Best Buy in the past couple of years. Best Buy recently commented on the cost of replacing paper tags: “even the smallest Best Buy locations devote up to 40 labor hours each week to price tag management, equaling almost 2,000 labor hours a year.” Pricing an hour of labor of a Best Buy employee to around 13 dollars per hour equates to about 26,000 dollars per year per store in cost savings. Multiplying this across the entire Best Buy store footprint ( 600 stores ) yields an aggregate savings of 15mm per year. As another customer puts it, by implementing ESLs, TWE has been able to cut the process of updating the prices of their products in both stores from 8 weeks to just 1 hour.
Pricer’s revenue is primarily segmented across Europe and the United States with their manufacturers located across China, Thailand, Cambodia, and Hungary. These manufacturers ship the ESLs by either air or boat from China to a logistics hub in Europe. Freight costs skyrocketing have bitten into Pricer’s margins since March 2020 driving their operating margin down from 30% to about 20%. Pricer’s revenue growth was significant in 2020, increasing 70% yoy to about 180mm dollars. However, the bulk of that was from recent one time large contract wins. Their bookings are more representative of normalized future revenues and that currently sits at about 160mm dollars per year. Given the nascency of the market and capable leadership, we believe they can achieve the same level of growth as SES in the hardware segment. Another difference is that Pricer has a US subsidiary which SES does not have. Given the nature of this business, one we think is relationship based, this most likely gives Pricer a small advantage in the states for the moment. SES relies primarily on a network of resellers and distributors in the USA.
Like SES, Pricer has introduced cloud-based solutions to retailers in 2020 - albeit about two years after- named Pricer Plaza. Pricer had about 400 stores using their SAAS platform at the end of 2020. Pricer is having moderate success with their SAAS offerings and may look to acquire other players to bolster these efforts. Pricer trades at roughly the same relative valuation as SES. Like SES, we believe they can execute and in doing so would be worth roughly double their current valuation. The strong trends of ESL and add-on services will continue to provide a long runway for Pricer. The ESL trend will continue to digitize the retail sector. Pricer and SES will be the prime beneficiaries of this. Although SES is better poised currently and we are more favored towards it, we believe Pricer is also undervalued and is exposed to less severe risks such as manufacturing. Recent wins with Carrefour and Best Buy gave needed credibility to Pricer’s offerings and could market the beginning of their turnaround.
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