musicMagpie — heretoHelp

musicMagpie (MMAG) is a leading online consumer company in the circular economy space with a focus on buying and selling across two core categories: Consumer Technology and Media (discs and books). Its growth prospects are mainly driven by increasing consumer acceptance of circular economy models, a result of increasing environmental and sustainability concerns. Its main geographic presence is the UK (76% of revenue in H123), one of the more developed consumer re-commerce markets, with a smaller business in the United States. It is the world’s largest seller on Amazon and eBay by reference to volume of sales transacted on third-party platforms. The product category focus has evolved over time and MMAG’s technology will enable this to continue as consumer engagement with the circular economy increases. Historically, MMAG’s relationship has been solely with consumers, and typically intermittent in nature. Initiatives undertaken over the last three years indicate this is changing: the offer of rentals of smartphones and other consumer technology initiatives aim to build recurring and more profitable revenue streams; the roll out of SMARTDrop kiosks to facilitate customers selling used consumer technology more easily; and the growing corporate recycling pipeline, which opens up a new pool of potential product supply and revenue.

MMAG’s H123 results indicated that trading improved in Q2 following a weaker Q1, a period affected by postal strikes and low UK consumer confidence. Group revenue fell 13% to c £62m, comprising an 18% decline in Media and a 10% fall in Consumer Technology revenue, reflecting management’s focus on higher-quality sales and the disruption felt in Q1. Gross margin improved by 3.1pp y-o-y to c 29.7%, due to the greater proportion of products sourced direct from consumers, a greater proportion of sales through MMAG’s store and a growing Rental contribution. The improved gross margin along with a focus on cost control resulted in EBITDA of £2.8m, of which £2m was earned in Q2. Active rental customers at end-May of 39,000 (FY22-end: 30,500) reflected a slowdown in customer acquisition since February (36,000), as management focused on higher-quality credit customers. Net debt increased to £13.9m (FY22: £8.2m) and the £30m revolving credit facility (RCF) was extended by a year to July 2026.

Our primary method of valuing MMAG is a discounted cash flow (DCF) analysis, with a fair value of 61p/share. Beyond our explicit forecast period we assume y-o-y Consumer Technology Outright sales growth reduces from 8% to 5% pa and Media sales decline by to 15% pa to our terminal year. We expect Rental income enhance MMAG’s revenue by 1–3% pa. The higher-margin Rental business potentially increases the EBITDA margin from 4.5% in H123 to 13.1% by FY31. We use a WACC of 11% (risk-free rate of 4.2%, risk premium of 6%, beta of 2.5 and an after-tax cost of debt of 5.6%) and a 2% terminal growth rate.

MMAG operates in markets with a wide range of competitors and the structural growth dynamics of the circular economy suggest that competitive pressures are likely to remain high. It is exposed to frequently changing product cycles and some product categories that are expected to demonstrate structural declines, such as disc media. As the circular economy evolves, MMAG’s business exposure is likely to change as it seeks to increases the size of its addressable markets and the number of product categories offered. MMAG’s US business is a relatively small business in a less well-developed re-commerce market, therefore this may be more difficult and expensive to develop than expected.

MMAG is a leading consumer circular economy company in the UK and United States with a focus on consumer technology (mobile phones, tablets, MacBooks, smartwatches and consoles), disc media (CDs, DVDs and games) and books.

Founded in 2007 by Steve Oliver and Walter Gleeson, the company started with an initial focus on buying and selling pre-owned CDs and DVDs from and to its customers.

From an online perspective, the company developed its distribution by initially offering items on Amazon’s websites in the UK (2008), the United States, France and Germany (2009) and then on eBay (2011). In 2012 the company entered the consumer technology market and also launched its US business. Its own online stores (www.musicmagpie.co.uk and www.decluttr.com) were launched in 2015 and 2017, respectively. Books were introduced in 2016.

The company also developed a physical presence with the launch of its first ‘That’s Entertainment’ retail outlet in 2009, which quickly grew to over 30 stores by 2011, before management decided to close its retail outlets in 2018 in order to focus on online. MMAG currently has wholesale partnerships with a number of high street retailers such as ASDA.

musicMagpie was admitted to trading on AIM in April 2021, raising gross proceeds of £15m. Proceeds raised at IPO were used to fund investment into its rental business, the rollout of SMARTDrop kiosks and IT development, and to repay existing debt facilities.

In the UK, the company trades as musicMagpie, and in the United States as decluttr. In H123, the UK represented 71% of MMAG’s revenue, which reflects the UK as a more established business, and the UK circular economy is more advanced.

MMAG aims to be the ‘smart, sustainable and trusted way (for consumers and corporates) to buy, sell and rent’ in its chosen product categories. Various UK-focused initiatives have grown and are expected to continue driving revenue growth while enhancing MMAG’s profitability. For ‘buy’ and ‘sell’, two initiatives are focused on increasing the potential sources of products that can be on sold: the SMARTDrop kiosk, in which sellers can easily recycle phones in partner retail locations in a quicker and more efficient way; and Magpie Circular, a first step that introduces MMAG’s trade-in offer to corporates. For ‘rent’, the October 2020 launch of smartphone rentals, and the February 2022 expansion of the service to other consumer technology products such as tablets, gaming consoles, MacBooks and wearables, is focused on building recurring revenue, with significantly higher EBITDA over the life of the device, as opposed to the outright sale historically pursued by MMAG. Our estimates suggest MMAG’s Rental income is likely to be the most significant driver for future growth in revenue and profits, growing from c 18% of gross profit in H123 to c 43% in our terminal year (FY31).

Management believes its trusted brand (it has an average Trustpilot rating of 4.4 for the UK business with c 264k reviews, and 4.3 for the US business with c 27k reviews at 13 July 2023), which flows from the high level of quality control and speed/ease of dealing with and receiving money, is key to its appeal to customers relative to its peers. MMAG has 9m global customer registrations. MMAG has recently won a number of awards, including the Best Refurbished in the 2023 Uswitch Telecoms Awards, as well as Best Online Retailer and Best Secondary Market Provider in the 2023 Mobile News Awards.

MMAG has the highest number of seller reviews on both Amazon and eBay with over 10m on each of the platforms, and is the number one transactional reseller in the history of both platforms, with a 99.4% positive feedback score on eBay and a 4.9 out of 5 rating on Amazon.

MMAG builds brand awareness via advertising on television, online and through social media. It proactively promotes personalised offers to its existing customer base by targeted emails.

In the video below from March 2023, CEO Steve Oliver provides an overview of MMAG’s strategy.

The company’s technology platform and warehouse management system platform have been developed in house. They ultimately drive the buying and selling price decisions for each product so the trading margin is optimised and stock obsolescence is minimised.

The company’s core ‘buying’ technology, ALIVE, has data including over 10 years of MMAG’s transactions and information on 2.5m products that drives the instantaneous decision on whether to buy a product and the price that should be offered. The ‘selling’ technology, WARP, optimises the selling price and handles the product listing across the different sales channels, which enables management to see competitor availability prices and decide where the best price can be achieved.

In the UK, MMAG operates from two processing and distribution centres and the head office in Stockport, which cover 170k square feet. MMAG’s US operation is much smaller in scale, operating from a processing and distribution facility covering 60k square feet.

Management estimates the infrastructure (UK and US) can support a doubling of the growing technology revenue base, assuming some space re-allocation from media (expected to contract over the long term), so there is no pressing need to consider infrastructure changes.

Segmental disclosure includes revenue and a number of profit measures for the two key categories under two divisions, Consumer Technology and Media. Within Consumer Technology, the company also discloses the financial figures for Outright sales and Rental income. Disc Media and Books used to be reported separately but are now reported as Media.

Consumer Technology has grown to become the highest proportion of revenues since its introduction, accounting for 66% of group revenue in H123, up from the 65% reported in H122 and 55% in H121. The combined revenue of Disc Media and Books under the single line Media accounted for the remaining 34%. Despite the fall in revenue in the period, the H123 gross margin grew from 26.6% in H122 to 29.7% as a result of management’s focus on higher-margin sales, sourcing more directly from consumers and the continued growth of Rental income. Gross margin across Media is therefore expected to remain resilient in the face of revenue decline.

MMAG’s consumer circular economy business model can be broken down into three parts: buy, sell and rent. Management’s strategy is to be the ‘smart, sustainable and trusted way to buy, sell and rent’.

For full description of the buying process, please see our initiation note. Changes to the process since include an update in the grading criteria from ‘good, poor or faulty’ to ‘excellent, good and poor’, to provide clearer guidance for consumers and bringing more product into the middle category, which helps the margin mix. The grading is important given the likely more variable product conditions, which can affect performance, costs and therefore margins. During 2022, MMAG also enhanced its screen polishing process, which led to a 30% improvement in the quality of all devices that go through the process, resulting in a higher margin for MMAG as it sells more products at a higher grade.

MMAG has two initiatives to increase its sourcing of products from more customers: the rollout of SMARTDrop kiosks and purchasing of used technology from corporates.

SMARTDrop kiosk trials were launched in November 2020, primarily as a way of enhancing MMAG’s sourcing opportunities by making it easier for consumers to transact with MMAG and as another way of overcoming consumer apathy. Management estimates UK households and businesses have £16bn of old devices ‘lying around’ the house.

Customers drop off their smartphones in the kiosks, located primarily in supermarkets to date, which eliminates the need to make a journey to a post office or courier drop point, then receive immediate payment rather than having to wait as the kiosks have the technology to visually inspect and check the provenance and functionality of the technology. Customers can either initiate the selling process online and take the products to the kiosk, or initiate the whole process at the kiosk. In H123 MMAG introduced a small processing fee of £10 to use the kiosk, which management notes has not affected customer conversion. A picture of a kiosk is shown in Exhibit 5.

The trials began in 20 stores in the North-West of England and in September 2021 management announced a sustainability partnership with ASDA, including a nationwide rollout of the kiosks across over 290 stores, providing access to 90% of the UK population within a 15-minute drive. The rollout of the SMARTDrop kiosks in ASDA partnership was completed in November 2022. Additionally, MMAG’s services are promoted directly to ASDA’s online customers bringing obvious reach benefits. Since launch, c 55k devices have been sourced through the kiosks, with more than £15m paid out to customers and in H123 the kiosks represented an impressive 45% of MMAG’s Consumer Technology sourcing in the UK.

MMAG has also installed kiosks in other high footfall locations, including the Trafford Centre in Manchester, bringing clear consumer awareness advantages. At the H123 results management noted the potential for further expansion into other locations such as transport hubs, in-town stores and other food retailers.

MMAG’s focus for FY23 is to increase customer awareness of the kiosks through enhanced marketing spend. Management is looking to improve the grading process performed at the kiosks to improve quality control on devices received, and will review the pricing model to ensure margin is maximised.

MMAG launched its corporate recycling initiative in February 2021, increasing the potential sources of technology products that can be sold on to its retail customer base. The corporate customers benefit from easier recycling of old technology, surety about the extent and quality of the data wipe, while enhancing their own environmental credentials.

The first major customer of the B2B corporate subscription service, Stagecoach, was announced in October 2022. Through the partnership MMAG will supply iPads to Stagecoach for their bus engineers for three years. At the H123 results management cited 2,200 devices under rental through the corporate scheme with the pipeline continuing to build. MMAG works with a third-party sales relationship agent to build the corporate pipeline, which management says is going well. However, management is mindful of the capital expenditure requirements and the subsequent impact on the debt levels if it were to rapidly expand the corporate client base. Additionally, MMAG is selective about taking on corporate clients to meet a minimum required return.

Sales are made through MMAG’s own websites and smartphone apps and third-party marketplaces, such as Amazon, eBay (it is the world’s largest seller on those platforms by volume and feedback and Back Market. A small minority of sales are also made through wholesale partnerships in the UK. MMAG has a 14-day return policy on all sales, as long as the product is returned in the same condition, and consumer technology products have a 12-month warranty, which is an important differentiating part of MMAG’s offer versus some competitors, for example peer-to-peer sales websites.

MMAG announced a partnership in the US between decluttr and Walmart in January 2023.

MMAG is third-party platform agnostic as to whom it sells to and how it sells, although own-site sales generate a higher margin and is the preferred platform. The group has continued to diversify its revenue streams through additional platforms on which its devices are listed and the extension of its offering into a broader range of products. The majority of sales go through its own store channel, with the MMAG website accounting for 79% (FY22: 72%) of UK consumer technology sales in H123. The growth in traffic was due to increased marketing expenditure to drive traffic to its own site. On its own site, MMAG can offer better deals for customers, which provides greater stickiness and brand awareness.

The ‘buy now, pay later’ (BNPL) option for consumers is not a new offer, however previously the offer was not actively promoted on the company’s website. MMAG announced with the H123 results that the BNPL offer would be more front and centre to customers. The offer helps more financially strained customers spread the cost of big-ticket consumer items, which may be helpful given the challenging UK economic environment and pressure on disposable household incomes. Furthermore, customers who do not meet the new credit score requirements for the rental business will be directed to the BNPL offer. The BNPL scheme is in partnership with Klarna. Klarna’s ‘Pay in 3’ product allows customers to split the cost over three interest-free payments to be automatically paid every 30 days. Klarna also offers a ‘Pay in 30’ option, allowing customers to pay interest-free at any time within 30 days of purchase. Alternatively, through Klarna Financing customers can choose to pay over six to 36 months.

As mentioned previously MMAG makes sales through marketplaces (Amazon, eBay and Back Market). In FY22 MMAG expanded its existing marketplace offering with Amazon, into Amazon Fulfilment by Amazon and Seller Fulfilled Prime. Following the launch of consumer technology products on Back Market’s UK platform in April 2022, MMAG launched on Back Market US in mid-May 2022. Back Market is a Paris-based marketplace for buying and selling used consumer technology products, operating in 12 countries with a focus in Europe.

In January 2023 MMAG announced a partnership in the US between decluttr and Walmart.com, Walmart’s e-commerce platform. Initially, refurbished disc media was available to buy on Walmart’s online marketplace, and more recently refurbished consumer technology (iPhones, iPads, MacBooks and consoles) have been added to the platform. The partnership provides decluttr with access to Walmart’s 120m monthly website visitors, which should enable growth in brand awareness in the US, driving traffic to decluttr’s website.

Despite the third-party platform fees required and lack of customer ownership when selling on marketplaces, management cites the benefit of no marketing spend to acquire customers. As MMAG has diversified the number of platforms it sells through, it is able to shift its selling volume based on demand and platform promotional activity. MMAG noted at the FY22 results that marketing penetration via Back Market dropped towards the end of the year.

The rental subscription service of consumer technology is only offered through MMAG’s proprietary website. MMAG initially launched the rental offering in October 2020 with Rent-a-Phone and extended the offer to a broader suite of consumer technology products, such as wearables, games consoles, MacBooks and new Apple products at the time of launch to market in February 2022.

The initial subscription term was a minimum of 12 months, with MMAG announcing a 24-month contract offer in December 2022 at a lower monthly price, partially in response to the cost-of-living crisis. MMAG benefits from lower transactional costs and a higher renewal rate with the 24-month contracts.

At the end of the contract the customer has the option to either upgrade, renew or return the device. Monthly rental fees start from £6.99 for smartphones, £8.99 for a wearable and £12.49 for iPads. Monthly fees for the Apple’s latest iPhone 14 start from £29.49.

MMAG benefits financially from a recurring revenue stream, hopefully over a number of years as the customer extends or renews the subscription with the same or another phone, as well as the ultimate on-sell revenue of the product if it is no longer rented by a customer. Through this, the customer essentially becomes MMAG’s supplier. By definition, the length of time that a phone can be rented is limited by the time its operating system is kept up to date by the phone manufacturer, and there is an inter-play between how long the phone can be rented and the ultimate selling price. From a customer relationship management perspective, management also expects to benefit from the ability to cross-sell its other product offers given regular opportunities to interact with customers.

Using the example of an Apple iPhone 12 64GB, the revenue and profitability dynamics after one year are highlighted in Exhibit 6. The smartphone has an outright sale cost for the consumer, including VAT, of £409.99, against a monthly price, including VAT, of £18.99 which works out to £228 per annum. For MMAG there is a £197 difference in total revenue, excluding VAT, between an outright sale and rental after one year, however this is expected given the near-term dampening effect of the rental model. Looking at profitability, EBITDA generated for an outright sale is £68 (margin c 18%) versus £149 (margin c 78%) for a rental after one year, as the smartphone under the rental model is capitalised as an asset and depreciated over the estimated useful life (seven years) of the device at 33% on a reducing balance. However, when taking depreciation into account an outright sale generates £19 more EBITA profit versus a one-year rental, highlighting MMAG’s reliance on a customer subscription term extending over 12 months to achieve the levels of profitability greater than an outright sale.

Management states that the rental model reaches EBITDA break-even after around seven months and cash flow break-even before any delinquencies after 24 months.

In October 2022 MMAG announced the launch of its subscription service for corporates, through which they can rent Apple iPhones and iPads, with pricing starting at £13 per month. The standard corporate subscription length is 24 months with an extended warranty. MMAG has sought to improve the customer service of the corporate subscription through the partnership with Utelize Mobile, a sustainability focused IT management services provider. The partnership provides corporates with an online portal and support, enabling a smoother customer experience while creating efficiencies for MMAG through the simplification of processes.

Having launched almost three years ago, MMAG’s Rental business continued to deliver strong growth and positive momentum in H123, as active customers grew from 1,500 in FY21 to 39,000 in H123, making up c 6% of total group revenue in H123 (c £61.9m) and 18% of group gross profit (c £18.4m). The significantly higher Rental margins (gross 84.5% and contribution 82.6%) than for Outright sales (20.3% and 14.2%, respectively) highlight the potential improvement for group margins if management can continue to scale the rental business successfully.

The overall growth of the circular economy is being driven by increasing awareness of environmental and sustainability issues across society, by individuals, corporates and governments. The growing circular economy is an established megatrend.

To reduce consumer apathy and get consumers more engaged with the growing circular economy, corporates with an online focus, such as MMAG, and the traditional offline/hybrid retailers are helping to raise consumer awareness and increasing the convenience of participating in the circular economy.

E-waste is discarded electronic products with a battery or plug, such as mobile phones, tablets or computers. The failure to recycle e-waste means precious materials, such as gold, silver and platinum, cannot be reused, and there are environmental issues when the products go in landfill or are incinerated.

The e-waste market is large and growing. The expected generated e-waste in 2022 was 59.4m tonnes, growing to 74.7m tonnes by 2030 (source: Statista). In 2019 just c 17% of global e-waste was documented as having been formally collected and recycled, highlighting the continued need for greater focus on reducing and recycling e-waste. The UK alone generated an estimated 37.7 tonnes of electrical and electronic equipment in 2022 (source: Uswitch).

MMAG estimates that in FY22 its UK tech and media customer and trade partners helped to save over 43k tonnes of CO2 through MMAG’s activities, the equivalent of heating over 16k homes for a year or powering over 53k flights from London to New York. As a result, the company has been awarded the LSE Green Economy Mark to recognise its contribution to the green economy.

The global market for refurbished and used smartphones is expected to grow from $41.3bn in 2020 to $75bn in 2027, with it expected to be worth $46.5bn in 2023 (source: Statista). At the time of IPO, independent third-party research commissioned by MMAG estimated that the market for its core categories in the UK and US was worth £9bn in FY20, of which the UK made up £1.6bn and the US £7.1bn (source: admission document). Furthermore, management quoted UK market shares of 7% in smartphones and 5% in media and books, and US shares of 0.5% and 0.3%, respectively. The low market shares quoted and strong growth rates estimated for the wider market suggest significant potential for growth in both categories.

Martin Hellawell – non-executive chairman: Martin is chair of Softcat, a leading UK provider of IT infrastructure technology and services. He took on the role of chair of Softcat in 2018 and will step down at the end of July 2023. He previously spent 12 years as chief executive and managing director during which he led the company through a highly successful IPO and its first two years as a public limited company. Martin is also chair of two other businesses: Raspberry Pi Trading Limited, a subsidiary of the Raspberry Pi Foundation, a UK-based charity that works to put the power of computing and digital making into the hands of people all over the world, and Gamma Communications, the AIM-listed London-based cloud communication services provider. In 2016, Martin was named UK Tech CEO of the Year at the UK Tech Awards.

Steve Oliver – group CEO and co-founder: Steve co-founded MMAG in 2007 with Walter Gleeson, who continues to act as a consultant to MMAG. Before founding MMAG, Steve joined Music Zone Services in September 2000, first as finance director and then managing director until 2007. Steven joined Famous Retail as interim managing director and in March 2008 he was appointed managing director of The Fragrance Shop before leaving to focus on MMAG full-time in late 2009.

Ian Storey – group COO: Ian joined MMAG in January 2013, became CFO in January 2015 and became COO on the IPO in 2021. Before joining MMAG Ian gained the ACA qualification and held finance roles at iSoft (from 2002), and Ultimate Products, now known as UP Global Sourcing (from 2006 to 2012, including as finance director (2006–10) and other roles, including executive buying director.

Matthew Fowler – group CFO: Matthew joined MMAG’s board on 20 April 2022. Before joining, from 2016 he was CFO of genedrive, an AIM-listed molecular diagnostics company. He spent eight years as group financial controller of Scapa Group and three years as finance manager of British Nuclear Group. He qualified as a chartered accountant with Deloitte & Touche.

Alison Littley – non-executive senior independent director: Alison is a non-executive director and chair of the remuneration committee at Xaar, Norcros and Osborne Group, and a non-executive director of Eurocel. She has held senior management positions at Diageo and Mars and was chief executive officer at Buying Solutions, an agency to HM Treasury.

Dave Wilson – non-executive director: Dave stepped down from being CEO and CFO of GB Group, the global identity data intelligence company, and retired at the end of June 2021 to focus on non-executive roles. He is non-executive chairman of LBG Media. He has a strong background in managing business growth, previously holding international and operational board level positions with companies including Envirofone.com, Codemasters, Fujitsu and Technology.

We believe the key risks to MMAG’s performance are as follows:

In H123 MMAG’s revenue fell by c 13% to £61.9m (H122: £71.3m), as it focused on higher-margin sales and growth was affected by postal strikes and low consumer confidence in Q1. This comprised an 18% decline in Media and a 10% fall in Consumer Technology sales.

The focus on gross margin improvement by selling more products through MMAG’s own site, sourcing more products directly from consumers and the growing importance of the higher-margin Rental income resulted in a 3.1pp y-o-y improvement in the gross margin to 29.7%. The improved gross margin coupled with other cost savings resulted in a 7.7% growth in adjusted EBITDA, including 42% growth in Q223.

The Rental business continued to deliver strong growth with revenue of £4.0m (H122: £2.3m) as active customers grew to 39,000 at 31 May (H122: 24,000). The rental order book at 31 May was £4.0m (£3.1m end FY22).

In the video below, CEO Steve Oliver provides an overview of the H123 results.

We recently lowered our revenue growth forecasts for FY23 and FY24 to reflect the greater decline in Media and slower rate of growth in Rental income in H123. We expect FY23 revenue to decline by c 8% to £134.3m, before growing in FY24 by c 2% to £138.6m.

For Consumer Technology revenue we forecast a decline of c 3% in FY23 to £94.1m and then 11% growth in FY24 to £104.5m. We forecast a decline in Outright sales growth of c 7% in FY23, before returning to 8.0% growth in FY24. FY23 reflects the weaker trading in H123, partially offset by the benefits from SMARTDrop kiosks, BNPL and corporate partnerships. For Rental income we assume active subscribers will grow from 39,000 at H123 to c 44,000 in FY23 and c 56,000 by the end of FY24, net new additions of c 13,000 pa. The slowdown in net new additions reflects management’s focus on customers with higher credit ratings. These forecasts produce Rental income growth of c 74% in FY23 to £9.3m, with growth slowing to c 39% in FY24 to £12.9m.

We forecast a Media revenue decline of 17.5% in FY23 to £40.2m, in line with the decline seen in H123. We anticipate revenue falling further in FY24 although at a slower rate of 15% to £34.2m. Media’s importance to the group reduces from c 34% of revenue in H123 to c 30% and c 25% in FY23 and FY24, respectively. Management recognises the structural challenges of the business, but the variable operating costs and ability to transfer resources to focus on the higher growth offered by Technology gives them confidence that Media’s margin is sustainable.

We expect the growing significance of the higher-margin Rental business to group profitability, other initiatives to improve gross margin and relatively stable Media margins to lead to growth in the gross margin to c 29% in FY23 and c 30% in FY24. On an absolute basis we expect the gross profit to grow by c 2% in FY23 to £38.9m and c 8% in £41.9m.

We assume a slight reduction in operating expenses in FY23 given the cost reductions made, partially in H123, offset by higher marketing costs to promote MMAG’s brand and rentals. 2023’s energy costs were hedged before significant price increases so energy costs will be broadly flat year-on-year. Our EBITDA forecasts for FY23 and FY24 are unchanged at £8.2m and £10.5m, respectively, with margins of 6.1% in FY23 and 7.6% in FY24.

We have adjusted our normalised operating profit to reflect slightly lower depreciation and amortisation charges in FY23 and FY24, giving a normalised operating loss (pre-exceptionals and share-based payments) of £0.5m in FY23 and a profit in £0.9m in FY24.

MMAG plans to reinvest profits and cash into developing and expanding the business, with no plans to pay a dividend.

There was a slight year-on-year improvement in MMAG’s operating cash flow in H123 to £2.4m, from £2.3m in H122, mainly driven by the lower net loss in the period. Relative to sales, operating cash flow also improved year-on-year despite more unfavourable working capital movements. With higher capex in growing Rental income, the free cash outflow increased slightly from £4.4m to £4.5m.

The free cash outflow led to MMAG closing H123 with net debt of £13.9m (FY22: £8.2m). Management highlights the stated net debt position effectively ‘overstates’ its real indebtedness by c £10m as the investment in Rental is funding growth in the asset base and debtor book, which could be realised easily if required.

MMAG refinanced its prior credit facility in July 2022 with a £30m three-year RCF from HSBC UK and NatWest, which has been extended by a year to July 2026. Management believes this provides sufficient headroom for ongoing investment.

Following the completion of the investment in SMARTDrop kiosks we do not model any further investment in kiosks, with expected capex of c £11m in FY23 and c £10m in FY24 from c £14m in FY22. As such we expect negative free cash flow after interest in FY23 before delivering a small but positive free cash flow before interest in FY24.

In the interim results management provided an update to H223 trading, stating that the positive Q2 momentum had carried into the second half of the year. Historically, the second half of MMAG’s financial year is financially more important given Black Friday falls in November. Despite continued macroeconomic uncertainty in the UK from persistent inflation and pressures on discretionary income, management remains confident in meeting its full year EBITDA expectations.

Management believes MMAG should remain resilient given its value proposition and the positive environmental benefits for customers of MMAG’s model.

We have used a DCF-based valuation as our primary methodology as it captures the long-term potential of the business, in particular from MMAG’s Rental business. Beyond our explicit forecast period we assume:

For Rental income, we estimate growth in the active subscriber base from 30,500 at FY22-end to 108,000 by FY31. This leads to estimated Rental income of c £34m by FY31, representing c 17% of group revenue. Our estimates for Rental income increase MMAG’s estimated revenue growth by 1–3% pa through FY31.

For Outright revenue we assume a gradually reducing gross margin from 30.7% in FY22 to 22.0% by our terminal year, due to the declining importance of higher-margin Media. Beyond our forecast period this reflects a margin for Technology of 21.5% fading to 21.0% by our terminal year, and stable gross margins for Media of 35.5%. The growing contribution of Rental income with an estimated 78.0% gross margin naturally increases the group margin from 26.3% in FY22 to 31.7% in FY31. In aggregate, our EBITDA margin increases from 4.5% in FY22 to 13.1% by FY31.

Using a WACC of 11% (risk-free rate of 4.2%, risk premium of 6% and beta of 2.5) and a 2% terminal growth rate, our DCF-based valuation is c 61p per share. The table below shows the sensitivity of the DCF to changes in assumptions for the WACC and terminal growth rate.

Our DCF-based valuation and forecasts suggest EV/sales multiples of 0.62x in FY23 and 0.60x in FY24 and for EV/EBITDA of 10.2x in FY23 and 8.0x in FY24.

The valuation is heavily influenced by both the extent and phasing of growth in Rental income given the capex required to fund its growth. It should also be noted that given the growth expected in the Rental business, 73% of the DCF valuation is in the terminal year.

Below we show MMAG’s valuation relative to UK consumer-facing companies that also predominantly operate online. We would highlight none of these are direct comparators given different business models, category mix and geographic exposures. All multiples, sales growth rates and margins are annualised to MMAG’s November year-end.

The majority of MMAG’s UK online peers have seen a de-rating over the last 12 months as forecasts continue to be downgraded due to a combination of slowing revenue growth versus initial expectations and lower profits due to other inflationary pressures. The latter is less of an issue for MMAG given its local sourcing. In addition, we believe WACCs have risen due to higher interest rates and likely greater required market risk premiums.

Relative to the peers, MMAG’s forecast revenue fall of c 8% in FY23 is towards the low end of the peer range, while the growth of c 3% in FY24 is more consistent with the group median of 4%, albeit there is a wide range of expectations. Our expected EBITDA margins for MMAG of 6.1% in FY23 and 7.6% in FY24 are above the medians of the peers, 5.3% in FY23 and 5.7% in FY24. MMAG’s EBITDA margin has potential to accelerate quickly as Rental income grows.

Given MMAG’s share price has fallen c 70% over the last 12 months, the company is trading at a significant discount to the medians of the other consumer-facing online companies when comparing FY23 and FY24 EV/sales, EV/EBITDA and P/E multiples.