GlassHouse Research present you with their first short idea for 2024, Soho House & Co Inc (NYSE:SHCO). They believe that SHCO’s “adjusted EBITDA” metric is mostly a farce with the company’s earnings quality risk is now the highest it has ever been based on their findings. Accordingly, they initiate with a target price of $0.
Soho House & Co
We believe Soho House & Co (SHCO) is a zero. Released in a public offering in 2021 under its previous name, Membership Collective Group, we believe this company, which was never profitable in its 28-year history, went public to dump on retail investors, all while its debt surged to insurmountable levels. Eerily similar to WeWork’s public offering, we believe SHCO will eventually meet the same fate as the now defunct co-working space.
Q4 2023 hedge fund letters, conferences and more
Our bearish take on Soho House begins with a critical examination of the company's purportedly broken business model, raising concerns about its path to profitability and the sustainability of its growth strategy. Despite its once esteemed position in the luxury hospitality sector, this analysis aims to shed light on multifaceted issues, including the need to expand into less affluent cities for revenue growth, the persistent lack of profitability, overcrowding, a perceived decline in service quality, rising debt levels, our suspicions surrounding the company's accounting practices and critical comments made by both the SEC and its auditors regarding the company’s financials.
Broken Business Model and Expansion into Less Affluent Cities:
Soho House's ambitious growth strategy, including plans to expand into less affluent cities, is working against the company as it loses its exclusive appeal. The pursuit of revenue growth through expansion in less economically prosperous locations poses a fundamental challenge to the brand's upscale identity. Our analysis will explore how venturing into less affluent cities may strain the delicate balance between brand exclusivity and market accessibility.
Persistent non-profitability in Soho House's financial history remains a significant concern. Despite its premium positioning and continuous expansion efforts, the company has struggled to demonstrate sustained profitability. The absence of GAAP profits raises questions about the effectiveness of the company's cost structure, pricing strategy and overall financial management.
If this company could not successfully produce a profit in cities like London, New York, and Miami, how does it expect to earn one in less affluent ones such as Portland and Sao Paulo?
Overcrowding Concerns and A Decline in Service Quality:
Th rapid expansion of Soho House’s membership base and global footprint raises worries about the potential dilution of the exclusive experience. Several member interviews shed light on how overcrowding decreases member satisfaction, potentially eroding the unique ambiance that was once a hallmark of Soho House.
Members also raised concerns about a decline in service quality at Soho House properties. Reports suggest that rapid member expansion may be stretching the company's operational capabilities thin, leading to longer wait times, reduced personalized attention and an overall diminishing standard of service. As a result, the company recently halted new memberships at some of its prime locations.
Questionable Accounting Practices:
Soho House went public in 2021, listed as an “emerging growth company” under the JOBS Act. As such, the company was able to produce lenient financials in certain areas. We believe the relaxed focus surrounding SHCO’s accounting led to many of the grievances listed in our report, centered around the following tenets:
- A pull forward of millions of dollars of revenue through their new membership credits program introduced in 2022.
- Near 50% YOY rises in both inventories and receivables are extremely high for a company whose revenue has only increased by 13% during the same timeframe.
- Recent spikes in prepayments and 100-year useful lives on its buildings suggest delayed expense recognition that we believe artificially aided earnings metrics.
- A lack of an opinion on internal controls by its auditor and one of the worst correspondence letters we have read from the SEC suggest dismal accounting practices.
Rising Debt Levels:
The financing required for Soho House’s aggressive expansion strategy has led to substantial debt accumulation, raising questions about the company's ability to service and manage its debt obligations effectively.
Broken Business Model Turns to Public Investors for Money
A deep dive into Soho House’s metrics (SHCO) paints a sobering picture of a company seemingly hurtling toward financial ruin. The looming specter of eventual bankruptcy casts a shadow as we uncover the intricacies of Soho House's business model. While the allure of exclusivity and luxury has been the cornerstone of its success, we posit that there are inherent limitations to how much revenue the company can continue to extract from its existing members or per house.
In the public market, where a "grow or die" mantra echoes relentlessly, Soho House finds itself ensnared in the paradoxical demand for rapid expansion. Going public in 2021 was, in part, a strategic move to tap into the financial resources of public investors, a lifeline to fuel its aggressive growth aspirations and to aid in debt service. However, this strategy teeters on a precarious edge. The necessity to impress public investors by adding new members and houses is inadvertently taking a toll on the very brand and service quality that defines Soho House's essence.
When the company IPO’d in 2021, it had grand endeavors of opening eight to 10 new houses yearly, with a target of 85 houses by the end of 2027.1 SHCO also targeted average revenues of $20 million to $30 million per house according to the firm’s S-1 filing. However, this rapid growth appears to have stalled.
Management appears to have lowered its opening guidance during each conference call since 2022. On the Q3 2022 earnings call, management lowered its goals to five to seven new houses per year. In more recent calls, it does not disclose new house targets at all. Furthermore, SHCO has shuttered new membership in many of its key cities as the company deals with overcrowding.2
The recent actions (or lack thereof) by the company underscore this struggle, revealing the cracks in its once-pristine facade. As the brand extends its reach into less affluent cities, the question of how much revenue per house it can realistically generate becomes increasingly pertinent. The fear, we opine, is that Soho House's quest for growth may lead it to an inevitable ceiling in revenue per house, jeopardizing the delicate equilibrium that has been fundamental to its allure. The challenging road ahead raises critical questions about the sustainability of Soho House's growth-centric approach and the potential ramifications it may inflict on the company's financial health and overall standing in the luxury hospitality arena.
Rea the full report here by GlassHouse Research
