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ETSY: A “B CORP” START-UP TAKES ON AMAZON1 Ram Subramanian wrote this case solely to provide material for class discussion. The author does not intend to illustrate either effective or ineffective handling of a managerial situation. The author may have disguised certain names and other identifying information to protect confidentiality. This publication may not be transmitted, photocopied, digitized, or otherwise reproduced in any form or by any means without the permission of the copyright holder. Reproduction of this material is not covered under authorization by any reproduction rights organization. To order copies or request permission to reproduce materials, contact Ivey Publishing, Ivey Business School, Western University, London, Ontario, Canada, N6G 0N1; (t) 519.661.3208; (e) [email protected]; www.iveycases.com. Copyright © 2016, Richard Ivey School of Business Foundation Version: 2016-04-29

We succeed when our sellers succeed, and we believe our reputation as an authentic, trusted marketplace is the foundation for the long-term value we expect to create for our entire community, including our investors, for decades to come.

—Chad Dickerson, Etsy, Inc., chief executive officer.2 Etsy, Inc. (Etsy) was an online craft goods seller based in Brooklyn, NY. At the end of the second quarter of FY2015/16 Etsy beat expectations and finished the period with a revenue of US$61.4million. 3 Despite this success, some analysts were dubious about the company’s cautious earning guidance for future quarters. Some pointed towards the recent threat by Amazon to enter the handmade goods market, which had a negative impact on Etsy’s share price.4 Dickerson had shepherded Etsy from start-up to a certified B Corporation and then towards a successful initial public offering (IPO) on the New York Stock Exchange. He now had to develop a plan to guide the company through a challenging market environment. THE ONLINE RETAIL MARKETPLACE Online shopping as a retail channel began and took off in the mid-1990s. Pure online retailers such as Amazon and eBay initially dominated commerce on the Internet. The collapse of the dot-com bubble in 1999–2000 did not slow the growth of Internet commerce. On the contrary, Internet commerce grew from US$15 billion in 1999 to $27 billion in 2000. The pace of growth increased as brick-and-mortar retailers moved into the online retail market (e.g., J.C. Penney, H&M, and T.J. Maxx) and pure online retailers opened physical storefronts to increase their sales and expand their brand reach (e.g., Patagonia and Warby Parker). This trend was referred to as “multi-channel retailing.” Companies facilitated customer transactions by using multiple connected channels such as brick- and-mortar stores, online store sites, mobile apps, and telephone. By 2015, multi-channel retailing was giving way to “omni-channel retailing.” The goal was to create “a seamless consumer experience through any and all shopping channels: mobile, tablet, computers, brick-and- mortar stores, television, radio, direct mail, and catalogue.”5

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Page 2 9B16M074 In 2014, the global online retail market accounted for $839.8 billion in revenues in 2014. This was a 20 per cent increase over 2013. The market was forecasted to top $1,500 billion in 2018 (see Exhibit 1). The United States regained the top spot from China, earning over $300 billion in 2014. Although growing at a rapid pace, the online market still accounted for less than 10 per cent of the total retail market. The leading product category in online retail was clothes and accessories, followed by books and music.6 Although e-commerce retailers used a variety of business models to compete, Amazon popularized the virtual marketplace — a part of the broader brokerage model. A broker such as Amazon played the role of market maker by bringing together buyers and sellers and facilitating transactions between them for a fee. More specifically, a virtual marketplace “or virtual mall, was a hosting service for online merchants that charged setup, monthly listing, and/or transaction fees.”7 A virtual marketplace took advantage of the “long- tail”8 phenomenon by carrying a larger inventory of goods than a brick-and-mortar store, and by connecting buyers and sellers over a wider geographic space. COMPETITION The competitive environment for Etsy consisted of large retailers, such as Amazon and eBay, and niche retailers that specialized in handmade or artisanal goods, such as NOVICA. Retailers in the virtual marketplace also competed with traditional brick-and-mortar retailers. Amazon Launched in 1995 as the “world’s largest bookstore,” Amazon reported revenues of nearly $89 billion and a net loss of $241 million in 2014. In the years after its launch, Amazon branched out of books. By 2015, it was selling a wide variety of goods including electronics, apparel, and hard goods. Amazon also expanded into enabling third-party sellers to sell new and used goods on the Amazon website. In 2014, North America accounted for 62 per cent of Amazon’s revenue, with 38 per cent coming from various international markets. Media products made up 25 per cent of sales; 68 per cent came from electronics and other general merchandise; and 7 per cent came from miscellaneous product categories. According to Forrester Research, Amazon had a penetration rate of 88 per cent in the U.S. market and 40 per cent internationally. In 2014, Amazon reported that it had over 2 million third-party sellers on its site who sold over 2 billion items worldwide.9 In 2015, the various Amazon sites (domestic and international) were visited by 175 million viewers per month — the highest for a retailer.10 eBay Founded in 1995, eBay was the world’s largest online trading community by 2015. eBay did not limit the products sold on its site. eBay reported revenues of $17.9 billion and net income of $46 million in 2014. Its seller base of 25 million in 2014 had not changed from 2012. eBay had 155 million buyers in 2014 who bought goods worth $255 billion. About 59 per cent of goods sold on eBay were sold to customers outside the United States, while 75 per cent were business-to-consumer transactions. eBay had 122 million unique visitors per month to its various sites. The company believed that the online commerce market was a $1 trillion market opportunity globally, likely propelled by visitors using mobile devices for transactions.11

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Page 3 9B16M074 NOVICA NOVICA was founded in 1999 to help crafters worldwide find buyers. The founding team almost immediately signed a partnership agreement with National Geographic magazine to both drive traffic to the website and help the founding team locate crafters. The company’s mission was “to reinvent the export/import process for artisans and find a better way to sell their products to the world.” 12 The company began selling in UNICEF catalogues in 2006 and sold artisanal goods worth $50 million from 17,600 artisans in 2014. The privately held company did not report revenues but indicated that their goal was $20 million in 2015.13 Brick-and-Mortar Stores Offline competition for Etsy came from a fragmented set of local stores that sold handmade goods, and from flea markets, the traditional place for crafters to sell handmade goods. Flea markets were offline meeting places for buyers and sellers of various goods, both used and new items. The National Flea Market Association reported that there were over 1,100 flea markets in the United States where over 2.25 million vendors sold $30 billion of goods in 2014. Over 150 million customers visited these flea markets in 2014.14 An association that advanced the interests of flea markets reported:

Flea markets across the United States have seen a surge of interest in the past few years. Some credit goes to the popularity of TV reality shows like American Pickers, Oddities, or Market Warriors. However, this phenomenon has deeper roots: the country’s weakened economy, along with the booming development of second-hand shops, has created a new generation of shoppers who appreciate both the reasonable prices and the fun of the flea market experience. And the best of all is that flea markets often overflow with unsought treasures!15

B CORPORATIONS In 2006, Jay Coen Gilbert, Bart Houlihan, and Andrew Kassoy founded the non-profit B Labs. Gilbert and Houlihan were part of the founding team of AND 1, a basketball footwear and apparel company, which they later sold to a private equity firm.16 B Labs was founded on the principle that business success should not be defined purely on financial terms. The founders believed that, instead, companies should “meet rigorous standards of social and environmental performance, accountability, and transparency.”17 To achieve this goal, B Labs started a certification process, much like Fair Trade for organic coffee and the United States Department of Agriculture for meat. A company could earn the designation of B Corporation if it passed the B Impact Assessment with a minimum score of 80 out of a possible 200. The assessment consisted of self-reported measurements on a variety of metrics that were specifically tailored to company size, geography, and industry. For example, a typical assessment for a U.S. based retailer with 500 to 999 employees consisted of questions categorized into governance, workers, community, environment, and customers.18 Obtaining the minimum score of 80 allowed a company to refer to itself as a B Corporation (or “B Corp” for short), a status that Inc. magazine called “the highest standard for socially responsible businesses.”19 Each year, B Labs randomly audited about 10 per cent of its members to ensure integrity in the certification process. Although the B Corporation certification was not legally recognized, B Corporations — if their organizational form was a corporation — had specific requirements to follow in order to maintain their

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Page 4 9B16M074 status. They were required to obtain the legal status of a Benefit Corporation within a specified time if the company’s state of incorporation was one of the 28 U.S. states to enact such a provision. There were several differences between B Corporations and Benefit Corporations (see Exhibit 2). However, B Labs had a strong rationale for requiring that corporations seeking to maintain their B Corporation status also obtain the legal certification of a Benefit Corporation:

The value of meeting the legal requirement for B Corp certification is that it bakes sustainability into the DNA of your company as it grows, brings in outside capital, or plans succession, ensuring that your mission can better survive new management, new investors, or even new ownership.20

By mid-2015, B Labs had certified over a thousand businesses from 33 countries and 60 industries. B Labs believed that as more companies sought and obtained certification, a large ecosystem would develop. Certified companies could network with each other and cumulatively lead the way for positive societal change. Esquire captured the zeitgeist of B Corporations using the analogy of civil rights: “B Corps might turn out to be like civil rights for blacks or voting rights for women — eccentric, unpopular ideas that took hold and changed the world.”21 The vast majority of B Corporations were small, privately owned businesses. The first publicly listed B Corporation was Brazil’s Natura, followed by Vancouver-based Alterrus Systems Inc. Plum Organics, a U.S. maker of baby food, was acquired by Campbell Soup, a publicly owned company that pledged to maintain Plum’s B Corporation status. Rally Software was the first U.S. firm to go public with a B Corporation certification.22 ETSY’S BACKGROUND When Rob Kalin graduated from high school in Massachusetts with a 1.7 grade point average, he was unable to gain admission to college. He managed to get a fake student ID card to the Massachusetts Institute of Technology, befriended a professor there, and got the professor to write him a letter of reference that enabled Kalin to get into New York University (NYU).23 While at NYU, Kalin and his friends Haim Schoppik and Chris Maguire obtained a freelance job working on a professor’s online marketplace for crafters. Kalin noticed that the craft community was very active online, but most crafters were displeased with eBay because of its high charges. This gave Kalin the idea to start an online marketplace for craft goods. Kalin designed the website and Schoppik and Maguire wrote the code.24 The trio intended to create an e-commerce site specifically tailored to sellers of handmade goods. The venture was launched in 2005 with Kalin as CEO.25 The company’s name, Etsy, came from the Italian phrase, “Eh, si” (which meant “Oh, yes”), a phrase that Kalin chanced upon when viewing a Federico Fellini movie.26 The fledgling company was successful in attracting merchants and customers. Kalin summed up his motivations for starting the company and his business philosophy:

We want to allow the makers of the world to claim authorship for what they’re making. This is what Etsy stands for: the little guy being able to organize a better marketplace. I speak to people in the business world and the technology world, but I don't admire them. I admire the makers of the world. I believe maximizing shareholders value is ridiculous. I couldn’t run a company where you had to use that as an excuse for why it was doing things.27

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Page 5 9B16M074 Etsy obtained $50 million from a number of venture capital funds and was able to attract 230 million monthly page views and record sales of $4.3 million per month by 2008. However, tensions increased between Kalin and the other two founders. Schoppik and Maguire believed that Kalin was unfocused. Schoppik observed:

One day, Kalin proposed creating a system whereby sellers could broadcast live video feeds from their workshops. Another day, he was pitching us on creating a modern-day version of guilds. There would be a brand-new idea every day. Usually it’d be something that didn’t even make sense. How are you supposed to teach blacksmithing over the Internet? Working at Etsy was like being in an abusive relationship.28

When both Schoppik and Maguire left the company in 2008, Kalin promoted Maria Thomas, the company’s chief operating officer, to CEO. Kalin gave himself the title of chief creative officer. Shortly after this transition, Kalin gave up all day-to-day responsibilities of the company while retaining his seat on the board of directors and the major portion of the company’s equity. Between 2008 and 2009, Etsy faced the principal challenge of scaling up. From its inception, Etsy had championed the small crafter, one who made things by hand. When Etsy received its initial tranche of private equity funding in 2005, Kalin talked about what he wanted Etsy to be: “This means that we now have the resources . . . to enable so many more people to make a living making things. Our goal is for Etsy to be an independent, publicly traded company, focused on all things handmade.”29 According to Etsy’s rule, “handmade” meant that Etsy’s sellers had to personally make what they sold. This proved to be a problem for crafters who were successful in selling their wares on the site. Greater success meant longer working hours to fulfill orders. However, with only so many working hours in a day, Etsy’s rule effectively put a ceiling on how much the crafters could earn. Artisan Ryan McAbery was attracted to Etsy because she saw the site as a way to make money off her talent, which involved repurposing used Scrabble boards. At first, she made and sold journals on Etsy; later, necklaces made from Scrabble boards. One year she sold $96,000 of merchandise but realized that she was working 100 hours per week. To continue to sell on Etsy, she had to produce the products by hand on her own, which left very little time to spend with her 5-year old son. She sold the business and left Etsy, going back to the craft show circuit. A similar complaint about labour hours was voiced by artisan Diana Chin, who found that she was making $11, after material costs, to crochet a doll that took two or three hours of work.30 When Etsy expanded internationally, its crafters found that they were competing with low-cost knock-offs from developing countries. Aki Takada, a New York-based crafter, made $45,000 in 2009 selling handmade cotton coin purses for $22 to $45 each. Her sales fell by 40 per cent in 2010, when she saw a seller from Asia selling a similar purse for $12. She remarked on her predicament, “I kind of had a monopoly before. But every year, tens of thousands of new sellers join who can price differently and copy my style.”31 As Etsy struggled with these early challenges, Kalin decided that Thomas was not the right CEO to lead the company and convinced the board to reinstate Kalin as CEO. His rationale was that “Etsy had strayed from its core values in pursuit of growth and it needed to focus more on the success of its sellers, its customer service, and improvements to its website.”32 In late 2009, Etsy’s board acceded to Kalin’s demands and made him CEO again. Kalin doubled Etsy’s staff, focusing on engineering and customer service. He added social marketing functions to the website,

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Page 6 9B16M074 enabling users to befriend other users and access their friends’ curated purchases on the site. The Etsy site also connected with Facebook and Twitter to facilitate exchange among its users. Kalin’s goal in emphasizing social marketing was to make it easier for buyers to find new products. However, as he remarked, the ultimate goal was to broaden Etsy’s mission:

On Facebook, you’re not going to connect with people who have different religious views, different political views, different tastes. Etsy adds a whole other layer on top of that: If a person who has different religious or political views is making me a custom sweater, I’m going to have this long conversation that I would never have had. To me, that’s a beautiful thing.33

In July 2011, Rob Kalin announced that he was once again stepping down as Etsy’s CEO. A board member reflected on Kalin’s second departure:

Rob is so very much that founder who cares intensely. He has given so much to the company over the years and he just completed a product roadmap that provides a guidepost for what Etsy will become in the coming years. As Rob transitions out once again, I want to personally thank him for all of this and more. Etsy is his creation and will always be.34

Chad Dickerson, who was chief technical officer at Yahoo, was appointed as Etsy’s next CEO. Dickerson graduated from college as an English major with a minor in math and spent several years as a journalist at regional newspapers before a stint at CNN. While in college, he became interested in coding but did not pursue it during his years in journalism. However, his last years at CNN involved working on the company’s website as technical product manager. He parlayed this into a job as chief technology officer at Salon.com and then a similar position at Yahoo. After three years at Yahoo, Dickerson joined Etsy and in 2011, became the company’s CEO. In his profile of Dickerson, a technology writer observed:

Etsy has had its share of issues, but Dickerson has confronted them head on. He hasn’t hid behind a [public relations] machine, and is open to talking to either Etsy buyers or sellers, anytime. . . . He truly believes in the manifest destiny of Etsy. Dickerson is unwavering in his belief that his 450- employee company can become an engine of global trade like none before.35

Dickerson told the same writer that he had succeeded as CEO of Etsy “because I was the chief technology officer. I got to learn the entire business very intimately, from infrastructure to how we interacted with sellers and buyers.”36 Under Dickerson’s leadership, Etsy was certified in May 2012 as a B Corporation, earning a score of 80.1 out of a maximum of 200. (A minimum score of 80 was required to be certified.) The company made significant improvements in 2013 in each of the five measured categories (environment, workers, customers, community, and governance) and obtained a subsequent score of 105.37 Etsy’s values were consistent with the company’s rationale for seeking B Corporation certification (see Exhibit 3). In a town hall meeting in October 2013, Dickerson announced a major shift in Etsy’s fundamental policy of featuring crafts handmade directly by artisans. Under the new policy, sellers on Etsy could use outside manufacturers to make items designed by the seller — so long as the seller was transparent about it — and use third-party shippers to deliver the goods.38

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Page 7 9B16M074 ETSY IN 2014–2015 On April 16, 2015, Etsy went public with an IPO on the New York Stock Exchange under the ticker symbol “ETSY.” CNN Money called it “the largest certified socially responsible company to go public in the United States.”39 In its IPO registration statement, Etsy indicated who they were and what their objective was:

We operate a marketplace where people around the world connect, both online and offline, to make, sell, and buy unique goods. Handmade goods are the foundation of our marketplace. Whether crafted by an Etsy seller herself, with the assistance of her team, or with an outside manufacturer in small batches, handmade goods spring from the imagination and creativity of an Etsy seller and embody authorship, responsibility, and transparency. We believe we are creating a new economy, which we call the Etsy Economy, where creative entrepreneurs find meaningful work and both global and local markets for their goods, and where thoughtful consumers discover and buy unique goods and build relationships with the people who sell them.40

Etsy used what it termed a “seller-aligned” business model that consisted of building a platform to facilitate commerce between craftspeople (the sellers) and buyers looking for unique handmade goods that were difficult to find elsewhere (see Exhibit 4). Etsy charged a fee for each item listed by the seller and a transaction fee once a sale was complete. It also generated revenues from fees for prominent listings, purchase of shipping labels, and other miscellaneous services. In 2014, Etsy had 54 million members (registered as seller or buyer), 1.35 million active sellers (at least one item sold in a 12-month period), and 19.8 million active buyers (at least one purchase in a 12-month period). Etsy facilitated the sale of $1.93 billion dollars of merchandise, which the company referred to as gross merchandise sales (GMS). Of all GMS, 36.1 per cent were transacted with a mobile device and 30.9 per cent came from outside the United States. Revenues in 2014 were $195.6 million, up 56.4 per cent from 2013, with a net loss of $15.2 million (versus $0.8 million in 2013). Forrester Research indicated that in 2014, Etsy averaged 25 million unique visitors to its site per month41 (see Exhibit 5). FINANCIALS The company reported a net loss in each of the three years from 2012 to 2014 (see Exhibit 6). When it filed its registration statements prior to its IPO, Etsy indicated that it believed that the non-GAAP measure of adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) was a better metric to gauge performance. Etsy’s EBITDA, adjusted for stock-based compensation expenses, was $10.669 million for 2012, $16.947 million for 2013, and $23.081 million for 2014. Etsy set aside $300,000 from the IPO to partially fund etsy.org, a not-for-profit division intended to help women and under-represented groups to become entrepreneurs.42 Challenges For the second quarter of 2015, Etsy reported revenues of $61.4 million (versus $58.5 in the first quarter) and a net loss of $6.4 million (versus a net loss of $36.6 million in the first quarter). Although the results were better than what analysts had expected, Etsy’s shares were down 13 per cent in after-hours trading on the day of the announcement.43

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Page 8 9B16M074 The drop was largely attributed to the company’s third quarter earnings guidance, in which the company stated that its performance would be affected by a stronger dollar and heavier spending on marketing, as compared to past quarters. In addition, the company cautioned that revenue growth from the recently launched “Promoted Listings” initiative was expected to taper down.44 At the same time, Etsy faced a challenge from Amazon, whose online store Handmade at Amazon launched in June 2015. This was a direct attack on Etsy. An analyst wrote that Amazon was preparing to “out-Etsy Etsy” by creating a separate presence for items “made entirely by hand, hand altered, or hand assembled.”45 Handmade at Amazon was meant to capitalize on Etsy sellers’ frustration with the proliferation of manufactured items and counterfeit goods on Etsy’s site. As an analyst stated, “It’s a game changer. Now the frustrated sellers have a place to go. Etsy has an existential question to ask themselves right now. If they go down the path of more manufactured goods, they will be further away from their original ethos, or they could step back to a pure vintage and handmade marketplace.”46 Sellers did not incur a fixed cost to sell on Amazon. Instead, Amazon charged what it called a “referral fee” on each transaction. While the referral fee varied by category the typical fee was between 12 and 15 per cent.47 In contrast, Etsy charged a fixed listing fee of $0.10 per item listed and a transaction fee of 3.5 per cent. Amazon had not indicated whether it would lower the referral fee for Handmade at Amazon. An Etsy seller who had migrated to Amazon’s store spoke about his move:

For many years we benefitted from Etsy’s great brand, strong following, and its anti-establishment feel. However, we sell more on Amazon’s Handmade than we did on Etsy because Amazon has a huge user base and its “one-click” shopping makes it so easy on the customer. Amazon costs more, though. Not sure how Amazon will handle multiple cost structures for selling, but they may be able to figure it out to be competitive.48

CONCLUSION Amazon, eBay, and Etsy remained very strong e-commerce forces in 2015, each with its specific advantages and drawbacks (see Exhibit 7). However, Etsy had a decision to make regarding its B Corporation status. Under State of Delaware statute, Etsy had to become a Benefit Corporation by 2017. But, following its IPO, Etsy’s stockholders could vote not to convert to a Benefit Co

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