The latest SCIF term sheets – the Punakaiki Fund mark-up

At Punakaiki Fund we like to keep things simple, and we encourage other investors and all founders to do the same.

However in past years the contracts used for many NZ-VIF/SCIF deals have been arguably quite toxic against founders, and these can make it very hard for investors, founders and the next round investors.

But things are getting better, and it’s good to see the NZ-VIF/SCIF standard documents posted on their website.

We have also observed that these contracts are negotiable to much simpler form, and encourage founders and investors to do so.

Help is available from Simmonds Stewart, who have represented companies we have invested into. They have marked up several SCIF documents, including the latest SCIF term sheet, which I highly recommend founders and investors in this space consult.

However Punakaiki Fund goes further, and we believe the rest of the industry should to.

  • We would like to see contracts that are more founder-centric and less investor-centric;
  • We would like to see contracts that trust the boards and founders and not be prescriptive about what the business does and retain actions;
  • We would like to see contracts that say less, and rely on the excellent NZ law to provide investor protection;
  • We would like to see simpler, shorter documents that are easier to understand (and sign). (We would like to see lawyers paid less and do more deals.);
  • We would like to see terms where companies receive a net sum from investors and do not have to pay any kick-backs (6% in the SCIF world), investor legal fees or for any investor-directors; and
  • We would like to see more deals done – and simpler contracts will help that happen.

So I have taken the blue pen to the Simmonds Stewart mark-up, and here is a  SCIF Term Sheet mark-up from the perspective of LWCM and Punakaiki Fund. Tell us what you think.

Posted in NZ Business

Is there a future in food for New Zealand?

New Zealand’s traditional leadership in agriculture is due to our land, climate, hard work and invention from generations of farmers, and our universities and business that have supported them with increasingly valuable technology.

But our position is under threat, not today, but in the medium term certainly. The threat is that high quality food will be grown essentially anywhere for lower cost of inputs, and that global demand for meat will fall. Perhaps something’ll come along to make it easy replace milk as well.

High Density Gardening

There is a trend towards growing plants in more controlled environments in agriculture (CEA). The neat trick with high density gardening is that the control of temperature, energy and climate not only reduces the amount of inputs (water, energy and so on) but also allows for control of insects and pathogens. And when you control the access of pathogens then you don’t need so much fungicides and pesticides, if at all. The result is not only faster growing plants, but food that is almost organic in its lack of pesticides and other additives. It can be delicious.

At the moment it is relatively rare to see crops grown using tightly controlled environments for the whole lifecycle. But observe in the supermarket that some crops, such as tomatoes and blueberries, are now available – and incredibly tasty – year round. I suspect the same is happening with many high value flowers. These crops are grown in glasshouses, but there is, apparently, still a good gap between current practices and true CEA.

The goal, still fairly seldom seen, is vertical farming, with leaders like Plantagon and AeroFarms. With this very high intensity farming there is no reason why the farms need to use a lot of land footprint – a farm can be on floors of a tall building, with controlled LED lighting delivering the light-based to the plants.

But there is a problem, as it costs money to power those LED lamps, while on traditional farms the plants receive free energy from the sun.

The answer is tied up in the lowering costs of renewable energy, such solar panels, and batteries. These costs are already at to the point where it makes little sense to build traditional power plants, with Warren Buffet bragging in his latest letter that

“Berkshire Hathaway Energy (“BHE”) … … has invested $16 billion in renewables and now owns 7% of the country’s wind generation and 6% of its solar generation. Indeed, the 4,423 megawatts of wind generation owned and operated by our regulated utilities is six times the generation of the runner-up utility.

We’re not done. Last year, BHE made major commitments to the future development of renewables in support of the Paris Climate Change Conference. Our fulfilling those promises will make great sense, both for the environment and for Berkshire’s economics.”

If you are not content with a quote from a capitalist, then Al Gore has popped up with a new TED talk, The Case for Optimism on climate Change, last week and included this slide:

He also showed slides showing the precipitous fall in prices for storage batteries and solar panels. These curves will keep going, so while today it’s hard to economically justify building a thermal power plant, at some stage soon it will not be economical to even fuel a thermal power plant. Once we reach and pass that point it’s clear that generating and storing the power to drive those LEDs will be relatively cheap and a relatively low capital or opex cost for a vertical farm.

So Malthus  can wait a while longer it seems. But the problem is not solved yet, as this Guardian article shows the energy requirements for indoor crops are very large.

Better Meat

But we also eat meat, and as the more of the world enters the middle class the demand for grass and grain eating inefficient methane belching animals will continue to grow. We can gain more efficiencies and control effluent and CO2 by keeping animals inside, and that’s done in many countries. If that’s the future for meat and milk then New Zealand has no structural advantage over any other country, and the resulting products will be priced accordingly at very low or negative margin.

There are alternatives – The Economist has a video article, The Meat Makers, on two companies with different approaches to replacing meat. One which is attempting to grow meat in-vitro and the other is trying to use plants to create a beef substitute. The video shows poor progress for both companies, but it does show that a lot of investment is going into moving directly from plants into meat. In New Zealand SunFed Meats is attempting the same, and seems to be making great progress turning peas into chicken.

Now if we combine the two trends together it seems logical that someone will figure out how to grow a plant that is able to be easily process into substance that we find very close to meat. Will it be tasty? I suspect that for many years a very good steak will continue to attract demand, but would not be surprised to see meat eating consigned to the same shameful dustbin as cigarettes within the next 50 years.

Malthus is wrong again

When I was younger, many years ago, I remember reading Green literature about the end of days. The World was going to run out of resources and food, and quoted Thomas Malthus, who wrote in 1798:

That the increase of population is necessarily limited by the means of subsistence,
That population does invariably increase when the means of subsistence increase, and,
That the superior power of population is repressed, and the actual population kept equal to the means of subsistence, by misery and vice.

Malthus was right, but he also thought that population would increase exponentially and food production linearly. However productivity of food (and other) production improved exponentially over the ensuing years and the techniques above will continue that trend. It’s a future where we can produce more with less, as a globe, and one where there is no need for our plants at least to not be tasty and fresh.

Existential crisis

All these trends are great for the world, but will they also trigger an existential crisis for New Zealand? If anybody anywhere in the world can use small amounts of energy, water and nutrients to create the same quality food as we can here then why would anyone buy from New Zealand? If good-enough meat made from plants is able to substitute for a large amount of meat eaten globally then won’t the demand and price for our cattle and sheep fall? And surely someone will figure out how to more efficiently produce milk from plants?

The future of New Zealand is unknown, and these trends could be decades away. But we should be leading and not reacting late to these trends. We do have a good Agri-Tech sector, with many companies helping traditional farming get more efficient, and others like Sunfed Foods and Autogrow, who make controllers for glasshouses, aiming ahead of the curve. We should support them.

We should also focus on the quality end of food production, aiming to be the purveyor of the best food in the world rather than shifting tonnes of powder and meat. We’ve moved a long way in this direction over the years, but our polluted rivers are evidence that we can  no longer collectively hold our heads high.

Or perhaps there is another path – fast adoption of these intensive techniques to increase production and lower land and other resource use per output, followed by the return of some of the less productive land under grazing to native forest and birds. That’s a New Zealand we could all live in.


Posted in NZ Business | 8 Comments

Is NZVIF Directionally Correct?

The New Zealand Venture Investment Fund was set up 14 years ago with the best intentions – to foster an early stage investment sector in New Zealand by being a fund of funds. It’s has $250 million for VC and PE funds, but only $129.7 million of that had been invested to June 2015 and $100 million of it is an underwrite facility.

NZVIF  later added the now $50 million Seed Co-Investment Fund (SCIF) which co-invests alongside accredited angel investors. As at June 2016 they had placed $38.2 million of that.

It’s been a long while since NZVIF was formed, but even with time the results to date for the fund itself are pretty unspectacular. When I as at McKinsey there was a phrase – “directional correct” – which meant that someone had tried to do the right thing, but ended up down the wrong path. Is NZVIF directionally correct?

The latest investment report to June 2015 is just released. (As an aside it is months late versus the June 14 report, which was released in November 2014.) Back in 2014 was Jamie Ball at NBR wrote a scathing summary, and this year gives little to cheer about again.

Let’s look at the two parts of the business, the fees on fees, the road ahead and some comments about whether this is personal.

1: NZ-VIF VC Fund of Funds

The VC fund portfolio reported $120 million invested into funds and a Net Asset Value of $93.2 million as at June 2014. In June 2015 that was $129.7 million invested into funds and a value of $99.8 million. That means they added $9.97 million in cash, but lost $5.17 million asset value, for a average rate of return of (1.74%) – or negative 1.74% – per year.

In comparison Punakaiki Fund has raised $12 million and has a net Asset Value of over$16 million, as we did this in less than two years. We use the same IPEV standards for valuation and our IRR for the original April 2014 investors was over 50% per year when we last officially released data in November 2015. It’s quite remarkable to think that Punakaiki Fund’s value today is already a sixth of the value of NZVIF’s VC fund as at June 2015, and we have not received any funds from the NZVIF fund of funds nor had over 12 years of investing returns for the fund.

NZVIF accepts that the early performance was poor, and breaks down their VC investments by vintage. The latest report shows that the original investments from 2003 to 2005 saw an annualised return of (5.47%), and a loss of 30% overall to June 2015. Looking at the two reports however I see that in 2014 NZVIF reported $65 million was invested in 203 to 2005, but in 2015 that historical figure has climbed to $67 million. The return was reported as a loss of 35% in 2014, so things are improving.

But that’s a lousy result overall. In 2003, for comparison, I was trying to buy shares in Trade Me, and Xero launched in 2006. I wonder if the conversation with Trade Me would have been different if I’d had access to a $10 million fund.

The second wave of investments, was from 2007 t0 2012 (2014 report) of 2007-2014 (2015 report). There were five funds in this cohort in 2014, and six in 2015. The annualised returns for NZVIF were 8% in 2014 and dropped to 4.36% in 2015. Neither of these are acceptable for early stage investors, and what’s happened is that NZVIF, under their mandate, had limited their upside by allowing funds to buy out the best investments for near the investment value. So for the rather late-stage investment in Xero by Valar, for example, the NZVIF money was essentially a free extension of their funds for a few years. Valar didn’t need extra cash to make a return, a great return, but it sure was nice that NZVIF was there to support this offshore fund. NZVIF unfortunately gets essentially no return from the deal, which is why I use the “buy-out adjusted” returns to the NZVIF fund rather than their unadjusted returns. Those unadjusted returns for the period were reported at 26% per annum in 2014, but fell to 12.67% per annum in 2015. That was a 2.11 return as at June 2014 and a 1.46x return as at June 2015, remembering that this is funny money, not reality.

As good as that sounds, it’s not great for early stage investing.

For comparison during the first 2007 to 2012 period I invested in Define Instruments (solid), 200Square (still selling houses), Pocketsmith (growing well over the years), Vend (over 600% returns, including more cash out than invested), Valuecruncher (failed), Lingopal (in quiet mode), and Pacific Fibre (we tried), as well as some sweat-equity firms like My Tours (doing very well), Groupy Deals (exited to Yellow), Powerkiwi (2nd in Deloitte Fast 50, contract bought out by Powershop), AllAboutTheStory (closed) and others. Later on I invested in Syft (4x cashed out return), and then Punakaiki Fund (52% up so far.) I just took a very brutal ruler to those investments, and valuing rather harshly the unrealised investments I still see over 400% or 500% return on investment (one company valuation could drive the that a lot higher). Of the over $900,000 off that I invested only $150,000 can be deemed a failure, and some of that is still being worked out.

So while I was making four or more times the money invested – the NZVIF fund of funds was actually losing money operating in the same space. And meanwhile other early stage investors with larger amounts at their disposal did extraordinarily well. Take a look at the shareholder registers for Xero or Vend.

Meanwhile NZVIF stated on page 3 of the 2015 investment report that “no private venture capital funds have been established over the last 15 years without NZVIF’s involvement.” At LWCM, the manager of Punakaiki Fund, we were somewhat incredulous to read this claim. We have not exactly been hiding under a (flat or otherwise) rock.


The SCIF fund, which operates deal by deal, had invested $29.7 million to June 2014, and $38.2 million to June 2015. That’s an increase of $8.5 million year on year. Punakaiki Fund invested, for comparison, about $10 million in the 21 months since launch in April 2014.

SCIF is not self-limited by the same clawback mechanism, and neither, as I understand it, are the new NZVIF VC investments. That’s good.

The average SCIF investment per company was $310,000 in June 2015. That’s a lot lower than us at Punakaiki Fund, which is averaging near $700,000 invested and $1 million in asset value per company.

The SCIF returns are fairly sad though, with NZVIF reporting just 1.04% annualised return in June 2015. That’s even lower than bank debt, but at least it is positive. The SCIF investments vary by partner – they have 15 or 17 (depends how you count) and only 8 are delivering positive returns. I suspect one or two of those will be very successful, and the rest marginal.

Overall NZVIF estimates that the SCIF portfolio returns on investment will be between 0.8 and 1.5 times the money invested, by 2026. Read that again. SCIF is saying that after 10 years they are promising, at best, an annualised rate of return of 4.1%. This is not successful early stage investing.

3: The Fees on Fees

The returns from both parts of the fund are lousy – and I accept that NZVIF is trying as hard as they can to downplay the value of their investments and there should be plenty more upside. If their approach to valuation is, as they state, “conservative” and they are carrying assets at lower values than their co-investors then then everyone needs to re-read the IPEV guidelines, which are pretty clear on using fair values. (We use them at Punakaiki Fund too.) The accountants and auditors (Audit New Zealand) for NZVIF should have strong fairness opinions about the valuation methodology and the individual valuations.

However you cut it, the reported returns from NZVIF’s VC Fund of Funds and SCIF are unacceptably low for early stage investing.

But we have not yet mentioned fees. NZVIF’s 2014 annual report and 2015 Annual Report show that in NZVIF received $2.33 million from the government in 2013, 2014 and 2015, and they spent $4.4 million, $4.6 million and $5.3 million  in expenses in those three years respectively. A significant part of that, $1.9 million in 2013 and 2014 and $2.6 million in 2015, was for “fund management fees and costs paid to fund managers”. I don’t know what that means – was this for external people to manage their fund of funds? Or was it paid to the funds that they have invested in? Either way it doesn’t appear to be matched in the revenue line. Is it taken from the investment principal?

With $137,500 spent on directors fees, $1.33 million on employee benefits, $1.0 million on “other administrative expenses” and $120k on auditors the basic costs to run NZVIF (excluding the “fund management fees and some other items) was $2.58 million. That represents 1.9% of the funds under management, while the full $5.3 million of expenses represents 3.9% of the fund under management. I am not sure how this works, but I suspect (and hope) the the 3.9% represents both layers of fees – those incurred directly by NZVIF and those paid to their VC fund managers.

NZVIF is a fund of funds, and even the SCIF part relies on others to do the work. The VC funds that they invest in and the angel clubs and small funds that they invest alongside with SCIF charge their own fees beyond those above. The end result is that the overall fees to the investor (us taxpayers) are very high.

Investors don’t mind high fees when the returns are great, but in this case it’s tough to take. NZVIF is charging a lot more than a funds on funds investor should, and while they would argue that they perform a a lot more services than just funding, it’s hard not to point at the tepid results and ask questions.

I feel frustration that NZVIF is accepting and promulgating these low returns and high fees as acceptable for early stage investing. I understand their need to justify their mandate, but it’s arguably creating a chilling effect for newer funds, like Punakaiki Fund, to convince larger investors that the asset class is amazing. And it is amazing.

4: The road ahead

The good news is that some of the NZVIF investments are going better as at the end of 2015, but it’s unclear what the “buy-out adjusted” returns were at that stage.

It’s also great to see some new funds coming on line, with Chintaka Ranatunga looking to close GD1 II soon, and the ICEAngels closing a fund between $5 and $10 million, and others circling. But we are still hundreds of million short – at Punakaiki Fund we are overwhelmed with deals and could place $50 million easily within 3 months, if we had it.

NZVIF itself is in transition, and with a new CEO yet to be announced there is an ideal chance to make a solid change in structure and mandate.

Last year I commented to the NBR that I’d like to see five things:

  1. Equality: Invest on equal terms to other investors into funds – with no buy-back provision. My understanding is that this has now happened.
  2. Simplicity and speed: Impose no conditions on the funds, such as contract criteria, and fund structure, investment process etc. (The VIF conditions were dreadful). Invest or don’t invest based on the offer, and make decisions quickly. My understanding is that the terms are a lot better these days, but it’s still dreadfully slow for VC funds to raise money from all investors. 
  3. Quantity: Have a strong bias to invest at least something into any local fund which is investing in the target markets/stages. Not done – we are still waiting for a call. I suspect this article will delay it further.
  4. Performance-led: Invest small amounts at first into many funds, and reinvest progressively larger amounts into funds that perform. Not done – the GP/LP structure used by funds means VIF can only invest in lumps when new funds are raised. This can take years.
  5. Reporting: Commission outside experts to deliver reporting on the overall early and growth-stage funding markets in NZ, placing the NZVIF funds in the list next to private investors and non-aligned funds. Not done, but it is good to see the second investment report from NZVIF. I expect the numbers will get better.
  6. and a bonus 6th: Report NZVIF progress to the public on a deal by deal and fund by fund basis, with ability to do so as a pre-requisite for any investment in a fund. Not done – and to be fair this is hard as companies don’t like releasing results.

To those I would add three new suggestions.

  1. Lower the management costs for NZVIF to say 0.5% or 1% of assets under management, more normal for a fund of funds. Ask the leadership to restructure accordingly. That means an annual budget of $650k to $1.3 million, well under the $4.6 million today; or
  2. Pass the entire fund to an existing government-owned professional fund manager, and if the government wants to invest in more funds or deals then the fund manager can allocate the funds. The Superfund is the perfect vehicle for this (ACC is an alternative), but the asset class is very small for either shop. One option is to move say two people from NZVIF into Superfund and have them managed there; or
  3. Run a tender to ask for proposals to run the fund and pass the fund to the private sector. Selected the manager based on the response in costs and evidence that new ownership would drive higher returns for the fund.

The final alternative is to keep going, but it should be clear by now that more of the same is not necessarily the best course.

5: It’s not personal

I commend everyone inside NZVIF and in the funds they have invested into. Everybody works hard to change NZ’s investment climate and to deliver returns for investors and founders. Some people in the ecosystem have gone well above and beyond.

This is an attack on a dated mandate for NZVIF, a structure that is unwieldy (though getting better) and in an ecosystem that has marched far ahead.

As investors, advisors and taxpayers we should be unafraid to call out when we perceive there may be an issue, in this case with a business. It can make things tough when people don’t understand that this elephant hunting is never personal, but over time essentially everyone respects that things do need to be called out, and an intervention is better than no intervention.

In this case I’d really like NZVIF to succeed, and I’d really like to see a lot more funds in our ecosystem – we need them. But at the same time we need to broaden the ecosystem away from NZVIF. Punakaiki Fund has shown that it can be done from the ground up, as have many high net worth investors, while Milford Asset Management have done the same as a larger investor top down.

The high growth investing ecosystem still needs to earn the right to have the major brokers and banks get behind the space, and the only way we will do that is to show consistent and strong returns, resetting the standard for what proficient early stage investing can achieve.

I love it when investors in our ecosystem make great returns. Here’s to the early investors in Diligent, the folks who backed Xero pre-IPO, the few and the brave behind Adherium and the countless quiet investors who back the thousands of companies we never hear about. Let’s keep investing into great companies.

And let’s hear it for the founders – all of this energy is focused on helping founders start and accelerate the growth of companies. We have an abundance of founders and great companies in New Zealand – we need to get on with giving them what they need.

Posted in NZ Business | 3 Comments

Auckland Punakaiki Fund Presentation: Thursday 28th

Chris Humphreys and I will be presenting about Punakaiki Fund tomorrow, Thursday, 6pm at Deloitte Auckland, 80 Queen St. Many thanks to Deloitte NZ for providing the space and to Snowball Effect for arranging this.

Signup here – space is limited.

The presentation is targeted at eligible investors who are interested in our latest offer. You can read about the  Punakaiki Fund Wholesale Offer on Snowball Effect, or download the Information  Memorandum. Come with questions.

Punakaiki Fund had assets of $15.16 million, as at December 31st, 2015, including $750,000 raised in December from this offer.

We have confirmed applications this round, including $462,000 via Snowball Effect, for just under $1 million more, giving a total of $1.71 million. The offer closes on Sunday.

The more we raise, the more we can help the 14 companies we have already invested into already, and the more we can place into new companies. We invest into companies that are growing – combined annualised revenue for the last quarter from the 14 companies was over $55 million, and 10 of those have annualised revenues of over $500,000 per year.

Our aim is to help grow outstanding New Zealand companies, and to generate great investor returns as a result.


Posted in NZ Business

Punakaiki Fund: Mindfull Group and Melon Health

New Investment: Mindfull Group

At the end of last year we invested into Mindfull Group, and Punakaiki Fund now holds 20% of the shares. I have joined the owners Belinda Johnson and Richard Johnson on the board of directors.

CEO Belinda Johnson and CTO Richard Johnson are a high energy duo, and I have been very impressed at the pace of change that they are leading with the company. That includes a restructure of the firm to be based around their core business lines, moving their Auckland offices to consolidate into one location, restructuring the balance sheet and making a senior hire to drive US sales.

Mindfull Group specialise in business analytics, providing software and consulting to 300 clients, including some of New Zealand’s largest companies, and some large global companies as well.

They have consultants based in Auckland, Wellington and, now, in Portland, helping companies with financial performance management, predictive analytics and data warehouse solutions. Most of their consulting and software sales business is built around IBM Cognos TM1, a budgeting, planning and reporting tool for medium (large in NZ terms) sized businesses.

Mindfull Group have also developed software that extends the TM1 platform (and other platforms in the future for Qubedocs), including Qubedocs, an automated documentation tool sold globally and Mi Bi, a cloud based Business Intelligence tool that allows smaller and mid-sized businesses to budget, forecast, report and do cashflow modelling on the IBM toolset. Mindfull also provide local sales and consulting services for WhereScape, a New Zealand developed and created data warehouse automation tool that is gaining global traction.

Mindfull are a very professional firm, delivering high value solutions to their clients. We are investing to help them accelerate their product development and expansion offshore, and remain comforted by their strong and growing business here in New Zealand.

Another round for Melon Health
We are participating in a rights issue for Melon Health, who are raising funds to help them deliver on a number of compelling opportunities developed in 2015. This round raises the valuation of Melon Health slightly to reflect that progress, which includes pilots in three countries (one is nearing completion), being selected and completing the Techsters and Mayo Clinic partnership programs, and general traction on major sales.

Posted in NZ Business

Punakaiki Fund: Fundraising update

At the end of last year we extended our wholesale fundraising offer until 31 January. While that was a bit over five weeks in time, in our summer season it’s really only a couple of weeks of business time. 

Meanwhile however most of the companies we have invested are continuing strongly, most with steadily growing recurring revenue, and many companies delivering record months and quarters yet again.

December2015/January 2016 Offer progress

We issued the first $750,000 worth of shares before the end of 2015, and have received a total of over $1.35 million in applications. We also have indicative commitments that will bring the total to over $1.5 million.

The offer is priced at $16.50 per share + $19 September 2016 option and is available to eligible investors only.  

Read and apply online at Snowball Effect (easiest):
Read the IM :
Application form:

We have plenty of opportunities to reinvest in companies we have already invested in, and would like to be able to invest in other companies as well. The more we raise, the more we can help companies grow, which in turn will increase the net asset value per share.

Almost all of the applications to date have been received directly by Chris, rather than through Snowball Effect. As a result the Snowball Effect offer looks a bit light, but it is the easiest one to apply through as it is an online process.

Posted in NZ Business

Simplified pricing may significantly boost Trade Me’s revenue

Trade Me has announced that it is changing its auction fees from February 1 – and quite a big change at that. Let’s look at the changes from the old fees to the new.

Listing (Upfront) Fees

Here is Trade Me’s page on the change.

The first change is important – making extra photos free. That’s a great step as more photos per listing means much better listings and therefore a better sell-through rate and more success fees. I am surprised but not shocked given the current policy at  the number of listings on Trade Me that have just the single free photo. From research we did 10 years ago we knew that listing with multiple photos are much more likely to sell more, and Trade Me will make a lot more money from increasing the number of items sold and therefore getting their success fees up than a few 10c up front fees. So I expect, and Trade Me wll be a lot les bullish on this, to see the overall sell-through rate to increase substantially – by 10 or 20%, or perhaps more for the affected listings.

This change will improve the marketplace experience for everyone – buyers can see the products better and make more informed bids and sellers can provide a far better story about their product, and only pay if it sells. Overall this will encourage the right behaviour across the general items part of the site, and we can expect to see listings with far more than one or two supporting photos as the norm.

Placing the end user experience first is part of Trade Me’s DNA, and it’s good to see this move. For me it’s a signal that things are changing within Trade Me, and that’s got to be good for everyone.

Success Fees

This change has two sides to it – removing or lowering fees for tiny sales prices and sharply increasing the take rate for sales above $200.

Lowering the fees for tiny sales

The minor change is that the minimum fee of $0.50 is disappearing, and also that no fees will be charged for sales under $1. That’s nice, and while it is tiny revenue per item for Trade Me there are a lot of items affected.

The effect of the change then is that for items under $6.39 in sale price the final value fee will drop from a $0.50 flat rate to 7.9% of the price. I am going to guess (and I’m not looking at any historical data to educate that guess) that the bulk of these cheaper sales are at $3-6 anyway, and so the average margin may go from $0.50 to $0.25 or $0.30. Let’s use $0.25 as our estimate, a drop of $0.25 for every listing sold for $6.39 or less.

But given the exorbitant current fees, there are most likely a vast number of listings that are not being placed on the site as the fees are too high versus the sell price. Like the photos change I expect that this will have a very positive effect on the marketplace dynamics, with a much larger number of listings being placed. Trade Me will have to make sure that people don’t try to charge ridiculous shipping fees to compensate, and may need to work fast to manage the potential influx of listings in certain categories. Both are good problems to solve.

So there will be more listings, and therefore more sales, albeit at lower fees per sale. However some of those small item sellers will buy upfront fees, and many of those small items will sell for greater than the seller expects ($1 auctions are almost always worth it).

Trade Me say that 20% of typical sales would experience lower success fees – and those are the ones in this under $6.39 category. I’ll get back to these number later.

I’m going to estimate that the number of listings, and sales, in this category (under $6.39 sale price) will lift by 25%. That’s probably a lot more bullish than Trade Me, but I don’t have report to a stock market. It won’t happen, if it does, instantly, but let’s see how things progress over the year.

Like the photos changes this passes the “is this the right thing to do?” test, which tends to deliver value to members and Trade Me alike. And again another sign that Trade Me is accelerating into the right direction.

Increasing the take rate for larger sales

For a sale prices between $6.39 and $200, which is 74% of listings, there will be no change in their fee. (Mostly – we also need to add sales with a price of more than $5,158, but that’s trivially immaterial.)

What is material are fees for items that sell for over $200 and less than $5,158, which will see price increases. The best way to describe what is happening is with a chart:

The old price structure lowered the success fee rate in 2 stages as the sale price rose, reaching the $149 maximum fee at a sale price of $5158.

The new price structure does not lower the success fee rate, and so it reaches the maximum fee of $149 at $1,886. At that sale price the seller will pay $149 in fees, whereas before they would have paid $86.82.

I think this change, which simplifies things for everyone, is overdue. Why should sellers of large items pay less commission? After all the same psychology works – if you have just sold something then you don’t mind paying a low commission.

This doesn’t affect the traditional seller of second hand goods, who just wants to maximise price and does not mind paying commission, as long as it is fair. It also shouldn’t affect most sellers of higher value items that they make or source themselves, who should be entertaining healthy margins and who have control of their sale price. However it does affect large sellers who are selling relatively generic or popular goods. For these sellers, who sell things like mobile phones or beds, may be competing with The Warehouse or other websites. A 7.9% margin could be very high, perhaps too high for them to make a profit.

Trade Me already gives large sellers a discount (15%), and the very latest probably have individual deals, which probably (knowing Trade Me’s frugalness) don’t amount to much more. For this change the Trade Me Community has noted that some large sellers are being offered discounts in other areas – such as free Feature listings for a few months. Exactly how this will pay out – I don’t know, but bigger sellers who sell items over $200 will not be very happy.

However bigger sellers, like most on the first page of the Trade Me Stores page, who sell low value items like books will be minting a lot more money. Booksellers will no longer be paying the 50 cent minimum fee, and will be able to put more photos up for free. I expect we won’t hear much from them but they will be very happy with this change.

I also contend that the ecommerce market has changed significantly over the last few years, and that people shopping for the lowest cost generic products may not be looking on Trade Me any more – but on other sites like Indeed Trade Me sellers can arbitrage between AliExpress (or even The Warehouse) and Trade Me and make margin – as Trade Me buyers want it cheap, but they also don’t want to fuss with external complexity. Trade Me makes it very easy for kiwis to but and sell – and long may that continue.

Clearly revenue will increase from this part of the price change, with, Trade Me states, 6% of sales expected to have increased fees. Those sales are priced between $200 and $5,157, but that is deceptive, as the vast majority of sales happen closer to $200. Here’s what it looks like in a zoomed in chart. The red line is drawn by me based on experience not data and is not scientific but looks about right.

While the margin between the old blue and new orange fees in the bigger chart has a straight average increase (the distance between the lines) of $29.50 or so, it’s clear that the weighted average will be a lot lower, so the average may be closer to $2-$7 per listing.

That’s still significant as we shall see. Meanwhile the average listing price is rising, and the number of more expensive (over $200) sales is rising, so we can expect that this sets Trade Me up well for the longer term. Put another way, as inflation lifts prices Trade Me will make more money versus today, much as fixed tax brackets increase average tax paid as wages and salaries rise through them.

I don’t see this affecting volume to much, but there is a risk that some sellers will slow trading. Trade Me will be nervous about that, but ultimately if they can deliver the sales, and they can, then the sellers will stay and probably just pop their prices up slightly to compensate. I expect the community will grumble and then just keep going.

Impact on Revenue – Assumptions

Any model we build on the revenue impact hinges on a few key assumptions, and I will be making some large ones below. Sadly Trade Me does not report that many key metrics – I would like to see them take a more proactive approach as Xero does, and help analysts build their models. The estimates of course have a large margin of error.

Number of new listings: In an interview recently Jon Macdonald stated there were about 300,000 listings per day, which is 110 million general listings per year.

To check that – we know that Trade Me just hit their 1 billionth listing. By searching for listing numbers I found the 826 millionth listing was on Jan 1 2015, and the 1005 millionth listing was a year later. So that’s 179 million listings in a year. That includes motors, property and jobs, which, by my count right now represent about 10% of listings today. So even if we use 150 million listings a year there is a big difference over Jon’s quote. However let’s go with Jon’s 110 million listings a year and put the difference down to automatic new listings created when larger sellers sell many items from the same listing.

Number of listings with paid photos: I’m going with 10%, which in my very cursory scan of Trade Me feels about right. Frankly I could do a much better scan but that takes a lot of time I don’t have. (Someone could use the API to do this perhaps)

Sell through rate (sold listings): The sell through rates vary by product category. For our purposes we are interested in very low value and very high value goods. But let’s start with an overall estimate, because the arithmetic mean of the list – at 12% – is probably not that useful.

Trade Me made $64 million in revenue from general item sales in 2015, which is split between up front fees, premium fees and success fees. If we estimate (and it’s a guess) that $45 million of the $64 million was from success fees, and if we take an average of 7.0% success fee for each sale (another guess), then this implies about 10.7 million items sold, or 9.72% sell through rate. That feels about right.

Low value categories include books, CDs, DVDs and so forth. These sell at very low percentages – just 1% for Fiction and literature, Non Fiction and Children & Babies books. Similarly CDs sell at 4% and Trade Me avoids publishing the results for DVDs.

The question is whether we should use a different sell-through rate for these items, and I believe that we should for the base case, and will choose 5%.

Meanwhile 20% of all items 10.7m items sold are under $6.39, so that’s 2.14 million items a year.

High value categories, between $200 and $1800 include mobile phones, gaming consoles, furniture and a host of other things. Sell through rates for phones are, amazingly, 33%, while consoles hover around 13% for new ones and 5-9% for older ones. Beds and furniture are over 20%, which is amazing as well. But overall let’s recognise that the average for all goods is 10.7% and go with that.

6% of all general item sales are in this category, which means 642,000 items sold a year.

Revenue impact estimates

1: Free Photos

As discussed above I believe that the move to free photos will lift average sell through rates across the board. Even Trade Me would be uncertain about the impact here, but I’m going to be firm that it will left sales across the site by 10%.

That’s a big number – 10% x $60 (average sale price) x 10.7 million is $64 million in extra Gross Merchandise Sales, $5 million in success fee revenue. It’s probably not going to happen at once – but I’d give it a year.

But we also lose money from the photos, which at 10% of 110m listings is 11 million listings. If we assume an average of 2 extra photos for each of these then that’s 11 million x 20 cents, or $2.2 million in lost fees.

So overall let’s say that this will initially lose money, but over time will make over $2.8m extra per year, and I contend that this has significantly higher potential.

The sell through rate is a critical metric – and if items sell more easily then the entire Trade Me engine works better for everyone, and that will create even more listings and sales. There is high potential here.

2: Cheaper low value item success fees  

Revenue lost: we will see a loss of, say, 25 cents per item on the 2.14 million items sold in this category, or $535,000. That’s really not a lot.

Revenue gained: I estimated that the number of cheaper listings will rise by 25%, and I also estimate that the sell-through rate for all these listings will increase – as the pricing can be sharper. Let’s estimate that sell through rate will move from from 5% to 6%. The overall effect will therefore increase items sold from 2.14m to 2.94m, which will deliver $735k in new revenue.

These are relatively small numbers, and close enough, so lets call this one neutral overall.

3: More expensive high value item success fees

Revenue gain from single take rate: I see a gain of, say, $5 per item sold in this category, or $5 x 642,000 = $3.2 million. The uncertainty here is that $5 – which I guess Trade Me’s own estimate will be lower. But I really like the potential here as Trade Me is trending towards higher value items.

Overall result

The overall estimated change will be in annual revenue, EBIT and Net Profit before tax – as there are no costs associated with a price change. Adding up the above we see a total of over $5 million per year. I suspect that Trade Me’s own estimate will be closer to $2 million, but I also suspect that over time the actual return will be a lot higher. Let’s see.

A change of $5 million would lift 2015 revenue of $200m by 2.5%, EBITDA of $134.4m by 3.7%, and, most importantly, profit before tax of 111m by 4.5%.

In theory this price increase should lift the value of Trade Me itself by the same as the effect on profit, (4.5%), as these changes in profits will be lasting.

That’s a lot – do I have my numbers right?

Possibly not – do your own calculations and I am not your financial analyst.

  • I’ve made mistakes before (when valuing Xero) and would not be surprised to see them again. I am not trading on this and nor do I own Trade Me stock.
  • This could be higher. The effect on sell through rate could be a lot higher, the margin between old and new prices for expensive sales could be higher and the estimates of loss of revenue from photos could be overestimated – and so on.
  • This could be lower – the photo revenue loss could be a lot higher, the margin between old and new prices lower and the loss of income at the lower end could be worse.

However let’s remember that the price increase was notified to the NZX and ASX markets on Monday, which companies should do when they have a material announcement. So maybe Trade Me is aware of the impact.

The Trade Me share price barely moved in either country, so the market has not really adjusted to this, if it is that material.

In summary

In summary this is a fantastic move by Trade Me. Many sellers, almost all really, will be very happy, and the marketplace itself will use a lot more activity. And then there is that increased revenue.


Let’s leave the last word to suicidemonkey from the Trade Me Community:

suicidemonkey quoted another poster:

“About time we find an alternative to Trademe. They know they’re the monopoly and they are taking advantage of that. Disgusting.”

suicidemonkey’s Response:

This complaint has been around for at least 10 years. In that time several other sites have started up then eventually folded. Feel free to try again, but the odds are not good for you succeeding.

Posted in NZ Business