Why Casper mattresses appealed to Target, and what bounces lie ahead

CNBC reported last summer that there may be 175 of those upstart companies that will sell you a folded-up foam bed in a cardboard box.

Don't feel bad if you can't tell these firms apart, as you are not supposed to. Many offer products and marketing messages designed to look like their competitors, selling beds made by the same bed supplier.

Yet Target Corp. appears to have invested in only one of them, New York-based Casper Sleep Inc. Casper managed to go public on the NYSE last week, but just barely. The deal finally came at $12 per share, and the stock was still under water at last check after rallying in a strong stock market this week. (Casper shares were up 2.4% to $10.64 in trading Thursday.)

Target invested about $80 million in two bites in the private fundraising rounds that also took in money from NBA stars, Hollywood actors and musical performers, a class of investor not known for its savvy investing. Target's 7.3% ownership stake in Casper is this week worth about $30 million.

After just a few days, it's way too soon to reach the conclusion that Casper Sleep is a financial fiasco. However, that's the way to bet.

What's wrong? Fanciful thinking, among other things. Much like in the filings in the abandoned public offering of the We Co., the parent of WeWork, the Casper filing made assertions that were laugh-out-loud funny.

Casper, for instance, doesn't just sell beds and bedding accessories. It's a self-proclaimed pioneer in the "sleep economy" by helping consumers get through their "sleep arc," meaning from bedtime to when people wake up.

"We believe we are the first company that understands and serves the Sleep Economy in a holistic way," Casper noted, a line that New York University marketing professor Scott Galloway called "yogababble."

The main problem with the deal, however, is that Casper has a big cost of doing business in a market that attracted too many competitors. That means that even though it's gotten from a standing start to several hundred million dollars in annual sales very quickly, a real business achievement, it hasn't come close to making money. Meanwhile, its sales growth is slowing.

It had a gross profit margin, the money left over from a sale after deducting the cost of the product, of about 50% last year, which is fine. But its gross profit was swamped by operating expenses for things like marketing and just the cost of doing business. That led to a $67 million loss on $312 million in net sales for the first nine months of 2019.

The company provided some financial data on the full year in IPO filings characterized as preliminary estimates. Net sales for the full year reflect a 23% growth rate at the middle of the range of revenue the company disclosed. Not bad, but the preliminary sales and marketing expense line also grew by 23%.

Startup companies with a lot of potential don't need to make money to attract investors, of course. In this case, the company has raised more than $300 million through a series of private-equity capital financing, including the rounds that Minneapolis-based Target jumped in, and has since chewed through most of that money.

With the almost $90 million or so raised in the public offering, Casper is in no danger of running out of money any time soon. Like other young companies once highly valued in the private-equity marketplace despite never making money, Casper now has the challenge of making good on its promise to get to profitability.

The case against Casper is simply that in such a competitive market with so little to differentiate the players, sales growth might stall at a level that doesn't generate consistent operating profits and cash flow.

It has been widely reported, although apparently never confirmed, that Casper had the chance to sell to Target in 2017 at a value that approached $1 billion. Instead Target invested money as Casper elected to remain independent. It's valued by the public market this week at about $420 million.

Finding a buyer for a company like Casper is a fundamentally different job than rounding up investors for publicly traded shares. Corporate buyers don't have to judge how successful the company will be operating independently with the assets it has. These potential buyers get to decide what those assets would be worth to them with all their BigCo advantages.

That might mean a powerful umbrella brand, a nationwide network of stores, a database with millions of well-qualified customer names and profiles, big advertising budgets and a very low cost of capital.

A Target representative declined to discuss Casper at length, citing the public offering, but confirmed that Casper products remain on sale at Target.

And that's true, although I can be forgiven for missing them on my first try to find them, apparently having walked right past the display.

Don't think showroom, as Casper products only occupied an endcap, the stub shelves at the end of the aisles where you might see a promotion for the latest formulation of Tide laundry detergent.

With Target's steady business in home goods, you can see how it made a lot of sense for Target in 2017 to have a competitive bed offering. And it still makes sense today. But Target has proved to be really good at creating its own brands, and it took less than 30 seconds of web searching to confirm the name of one supplier that seems to be making these beds for several competitors.

Casper products can be found online and in its own stores, not just at Target, so it's not clear what additional rights Target got out of its big investment.

It would not be at all surprising to see Casper yet acquired, particularly if the stock market proves to be an inhospitable place to live its corporate life. Another early direct-to-consumer bed company, Tuft & Needle, was acquired by traditional mattress company Serta Simmons Bedding a year and a half ago.

An acquisition could be a great outcome here for all involved, including Target. Not that Target buys Casper Sleep at a big premium price, but that someone else does.

Then Target would at least have a good shot at getting all of its money back.

lee.schafer@startribune.com 612-673-4302