Upwork: The Gateway To Talent Access - Seeking Alpha
Freelancing platforms

GoodLifeStudio/iStock Unreleased via Getty Images

GoodLifeStudio/iStock Unreleased via Getty Images
This article is contributed by Jun Hao from our Superstocks Seekers team.
Upwork (NASDAQ:UPWK) is the biggest work marketplace connecting businesses to skilled freelancers. The pandemic has accelerated the shift toward remote work and has increased the demand for highly skilled freelancers. Upwork was quick to capitalize on the shift, bringing 771,000 clients to its platform today, ranging from small businesses to Fortune 500 companies. We believe Upwork is well-positioned to capture what is deemed to be a massive $1.3 trillion industry.
Marketplaces are amazing businesses because they serve as a critical intermediary between buyer and seller.
They tend to exhibit superior network effects and are asset-light, enabling them to grow really quickly. Companies like Shopee, Amazon (NYSE:AMZN), eBay (NASDAQ:EBAY), and Etsy (NASDAQ:ETSY), are market leaders in their own turf and are extremely defensible businesses.
Let’s dive right into Upwork, a marketplace connecting businesses to skilled freelancers.

Upwork goals

(Source: Upwork Investor Relation)

(Source: Upwork Investor Relation)
There is an ongoing rapid shift in the world today as remote work is becoming a norm and businesses are increasingly tapping into the pool of skilled freelancers.
An increasing number of people are turning to freelance due to numerous benefits – the flexibility of working whenever, wherever, and for how long you want, and you get to determine your own paycheck. According to Statista, there are to be 70 million freelancers compared to 158 million employees in the US in 2022. On the other hand, more employees are leaving and so competition for talents is heating up. Companies need to innovate, hire and grow, going after skilled professionals to fill in critical skill gaps. Today, there are more freelancers than ever before, and businesses need them to stay ahead.
However, the traditional way of hiring freelancers is extremely cumbersome.
You have to engage recruiting agencies, go through multiple phone calls and interviews, and then have them sift through lists of thousands of talents. The manual process is highly inefficient and could take days or even weeks to complete.

(Source: Upwork Investor Relation)

(Source: Upwork Investor Relation)

(Source: Upwork Investor Relation)
That’s where Upwork comes in. It streamlines the process of recruiting talents and offers a better customer experience – a wider pool of talents to choose from, cheaper fees as they don’t have to pay expensive service fees to recruitment agencies, and the ease of hiring talent.

Upwork services

(Source: Analyst Day 2021)

(Source: Analyst Day 2021)
Upwork has catered its platform to be comprehensive for companies of all sizes, and particularly, it is focused on the enterprise segment.
Here is an overview of its platform:
Talent Marketplace: This is the mature product offering of Upwork, where clients can access and engage skilled professionals for longer-term, larger, and more complex work.
Project Catalog: Unlike the Talent Marketplace, this is a marketplace for shorter-term and simpler projects. This was introduced in Q1’21, and it is in direct competition with Fiverr (FVRR).
Talent Scout: Upwork’s recruiters will connect clients to pre-vetted expert talents.
Enterprise Suite: End-to-End service for clients for hiring, managing, and scaling freelancers’ programs.
Virtual Talent Bench: A feature that allows clients to manage their talents, for instance, rehire previous talents and projects that they purchased.
A point to note is that Project Catalog serves as a customer acquisition tool for Upwork’s Talent Marketplace as it can cross-sell clients looking to hire skilled professionals for longer-term and complex projects. This directly translates into a higher spend per client, and they tend to be a lot stickier, thus, reducing churn.
In the latest Q4’21 earnings call, Catalog is gaining traction and Upwork is seeing increasing cross-sell opportunities:
..every quarter we’ve seen increases in the number of customers coming in through catalog. We’re seeing a significant number of these customers actually going further than just catalog and using a talent marketplace or Talent Scout or other ones of our offerings. Our existing talent marketplace and other customers have been crossing over and using catalog as well.
Going into FY22, the management continues to reinvest in its customers by coming up with new products to help freelancers transition into full-time, and vice versa, and make the process of using the platform more seamless.

Upwork client growth

(Source: Upwork Investor Relation)

(Source: Upwork Investor Relation)
Upwork has a massive client base of 771,000 as of FY21, growing at 22% YoY. Revenue wise, it grew at 35% YoY in FY21, as compared to a 24% growth rate in FY20. This acceleration in client acquisition and revenue growth is a result of the broader shift toward remote work.

(Source: Analyst Day 2021)

(Source: Analyst Day 2021)

(Source: Analyst Day 2021)
Back in 2016, Upwork went after the enterprise market.
Today, it claimed that 50% of the Fortune 500 and 30% of the Fortune 100 companies are using its platform. Other companies include Ford Motor (NYSE:F), and McCormick & Company (NYSE:MKC).
There are competitors like Toptal and Catalant with similar customer profiles, but cross-referencing data from Google Trends, SimilarWebs (# of traffic), and Trustpilot (# of reviews), Upwork is the top of mind for customers. Another thing is that, while many are comparing Upwork to Fiverr on an apple-to-apple basis, they are both vastly different platforms. Fiverr appeals to a wider audience as clients usually engage freelancers for simpler and shorter-term gigs. Whereas, clients go to Upwork to hire skilled professionals for longer-term and more complex work. Therefore, Upwork’s clients tend to be higher-spending clients, and are a lot stickier.

UPWK GSV per active client

(Source: Analyst Day 2021)

(Source: Analyst Day 2021)
Turning to Upwork’s unit economics, it is growing healthily as its GSV per active client has been increasing across FY21.
This tells us that (1) the company is onboarding higher-spending clients, and (2) existing customers are spending more on the platform. Even as the pandemic severity has gone down, there continues to be an elevated demand for Upwork’s platform. As opposed to Fiverr’s revenue per spend of $242, Upwork is substantially higher at $602 at a take-rate of 13.2%.
Enterprise sales come with a longer sales cycle as they take more effort and resources to convince them, but they can be incredibly sticky once onboarded.
There are plenty of benefits to landing a large enterprise – A strong balance sheet provides more upsell opportunities, and are more resilient during downturns. This translates into higher client retention rates, higher GSV per client, and sustainable revenue growth for years to come. The sales cycle has actually shortened in Q1’21 due to increased traction from customers and increased productivity from the sales reps.
This go-to-market strategy has also led to what’s called a Kingpin strategy.
Landing a customer like Microsoft (NASDAQ:MSFT) provides lots of credibility, lowering the barrier to entry and speeding up the adoption rate for customers unfamiliar with Upwork. Quoting from the Q4’18 earnings call:
When we started talking to very large companies two or three years ago, obviously, the first question they would ask is, who else is using it. And the answer at that time was, well, not a ton of people. Now we’re getting to the stage where a lot of the people we talk to came from other companies that were already using Upwork or other similar platforms come from a generation in the workforce for whom this is totally obvious and totally logical thing to do…increasingly people are excited to start proofs of concepts and pilots with us.
There are also raving fans who are sharing about Upwork with other potential customers through word-of-mouth. These speed up the flywheel effect embedded within the business model, acquiring customers at a faster rate while lowering the customer acquisition costs (“CAC”).
As of FY21, its enterprise sales are growing at 64% YoY, and it makes up 7% of its total marketplace revenue. By FY25, the enterprise sales are to grow at 70% CAGR to $300 million, making up 30% of its $1 billion revenue target. During the Q4’21 earnings call, the $1 billion target was pulled forward to FY24 due to the massive traction they are seeing in enterprise sales and growing GSV per client.
This is a testament to the strong value proposition Upwork is providing, and we continue to believe there is a strong demand for skilled freelancers.

Upwork marketplace gross margin

(Source: Upwork Investor Relation)

(Source: Upwork Investor Relation)
There is a healthy and growing gross margin of 77.6% in FY21, on par with mature marketplaces like Etsy and eBay.
However, its FY21 total gross margin is only 73%, as it reflects the lower-margin managed service revenue, associated with the cost of serving its customers. As the marketplace revenue continues to grow into a larger portion of the total revenue, this will result in a higher margin.
In the long run, Upwork is to achieve a long-term gross margin of 80% to 85%.
Upwork has yet to achieve profitability as its FY21 Operating margin is -11%.
This lies in its enormous amount of Sales & Marketing (“S&M”) spent to pursue market share and its heavy investments in brand marketing. As of FY21, its S&M is 36% of its total revenue. The management has repeatedly reiterated the importance of reinvesting for growth rather than chasing short-term profitability, given the low brand awareness and the massive Total Addressable Market (“TAM”).
This reminds us of Amazon which was loss-making for many years as CEO Jeff Bezos emphasizes reinvesting its profit into other business units, ensuring a long runway to grow.

Upwork normalized operating profit and margin

(Source: Upwork Investor Relation)

(Source: Upwork Investor Relation)
Since these are discretionary spending, we can find out its normalized Operating Profit (“EBIT”) by adding its S&M expenses back to its EBIT, giving us a normalized EBIT margin of 26%. This means the margin is intentionally suppressed to capture market share, and its financial statement is not properly reflecting its profitability.
Upwork is expected to achieve an EBITDA margin of 30% to 35%, as S&M and R&D expenses tune down. There is a very strong Operating Leverage inherent in the business, waiting to be unleashed.

Upwork sales efficiency

(Source: Upwork’s Investor Relation)

(Source: Upwork’s Investor Relation)
Looking at the huge S&M spending, we also want to know how efficient the management is in terms of bringing in sales.
It wasn’t until FY21 that Upwork started to display improved sales efficiency, in which S&M expenses as a portion of total revenue declined to 43%. However, we like to see if there will be continuous improvements to indicate that (1) revenues are coming in quickly, and (2) Upwork does not have to spend a larger amount of S&M to bring in even more revenue.
This is something we will be monitoring closely in the coming quarters.

UPWK marketplace take rate

(Source: Upwork Investor Relation)

(Source: Upwork Investor Relation)
Marketplaces charge a take rate in exchange for the value it provides to their customers.
For Upwork, strangely, its take rate hasn’t been increasing over the last 5 years.
There are several reasons for this:
As customers cross certain revenue milestones on the platform, Upwork charges a lower transaction fee in the sequence of 20% to 10% to 5%, which puts pressure on the take-rates.
Managed Service Revenue is reported as a 100% take-rate, so as it makes up a smaller portion of its total revenue, this affects the take-rate in the short term.
Changes in the pricing model of the Connects program (tokens that allow freelancers to apply for jobs on Upwork)
As you can see, this is not due to Upwork’s inability to monetize the platform, but rather its implementation of its pricing model and certain accounting rules has caused take rates to be stagnant.
Drawing a comparison, there are peers like Fiverr charging a take rate as high as 29%, and Catalant charging at a range of 20% to 30%. How can the largest marketplace fall behind its competitors?
Back in the Q3’18 earnings call, we thought the previous CEO Stephanie, had done an incredible job in explaining why Upwork chose to maintain a low take rate. We could have tried to shorten this, but it will be more meaningful and beneficial to extract this and have you read it:
..if I were looking at this as an investor in the business, what I would worry about more is if take rates start to go up tremendously. This would be a case where you are saying, hey, this company is struggling to create a lot of value for its users and it’s over monetizing as a way to compensate for it to try to jack up revenue numbers. We are in the reverse situation right now, where we are letting, on purpose, take rates decline. We are not planning to make major changes to the pricing because we think that the incremental GSV that we get at, even at a lower take rate, still generates more revenue, generates a lot of satisfaction from the customers. And that is what is driving this spend retention rate going up, the number of core clients going up. Generally, this is a very healthy business where people are spending more and more, they are retaining more, they are referring more people to us.
Monetization is a late-game strategy, and offering a lower take rate helps to attract more potential customers to the platform when the market is up for grabs. With such a huge addressable market, the priority should be growing the number of clients and revenue growth.
Eventually, Upwork has to raise its take rate to support the ongoing expenses of the business, and if that happens, it will have a significant impact on the revenue and margins. Higher take rate products like Project Catalog, Talent Scout, and Enterprise Suite are also expected to contribute to the uplift of Upwork’s take rate moving forward.
During Analyst Day 2021, CFO Jeff McCombs stated that the long-term EBITDA margin is not dependent on the take rate, so any increase in the take rates will result in incremental margin expansion.

(Source: Author

(Source: Author’s Estimate)

(Source: Author’s Estimate)
In the back of the envelope valuation model, we’re using the $1 billion revenue guidance and assigning a 25% EBIT margin.
This is taking into consideration that the current margins are suppressed due to its heavy investments into S&M, and as Upwork starts to scale and mature, it will be able to extract Operating Leverage, and sales efficiency as well as maintain a reasonable level of S&M spending.
Using marketplaces like eBay and Etsy with similar margin profiles, we are implying a 15x EV/EBIT multiple for Upwork. We’re factoring in that Upwork is a market leader in a massive industry, with a high gross margin level, strong customer profile, suppressed Operating Margins, and non-optimized take-rates.
As of 22 April 2022, the future EV is $3.75 billion by FY24, a 58% upside from its current EV.
Competition is everywhere.
Upwork’s newly launched Project Catalog is a similar platform to that of Fiverr, but can Fiverr and other competitors make their way to compete with Upwork? Well, they could…but there are a few factors to consider.
Firstly, companies like Fiverr are serving an entirely different segment, so it will be challenging to repackage their solutions or innovate new products to serve the enterprises. Next, is the need to replicate Upwork’s client base, which takes years of heavy investments to build. And finally, competing with Upwork in terms of take rate, means that they have to sacrifice revenue and margins. Let’s assume that Fiverr even decides to target the enterprise segment, but is it willing to sacrifice a 29% take rate? We don’t know but we bet it isn’t a risk it’s willing to take.
This is not to undermine its competitors’ ability to compete, but there are a lot of nuances that they have to consider, and neither should Upwork.
As mentioned earlier on, does Upwork have to continuously spend more money on S&M to bring in even more revenue? If it does, it is a huge red flag. This has to be monitored closely.
We touched on Upwork being the largest work marketplace, offering a superior and seamless customer experience for businesses to hire skilled freelancers.
Spurred by its network effect, improving unit economics, increasing traction in the enterprise segment, and a long-term secular tailwind, they continue to reinvest heavily in its platform to capitalize on the huge market opportunity. Upwork has cemented itself as the leading enterprise solution for talent access, and it can be a highly defensible and profitable business in years to come.
Interestingly, Fiverr Inspire has recently been launched.
It is a feature that works similarly to Instagram’s feed where users are able to scroll and look at other freelancers’ work. If clients are interested, they can contact freelancers to engage them with their services. What if additional features such as comments, likes, and even uploading of videos are incorporated? This can potentially help to (1) encourage more interaction within the platform itself, (2) increase users’ time spent in-app, and (3) maybe introduce advertisement.
Could Upwork do the same to enhance the stickiness of the platform? We are not sure, but there are definitely other optionalities that it can explore in the future.
Finally, let us know what your thoughts are in the comments section below!
This article was written by
Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, but may initiate a beneficial Long position through a purchase of the stock, or the purchase of call options or similar derivatives in UPWK over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.


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