Fitbit Sells More Devices, but Costs Soar

Image source: Fitbit.

Fitness wearables company Fitbit (FIT) reported its second-quarter results after the market closed on Aug. 2. The company has been ramping up spending on R&D in an effort to deliver new products to market quickly, while big increases in marketing have been helping to sell those new products. Fitbit's profits tumbled during the second quarter thanks to this heavy spending, but the company also shipped more devices and grew revenue at a blistering pace. Here's what investors need to know about Fitbit's second-quarter results.

Fitbit results: The raw numbers

Data source: Fitbit Q2 2016 earnings report.

What happened with Fitbit this quarter?

Fitbit continued to spend heavily, driving sales of its wearable devices.

• U.S. revenue grew by 42% year over year and comprised 76% of total revenue. EMEA revenue grew by 150% and comprised 17% of total revenue.
• Blaze, Alta, and related accessories generated 54% of Fitbit's total revenue. Both Blaze and Alta were released earlier this year.
• Two-thirds of Blaze and Alta activations were from new customers, with the rest coming from repeat customers.
• Gross margin declined 500 basis points year over year to 41.8%. Fitbit blames an increase in warranty reserves for legacy products, and expects its gross margin to recover during the third quarter.
• R&D spending increased by 162% year over year, while sales and marketing spending rose 70%.

The company provided guidance for the third quarter and reiterated its full-year outlook.

• Third-quarter revenue expected between $490 million and $510 million, with non-GAAP EPS between $0.17 and $0.19.
• Full-year revenue expected between $2.5 billion and $2.6 billion, with non-GAAP EPS between $1.12 and $1.24.

What management had to say

Fitbit CEO James Park put the company's second-quarter results in perspective, pointing out that it faced a tough comparison to the same period last year:

Second-quarter results reflect accelerated unit and revenue growth in the U.S. and EMEA, our two largest markets, despite an unusually strong Q2 '15, with the full availability of Fitbit Charge HR fulfilling built-up demand in that quarter. Our strong profitability reflects careful management of operating expenses, while we continue to invest in future growth. Based on the progress of our business, against a backdrop of a growing worldwide opportunity for our products, we remain confident in our guidance for the year.

Looking forward

Fitbit delivered rapid revenue growth and a big jump in devices sold, but profitability took a hit because of major spending increases. With more than half of Fitbit's sales coming from new devices and accessories, the company's strategy of pumping out new products seems to be vindicated. But Fitbit will need to keep up the pace of innovation to grow going forward. More new products are expected to be released during the second half of the year, and a flop would be disastrous.

While there's widespread concern that the market for fitness bands is nearing saturation, and that more capable devices such as the Apple Watch will ultimately eat Fitbit's lunch, the company has managed to keep up an impressive rate of growth. This holiday season will be the real test of Fitbit's strategy. With the stock not far off its 52-week low, investors don't appear all that confident in the company.