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Nobody Wants a Fitbit for Christmas

By Adam Levy – Updated Nov 22, 2016 at 8:48AM

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Softening demand led to a lower-than-expected outlook.

Image Source: Fitbit

The demand for simple wearables, such as most of Fitbit's (FIT) fitness trackers, soared through the first half of the year, as high-end smartwatches from companies such as Apple (AAPL 0.70%) fell out of favor. But the tide is turning, as Fitbit forecast "softness in overall demand" for the fourth quarter.

The timing of Fitbit's lower-than-expected sales forecast coincides with the release of Apple's updated Apple Watch. Apple's wearable sales fell 57% in the second quarter after lapping the launch of the original Apple Watch, and sales fell 72% in the third quarter as customers waited for an update, according to data from IDC. But with that update arriving in September, it could have had a meaningful impact on Fitbit's demand as the two companies compete for similar customers.

The problem actually started last quarter

While Fitbit in early November reported third-quarter results in line with analysts' expectations, it benefited from pulling forward sales of its Charge 2 device. Fitbit was able to ramp up production of the successor to its best-selling device faster than anticipated, allowing it to ship more units to stores ahead of schedule.

At the end of September, Pacific Crest analyst Brad Erickson noted that Charge 2 units were piling up on the shelves. The faster ramp-up in production explains that trend, somewhat countering his conclusion that it was the result of low demand.

But Fitbit's fourth-quarter outlook indicates that Erickson was at least partially correct. Although the pull-forward of Charge 2 units offset poor sales of other devices in the third quarter, management's outlook for the fourth quarter shows significantly slowing growth in consumer demand from the year before. CFO Bill Zerellal told analysts, "Our guidance basically assumes 15% to 20% growth -- in dollar growth -- in consumer demand in Q4, year on year." In the fourth quarter of 2015, Fitbit's revenue nearly doubled.

Due to the pull-forward of Charge 2 sales, revenue growth will lag consumer demand. Analysts are currently projecting just 4% revenue growth for the fourth quarter.

Is Apple to blame?

Apple released the update to its Apple Watch in mid-September, and it had much more of a fitness focus than its predecessor. But Apple's device has a much higher starting price than any of Fitbit's products. The Fitbit Blaze, its highest-priced product, starts at just $200, while the Apple Watch Series 2 starts at $369. Fitbit's average selling price was just $93 last quarter.

Still, Apple has generally broad appeal and strong brand recognition compared to Fitbit. And it's looking to take advantage of the same market opportunity Fitbit's management was keen to point out during its earnings call.

"Sixty-six percent of people in the U.S. care about health and fitness and have a smartphone or computer tablet," CEO James Park told analysts. "However, only 20% of U.S. adults in a recent independent survey indicated that they own a connected health and fitness device."

Apple, with U.S. smartphone market share over 40%, is in a much better position than Fitbit to take advantage of that gap. The increased overlap in utility between the Series 2 and Fitbit's products could be dampening demand.

Additionally, Park noted, "We believe Fitbit has a key role to play in the healthcare ecosystem in how healthcare is practiced." To that end, Apple is also making progress. On the company's fourth-quarter earnings call, CEO Tim Cook pointed out that Aetna "announced a new initiative to revolutionize its members' health experience by subsidizing Apple Watch for individual customers and select large employers."

While Apple Watch sales have generally been disappointing to most analysts, that doesn't mean they can't have an impact on Fitbit's sales. Regardless, the outlook from Fitbit is rather bleak, and the stock market responded in kind. Even with the depressed stock price, Fitbit's bleak outlook on demand and vagueness around its ability to compete with Apple and other high-end devices makes its stock unappealing.

Adam Levy owns shares of Apple. The Motley Fool owns shares of and recommends Apple and Fitbit. The Motley Fool has the following options: long January 2018 $90 calls on Apple and short January 2018 $95 calls on Apple. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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