Fitness device manufacturer Fitbit (NYSE:FIT) reported earnings May 3. Revenue for the quarter was down 41% year-over-year. Normally, that would send investors running for the hills, but management had reset expectations significantly after a disastrous fourth quarter and declared 2017 as a "rebuilding year" for Fitbit. The result is that revenue for the first quarter actually exceeded management's revised forecast and the company say it is on track to hit its full-year guidance. The stock rose 12% the day after earnings were reported.

This article is a follow-up on my earnings preview as I dive into the actual results, which included signs of improved channel inventory and stabilized revenue per device, although tracker sales were tepid and revenue from the company's enterprise health focus is still elusive.

Man in t-shirt and sunglasses lying down relaxing with Fitbit on his wrist.

Image source: Fitbit

Channel inventory improving

Channel inventory is the term for product that has sold from the manufacturer (Fitbit) to the bricks-and-mortar retailer, but is just sitting on the store shelves waiting to be sold. Fitbit's results in the Q4 were significantly impacted by lower than expected sales that left its retail partners with higher than expected channel inventory. The company took an $83 million charge in the holiday quarter to help retailers move this excess product through discounting Fitbit units or returning unsold devices to Fitbit.

This quarter, the sell-through activity (sales from retail partners to consumers) for the quarter exceeded management expectations and as a result the U.S. retail channel inventory levels declined 30%. Management went on to say that they will continue to selectively support promotional activities to enable the company to enter the second half with a "clean channel," meaning no excess inventory sitting on retail partner shelves.  This is important so that as the company introduces new products, those products won't have to compete with a shelf crowded with last year's marked-down models.

Revenue per device rises

Revenue per device sold rebounded back to $100 in the first quarter, up from $88 the previous quarter. This number represents revenue from all sources divided by the number of devices sold in the quarter.

Line graph of revenue / device sold, starting in 2013-Q1 at $64 and finishing at $100 in Q1-2017, with a high of $104 in Q1-2016.

Data source: Fitbit. Chart by author.

This quarter-to-quarter increase shows that the promotional activity and the actions the company took to get the supply/demand in balance haven't permanently hurt Fitbit's pricing power. Part of the rebound was attributed to a record accessory revenue of $4.70 per device. This business was restructured last quarter as Fitbit employees were laid off and the business was transitioned to a partner and licensing model, where Fitbit accessories are no longer designed in-house. The record accessory result shows that the business model transition didn't negatively impact this important revenue segment for Fitbit. 

I still believe revenue per device is the one number for investors to watch and I am very pleased in the improved results for the quarter. As Fitbit moves into the smartwatch category and is able to get revenue beyond the device, investors could see this number positively impacted.

Fitbit trackers are selling, but not at the previous pace

In my earnings preview, I calculated that in order for the company to hit its revenue guidance it would have to sell 3.1 million to 3.3 million devices, assuming that the promotional environment would hold prices down. While the company sold only 3 million devices, average selling price increased.

Bar graph with unit device sales by quarter from 0.5 million in Q1-2013 to a high of 8.3 million in Q4-2015, and the most recent quarter at 3.0 million. Additionally a line graph showing year-over-year growth has been declining for 7 of the the last 8 quarters.

Data source: Fitbit. Chart by author.

While the number of devices sold decreased 39% year-over-year, the resulting revenue combined with cost management actions was enough to provide positive free cash flow of $21 million and allow management to maintain full-year revenue guidance of $1.5 billion to $1.7 billion.

Is the enterprise health initiative healthy?

In March, the company announced a reorganization to focus the company around two areas: (1) consumer health and fitness and (2) enterprise health, which would "expand on the company's early successes in working with insurance companies, employers, health systems, and other healthcare partners."

In the earnings call, I was looking for evidence of revenue growth from these initiatives, but instead CEO James Park discussed three examples that he framed as "a lot of good news." First, the continued integration with the United Health Care Motion program gives the company the opportunity to sell more Charge 2 devices. Second, more than 1,300 companies are using Fitbit in corporate wellness programs. Third, the use of Fitbit devices in studies looking at issues such as diabetes management, stress, and exercise is increasing. At this stage, these initiatives are still less than 10% of overall revenue more opportunity than realization. 

Overall, I give Fitbit a solid "C" for the performance this quarter. Management has followed through on announced cost management actions that improved the company's cash position. Average selling price increased and channel inventory is clearing out to make way for new products, and maybe even a smartwatch in the second half of the year. The company maintained its full-year revenue guidance of down 22% to 31%, which shows management's confidence in the progress so far and the plans for the second half of this year. While there's still just talk of enterprise revenue, there have been some glimpses of positive progress. All in all, not bad for the first quarter of a rebuilding year.