Blue Apron (NYSE:APRN) had said it would start pulling back on its marketing spend this year, following a rapid ramp-up in expenses and customer acquisition costs. Pull back it did. Marketing spend fell to $34.5 million in the second quarter, down from $60.6 million in the first quarter.

Blue Apron said the pullback was necessary so that its spend would be more in line with the seasonality of its business, which is typically strongest in the first quarter.

However, there is a more troubling reason. The company revealed during its second-quarter earnings call that it is facing a logistical nightmare getting its Linden, New Jersey, fulfillment center up and running. The problems caused a decrease of on-time, in-full deliveries -- that is, customers received packages late or with the wrong items -- and increased the cost of sales for Blue Apron's meal kits.

Due to these issues, the lifetime value of new customers fell as retention and net profit fell considerably. It doesn't make much sense to market to new customers if they're just going to cancel when you mess up their order and you can't make a profit.

Pasta, cheese, mushrooms, and various vegetables laid out on a wooden surface.

Image source: Blue Apron.

Total customers plummeted

Without a huge marketing spend, Blue Apron had a lot of trouble holding on to its customers and attracting new ones. Customers fell from 1.036 million in the first quarter to 943,000 last quarter. That's significantly more than the loss the company saw in the fourth quarter, when it also pulled back on marketing expense after intense competition had forced it to splurge in the third quarter.

With similar amounts of marketing expense in the fourth quarter and second quarter, Blue Apron lost 28,000 and 93,000 customers, respectively. Granted, Blue Apron was coming off the seasonally strong first quarter, but it seems its inability to deliver on-time, in-full (OTIF) as consistently as it wants had an impact on its customer retention.

The drop in customers exemplifies one of the biggest risks for Blue Apron. The switching costs for its increasing number of competitors are practically zero. If a customer is unhappy with Blue Apron's service, or finds an offer from a competitor more compelling, there's absolutely nothing stopping them from switching.

Revenue per customer fell, too

Not only did total customers fall on a sequential basis; revenue per customer fell year over year. This continues a trend Blue Apron started seeing in the third quarter last year. Customers are making fewer orders per quarter and spending less per order.

The good news is that both of those metrics improved versus the first quarter, which implies that the customers Blue Apron retained are better than average. At the same time, the company's gross margin is declining as cost of goods sold as a percentage of revenue increased nearly 6 percentage points. That's due to a mix of increased labor expenses -- due to the launch of the Linden fulfillment center -- and higher food expenses, associated with seasonal produce and higher-quality ingredients.

When does it end?

Blue Apron's management didn't give investors much reassurance that it can quickly resolve the issues with its Linden facility. "The good news is that we believe we understand the problem, and are landing additional systems and fixes to improve our margins and OTIF rates," CEO Matt Salzberg told analysts on the company's earnings call. He didn't say is how long resolving the problem will take, just that he doesn't expect it to change his long-term view for the company.

The company's second-half outlook may provide a bit more insight. Management expects just $380 million to $400 million in revenue over the last six months of the year. That compares to $483 million in the first half of the year, and $421 million in the second half of last year. Marketing expense will pull back to 15% to 16% of revenue as the company works through the problems with its new fulfillment center.

Blue Apron isn't off to a very good start as a publicly traded company, and its first earnings report revealed that it's in for at least several more months of problems. Taking its foot off the gas with marketing may open the door for competition to steal its customers as Blue Apron figures out how to scale its operation beyond 1 million customers. All of the bad news may be priced into the stock for the next six months, but it's still an extremely risky stock to buy considering the company has practically no competitive advantage yet.

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