Shares of Stitch Fix (SFIX 3.12%) have soared 60% since the company's IPO last month. Investors are warming to its track record of profitability and its strong revenue growth.
In this episode of Industry Focus: Consumer Goods, the team digs into Stitch Fix's financials. While revenue rose at a phenomenal rate up until 2016, growth has been slowing. Furthermore, a big increase in marketing costs has started to pressure profitability, raising some uncomfortable parallels to Blue Apron (APRN), shares of which have lost more than half of their value since its own IPO back in June.
A full transcript follows the video.
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This video was recorded on Dec. 12, 2017.
Vincent Shen: Everything we've described about the business so far, Adam, is it actually making money for the company? How do the financials look?
Adam Levine-Weinberg: The first thing we can say is, the growth has been phenomenal over the past several years. If you go back to fiscal 2014, this is a company with about $73 million in annual revenue. Over the two following years, by 2016, revenue had increased by 10x up to around $730 million, and it continued to grow in fiscal 2017, reaching almost $1 billion. So you've seen huge growth there. One of the interesting things about Stitch Fix compared to a lot of the other IPOs that you see is, this is a company that has been profitable for several years now. By 2015, it was starting to scale its business model and began to generate positive operating income. So, it definitely seems like a model that's more proven than some of the other, especially the tech IPOs that frequently come to market, and you're really betting on a company that has a lot of users, maybe, but uncertain prospects for long-term profitability.
With Stitch Fix, there's definitely a track record of profitability, so it's just a question of whether or not it can grow its profit margin over time and how well it can continue to scale in the next three to five years, let's say.
Shen: So the company, you mentioned, they were approaching $1 billion of revenue in fiscal 2017, so it's up 34% over the prior year. And as you can imagine, as the company grows, it scales in size, and that growth rate is decelerating. But their gross margin is between 44% and 45%, and that's better than what you'll see at major apparel retailers and department stores. Something else I thought was interesting for the most recent year was, the company actually swung from a positive GAAP earnings in 2016 of about $33 million, again, pretty rare for most recently IPO'd companies, to a small loss this year. A big part of that was the advertising and marketing costs, which shot up from $25 million to $70 million, obviously Stitch Fix trying to grow the business. But I think this presents us with a pretty familiar problem, and that's the need to spend very heavily to spread your brand awareness, to acquire new customers. That can become unsustainable. We saw that with another IPO this year that we talked about, Blue Apron. The market hammered Blue Apron for its high advertising and customer acquisition costs, and the stock only bounced back recently after the co-founder CEO was essentially pushed out and replaced.
In the prospectus, though, Stitch Fix does share some one-time data on its customers in terms of revenue per client over different periods of time that I think is really telling. What we see here, and the company acknowledges this, is that customers tend to spend more in their first six months than their second six months, more in the first year than the second year. But at the same time, average revenue over the first year for a customer, I believe this was for the 2016 customer base, came out to $489, which is pretty substantial. I think that gives the company some room in terms of pushing their advertising spending.
Blue Apron had the same problem, where we know that customers tend to reduce their order frequency over time, and that was a major criticism from a lot of investors. But with food, these customers are eating every single day, they're decreasing their order frequency and customer value, but they're just turning to competing services or traditional restaurants and grocery shopping for their needs instead. But with Stitch Fix, management makes the argument that with each successful order, and items that a customer keeps, customers are essentially filling their wardrobes, there's only so much closet space, it's natural for demand to become a little bit lumpy as customers essentially wear what they have until they decide to refresh their wardrobes and return to the service. They mention that from 2014 through 2017, 650,000 of their customers reengaged with Stitch Fix after more than four months of inactivity, to show how that proves out.