David's 6 Biggest Stock Pick Losers, No. 6: Fitbit

It's tough to pick a set of stocks that will beat the market -- although David Gardner's Rule Breakers and Stock Advisor portfolios both have done so consistently. Nobody's perfect, however, and as he has often said, every portfolio is going to have losers. But here at the Fool, we're serious about the need to acknowledge them and learn from them. So in this week's Rule Breaker Investing podcast, David will break down his biggest losers of 2015, 2016, and 2017 -- with some help from a few Foolish guests to take some of the sting out of it.

In this segment, he's joined by analyst Aaron Bush to talk about Fitbit (FIT), which has been gone from sprinting ahead to totally out of breath since he added it to his portfolio in May 2016. They discuss why the fitness wearables pioneer looked good then, where it ran off the tracks, and if there's any chance it can get its footing back.

A full transcript follows the video.

This video was recorded on Jan. 10, 2018.

David Gardner: That bring us to stock No. 6. Aaron, you're going to stay right in that hot seat. You're going to help me think through yet another horrendously bad stock pick that I've made in the last few years. This one was May 25, 2016. Here we are, still less than two years later. I'm not going to say the company name yet, but it is athletically focused.

The stock at the time was $14.06. I liked it, so I said, "Yes, this is our newest Rule Breaker," I said, about ticker symbol FIT and company name Fitbit. I said, "Yes, this has a lot of the makings. The look of a Rule Breaker." And today it's gone from $14.06 less than two years later to $5.67 or so, as we're taping. Aaron, what does Fitbit do in a few sentences?

Aaron Bush: Fitbit is another fitness company. They deal with wearable technology. They're most well-known for their wristband wearables, and they still have some other accessories, too.

Gardner: Pretty iconic when those came out, at first, weren't they?

Bush: They were. Absolutely.

Gardner: I mean, I was rocking a Jawbone, myself, and now I'm using my Apple watch. I may or may not be foreshadowing where you're heading with this, but Fitbit was a brand that, especially here in America, all of us would have recognized whether or not we were rocking a Fitbit, a Jawbone, or nothing at all.

Aaron, what is the thing that went wrong No. 1 for Fitbit?

Bush: As you alluded to, Fitbit was on fire there for a while. Sales were on fire, but then it flamed out. From 2013 to 2015, Fitbit sales rose from $271 million to over $1.8 billion.

Gardner: That is just amazing.

Bush: It really is. And so, during that time, there was a lot of hype surrounding wearables, and Fitbit the company really was the top dog and first mover in this trend. But unfortunately, even though the products are improving, the hype today and over the past year or so just hasn't persisted, and the hype cycle's downside is sometimes tough to overcome, as it goes through that trough there.

That said, sales have flamed out from more than just the hype, though. The market is now more competitive, which for Fitbit has meant cutting prices in order to retain market share. And it turns out that their retention rates are actually very low, and so people are not seeking upgrades at the same rate that they were buying into the devices in the first place. If we look just over the past 12 months, sales are down about 30% from where they were a year ago.

Gardner: And where are sales, roughly?

Bush: Sales right now are $1.6 billion.

Gardner: So not even that much farther down from where they were a few years ago, but the growth rates have not just slowed, but they've gone negative, and that's hurt this stock very badly. Aaron, what is thing that went wrong No. 2 for Fitbit and its shareholders?

Bush: I call it "troublesome expense control." Today Fitbit is losing more money than it ever made. In 2015, Fitbit made $336 million in operating profits and over the past 12 months, the company has lost $363 million.

Gardner: So, a complete flip.

Bush: A complete flip. Night and day. And even as sales have fallen, over the past two years, Fitbit's doubled its R&D spending, and it's boosted its SG&A expenses by 50%, so they're in a bit of a Catch-22 situation right now. Fitbit needs to spend a lot of money to stay relevant, but the cost of staying relevant is digging a pretty major hole in its income statement.

Gardner: Yes. Ouch. OK, Aaron. What is one thing we can look at, maybe hope for, going forward?

Bush: One positive note is that Fitbit has a lot of cash. The company has $659 million of cash and short-term investments in the bank. It has no debt. And for perspective, that cash represents about 50% of the company's market cap right now, which is incredibly high.

Gardner: So the company's worth about $1.2 billion or so, and they've got $600 million just sitting there in their bank account.

Bush: Right. And over the past year, Fitbit's burned or lost about $50 million in cash, so at that rate, it has about a 13-year runway before all of its cash is gone. Hopefully they can turn it around, but that gives them a pretty long time compared to many other companies that are burning that rate of money to find a solution. To invest heavily in technology and to really put that cash to work.