When the only story a company can tell investors is about cutting costs, you know there's a problem. Shares of Stitch Fix (SFIX -1.09%) soared on Wednesday following a quarterly report that shouldn't have impressed anyone. Revenue was down 20% year over year, net income was deeply negative, and free cash flow tumbled.

Prolific cost-cutting

The online stylist did make progress cutting costs, which was apparently enough to induce a rally in the heavily shorted stock. Selling, general, and administrative costs declined by 33% year over year in the fiscal third quarter, which ended April 29, driven in part by a 20% reduction in its salaried workforce announced earlier this year. The bottom line improved dramatically, from a net loss of $78 million last year to a net loss of $22 million this year.

More cost cuts are coming as the company grapples with plunging demand. Along with its results, Stitch Fix announced that it will be reducing its distribution-center network from five to three. The lease on one distribution center won't be renewed later this year, while another will be closed sometime in 2024. According to the company, this move will provide "greater depth and breadth of inventory available for our stylists to serve clients."

Stitch Fix has greatly reduced its inventory, so spreading it out among fewer distribution centers makes sense. The value of inventory has declined by 23% over the past nine months, similar to the rate of revenue decline. Once the distribution network effort is complete, Stitch Fix expects to realize about $15 million in annualized cost savings.

On top of paring down its U.S. distribution network, Stitch Fix is exploring exiting the U.K. market in fiscal 2024. The U.K. is expected to contribute about $50 million in revenue in fiscal 2023, but the company doesn't believe profitability is possible in the near term.

Customers aren't sticking around

Stitch Fix's core service involves sending customers personalized selections of apparel chosen by stylists. While there's no subscription fee, each shipment comes with a $20 styling fee. If a customer chooses to purchase an item they were sent, that styling fee is applied to the cost of the item.

It's easy to see how a customer could be driven away. Every shipment that doesn't have any items a customer wants is $20 down the drain. A customer may end up buying an item they don't necessarily want to avoid wasting that money, which is not a great experience. Every shipment comes with this risk, compared to standard e-commerce sites where returns are generally free and easy.

Stitch Fix had 3.476 million active clients in the third quarter, down 11% year over year. On average, those clients are spending 9% less than they were a year ago. Not only is Stitch Fix losing customers, but the customers it keeps are reducing their spending.

The problem with cost-cutting and reducing inventory levels is that both can potentially make the experience worse for customers. Increasing efficiencies almost always comes with downsides. If the company's stylists are under pressure to do more with less, the gap between what customers want to buy and what actually gets sent could widen.

The chronic customer losses and eroding spend per customer are signs that Stitch Fix's core product isn't resonating with consumers. Cutting costs and closing warehouses isn't going to fix that.