Online furniture and home-goods retailer Wayfair (W 2.08%) was slammed by a post-pandemic slowdown in demand. Revenue sank nearly 11% in 2022, along with a steeper decline in active customers. The first quarter of 2023 wasn't much better, with every important metric still in decline.

Wayfair made important progress in the second quarter, particularly on the cost-cutting front. While revenue still slipped and active customers still declined, the company successfully boosted its gross margin and reduced operating costs. The company is still not profitable on a GAAP basis, but it did produce positive adjusted earnings before interest, taxes, depreciation, and amortization, or EBITDA, and free cash flow.

Fewer customers placing fewer orders

Wayfair generated $3.2 billion in revenue in the second quarter, down 3.4% year over year. The number of active customers sank 7.6% to 21.8 million, although the customer count was up slightly from the first quarter.

Each customer placed an average of 1.82 orders over the last 12 months, down from 1.85 in the prior-year period. However, ordering trends appear to be improving a bit.

Wayfair delivered a total of 10.3 million orders during the second quarter, up 3% year over year. Unfortunately, the average order value sank 7% year over year to $307.

While Wayfair isn't out of the woods yet, it appears that demand is starting to bottom out.

Cost cuts galore

Wayfair made progress in bringing its cost structure in line with the current demand environment during the second quarter. Even with revenue down, the company was able to boost its gross profit. Gross margin was 31.1%, up from 27.3% in the prior-year period.

The company also slashed operating costs, although it remains to be seen whether this cost-cutting ultimately hurts the customer experience. Spending on customer service and merchant fees fell 11%, spending on advertising was down 7%, and spending on all other areas sank 8%.

Wayfair reported an operating loss of $142 million, a significant improvement over a loss of $372 million in the prior-year period. Other profitability metrics looked better, but they come with important caveats.

Wayfair reported adjusted EBITDA of $128 million, up from a loss of $108 million in the prior-year period. The problem with adjusted EBITDA is that it ignores a variety of real costs, including depreciation and stock-based compensation. Wayfair is using it as a key metric to measure its turnaround progress, which is a good reason to be wary of the stock, in my opinion.

Free cash flow was also a positive $128 million, up from a loss of $244 million in the same period last year. While free cash flow is a better metric than adjusted EBITDA as it represents the actual cash generated by operations, it still excludes stock-based compensation. If you added back stock-based compensation, Wayfair's free cash flow would have been negative in the second quarter.

While stock-based compensation isn't a cash cost, it's certainly a real cost for shareholders. Wayfair's outstanding share count rose by nearly 7% year over year.

Not a buy

Wayfair is making progress in bringing its costs down, and the customer base appears to have hit bottom. But Wayfair remains an unprofitable company.

With annual revenue of around $12 billion and a market capitalization that tops $8 billion, it's hard to justify buying the stock. The online furniture market is highly competitive, so Wayfair's margins are never going to be all that high. And the only time Wayfair has ever turned an operating profit was during the pandemic-era online shopping boom. That tailwind has now vanished.

With real profits remaining elusive, investors should be careful with Wayfair stock.