Blue Nile (NASDAQ:NILE) posted its Q1 2014 earnings last week. See details here. Revenues came in at $103.7M - at the lower end of the expected $102 to $108 million range given by the company. Management stated adverse currency dynamics in Canada and Australia as revenue headwinds. Earnings per share came in at $0.08 which is at the high end of the projected $0.05 to $0.09 range.
While revenue growth has been somewhat of a disappointment for the growth bulls, the numbers were nonetheless solid. The company improved in several key areas:
- Revenues up across the board in all product segments and all geographic areas
- GMs up by 20 basis points (skeptics should note that the margins improved in spite of revenues at the lower end of the range). We expect margins to improve slightly as the year progresses
- Growth in Asia Pacific has also exceeded growth in the US - a key element of our thesis. Management sees China jewelry TAM exceeding US TAM in the near future.
- To benefit from this trend, Blue Nile has already put infrastructure/framework in place. We expect that this infrastructure is somewhat of a drag on the GMs at the current level of sales. But as sales increase in China Blue Nile margins are likely to see significant improvement.
- Wedding bands and and diamond jewelry growing faster than rest of business - this is another element of our thesis.
- Concerns about inventory levels going up with wedding band and other jewelry sales did not materialize. Inventory turns increased, which is positive.
- The company's balance sheet stayed strong and share buybacks continue at a rapid pace. Blue Nile purchased about 500,000 shares in Q1 2014 and has already repurchased an additional 450K shares in Q2 to date - a remarkable dynamic that we like.
One interesting fact that management highlighted in the earnings call is the sensitivity of Blue Nile's customers to diamond price changes. Management mentioned that raw diamond prices are going up and polishers are passing on the prices but customers are balking. This indicates that Blue Nile's customers are very sensitive to the price of diamonds.
We seriously doubt if Tiffany's (NYSE:TIF) customers would be as sensitive to diamond price changes. What this indicates to us is that the current crop of Blue Nile's customers may be highly value driven. The main reason they are buying Blue Nile jewelry may be price. It should not come as a surprise to anyone that the emotional component of diamond purchase is somewhat lacking in an online purchase. A physical store-based vendor such as Tiffany is likely to see more of the emotional buying. We expect that cost sensitive customers are likely to be a smaller percent of the mix over time as a wider customer base starts buying jewelry online.
Given that Blue Nile lacks inventory, it prices its jewelry dynamically and any pricing variations will be exposed to customers in real time. Whereas, a physical retailer is likely to not move the prices around as rapidly. What this dynamic means is that, as long as value buyer is the primary buyer, Blue Nile is likely to do better in an environment where prices are falling as against an environment where prices are rising.
Overall, we believe Blue Nile's Q1 is a solid quarter although the growth did not return. But we believe the fundamentals are all in place and patience is in order. Selling jewelry online is hard. Most consumers are not aware jewelry can be bought online. And, of the people who are aware, most will not consider buying jewelry online today. We believe it will take a long time for mainstream customer to start buying jewelry online.
For the time being, to increase growth, Blue Nile has to increase repeat sales of existing early adopter customers and expand its penetration in international markets. And the business model is already starting to do that. The early adopters are buying online today and making some expensive purchases with satisfaction. These opinion leaders will start influencing other people to change their habits - it is just a question of time. When it happens, Blue Nile is most likely to be the dominant internet jewelry retailer and will get a considerable share of the market.
For an impatient investor, this is not the right stock. For a patient investor, there is not another internet jewelry brand that comes close to Blue Nile.
Disclosure: I am long NILE. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.