Fitbit: Just Treading Water

Summary

• Q2 beat mostly as expected.
• Management maintains full year guidance.
• The future seems murky at best.

One of Thursday's biggest losers so far is wearable device maker Fitbit (NYSE:FIT). While the company announced a top and bottom line beat for its second quarter results like it usually does, a lack of long term progress continues to plague the name. With competition set to further increase, there just doesn't seem to be much optimism for the name currently.

For the quarter, revenues of $299 million were $13 million ahead of street expectations and above the high end of management's guidance. The Versa smartwatch is doing quite well, perhaps the best launch in company history. However, even at its $199 price point, it wasn't enough to help the overall story, as average selling prices declined about 5% from Q1 2018.

The biggest problem right now is that the company just cannot get to profitability, even on a non-GAAP basis. The Q2 GAAP loss was $118 million, a staggering amount on less than $300 million in revenue. Losses were tremendously more than the prior year period, mostly fueled by revenue declines, but gross margins also fell thanks to the higher cost of smartwatches. The tracker business may have bottomed for now, but is still experiencing a big decline.

Management increased its capital expenditure forecast for the year, mainly to help increase production, but this means that non-GAAP free cash flow will now be about negative $20 million, versus prior expectations for being flat. On a GAAP basis, the company will actually receive a bit of cash, mostly thanks to a major tax refund payment, but that is not a recurring item. The balance sheet is a bit weaker now than it was a couple of years ago.

The major problem for Fitbit is that competition is only increasing at this point. The Apple (AAPL) Watch is expected to get a major update this year and continues to be the highest revenue generating smartwatch. In fact, Apple's wearables revenues were more than $10 billion over the past twelve months, while Fitbit is a company generating just $1.5 billion a year. Additionally, Google (GOOG) (GOOGL) is expected to launch the Pixel Watch this fall, adding another major tech giant into the smartwatch arena.

To remain competitive, Fitbit is going to need to spend heavily on R&D as well as marketing, and that's tough to do when you are already losing hundreds of millions of dollars a year on a GAAP basis. The Versa was probably the best product launch in company history, and it came during the time of year that had no Apple Watch refresh and before the Pixel Watch launch. Still, Fitbit lost plenty of money, and that's despite cost control efforts.

While Fitbit announced top and bottom line beats for Q2, shares are down more than 6% in Thursday's trading. In my opinion, the company is just treading water at this point, unable to improve its long term future as competition is only set to grow. As you can see below, shares since the beginning of 2017 have had their occasional rallies, but they usually don't last long. That's why I said to sell the latest rally, and those that followed my advice have done quite well since.

(Source: Yahoo! Finance)

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