Blue Apron: Keep Watching The Spoilage

About: Blue Apron Holdings, Inc. (APRN)
by: Gary Alexander

Shares of Blue Apron tumbled after reporting Q2 results that missed Wall Street's expectations on revenue.

The company's revenue decline steepened to -34% y/y, down from -28% y/y in Q1.

The company's liquidity position continues to look precarious, with cash balances standing below $100 million. Fortunately for Blue Apron, the company's cash flow losses have greatly diminished this year.

Blue Apron stock has given up all the gains from last month, when it announced it was adding Beyond Meat to its menus in August.

There's no doubt about it: Blue Apron (APRN) is in survival mode. Now cycling through its third CEO in two years, Blue Apron continues to peel off its customer base under heavy competition from myriad rivals. Just as the company is turning the corner on the profitability front, ramping up efficiencies at its newest distribution and fulfillment centers to improve margins, the company's loss of customers and scale is offsetting those gains.

Investors reacted sourly to Blue Apron's latest quarterly results, especially to the sequential decline in revenues:

Chart Data by YCharts

Recall that several weeks ago, Blue Apron announced it was following suit in one of the year's biggest food trends and adding Beyond Meat (BYND) to its menus starting in August. The link to Beyond Meat - which is one of the most successful IPOs of the year, having multiplied 7x since its IPO price of $25 - caused an initial surge for Blue Apron, rocketing the stock briefly above $10.

We haven't yet seen the effects of the Beyond Meat partnership - but it's unlikely that the addition of a single variety of menu item will spur a resurgence of Blue Apron customers that the company desperately needs. Most customers signing up for Blue Apron plans likely aren't going for the burger recipes anyway. The ~40% stock gains since the Beyond Meat pop were unfounded, and they've rightly disappeared since then.

Investors should continue to focus on Blue Apron's near-term results, which show deteriorating performance every quarter and a cash balance that continues to suggest a near-term need for additional capital. In my view, Blue Apron is not a "buy the dip" situation. The company, once the original mover in the meal kit space, is no longer by any means the dominant player in the space - that honor belongs to HelloFresh; which, as a subsidiary of German company Rocket Internet, faces far less scrutiny in its financials than Blue Apron. As long as Blue Apron continues to bleed customers and revenue, investors should continue to avoid this stock.

Digging into the order spoilage

Let's now parse the details of Blue Apron's most recent results, starting with the company's order trends:

Figure 1. Blue Apron customer metrics Source: Blue Apron 2Q19 earnings release

Blue Apron's Q2 results are not "new news." Trends from the past few quarters have held: Blue Apron's massive advertising cuts have sharply reduced the company's customer base, while the slightly-more-loyal customers (as measured by 4.6 orders per customer this quarter, versus 4.4 in the year-ago quarter; as well as the slightly higher $265 average revenue per customer, +6% y/y) have stayed onboard.

Of course, these higher-loyalty customers don't really do much to offset the jarring -38% y/y decline in total customers to just 449k, and the -34% y/y decline in total orders. Just to put Blue Apron's customer count into perspective - Starbucks (SBUX) has been pegged at drawing an average of 467 visitors to its stores daily, implying that a single store will bring in 42k visitors per quarter. Blue Apron's patronage of 449k customers per quarter is only slightly better than ten Starbucks stores.

Here's the rest of Blue Apron's results:

Figure 2. Blue Apron 2Q19 results Source: Blue Apron 2Q19 earnings release

Revenues decayed -34% y/y to $119.2 million, heavily missing Wall Street's mark of $138.2 million (-23% y/y). Recall that last quarter, Blue Apron's growth rate had clocked in at -28% y/y, implying a six-point deceleration this quarter. Wall Street had been looking for Blue Apron to improve this quarter - instead, investors got the opposite.

Spending cuts won't save this company

Of course, Blue Apron's defense for this revenue cut has remained the same over the past several quarters: the company has willfully cut marketing spend in order to stave off cash flow losses and focus on its most loyal customers. Indeed, we saw marketing costs drop -71% y/y to just $9.7 million; in the first half of FY19, marketing spend is about a third of what it was last year. There's an argument to be made that Blue Apron has improved its advertising efficiency - though the company has cut its ad dollars by two-thirds, its customer base has only shrunk by one-third.

That's not the only area in which Blue Apron has made profitability gains. Gross margins clocked in at 39.9% this quarter, up 460bps in the year-ago quarter - reflecting improved efficiency at the company's distribution centers. Other operating costs are also down -31% y/y to $35.1 million.

As a result of these savings, Blue Apron's Q2 net losses shrank to -$7.7 million - about a fifth of the prior year's losses, while Q2 GAAP EPS of -$0.59 heavily beat Wall Street's expectations of -$1.08.

In my view, however, Blue Apron's profitability gains are secondary to its revenue declines. If Blue Apron's order counts continue to decay to the low ~1 million mark, the company will be facing unused capacity at its fulfillment centers, and its bulk-buying of food ingredients may be marked up at higher prices due to lower volumes. In essence, Blue Apron's marketing cuts might be saving the company cash today, but at the expense of its future margins. Companies like Blue Apron heavily rely on scale and volume in order to survive, and a simple slashing of the marketing budget will lead to worse problems down the line.

Blue Apron's cash position also merits constant watching. As of the end of Q2, Blue Apron only counted $95.6 million in cash remaining - and after netting off $154.8 million in debt, this really represents a net debt position of -$59.2 million.

Figure 3. Blue Apron balance sheet Source: Blue Apron 2Q19 earnings release

It's true that Blue Apron has been doing well on the free cash flow front, having achieved its first-ever FCF positive quarter in Q1. Free cash flow turned briefly negative in Q2, but it's still far better than the year-ago losses:

Figure 4. Blue Apron FCF Source: Blue Apron 2Q19 earnings release

Despite stabilizing cash flow, however, Blue Apron's ~$95 million cash balances are too slim for comfort - especially when its debt matures. It's unlikely that Blue Apron will be able to find additional creditors (or if it does, it'll be at extortionary interest rates), and with the company's marketing cap hovering below $100 million, an equity raise seems unlikely as well.

Key takeaways

Blue Apron remains a ticking time bomb: its customer base will eventually dip to a point at which margins decay, and its cash balances will also eventually run dry and force the company to raise difficult capital to stay afloat. The stock has lost ~90% of its market value since its IPO for good reason. Feeble attempts to revive sales, such as the Beyond Meat partnership, may produce a temporary spike in orders - but the hard truth remains that Blue Apron lacks the scale to compete in a hyper-competitive market with dozens of niche competitors. Steer clear here.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.