Fitbit’s Profits Hit By Manufacturing Problems

While revenue increased 23% year-over-year to $503.8 million, earnings fell well short of second-quarter expectations.
Sean AlloccaNovember 3, 2016
Fitbit’s Profits Hit By Manufacturing Problems

Fitbit, the maker of wearable fitness-tracking devices, posted lower than expected earnings and a dismal fourth-quarter outlook on Wednesday, sending stocks plummeting in after-hours trading and suggesting the device maker could be in for a gloomy holiday season.

While quarterly revenue increased 23% year-over-year to $503.8 million, earnings fell short of second-quarter expectations. The San Francisco-based company now projects full-year sales of $2.32 to $2.35 billion down from $2.5 to $2.6 billion just three months ago. Earnings per share stayed in line at $0.19.

During a conference call on Wednesday, founder and CEO James Park said the company is “starting to see headwinds” but believes the market opportunity for fitness-tracking devices remains substantial. The company hit third-quarter snags after manufacturing problems led to a lack of supply of the new Flex 2 device. Challenges in the Asia-Pacific market and a softening of demand also led to declining sales.

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“We continue to grow and are profitable,” Park said, “however not at the pace previously expected.”

Complications in producing the Flex 2 caused an increase in the cost of straps and higher than expected waste from the manufacturing process, which resulted in a third-quarter writedown, according to CFO Bill Zerella. The problems are expected to continue into the fourth quarter and will result in a $50 million revenue shortfall, he said. Lower supply means the company will miss out on lucrative holiday sales.

“While we feel good about our product portfolio in this holiday season, we are taking a cautious view,” Zerella said.

Some analysts believe the “softening of demand” is a symptom of over-saturation in the wearable health-tracking device market.

Investments in research and development could help create new product lines for the company in the coming months. Fitbit aggressively invested in R&D in the third quarter, adding 81 additional engineering jobs to close with 1,627 employees in total. Research and development currently represents 14% of revenue; the company’s long-term target is 10%.

Inopportune shipping intervals also frustrated earnings, Fitbit executives said. Shipments of new products were sent out late in the quarter resulting in payments posting after the quarter’s end, Zerella said. In addition, inventory was ramped up ahead of the holiday season resulting in a net cash loss from operations.

“We are working towards a more predictable new product cadence,” Zerella said, “since new product introductions can have a material impact on our revenue linearity.”

Fitbit sold 5.3 million devices in the quarter, up from 4.8 million during the same period a year ago.