Business Model Makes Stitch Fix a Question Mark For Both Bulls and Bears

Stitch Fix (NASDAQ: SFIX) reports earnings after the market closes on September 22. Analysts are expecting the online personal shopping company to post improved numbers from the prior quarter. Stitch Fix is projected to lose 17 cents per share on revenue of $414.54.

In the prior quarter, which closed at the end of April, the company reported a loss of 33 cents per share on revenue of $371.70 million. Both numbers were below expectations. However, the numbers would be lower on a year-over-year basis. In this pandemic-driven economy, I don’t place too much credence in that number. Many retailers of all types struggled mightily at the onset of the pandemic.

What investors should be watching closely is the company’s current stock price. SFIX stock is nearly double its IPO price from almost three years ago. And it has recovered nicely since the broad market selloff in March.

With that said, the stock is nearly double its initial public offering (IPO) price of $15 per share. And since surging as high as $49.33 in the first year after its IPO, SFIX stock has struggled to reclaim the $30 per share mark.

I believe the next few quarters will give investors a gauge on exactly what the long-term growth prospects and profitability are for Stitch Fix. With that in mind, I see one reason for optimism and one reason for concern.

The bullish case For Stitch Fix

The company’s direct buy concept is very on-trend in the changing retail landscape. Stitch Fix doesn’t have to adjust their business model to take advantage of the trend towards working from home. It’s already been there. The company’s user base dipped a little bit in the last quarter (3.4 million from 3.5 million).

However, the key for Stitch Fix is customer engagement. That is, how much do customers buy once they receive their order? This is central to the Stitch Fix business model. In a world of e-commerce anything and everything, Stitch Fix offers consumers a curated experience.  It’s a business model that is “personalized” to individual preferences. Like many things, user satisfaction is dependent on the amount of information you provide the company. But for the most part, the company tries to closely match your tastes and budget.

I’m a customer, not an investor

In the category of full disclosure, I am a customer of Stitch Fix. I find the service fits my lifestyle (I hate to shop, particularly for clothes). And, with some exceptions, I feel like the service is customized to my tastes.

I will also say that the service is easy to use and hassle free. Every fix contains five items. You can keep the ones you like and return the rest in a pre-paid shipping envelope. The company offers customers a 25% discount if they buy the entire fix. And, if you choose not to buy anything, you’re only out the $20 upfront styling fee.

That convenience, however, brings me to my bearish case for Stitch Fix.

Customers can opt out at any time

I enjoy the experience. And there’s an important reason for that. Rather than have a fixed monthly charge, customers pay a styling fee of $20 for every “fix” they receive. Customers can choose the frequency with which they receive a fix and can change the frequency at any time. And if they decide they no longer want to use the service, they can just simply stop requesting fixes to be sent.

There’s no contract. There’s no feeling of “I should use this because I’m paying for it anyway.” You can decide when you no longer have a need for the service. Which I suppose is true of any subscription model. But it leaves the company exposed as apparel purchases are one of the first things customers will cut back on when budgets get tight.

All dressed up and no place to go

And even if consumers aren’t facing tight budgets, there could be other reasons they decide to pass on Stitch Fix. If you’re a working professional, Stitch Fix is an easy and convenient way to keep your wardrobe fresh.

I believe, in time, Americans will be going back to work in the office. But for now, many working professionals are doing that work from home. And that means they may have less of a need for the service. I know I’ve received several items from the company that, while I like them, I have absolutely no reason to wear them right now.

It’s all about the trend for Stitch Fix

Prior to the pandemic, everything was beginning to line up for Stitch Fix. Revenue was rising every quarter, and the company was posting solid earnings. There’s certainly a reason to believe the company can get back to that, but the economy is clearly different from where it was a year ago.

Stitch Fix has proven that its model works in a strong economy. Now it has to prove to investors that the model is evergreen. The company’s earnings report will be an important first indicator. If the company posts strong customer engagement numbers, this could be a compelling stock to buy in the fourth quarter. But if the numbers come in weaker than expected, particularly on revenue, then it may be time to pull back and wait for a better entry price.