Shutterfly (SFLY 52.93, -7.61, -12.57%) is trading steeply lower today after the
company reported third quarter earnings and forward-looking guidance last
Originally incorporated in 1999 as a company that helped customers retrieve and print photos from their digital cameras, today, Shutterfly is a digital retailer and manufacturer that helps consumers create personal products with digital photos. Shutterfly is now comprised of three divisions: Shutterfly Consumer, Lifetouch, and Shutterfly Business Solutions.
Shutterfly Consumer includes a variety of brands that house
a variety of products. Segment product offerings and services enable customers
to upload photos and create professionally-bound photo books; cards and
stationery; custom home décor products, from wall art to glass prints to
ceramic tiles; and other unique photo gifts, calendars, and prints. This
segment also encompasses rental revenue from the company’s BorrowLenses brand, an
online marketplace for renting cameras, lenses, and video equipment as well as
accessories like backdrops, tripods, battery grips, and lighting. Revenue
derived from advertising displayed on the website is also tallied in the
Lifetouch was acquired by SFLY in April 2018. As the national leader in school photography, Lifetouch provides services including professional fall yearbook portraits, sports team photos, commencement pictures, retail studio sessions, and more. SFLY sees Lifetouch as a transformational acquisition, adding $935 mln in annual revenue.
Finally, the Shutterfly Business Solutions segment provides personalized direct marketing and inventory-free printing for business customers, with a focus on the financial, retail, technology, and health care verticals. Shutterfly believes that its scalable SBS operations provide value to clients at a level much above that offered by traditional printers.
SFLY's business, as one might expect given the leading motivations for photo and card printing, is highly seasonal. About half of the company’s revenue is generated during the Q4 holiday season, making that period an especially critical time for the company to maintain fulfillment infrastructure, including computer systems, that can sturdily deal with surges in demand. The Tiny Prints boutique, which is included in the Shutterfly Consumer segment and which offers various premium cards, announcements, invitations, and stationery products, generates 70% of its revenue during Q4. SFLY manufactures many of its products at its own facilities in South Carolina, Minnesota, and Arizona, but it does also farm out some orders to third party suppliers, and together with its own facilities, third parties, and a network of partners, the company strives to ensure timely delivery at a favorable cost structure even during peak holiday seasons. Substantially all of Shutterfly’s revenue comes from the U.S.
Turning to the Q3 results, SFLY reported a GAAP loss of $(2.20) per share, which was better than expected. However, non-GAAP revenue at $372.7 mln was below expectations. In terms of guidance for Q4, SFLY lowered Q4 non-GAAP revenue guidance to approximately $970 mln at the midpoint from approximately $982 mln.
What happened? On the call, management described results in Q3 as mixed. SFLY saw the Lifetouch and SBS segments contributing solid results, but those were offset by a disappointing performance in the Shutterfly Consumer segment. Shutterfly Consumer revenue was lower than expected at just $127 mln, down 6% year/year. Brand revenue declined 2%, significantly below expectations for Q3.
SFLY struggled with customer growth and saw that its promotional
strategy did not deliver enough fresh, relevant, effective promotions in Q3, a
period when SFLY needs to work hardest to engage customers given the lack of
holidays. The company identifies continuing mix shift away from free promotions
and toward paid purchases, and also less effective paid promotions, as having
had the largest impact on revenue and customer growth in the quarter aside from seasonality. In
particular, SFLY saw that the successful promotions launched a year or more ago
declined in their effectiveness as SFLY repeated them too many times. SFLY plans
to make significant changes to ensure that it offers a steady pipeline of fresh
promotions. To speak more to patterns of seasonality, while the company’s cards
and stationery business continues to see strength, having notably benefited Q1 and Q2 of this
year, Q3, for reasons of seasonal mix, did not benefit quite as much from this
Looking ahead, the Q4 holiday season is always SFLY's biggest quarter, so the company’s upcoming performance will be especially important. The holiday season has a large and loyal customer base -- about 80% of Q4 sales come from existing, repeat customers -- and draws customers to a number of signature products. (Christmas cards, mugs, calendars, and others are all big seasonal sellers.) Foil, a premium printing option with personalization capabilities, was very popular last year for holiday cards, and personalized ornaments also tend to sell well. New categories of kids and pets have nice potential. SFLY says it's ready for Q4; it has stress-tested its equipment and its platform and ascertained that apps are faster and more reliable than in the prior year. SFLY has improved upsell and cross-sell capabilities.
Still, even with an anticipated seasonal boom on the horizon, Shuttferly pared its non-GAAP guidance for Q4, principally as a result of anticipating weaker results from the Shutterfly Consumer segment, reflecting the customer growth challenges seen in Q3, and this lowered outlook has likely disappointed investors. Furthermore, to speak of what is already final, investors were disappointed in SFLY's Q3 results. The stock has now been chopped almost in half since its brief stay near the $100 level, the stock’s all-time highs, in early June. It may not be a bad idea as a turnaround candidate if SFLY can come through with a nice result in Q4. Hopefully that Q3 revenue performance and the customer growth issues that contributed to it were one-time blips, but time will tell.