Insights

Here’s Why I Sold Stitch Fix Stock

Stitch Fix (NASDAQ: SFIX) stock has been in a downward spiral over the last year, and the latest earnings report shows even worsening trends for the personal styling service.

I’ve been a big fan of the business over the last few years. I even tried Stitch Fix’s new Freestyle offering to kick the tires. The experience gave me even more conviction about the company’s potential to disrupt the apparel industry. I was impressed at how accurately the company’s algorithms assessed my taste, fit, and style preferences even though I was a new customer.

Stitch Fix has incredible recommendation technology working under the hood. I believe the business can return to growth. Yet despite that, I recently sold virtually all my shares.

What went wrong

No matter how much you like a company, sometimes you must cut ties with it and move on to greener fields. Investors should never let their passion for a business keep them from selling the stock if that business is not growing.

Stitch Fix was performing great at the start of 2021 when the economy was just starting to reopen following a year of social distancing efforts. In the company’s fiscal 2021 third quarter (ended May 1, 2021), revenue grew 44% year over year. It followed that up with another great report, with revenue growing 29% in its fiscal fourth quarter (ended July 31, 2021).  

But then the business’s momentum ground to a halt. Incidentally, the company’s struggles started following the launch of the Freestyle service in September — a move that was supposed to be a growth catalyst. Management has said that the addressable market for Freestyle is as much as three times larger than the market for its original service.

Stitch Fix became popular with clients for its Fix service, where stylists send clients curated boxes of clothes selected specifically for them based on their feedback and style preferences. Freestyle allowed clients to buy items without going through a stylist. It seemed this would significantly expand the company’s customer base, but instead, it only confused new customers looking for the traditional Fix experience.

New clients who were interested in having a stylist curate their items were being directed to the Freestyle service upon landing on the Stitch Fix website. As a result, Stitch Fix experienced decelerating net client growth over the last two quarters. This would seem like an easy problem to fix, but apparently, it’s complicated.

To their credit, management has acknowledged the execution missteps that need to be corrected. Moreover, Apple‘s recent changes to its iOS mobile operating system to improve user privacy have made it more difficult for Stitch Fix to increase traffic to its website, which has compounded its growth struggles.  

No growth visibility

With the company’s execution issues compounded by external headwinds such as Apple’s iOS changes and a challenging macroeconomic environment, it’s not clear when it will return to growth.

Stitch Fix’s revenue declined 8% year over year in its most recently reported quarter — Q3 of fiscal 2022 (ended April 30). While that was in line with management’s guidance, it is concerning that the service reported a net loss of 200,000 active clients — previously, that metric had consistently grown. The company also forecast that its revenue would fall by 13% to 15% year over year in the current fiscal quarter. 

Stitch Fix has tremendous long-term growth potential, but there is no point in holding a stock that continues to report worsening revenue trends, especially with other great companies selling at attractive valuations in this bear market. I would wait for the company to show steady growth in revenue and active clients before considering opening a position in the stock again.

John Ballard has positions in Stitch Fix. The Motley Fool has positions in and recommends Apple and Stitch Fix. The Motley Fool recommends the following options: long March 2023 $120 calls on Apple and short March 2023 $130 calls on Apple. The Motley Fool has a disclosure policy.

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