Stitch Fix prices IPO of 8 million shares at $15, below expectations

Key Points
  • Stitch Fix has touted its profitability, but its earnings recently took a hit from one-time items
  • Company will soon need to pay more for marketing, as word of mouth impact has tapered
  • Investors were worried about disappointing performances of Snap and Blue Apron
Source: Stitch Fix

Online personal shopping company Stitch Fix priced its initial public offering (IPO) below expectations in a downsized offering on Thursday, raising $120 million.

The underwhelming IPO highlights the challenges e-commerce companies face going public in the wake of poor performances from Snap and Blue Apron. It was also a disappointing debut for the newest breed of online shopping companies, which includes Warby Parker and Rent the Runway.

Stitch Fix priced 8 million shares at $15, below its indicated range of $18 and $20. The company had originally planned to sell 10 million shares in the offering.

The main concern for investors was its continued ability to stay profitable, according to a source familiar with the situation. That concern was exacerbated in the wake of troubles at Blue Apron and Snap. Both went public with losses on the promise of growth, only to see their stocks crater amid disappointing performance.

Stitch Fix is a variant on the popular e-commerce "subscription box" model, in which customers pay to have regular — often monthly — shipments of goods. These models are popular because companies can predict revenue, but many have struggled to balance those sales against the steep marketing costs they require.

In some cases, subscription box companies have to give away their products at a highly discounted cost. That model works best if customers buy other full-price goods a company offers. It does not work, as is often the case, if it faces steep competition and frequent product returns.

Amazon recently tweaked its try-before-you-buy service, Prime Wardrobe, after finding the costs of discounts and returns too burdensome.

Stitch Fix had touted its ability so far to scale while focusing on profitability. However, recent earnings were hit by one-time items. In fiscal 2017, the company reported $61 million in earnings before interest, taxes, depreciation and amortization, down from $73 million in 2016. That was off $977 million in sales in 2017, up from $730 million the year prior.

Going forward, it's expected to face even steeper challenges. The company acknowledges that, while it has largely been able to rely on word of mouth, it will need to pay more in the future to bring in new clients.

"We're impressed with the fundamentals of the company. The issue is — what is happening going forward? The easiest customers they've already acquired. Now they have to spend more and more to acquire these new customers," Kathleen Smith, a principal at Renaissance Capital, told CNBC's "Closing Bell." Renaissance Capital manages IPO-focused exchange traded funds.

Subscription box industry

The underwhelming IPO is likely to be a disappointment among players in the crowded subscription box category. According to Shorr Packaging, there were 2,000 subscription box services as of March 2016. As of last November, investors had poured $1.4 billion into the subscription category, according to CB insights.

Companies in the space include make-up box Birchbox, dog toys and treat box Barkbox and athletic apparel company Fabletics, owned by TechStyle Fashion Group.

Several of those companies, like Techstyle, have already tried to sell themselves. Buyers, though, had a hard time grappling with expensive private market valuations attached to unprofitable retail companies.

The news may also concern some of the larger e-commerce apparel companies like Rent the Runway. Stitch Fix was notable among its competition for making it past the $100 million revenue benchmark, which many of its rivals fail to do.

Founded in 2011 by Harvard Business School graduate Katrina Lake, Stitch Fix touts a combination of data and stylists to select clothes for subscribers. Customers fill out a survey of their preferences based on size, budget and style. The company sends five personalized apparel and accessories items, which customers can either return or buy at a discount.

Stitch Fix works with more than 600 women's fashion brands, including Joie and Citizens for Humanity, and more than 30 men's brands, including Scotch & Soda. It announced in August it is adding more brands into rotation, like Alice & Olivia, Helmut Lang and Kate Spade. It offers clothes for petite, maternity and plus-size categories.

Stitch Fix is expected to start trading on the Nasdaq stock exchange under the ticker SFIX.

Goldman Sachs and JPMorgan are lead underwriters for the offering.