Fiscal 2014 Should Be A Weak Period For Shutterfly

by Trefis Team
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Online personalized photo retailer Shutterfly (NASDAQ:SFLY) reported a 17.5% jump in Q1FY14 revenues on a year-on-year basis, from $117 million in Q1FY13 to $137 million this quarter. Although top line for the company posted double digit expansion, the year-on-year growth in revenues has been decelerating for the company. Comparatively, Q1FY13 sales expanded 28% from Q1FY12.

In addition to slowing sales, Shutterfly’s bottom line has been strained by depreciation expenses related to its old manufacturing facilities. Shutterfly’s interest coverage ratio, which is an indication of the number of times the company can service its interest expense obligations through its operating income, have also declined more than 10 fold between Q1FY13 and Q1FY14. Shutterfly reported approximately $50.5 million as a net loss, against a loss of $36 million in Q1FY13, primarily due to a higher interest expense. As a percentage of revenues, net income margins this quarter were 6.1% lower on a year-on-year basis.

In this earnings note, we take a look at various trends that have impacted Shutterfly this quarter and their significance on future performance.

See our complete analysis of Shutterfly

Weak Order Expansion Drags Down Sales Growth

One of the reasons for Shutterfly’s decelerating top line growth is the slowdown in total orders processed. In the first quarter of fiscal 2013, Shutterfly reported a 20% jump in total orders processed, partly boosted by prior acquisitions. This quarter, the company’s total orders processed expanded 13% on a year-on-year basis. In order to maintain robust growth in orders processed, Shutterfly needs to grow its customer base inorganically. The company’s total customer base stands over 2.5 million at the end of Q1FY14, up 14% on a year-on-year basis. However, orders processed only increased 13% to approximately 3.9 million. This indicates a marginal reduction in orders/customer for the quarter, due to lower cross-sale of its products.

Similarly, the average order value (AOV) for the company increased only 5% this quarter compared to 7% in Q1FY13. Going forward, we believe Shutterfly can strengthen its sales growth either through effective cross-selling of its products or through inorganic acquisitions. Through cross selling, the company can boost orders as well as AOV, thereby resulting in holistic growth in revenues. On the other hand, acquisitions typically result in lumpy top line growth and provide immediate relief, with a sudden jump in orders and AOV immediately after the completion of an acquisition.

Capex Related Investments Should Strain Margins

Margins this quarter were negatively impacted by Shutterfly’s investments into manufacturing facilities in Shakopee, Minnesota and the relocation of its data center into Las Vegas. The company expects the completion of its data center by 2015, which should provide cost savings through an optimized long-term cost structure and improved service capabilities. For 2014, this relocation of its data center to Nevada is expected to result in a one-time duplicative operating cost of approximately $6-$8 million.

Additionally, the company also plans to open its Shakopee manufacturing facility in fiscal 2014. Shutterfly believe the new manufacturing facility should optimize the company’s supply chain, with provisions such as next-day delivery. The company believes these new service capabilities should translate into higher customer satisfaction. However, in the near term, margins should remain under pressure with higher depreciation related expenses. For Q1FY14, depreciation related expenses for the company were approximately $9.3 million compared to $6 million in Q1FY13.

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