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How Smartwatches, New Products Impact Fitbit’s Profit Margins

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Sep. 13 2018, Updated 9:02 a.m. ET

Gross margin declined more than 2% in Q2 2018

We’ve seen that smartwatches accounted for 55% of Fitbit’s (FIT) total revenue in Q2 2018. A majority of this revenue was generated by the Fitbit Versa priced at $200. Fitbit’s overall device sales fell 21% year-over-year in the second quarter, and the company is banking on smartwatches to offset that decline.

However, manufacturing smartwatches is not cheap. The company’s gross margins declined 2.4 percentage points in the second quarter.

Fitbit’s gross margins fell from 49% in 2015 to 40.9% in Q2 2018. In its Q2 2018 earnings call, CFO Ron Kisling estimated gross margins to be lower, driven by increasing sales in smartwatches.

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Increase in R&D and operating costs

Fitbit launches new products every year. That increases the costs of R&D (research and development) and marketing. Fitbit needs new features in upcoming products that will drive customer upgrades. It thus can’t compromise on R&D costs since it has already lost significant market share to Apple and China’s (FXI) Xiaomi.

In the first two quarters, Fitbit’s operating expenses accounted for 76% of its total revenue. That’s a significant percentage, and Fitbit may need to lower its costs to offset its declining revenue.

Fitbit’s Charge 3 has several new features and is priced at $150, just like the Charge 2. That could further decrease its gross margins in the second half of 2018.

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