Shares of wearables maker Fitbit (NYSE:FIT) were red-hot in May and early June. FIT stock rallied from $4 to $8 on renewed optimism regarding the company’s pivot into smartwatches. Investors were also getting excited about the company’s long-term growth prospects through enterprise data partnerships.
But then FIT stock hit a wall called reality in mid-June.
Fitbit’s latest and greatest smartwatch, Versa, is awesome, but not awesome enough to change the landscape of the smartwatch market that is over-crowded with competitors and dominated by Apple (NASDAQ:AAPL). Meanwhile, data is the future of the wearables market, but Fitbit’s data is no more valuable than any other wearable maker’s data. Thus, the data side of the wearables industry is commoditized, and Fitbit could inevitably be squeezed out of that, too.
Consequently, FIT stock peaked in early June around $8. Since, it has steadily dropped to the mid-$6 range.
Unfortunately, I think this weakness in FIT stock persists. Above $6, FIT stock is just overvalued, even under aggressive long-term growth assumptions. Consequently, FIT stock could easily drop below $6 as investor sentiment normalizes from euphoria to realism.
Here’s a deeper look.
Fitbit’s Growth Prospects Are Improving, But Still Aren’t Great
Fitbit’s growth prospects are improving.
The Versa smartwatch is Fitbit’s best product ever. It took Versa only seven weeks to hit a million device shipments, which is a Fitbit product record. Versa is also the right product (a smartwatch) at the right time (when smartwatches are eating basic activity trackers’ lunch). In a big picture sense, Versa illustrates that Fitbit can survive in the wearables market by pivoting into smartwatches.
Meanwhile, Fitbit’s data business is progressing with an impressive pace. Fitbit has roughly 1,500 enterprise clients, and is aggressively pushing data partnerships with big tech companies and healthcare and insurance providers. Again, this is the right move (data sharing) in the right space (smart healthcare and insurance). In the big picture, this data business could very well be the big growth driver of Fitbit in the future.
In total, the Fitbit growth narrative is improving. But, not by that much.
Versa is a winning product. But the wearables market is really crowded, and Versa is just another good product in that crowded market. Plus, other players like traditional watch giant Fossil (NASDAQ:FOSL) are making a push into the smartwatch market. This only creates more competition for Fitbit.
Thus, in total, Versa is a positive for Fitbit, but it doesn’t mean big growth is ahead. Instead, it just means that big declines are likely over.
Meanwhile, all those smartwatch companies are also collecting the same data Fitbit is collecting, so Fitbit’s data is largely commoditized. Moreover, because Fitbit is smaller than Apple, Apple’s consumer healthcare data-set is presumably much bigger and more valuable. After all, in other industries where data matters (digital advertising), the bigger players, like Facebook (NASDAQ:FB) and Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL), dominate the smaller players, like Snap (NYSE:SNAP).
Fitbit Stock Isn’t Worth More Than $6
In the big picture, Fitbit’s growth prospects are improving. But not by all that much. More importantly, they aren’t improving by enough to warrant the recent run-up in FIT stock.
Let’s say that revenues do bottom out at $1.5 billion this year and that smartwatches and data partnerships power 10% revenue growth over the next five years. Let’s also assume that gross margins stabilize around 40%, and that operating expenses stay around $800 million even amid increasing revenues.
Under those aggressive assumptions, I still think Fitbit can do only about $0.50 in earnings-per-share in five years. A market-average 16-times forward multiple on $0.50 implies a four-year forward price target of $8. Discounted back by 10%-per-year, that equates to a present-day value below $5.50.
FIT stock currently trades north of $6. As such, it looks like FIT stock is presently supported by euphoria more than anything else. Eventually, this euphoria will be replaced by realism, and FIT stock will drop below $6.
Bottom Line on FIT Stock
FIT stock had a strong rally from $4 to $8 on renewed smartwatch and data optimism. But then FIT stock hit a wall called reality, and now, FIT stock is still suffering from that collision.
When all is said and done, this stock should settle below $6.
As of this writing, Luke Lango was long AAPL, FOSL, FB, GOOG and SNAP.
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