24 September 2022
How Stitch Fix, Rent the Runway are navigating a tough retail landscape
The apparel subscription businesses reported layoffs and losses, while leaning into loyalty and value.
Photo by Keagan Henman on Unsplash
The apparel subscription businesses reported layoffs and losses, while leaning into loyalty and value.
Rent the Runway and Stitch Fix both rose to become publicly-traded companies by bringing unique subscription models to apparel, but this year has underscored how each company is on its own path. At the end of the first quarter of 2022, they appeared to be heading in different directions amid reopening, as Rent the Runway saw business pick up and Stitch Fix had to make layoffs.
Three months later, the picture looked somewhat different. Now, Rent the Runway was making layoffs, even as Stitch Fix’s losses continued. What changed? The inflation-influenced macro environment – the uncertainty and rising costs it is causing for retailers and the behavior it is changing for consumers – became a much bigger factor. Earnings reports from both companies provided a window into the complicated dynamics retailers are navigating right now. Let’s review:
Last quarter, we wrote that Rent the Runway and Stitch Fix appeared to be heading in opposite directions. This quarter, a divergence shows up just in Rent the Runway’s business.
Acccording to earnings for the three months ended July 31, revenue for the second quarter was the highest to date, with the fashion rental and resale company posting 64% year-over-year growth to $76.5 million. It was also EBITDA positive for the first time since its 2021 IPO. It grew subscription revenue 63% year-over-year and active subscribers were up 27% year-over-year.
Those results may appear to tell the story of a company that is continuing a comeback trajectory that was lifted by the return to in-person events.But in the same report, Rent the Runway said it was laying off 24% of its corporate workforce as a move to reduce costs by $25-27 million. The layoffs were largely in back-office functions, said CEO Jennifer Hyman, as the company wanted to keep customer-facing employees in place. It also decided not to backfill some roles, and exited one floor of its corporate headquarters in New York. Executives characterized it as a proactive move.
“We took these actions for two reasons,” said Hyman, on the company’s second quarter earnings call. “First, we wanted to ensure that we can navigate potentially tougher economic and financial conditions. And second, we wanted to pull forward the path to profitability and improve Rent the Runway's medium-term profitability.”
In the end, this was a perhaps fitting result for an up-and-down second quarter. On the company’s earnings call to discuss results, CEO Jennifer Hyman said the company saw some of its best-ever subscriber acquisition numbers in April and May, with a May record. Customers were turning to the service as they went to weddings and parties, while resale was also showing strength. But that changed before the quarter was out.
“Starting in mid-June, we noticed an increase in subscriber pause rates and a decrease in retention along with the delay in former subscribers rejoining versus history,” Hyman said. “This, combined with seasonally lower acquisitions, resulted in ending active subscriber count that was lower than expected for the quarter.”
The swings left the company looking out into an uncertain near-future.
“It is becoming clear to us that our customers live, work, socialize and travel differently in 2022 than they did prior to the pandemic, and this influences what they wear,” Hyman said. “We are still learning how these types of changes in customer behavior impact the business, particularly in a challenging macro environment.”
Still, it sees improvement opportunity as soon as this quarter. Summer is typically a slower time, as people are on vacation. August and September metrics showed “positive signs of stability and a strong bounce back,” Hyman said.
It is also learning about how the changes will affect the business. Pre-pandemic, more than one-third of rentals was related to clothing for the office. In the last two years, that’s down to 20%. That changes how Rent the Runway approaches the market.
“So if return to office maintains the status quo or remote and hybrid work trends increase, our subscription business might become more socially and casually oriented, as it has been in 2021 and 2022 to date,” Hyman said. “And therefore, we might experience more seasonal peaks and troughs.”
Rent the Runway CEO Jennifer Hyman in 2015. (commons.wikimedia.org)
Even as it gathers more data and considers what trends will become permanent, the company still has internal levers it can pull now.
“We believe we can become a much larger business simply by focusing on matters within our control,” Hyman said.
Hyman detailed several initiatives the company is undertaking:
While the company is not seeing a “trade down” per se, the current environment of inflation is having an impact, as well. With customers more price-sensitive, Rent the Runway is turning to value-based messaging in marketing.
“We've done a lot of work over this past quarter to remind the customer of how much retail value she's receiving when she rents, how renting is a better financial equation versus buying,” Hyman said. “I think that we're having nice results on subscribers and customers using us for social occasions across both of those businesses.”
Going forward, the company expects Q3 to be slightly lower in revenue, at $72 million to $74 million. For the full year, the company expects revenue in the range of $285 million to $290 million, representing 40% to 43% growth over 2021. That’s down slightly from its Q1 projection of $295 million to $305 million.
There’s an undercurrent of near-term uncertainty in Rent the Runway about how the rest of the year is going to pan out. That’s probably smart, given that many retailers and ecommerce businesses are finding tough sledding, and a recession could still descend. Factor in that the last two years have brought lots of ups and downs for the company, from a pandemic that slashed demand for in-person event attire, and forced the company to cut costs, double subscription margins and add automation in its warehouses to an IPO just last year.
The layoffs and other cost-cutting measures are significant. Yet it seems to be a forward-looking move, rather than a result of misplaced bets in the past. In fact, Hyman said the company sees opportunity to add share now, and more than double the business in the coming years.
“We're a proactive organization, and we follow the data,” she said. “This is what we did when we saw the very early impacts of COVID, and we acted early and meaningfully. And as promising as the bounce back has been in August and September, we simply can't predict what's going to happen in the next 12 months. These changes put us in a strong position to continue to grow both in the immediate and once the environment is fully recovered.”
Plus, it has some built-in advantages with the consumer, as rental of designer clothes aligns well with a recessionary mindset in which customers are eying value, but still want to enjoy smaller luxuries.
Saving and prudence is built-in to the model. As Hyman said of the company’s customer: “She's seeing that it doesn't really make sense to buy a dress that you'll only wear once.”
Last quarter, Stitch Fix laid off 330 employees, or about 4% of its workforce, as it became an early bellwether in a wave of retail layoffs that followed at companies like Peloton, Tonal, Allbirds, Warby Parker and Gap Inc.
In the most recent quarter ended July 31, it was a loss of customers that was the major point of concern for the apparel business. The company lost 370,000 active clients in the fourth quarter of its fiscal year 2022.
Falling clients gave way to slumping revenue. In the most recent quarter, net revenue declined 16% year over year to $482 million, and the company saw a 9% year-over-year decline in net active clients to 3.8 million. For the full fiscal year that ended July 30, net revenue declined 1% year over year to $2.1 billion, along with an adjusted EBITDA loss of $19.5 million.
Executives said the summer brought the tough retail times into relief.
“The realities of record inflation levels and a deteriorating retail landscape resulted in slower discretionary spend in apparel and presented us with an increasingly challenging fourth quarter, particularly in June and July,” CEO Elizabeth Spaulding said September 21 on the company’s earnings call to discuss quarterly results.
CFO Dan Jedda added that, “July was especially challenging in tandem with macroeconomic deterioration throughout the summer months and as consumer discretionary spend pulled back from apparel. Notably, these trends have continued in the first half of Q1.”
As with many retailers, Stitch Fix saw its profit margins eroded as it seeks to “rightsize” inventory to better align with demand coming out of pandemic lockdowns, and faces rising transportation costs and inflation.
With supply chain delays and consumer shift toward apparel for in-person experiences over comfort wear, retailers were left overstocked with inventory that is mismatched to demand for spring and summer. Jedda said the company took action to move inventory through third-party liquidations and a summer sales event. It will likely take more actions as it will continue to have elevated inventory.
The quarter continued the recent struggles for a company that was one of the biggest successes of the subscription-focused ecommerce wave of the late 2010s, then soared in the early days of the pandemic.
As it tries to get back to growth, executives pitched a future Stitch Fix that will blend subscriptions and a la carte ordering, with personalization still at the center. The company is putting an emphasis on Freestyle, where consumers can buy individual items from a selection that is curated for them, rather than an entire kit. This segment grew 21% year-over-year, Spaulding said. Even so, the company initially had some overall struggles with conversion, reaching a “low point” earlier this year, Spaulding said. It has since made improvements to the program, including simplifying styles and creating more seamless login.
With many existing clients turning to Freestyle for individual items, the company eventually wants to achieve a “blurring” of its original Fix subscription styling program and Freestyle, and is working to connect the two through search, as well as style cards for Freestyle add-ons that are included with box shipments.
“We know our best,happiest clients are engaging with both and just making it easier to be participating across that full ecosystem,” Spaulding said.
As it seeks to reach more potential customers, Stitch Fix said advertising spend was about 9% of revenue for the year that just ended, and the company expects to maintain that level going forward. The company is seeing improvement in traffic to its site, but is looking to drive more. It launched its first multinational brand campaign in September as one major initiative toward that end.
“We like what we're seeing on driving more to the experience. The area that we still have room to improve is that direct and organic traffic, which tends to be the highest converting traffic,” Spaulding said. “So while on an apples-to-apples basis, we've made steady progress on conversion we still see opportunity to drive that really high considered traffic that is super high intent on coming to Stitch Fix.”
In other marketing efforts, Stitch Fix launched an affiliate influencer network in early August, and plans to incorporate its stylists in the coming year. It is also taking different strategies as it seeks to reengage people who provided information but did not convert – a group with which it saw year-over-year growth. One example of a new tactic is introducing algorithmically generated product recommendations in emails.
The company also plans to emphasize “listening” to clients.
“What we believe is the broadening variety of our assortment, the broadening of price points, all of those good things will benefit the broader client population over time. But ultimately, it's that sense of the client feeling deeply heard and we put the right product in front of them at the right time,” Spaulding said. Being able to deliver the right fit is an important differentiator.
Stitch Fix is investing tech infrastructure in order to create “a stable foundation for scale and are setting the stage for profitable growth in FY '24,” Spaulding said.
“With our tech infrastructure, we're investing in our structured data platform and more modular architecture to enable faster launch of new client features,” Spaulding said. “We're also innovating on our core algorithms to allow for dynamic engagement and real-time styling.”
When it comes to consumer behavior, Stitch Fix saw the conversion of a transition away from COVID trends, and a response to inflation as consumers pulled back.
“We've definitely seen that continued shift back to workwear, both with our men's and our women's segments,” Spaulding said. “Blazers are back to pre-COVID levels, men's polos have been a strong trend.” Seasonal heels also saw a 30% increase, and dresses are up, as well.
At the same time, clients in general are feeling more “cash constrained,” Spaulding said.
“We have seen our price points that are at more affordable average unit retails outperforming, which is a strong signal that consumers are looking for value right now,” she said. “And then we do ask our clients about sort of their anticipated spending going forward. And we have heard clients both in serving consumers in the U.K. and the U.S. that they may be buying fewer items per Fixes in the future.”
Spaulding said the company’s response is to provide value “in the moment,” while rewarding loyalty. Tied to this, it is piloting promotional offers – a move it could not make before the launch of Freestyle.
“Over the course of the last eight months or so, we've been able to experiment with a couple of limited time offers where we're taking advantage of showing value to our Freestyle clients, as well as testing and experimenting with inventory that's not moving as quickly,” Spaulding said.
These events have “exceeded our expectations,” Spaulding said, and the company will plan to do them “episodically.” Stitch Fix will also be testing a loyalty program later this year.
Sale events are new for Stitch Fix. When it was styling service-only, Spaulding said the company didn’t have the “release valves” of offering discounts, as it sought to stick with a consistent price for the full offering. The single-buy nature of Freestyle is more of a natural place to offer sales, but it still must strike a balance to play to its strengths.
“We know the reason people come to Stitch Fix are different than being a promotional retailer. And those are the places we need to most differentiate which around fit, product discovery and human relationships,” Spaulding said. “That said, we also want to make sure we're presenting our clients with value and benefits over time.”
As it looks to the coming months, Stitch Fix is not factoring in any changes to the macro environment at this time. For the full year, it is forecasting revenue to be down to $1.76 billion and $1.86 billion from the $2.1 billion last year. It projects another sequential loss in revenue for the quarter currently underway, with an outlook at $455 million and $465 million.
Stitch Fix is experiencing many of the same issues as other retailers, but executives made clear that it has work to do to mend its own business. First and foremost, it needs to start adding users again. The growth of Freestyle appears promising and shows it is not standing still, but it remains less clear whether its growth is directly linked to the subscription styling Fix business, or if it can stand on its own. At the same time, Stitch Fix is still working through cost-cutting measures initiated last quarter, and Jedda said it is taking steps to optimize its supply chain.
In the end, it is trying to execute a model shift against a tough economic backdrop. That appears to be a tall order, and the forecast for next fiscal year reflects it. But Spaulding believes Freestyle has yet to realize its full potential and the company is updating infrastructure. Net revenue per active client rose 8% year over year to $546 in Q4, which could be a sign that it has room to grow average order value. A better indicator of its promise for the future may be fiscal year 2024, rather than the one that just began. Brands and retailers will be judged just as much for how they emerge from this period as they will for what they do now.
The retailer's marketplace is expanding quickly.
When it comes to ecommerce growth, was the pandemic a blip or a new trendsetter?
As we move further from the height of COVID-related closures, it’s a question that will start to be answered through the lens of history.
So far, the narrative of ecommerce growth in the U.S. from 2019-2022 has gone like this: Ecommerce’s share of overall retail saw a huge spike at the height of the pandemic in 2020-21, when goods in general were in demand and online shopping was necessary to preserve health and safety. Experts looked out and saw a permanent exponential change in the penetration of ecommerce as a share of retail that would last beyond the pandemic. Then, in 2022, everyone went back to stores and the trendline came back to 2019 levels. Growth was no longer exponential. There was still growth, but it was not happening as fast as during the pandemic period.
With this in mind, it’s worth pointing out that 2023 is the first year that there likely won’t be a pandemic-influenced swing to influence ecommerce growth. It is also a year where demand has suffered challenges amid inflation and interest rate hikes.
So as we seek to determine the importance of ecommerce to overall retail, it’s worth it to continue taking a close look at what growth trends retailers are seeing now, whether ecommerce is remaining resilient amid consumer pullback and how retailers are preparing for the future.
The latest example arrived this week from Macy’s. It’s a fitting one for the times. Overall, Macy’s is seeing a slowdown as consumers pull back on discretionary purchases, with sales declining 7% in the first quarter versus the same quarter of 2022. Digital sales were down 8%.
Macy’s is particularly susceptible to the macroeconomic headwinds that many brands and retailers are facing, as spending among the middle-income consumers it counts as a primary customer base is particularly softening, said GlobalData Managing Director Neil Saunders.
But while ecommerce is slowing overall, the importance it gained to Macy’s business during the pandemic is remaining in place.
In 2019, ecommerce made up 25% of Macy’s revenue, CEO Jeff Gennette told analysts on the company’s earnings call. That jumped to a high of 44% in 2020. By 2022, digital reached 33% of sales after the pandemic boom. In the first quarter of 2023, it remained at 33%. So, while the trend line dipped after shoppers returned to stores, ecommerce share still settled in at a higher post-lockdown point than it was before the pandemic.
This came in a quarter in which traffic was “relatively good” across both online and in-store, Macy’s CEO Jeff Gennette said. It was “flattish” online, and slightly up in stores.
“We do expect that this is the reset year with the penetration between them,” Gennette said. “But we do expect more aggressive growth in digital in the future versus stores as we think about '24 and beyond. And that's going to be foisted by a lot of ideas and strategies.
Over the last year, the retailer has made investments in boosting ecommerce, even as shoppers returned to stores. In a bid to boost the assortment of goods available online, Macy’s launched a marketplace in September 2022 that welcomes goods from third-party sellers.
The marketplace had an “outstanding” first quarter, said Macy’s President Tony Spring, who is poised to succeed Gennette as CEO next year. Gross merchandise value increased over 50% when compared to the fourth quarter of 2022, while the average order value and units per order for marketplace customers was 50% above those not shopping at the marketplace.
Macy’s is continuing to build the marketplace even as it racks up sales. The retailer added 450 brands, ending the quarter with 950 brands.
This is helping to draw in new customers, as well as younger existing customers who are buying more items, resulting in increased basket size.
“We're very excited as to how marketplace is really attracting the Gen Z customer, particularly in categories where it was not economically feasible for us to carry in the past,” Gennette said.
In the end, Gennette said a strong digital and social presence is key to attracting younger consumers. That's a different type of shopper than other age groups.
“We know the younger customer starts first online,” Gennette said. That behavior will still be in place as the generation gets older, and gains more buying power in the process.
Going forward, Macy’s is seeking to expand the model to other retail banners in its portfolio. Bloomingdale’s will open a marketplace in the early fall.
The Macy’s ecommerce trajectory isn’t that different from the wider U.S. ecommerce narrative detailed above. With one quarter of 2023 data, there is evidence that ecommerce share settled out at a higher point after the pandemic than where it started before COVID arrived. There is flattening now, but the retailer is taking it not as a sign of a slowdown, or a signal to change course. Rather, it sees changing consumer behavior as a reason to build for the future.