At an annual sales run rate in excess of $300 million, one would think that Blue Nile’s growth rate would begin to slow, if for no other reason than the magnitude of the sales gains that it must post in order to generate record-setting percentage gains. So far, there has been no sign of sales weakness at Blue Nile.

 

Even more interesting, browser and shopper traffic is up at Blue Nile. This flies in the face of reports from store-based jewelers who are complaining about a notable decline in mall and store traffic.

 

Perhaps the old adage should be modified: “When the going gets tough, the tough go shopping online.” With sky-high gasoline prices and rising heating costs facing most American shoppers just as they enter the all-important holiday selling season, it is likely that consumers will turn to online retailers as a way to save both money and time.

 

Third Quarter Sales & Profits Up Sharply

Here are the key points from Blue Nile’s third quarter (September) financial results. A table summarizing Blue Nile’s financials is located at the end of this article.

 

• Sales in the September quarter were up 29 percent; pretax profits were up 62 percent. Blue Nile’s total sales were $67.4 million in the three-month period. The company’s pretax margin was 6.8 percent in the September quarter this year, dramatically ahead of last year’s 5.3 percent pretax margin.

• Demand for all jewelry categories was strong. Sales of high-end jewelry, defined as jewelry selling for over $25,000 retail, was up over 50 percent in the quarter.

• Customer traffic was up 20 percent in the quarter. This contrasts with reports from store-based jewelers who say that customer traffic is down in their stores.

• International markets, which represented just fewer than 7 percent of Blue Nile’s sales in the quarter, posted a sales gain of 105 percent. The company currently targets customers in three international markets: Canada, Ireland and the United Kingdom.

• Blue Nile reports that its sales mix continues to shift away from engagement diamond rings. That is helping to boost gross margins. In the quarter, Blue Nile’s gross margin was 19.8 percent of sales, up from last year’s 19.5 percent. The increase in the company’s gross margin was due primarily to a mix shift.

• Blue Nile management noted that new merchandise offerings – sterling silver, pearls and one-of-a-kind diamonds – helped boost sales in the quarter.

• The average ticket was $2,093 in the September quarter, up 11 percent from last year’s $1,884.

• Operating costs, as a percentage of sales, declined dramatically to 14.5 percent from last year’s 15.5 percent, despite a sharp increase in non-cash stock-based compensation. Increased operating efficiencies and strong sales helped leverage the company’s expense ratio.

• Blue Nile’s inventory turn rose to 14.1x on an annualized basis in the quarter. We note that Blue Nile calculates this measure slightly different from our model; management said inventory turn was 15.9x in the quarter. Either way, the company’s inventory turn is exponentially above the jewelry industry average inventory turn of 1.0x per year.

• Management raised its sales guidance for the fourth quarter and full year. For its year ending December 2007, we now expect Blue Nile to post sales in the range of $316 to $322 million. This is the equivalent of about 320 specialty jewelry stores.

• For the holiday selling season, Blue Nile has two distinct competitive advantages:

• It is offering free Priority Shipping on all orders for in-stock goods. Customers who order by 3pm will receive their jewelry the next day.

• Blue Nile launched its new website in early November. The company says it has already begun to boost the conversion rate (browser-to-buyer).

• The table below summarizes Blue Nile’s third quarter financial results.

 

While it is simply not possible for store-based jewelers to copy Blue Nile’s financial model, there are lessons to be learned from how they do business. We continue to believe that store-based jewelers must fine a way to increase their inventory turn, if they are to remain a financially viable entity. Further, Blue Nile has shown that immense profits can be made from memo inventory. Finally, they have shown that there is a way to cut operating costs. The company’s detailed legal and financial filings can be found at www.sec.gov under “Historical EDGAR Archives.”