Apple’s Decision to Delay Device Introductions Impact Accessory Sales at ZAGG

Disappointing Q1 results at accessories company ZAGG were driven largely by a shortfall in new Apple device introductions in the quarter, said CEO Randy Hales on the company’s earnings call Thursday. Revenue dropped 7 percent in Q1 year-over-year to $51.5 million, and gross margin dropped to 37 percent from 49 percent in the year-ago quarter, the company said. Apple’s recent announcement that it was pushing its 2013 device launches late into the year is a “significant hit to us,” Hales said. ZAGG has been the beneficiary of consistent Apple launches in the last three years, “and those have provided a great lift for us,” he said. “It’s a bit of a challenge to recover from not having those,” he said.

Hales cited “nice sell in” in April from the launch of the Samsung Galaxy S4, but “to date, nobody has had the kind of device launches that have spiked demand for our products the way that Apple has,” he said. Despite Apple’s market dominance playing a large role in ZAGG’s growth, Samsung “continues to strengthen and challenge Apple’s multi-year dominance in mobile computing,” Hales said. Until recently, he said, the Android platform was “extremely fragmented” but with Samsung emerging as the leader in the Android space, ZAGG expects Samsung-related sales to continue to increase.

ZAGG reported a drop-off in iFrogz audio sales in Q1 due to “losing a couple of pegs at key retailers,” said Chief Financial Officer Brandon O'Brien. The line has gained new locations that will come on later in the year to offset the losses, he said. “The personal audio category is a very challenging one” that’s trend-driven and changes quickly resulting in the company having to “constantly reinvent itself,” he said.

A “promising upside opportunity” for ZAGG under the iFrogz brand is its new mobile gaming platform that will launch online at the end of Q2 and in stores in Q3. ZAGG has been working with retailers and software developers on the launch, he said. Some 28 gaming titles have been committed to support the online launch, which Hales called “a more complicated product launch” than the company has ever taken on.

ZAGG overhauled its distribution channel in Q1 to “better manage channel pricing” and eliminate distributors “we did not believe were aligned with our pricing strategy,” Hales said. ZAGG’s products were being “steeply discounted” by certain distributors in certain channels causing “large price discrepancies” throughout the distribution network, he said. The company now has relationships with three new master distributors, whose contracts support pricing initiatives and prevent the kind of discounting the company has experienced in the past, he said.

"Lost opportunities” contributed to the Q1 revenue drop, including ZAGG’s 9-inch mini keyboard, which launched late last year but fell short at retail. Consumers prefer keyboards that match the smaller form factor of the iPad Mini, Hales said, and the tight-fitting case for the 9-inch keyboard made it cumbersome for consumers to install and remove iPads. In addition to lower sales volume, the company recorded an inventory reserve for the keyboard, which impacted margin. Issues have been addressed, and the “completely redesigned” line will offer features not previously available in tablet keyboards, he said.

Another “product setback” in Q1 was the invisibleSHIELD Extreme which was subject to a “very long cure period” during which tiny air bubbles remained trapped between the screen protector and the screen. Customer concerns over the slow cure process impacted sales of invisibleSHIELD Extreme, the company’s highest margin product, he said. On whether advances in glass technology will affect future sales of screen protectors, Hales said, “To our knowledge, there is not a current solution or anything on the horizon that would lessen the need for consumers to protect their device screens from scratching and breaking."

Among ZAGG’s most visible retail partners, Best Buy’s share of revenue for Q1 was 30 percent and Walmart was 12 percent, O'Brien said. Hales reiterated revenue growth drivers going forward, saying 50-60 percent of growth would come from SKU expansion at existing retailers through the year; 20-25 percent will come from new retail relationships that are advancing “more slowly than anticipated”; and 20-25 percent from new products.

The breakdown of ZAGG distribution channels is 83 percent of sales from retail versus 82 percent last year, O'Brien said. ZAGG.com and iFrogz.com accounted for 12 percent of sales versus 13 percent last year, and kiosks held steady at 5 percent of sales from Q1 2012 to this year, he said.

During Q1, ZAGG management consolidated ZAGG and iFrogz processes including marketing, product development and management, customer service, sales, accounting and IT, O'Brien said. The company closed the iFrogz office in Logan, Utah, and downsized “a number of iFrogz employees,” O'Brien said. The company concluded it should be a single operating segment, he said. IFrogz products have been forecast to represented 25-30 percent of total revenue for the year, according to Hales.

ZAGG lowered 2013 sales guidance to $274 million-$280 million from $313 million-$318 million. Janney Capital Markets lowered its sales estimate for ZAGG to $277 million and adjusted EBITDA to $56 million from $69.9 million, with the disclaimer: “We have little confidence in our estimates, as the company laid out so many moving parts on its call last night.