Back to top

Image: Bigstock

The Pebble Crumbles: Are Smartwatches Just a Fad?

Read MoreHide Full Article

Rumor has it that Fitbit is buying smart watch maker Pebble for a paltry sum that could be as low as $34-40 million. If media reports are to be believed, that barely covers its debts. It’s a pity that the company passed up opportunities to sell out at $740 million (Citizen’s offer last year), or even $70 million (Intel’s (INTC - Free Report) offer earlier this year provided it held off launching the Pebble 2 and Pebble Time 2).

In fact chief executive Eric Migicovsky’s refusal to go with Intel proved costly because it led to a fallout with key personnel including product head Itai Vonshak, HR head and legal counsel Jeff Hyman, and VP of software engineering Kean Wong. Vonshak and Wong have since moved to Intel.

But Fitbit is getting a good deal for what it’s worth, as the most popular wrist-worn wearable maker has seen better times. Despite being the market leader, the company’s shares have struggled and remain at a fraction of the IPO price. 

Why Fitbit Wants Pebble

The attraction for Fitbit seems to be the Pebble OS, which doesn’t pick sides between iOS and Android, and consequently has one of the largest app ecosystems that any wearable can boast of. Fitbit does attempt to connect users through its own platform, which can be important as a retention tool when products are upgraded or for corporate customers. But incorporating Pebble technology will allow users to do much more.

IDC estimates that the total number of basic wearables (that don’t run third-party apps) will touch 80.7 million units this year (that includes wristbands, clothing, watches and other things that don’t run third-party apps). This is much bigger than the smart wearables market that isn’t expected to cross 21.5 million units by year-end.

But between 2016 and 2020, the research firm believes that basic wearables will grow at a CAGR of 20.2% while smart wearables will grow at a CAGR of 30.6%. Just as well because smartwatch demand has dropped off significantly over the past year.

The growth prospects have prompted all the other top wearables makers (refer the table below) to launch smarter devices (Apple (AAPL - Free Report) only sells smartwatches). So as things stand today, Apple and Garmin (GRMN - Free Report) are tops in the smartwatch category, while Samsung is a strong number 3. Xiaomi launched its own smartwatch earlier this year but doesn’t figure in the top five yet.

On the other hand, Pebble has a small (3%) share in the smartwatch category that is declining due to share loss to its stronger rivals.

So by buying out the struggling smartwatch maker, Fitbit gets to add important technology to its brand, and thereby, storm into the smartwatch segment.

Wearables Market Share: IDC

Is This a Smart Move?

On the face of it, this seems like a great idea especially when you consider that IDC appears highly optimistic about future growth. IDC has attributed the current weakness (smartwatch demand has halved over the past year) to the lack of new products/major upgrades, so its optimistic forecast for the next few years must mean that there will be much more to these gadgets going forward.

On that note, it’s worth remembering that Fitbit is the only one of the top 5 wearable companies that is a pureplay, in a market where even a company like Microsoft (MSFT - Free Report) couldn’t really make headway. This is a reason for caution because having other successful products can help market players absorb some of the losses and investments that a new or emerging product category with uncertain demand would entail.  

Second, both Apple and Garmin make differentiated high-margin products and are understood as premium brands. This isn’t the case for Fitbit, which is generally perceived as more of a value brand (as is Pebble). In consumer gadgetry, the brand is a very important factor. Companies spend a lot of money establishing a brand, so it’s extremely difficult for a newcomer/value brand to snatch some of that mindshare.

Fitbit has an uphill task changing consumer perceptions about its brand and this will involve a ton of marketing cost as well. Failing this, Fitbit will have a hard time selling a premium device. Or it may choose to undercut on pricing to steal share from the market leaders. This is never a good idea for a small company with limited resources and narrow margins.  

Fitbit generates very low margins compared to leading smartwatch makers (roughly a fifth) and those margins were hit hard in the last quarter, most likely because of the triple-digit increase in R&D headcount. It’s commendable that the company is preparing to enter the smartwatch category but execution will be key.

 

In the meantime, since this segment isn’t so hot for investors, you might want to take a look at the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Conclusion

From the numbers currently available, it does look like smartwatches are something of a fad. Even Apple has seen declining sales, mostly attributed to the lack of notable upgrades.

While reaching for the phone can be cumbersome in certain cases and there’s a certain joy in being hands-free (the only real USP for smartwatches as they exist today), people by and large don’t want to carry too many devices and they can’t give up their phone. So unless they really need it to connect with the gadgets in the home or track their health/fitness, or serve some other specific purpose, people will tend to buy them in a craze and then leave them in the drawer.

General purpose bands need to be really cheap, or come with a voice controlled personal assistant that can keep you updated on everything you care about. Because even if they come with a ton of apps, the watch face is too small to enjoy looking at it too much. Smartwatches also need to have classic styles (to suit different personality types and occasions) so people will want to wear them all the time.

Confidential: Zacks' Best Investment Ideas

Would you like to see a hand-picked "all-star" selection of investment ideas from the man who heads up Zacks' trading and investing services? Steve Reitmeister knows when key trades are about to be triggered and which of our experts has the hottest hand. Click for his selected trades right now >>


See More Zacks Research for These Tickers


Normally $25 each - click below to receive one report FREE:


Intel Corporation (INTC) - free report >>

Apple Inc. (AAPL) - free report >>

Microsoft Corporation (MSFT) - free report >>

Garmin Ltd. (GRMN) - free report >>

Published in