Is This Trio of Fading Accessory Makers Doomed?

Leo is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Every time a popular, game-changing product hits the market, there are companies that piggyback on its success with less ambitious products. When video game consoles arrived, companies were eager to make controllers and other accessories. For personal computers, companies produced mice, keyboards and speakers. For smartphones and tablets, they created a variety of protective cases, Bluetooth keyboards, and headphones.

Yet what happens to these accessory makers when their core product fades away or cheaper competitors flood the market? In this article, let’s examine accessory makers Logitech (NASDAQ: LOGI), Zagg (NASDAQ: ZAGG), and Skullcandy (NASDAQ: SKUL) to see what happens when a company fails to roll with the punches.

Logitech

Over the past five years, PC accessories maker Logitech has lost over 70% of its market value. Logitech was once a solid tech investment, piggybacking off the growth of the global PC market with its mice, keyboard, controllers, speakers, headphones and other peripherals.

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However, Logitech was not tough enough to withstand the global financial crisis, which took its toll in 2009, and the company was unable to maintain profitability. The arrival of Apple’s iPad in 2010 and other Google Android tablets then dealt a critical blow to the PC industry, which has been losing market share ever since. IDC forecasts that global PC shipments slumped another 11% during the second quarter of 2013.

Last quarter, Logitech reported a loss of $0.23 per share, down from a profit of $0.17 in the prior year quarter. Revenue also slid 12% year-on-year to $469 million. Both Logitech’s profit and revenue missed analyst projections. Total retail sales, which account for 87% of Logitech’s top line, declined 10% from the previous year. Sales were dragged down by a 25% decline in the EMEA region and a 2% decline in the Americas, although sales in Asia rose 2%.

Sales of PC gaming accessories declined 43%, audio wireless and wearable sales dropped 39% and remote control sales slid 33%. However, sales of keyboards and other desktop accessories edged up 4%.

Logitech’s fastest growing product category was its tablet accessories, which reported 332% year-on-year growth to $30.8 million. While this indicates that Logitech’s products are steadily evolving, it may be too little, too late, considering that the segment only comprises 6.6% of the company’s top line.

Logitech will need to cull some of its non-performing products to streamline its operations going forward. This means that gross margins, which already declined from 36.4% to 33.5% last quarter, will come under further pressure as it initiates more markdowns.

Skullcandy

Logitech’s steep decline in audio and gaming device sales is a dire warning for the new kid on the block, headphone manufacturer Skullcandy, which went public two years ago. Skullcandy is best known for its massive, colorful headphones, which cost $60 to $180 each. The company also sells smaller earbuds, backpacks, iPhone/iPod cases, clothing and footwear.

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Skullcandy has yet to release its second quarter earnings, but based on the stock’s 19% decline over the past six months, investors are not confident that the company’s top and bottom lines can keep growing. Increased competition from higher-end names like Bose, cheaper, high-quality headphones from Beats Electronics (Beats Audio), and a myriad of other products from other companies all make growth difficult.

Last quarter, Skullcandy sorely disappointed investors after reporting a loss of $0.23 per share, down from a profit of $0.05 per share a year earlier. Revenue declined 30.5% to $37.1 million. For the current quarter, Skullcandy expects to report a loss of $0.03 per share on a “low to mid-20%” decline in revenue. Although those numbers are marginally higher than analyst estimates, they certainly don’t indicate a turnaround for the company.

Yet Skullcandy has recently taken some moderate steps to regain the confidence of investors. The company appointed Hoby Darling, a former Nike executive, as the new CEO in March. Darling has since promised that the company will better align its product lines, expand internationally, and focus more on a gaming audience.

I hate to burst Darling’s bubble, but in my opinion, international markets are already saturated with headphones, and Skullcandy’s high price point won’t be appealing in emerging markets. In addition, the gaming industry is still in a precipitous decline, as seen in Logitech’s earnings.

Zagg

Last but not least, let’s take a look at Zagg. Few companies tied itself to Apple’s coattails as firmly as Zagg, which made a name for itself with its invisibleSHIELD protective film for smartphones and tablets. It later started producing full cases and expanded its product line for popular Android devices as well. When sales and profitability weakened, it fragmented its product line further and started offering mobile keyboards, portable power sources and headphones via its acquisition of iFrogz. In other words, Zagg became a mini-Logitech and Skullcandy rolled into one very unappealing package.

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Whereas Zagg was the dominant name in smartphone and tablet protection when the iPhone was first released, the market is now saturated by cheaper products from companies such as OtterBox, which became the number one smartphone case manufacturer in America in February. Fashion accessory companies such as Coach, Michael Kors and Louis Vuitton also released more expensive high-end iPhone and iPad cases, which further reduced Zagg’s market share. Faced with those daunting odds, Zagg had to slash its prices to remain competitive, and its margins crumbled.

Last quarter, Zagg’s earnings plunged 82.9% as its revenue declined 7.2%. Looking into the second quarter, Zagg recently announced that it expects its revenue to slide 17.2% year-on-year to $51 million, completely missing the consensus estimate of $57.5 million. No information was provided about its bottom-line growth, which will be revealed when the company reports its full second-quarter results on August 1.

At this point, there’s no compelling reason to own Zagg. The smartphone market is currently between major product releases, which will continue dragging down the company’s top and bottom-line growth. The upcoming iPhone 5S might slightly boost sales numbers, but Zagg still must contend with an increasingly crowded market while preserving its bottom line.

The Foolish Bottom Line

In closing, let’s take a look at the fundamentals of these three accessory makers.

<table> <tbody> <tr> <td> </td> <td> <p><span><span><span><strong>5-year PEG</strong></span></span></span></p> </td> <td> <p><span><span><span><strong>Forward P/E</strong></span></span></span></p> </td> <td> <p><span><span><span><strong>Price to Sales (ttm)</strong></span></span></span></p> </td> <td> <p><span><span><span><strong>Return on Equity</strong></span></span></span></p> </td> <td> <p><span><span><span><strong>Debt to Equity</strong></span></span></span></p> </td> <td> <p><span><span><span><strong>Profit Margin</strong></span></span></span></p> </td> </tr> <tr> <td> <p><span><span><span><strong>Logitech</strong></span></span></span></p> </td> <td> <p><span><span><span>1.14</span></span></span></p> </td> <td> <p><span><span><span>20.52</span></span></span></p> </td> <td> <p><span><span><span>0.52</span></span></span></p> </td> <td> <p><span><span><span>-24.22%</span></span></span></p> </td> <td> <p><span><span><span>No debt</span></span></span></p> </td> <td> <p><span><span><span>-10.86%</span></span></span></p> </td> </tr> <tr> <td> <p><span><span><span><strong>Skullcandy</strong></span></span></span></p> </td> <td> <p><span><span><span>7.23</span></span></span></p> </td> <td> <p><span><span><span>19.45</span></span></span></p> </td> <td> <p><span><span><span>0.56</span></span></span></p> </td> <td> <p><span><span><span>14.30%</span></span></span></p> </td> <td> <p><span><span><span>No debt</span></span></span></p> </td> <td> <p><span><span><span>6.29%</span></span></span></p> </td> </tr> <tr> <td> <p><span><span><span><strong>Zagg</strong></span></span></span></p> </td> <td> <p><span><span><span>0.34</span></span></span></p> </td> <td> <p><span><span><span>6.08</span></span></span></p> </td> <td> <p><span><span><span>0.69</span></span></span></p> </td> <td> <p><span><span><span>8.94%</span></span></span></p> </td> <td> <p><span><span><span>34.86</span></span></span></p> </td> <td> <p><span><span><span>3.94%</span></span></span></p> </td> </tr> <tr> <td> <p><span><span><span>Advantage</span></span></span></p> </td> <td> <p><span><span><span>Zagg</span></span></span></p> </td> <td> <p><span><span><span>Zagg</span></span></span></p> </td> <td> <p><span><span><span>Logitech</span></span></span></p> </td> <td> <p><span><span><span>Skullcandy</span></span></span></p> </td> <td> <p><span><span><span>Logitech, Skullcandy</span></span></span></p> </td> <td> <p><span><span><span><span>Skullcandy</span></span></span></span></p> </td> </tr> </tbody> </table>

Source: Yahoo Finance, 7/18/2013

Although Logitech and Zagg look undervalued at current prices, investors should consider the long-term outlook of both companies. Both companies lack a defensive moat against a horde of competitors that aren’t afraid of sacrificing margins to gain market share. Skullcandy, on the other hand, offers stylish products that lack focus - does the company want to appeal to gamers, skateboarders, or music-loving pedestrians?

In business, piggybacking off the success of larger companies only works when management is nimble enough to readjust its strategy to shifting trends. If not, then a company could suffer the same fate as this trio of fading accessory makers.


Leo Sun has no position in any stocks mentioned. The Motley Fool recommends Logitech International SA (USA). The Motley Fool owns shares of SKULLCANDY INC. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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