Garmin Ltd. reported revenues at its Fitness segment soared by nearly 70 percent and grew from 15 to 25 percent of it revenue in the fourth quarter thanks to strong sales of its Vivofit activity tracker. The astounding growth, however,  was accompanied by big increases in advertising expenses, declining sales at the company's maturing Automotive and Outdoor segments and a loss at the Marine business.

The earnings report included new guidance that calls for sales to grow just 1 percent in 2015. Investors responded by unloading GRMN shares, which finished the week down 10 percent.

The company reported total sales grew by just 5.7 percent, or $43.6 million, to $803 million in the fourth quarter ended Dec. 27, 2014 as declines at the maturing Automotive/Mobile and Outdoor segments offset the gains at Fitness. Gross profit grew 9.2 percent to $430.8 million, or 53.6 percent of sales, up 170 bps.

A 55 percent increase in advertising expenses and continued heavy spending on R&D winnowed operating margins by 80 basis points (bps) to 21.9 percent. Garmin has been investing heavily in its Fitness, Outdoor, Marine and Aviation segments in recent years to replace rapidly dwindling income from the Automotive/Mobile segment. In the fourth quarter, it boosted R&D spending to 12.6 percent of revenue, up 80 bps from the fourth quarter ended Dec. 28, 2014.

Net income grew 28.5 percent to $210.2 million, but only because GRMN claimed an income tax benefit of $10.3 million, compared with an income tax provision of $40.9 million a year earlier.

Vivofit makes its mark at thriving Fitness segment
Fitness sales grew by $82.6 million to $201.3 million with cycling and running products also delivering strong results. While gross margins dipped 140 bps to 60.6, the sheer volume of the sales increase pushed Fitness operating profits up 30.3 percent to $57.6 million. Operating margin dropped 860 bps to 28.6 percent, however, due to a big increase in advertising costs Garmin incurred entering the already crowded fitness tracker market.

President and CEO Cliff Pemble said the $19.3 million increase in advertising spending allowed Garmin to capture 5 percent of sales in the rapidly growing activity tracker  market in just one year.

“We see it as a strategic growth platform going forward, and market share is definitely something that's important to gain early in the game,” he said of the Vivofit.

Garmin is targeting 25 percent growth at the Fitness segment this year, which would make it the largest growth engine at the company for the second consecutive year. Pemble said he expects fitness tracker sales to grow 40 to 50 percent thanks to a new version of the Vivofit featuring a backlight and vibration alert. GRMN is also expecting strong sales of a new model of its GPS-enabled Vivoactive smartwatch.  Activity tracker sales are strongest in Australia and the United States.
 
Aging customers, weak golf market trim Outdoor sales
Revenues declined $10.2 million, or 8.0 percent, to $116.4 million at the outdoor segment, although gross and operating margins remained strong at 62 percent and 35 percent, respectively. For the full year, sales increased 4 percent, even though Garmin faced a number of headwinds in the outdoor segment including maturity of traditional handheld business and a slowdown in the golf industry. The company has countered with wearables and devices for dog tracking and training, such as the Fēnix 3 and Epix, which are expected to drive sales this year.

“Exiting 2014, we recognized that the segment was not as strong as we had hoped, as we faced headwinds due to unfavorable dynamics in the golf industry, the mature nature of the handheld market, and our niche status in the action camera market,” Pemble said.

Unlike the Vivofit, Garmin’s first video camera, the Virb, was widely regarded as a flop, and Garmin is expected to launch an improved version of the camera this year.  

GRMN expects Outdoor sales to be flat in 2015 as growth in wearables, dog tracking and training, and action cameras is offset by declines in traditional handheld business, and ongoing negative trends industrywide in golf. 

“The main thing we're facing in Outdoor is pressure in the mature traditional market segment, as well as the industrywide trends in golf, which are a negative,” Pemble said.

Sharp pricing dulls Marine margins
The marine segment posted revenue growth of 18 percent in the quarter with strong demand for chart plotters, and contribution from the July acquisition of Fusion Electronics. However, gross margins plunged 590 bps year-over-year to 47 percent due to the lower margin profile of the entertainment products and highly competitive pricing in aftermarket marine electronics.  This led to a slight operating loss in the seasonally weak fourth quarter. Garmin said it is forging ahead with products incorporating its “industry-leading” scanning sonar technology, which has drawn a patent infringement suit from competitor Humminbird, a unit of Johnson Outdoors Inc.

GRMN is targeting 10 percent sales growth in Marine in 2015 driven by full year results from Fusion, a New Zealand-based marine audio company acquired in the second quarter of 2014.

Garmin ended the quarter with cash of $1.2 billion and inventory valued at $420.5 million, up 1.5 and 10.0 percent respectively compared with a year earlier.

FX, declining Automotive/Mobile segment dampen 2015 outlook
The company issued guidance calling for 2015 revenue to reach approximately $2.9 billion in 2015, up a mere 1 percent from 2014. GRMN said it expects growth in the fitness, marine and aviation segments to barely offset ongoing declines in the Automotive/Mobile market.

The forecast assumes a EUR/USD exchange rate of 1.15, which creates a material year-over-year headwind when compared to the average rate of 1.33 in 2014. Gross margins are expected to remain relatively stable at approximately 56 percent, while operating margins are forecast to decline slightly to 23 percent due primarily to ongoing R&D investments. With an expected tax rate of 16-17 percent, the company is forecasting 2015 EPS of approximately $3.10, or just below the $3.12 reported for 2013.