Can Blue Apron Keep Adding New Customers?

All things considered, Blue Apron (NYSE: APRN) delivered a pretty good first quarter. Revenue came in just a smidge under analysts' expectations, but its profit margins improved much more than anticipated, resulting in a loss per share much smaller than what analysts were modeling. Cost of goods sold came down significantly both on a sequential and year-over-year basis, indicating Blue Apron's investments in its new Linden fulfillment center are finally starting to pay off.

One of the big things investors were watching, or at least should've been, is the company's marketing expense and its marketing efficiency. The company spent $39.3 million on marketing -- 20% of revenue -- and grew customers by 40,000, up 5% sequentially. It's also the first time Blue Apron added customers on a net basis since the first quarter last year.

But the first quarter is a seasonally strong one for Blue Apron, and CEO Brad Dickerson said he expects to front-load the company's marketing expense in the first quarter to take advantage of that seasonality. And it saw a measly 40,000 new customers as a result of all that marketing spend. That should concern investors that Blue Apron may have a harder time adding new customers throughout the year than originally anticipated.

Declining marketing efficiency

One of the biggest concerns for Blue Apron as it headed into its IPO was its declining marketing efficiency. Naturally, as a company's customer base gets bigger -- particularly a subscription service like Blue Apron -- investors can expect its marketing efficiency to decline. The next 100,000 customers are harder to find than the first 100,000.

But Blue Apron's efficiency was tanking.

In the first quarter of 2016, the company added 120,000 net new customers, spending just $25.4 million. In the first quarter of 2017, it spent $60.6 million -- an all-time high -- to attract 157,000 net new customers. Despite the 2.4 times increase in marketing spend, Blue Apron managed to add just 1.3 times more customers.

To be sure, Blue Apron isn't the only company that's seen a decline in its marketing efficiency. Netflix, one of the most successful subscription services in the world, has had to spend incrementally more on marketing per new customer as it's grown past 100 million total subscribers. That's readily apparent by comparing its marketing efficiency in new markets compared to its established market. But where Netflix has seen its efficiency come down gradually, Blue Apron's has plummeted.

Last quarter, the company spent nearly two-thirds of what it did last year, and added only about one-quarter of the subscribers. And that's despite having a smaller customer base heading into 2018 compared to 2017.

The competition is growing

The meal-kit market has grown increasingly intense over the past year or so. As Blue Apron pulled back on marketing as it fixed operational issues, other companies stepped in. Most notably, HelloFresh surpassed Blue Apron in the U.S. market as it stepped up its investments in marketing.

On top of that, traditional grocery stores are moving into the market. Walmart plans to roll out meal kits to 2,000 stores by the end of the year. Kroger is quickly expanding its Prep+Pared kits to over 200 of its stores. And Albertsons bought Blue Apron rival Plated last year. Blue Apron is attempting to mitigate the impact of Walmart and Kroger by partnering with other grocers to sell its kits in stores.

With more competitors in the market than just last year, Blue Apron's marketing efficiency will suffer. If it can't continue ramping up spending, it might not be able to keep growing customers.

Management's warning

CEO Brad Dickerson warned Blue Apron investors during the company's fourth-quarter earnings call that marketing efficiency will be relatively low. He noted the brand lost a lot of momentum from pulling back on its marketing spend, and it's just now starting to build that momentum back up.

Dickerson reiterated that on the first-quarter earnings call, saying it will take time to see substantial growth because of the negative impact from last year's marketing pullback. But that comment also implies he sees the potential for customer growth and improved marketing efficiency. Investors better hope that's true, because Dickerson doesn't expect to spend more on marketing in any other quarter in 2018 than it did in the first quarter.

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Adam Levy has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends NFLX. The Motley Fool has a disclosure policy.