Overstock.com 2011 Annual Report Download - page 60

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Table of Contents
Comparison of Years Ended December 31, 2011 and 2010
Executive Commentary
This executive commentary is intended to provide investors with a view of our business through the eyes of our management. As an executive
commentary, it necessarily focuses on selected aspects of our business. This executive commentary is intended as a supplement to, but not a substitute for, the
more detailed discussion of our business included elsewhere herein. Investors are cautioned to read our entire "Management's Discussion and Analysis of
Financial Condition and Results of Operations", as well as our interim and audited financial statements, and the discussion of our business and risk factors
and other information included elsewhere or incorporated in this report. This executive commentary includes forward-looking statements, and investors are
cautioned to read the "Special Note Regarding Forward-Looking Statements" at the beginning of Item 2, "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
The key factors that affected financial results for the year ended December 31, 2011 were declining revenue, lower gross margin, and increased operating
expenses (including increases in personnel-related and legal expenses), all of which resulted in a net loss for the year.
Revenue for 2011 decreased by $35.6 million (3%), compared to 2010. Visits to our website were down 1% and new customer growth fell 9% which was
partially offset by a slightly higher average order size. We believe our revenues were adversely impacted during the first and second quarters when
Google Inc. notified us that it was penalizing us in natural search results for noncompliance with some of Google's natural search guidelines. During this
penalty period, we dropped significantly in some Google natural search result rankings. We made changes to conform to Google's guidelines and, on April 21,
2011, Google ended its penalization of our natural search results. We were able to offset some of the negative impact to revenue by increasing expenditures in
other marketing channels.
Revenues were hurt by a shift of marketing resources into our Club O loyalty program and away from coupons and other site-wide promotions, which
were less effective in generating revenues during the second and third quarter of 2011.
We also believe that our efforts to rebrand ourselves from Overstock.com to O.co hurt revenue growth in 2011 as it confused some prospective
customers who had trouble finding our website.
Revenues declined by 22% in our direct business due primarily to a transition of some of our clothing and shoes category to a fulfillment partner model.
Revenue from our fulfillment partner business increased by 1%. The direct business declined to 16% of total revenue in 2011 from 19% in 2010, while our
fulfillment partner business generated 84% of our total revenue in 2011 compared to 81% in 2010.
Gross profit declined by 6% while gross margin declined by 40 basis points from 2010 to 2011. Direct gross margin declined by 220 basis points due
largely to fixed costs increasing as a percentage of revenue due to declining direct revenues, higher inbound and outbound freight and higher product costs of
returned goods due to a sales mix shift to the home and garden category. Fulfillment partner gross margin declined by 50 basis points, largely due to
competitive pricing initiatives.
Sales and marketing expenses as a percentage of revenue increased by 30 basis points in 2011. This was largely due to an increase in online search
marketing throughout the year. We increased our online search marketing in the first and second quarter of 2011 to help offset the lower natural search
revenue following the Google penalty, and online marketing spending increased in the second half of the year to compensate for lower revenues as a result of
the customer confusion from our O.co rebranding campaign.
Operating expense outpaced gross profit and Contribution (see "Non-GAAP Financial Measures" below for a reconciliation of Contribution to Gross
Profit) in 2011. Contribution declined by 9% due to
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