Mid-Atlantic Institutional Research

Blue Nile (NASDAQ: NILE $44.58) May 8, 2009

“1Q09 Earnings better than expected” Brian Bolan
(312) 345-1534
Long Term Rating: Market Perform bbolan@sturdivant-co.com
Long Term Target Price: $54
Share Information
EXECUTIVE SUMMARY
Price 3/24 $29.61
52 Wk Lo-Hi $18.34-55.95
Investment Summary: Blue Nile performed admirable in a difficult economic environment. Or-
Div Yield -
ders fell 13% but average price increased driving a top line beat. Gross margins expanded due to
Avg. Volume 320K
lower diamond and precious metal costs and improved sourcing. We have increased our earnings
expectations and expanded our multiple to reflect the better than expected results. We maintain Insiders Own 4%
our market perform rating and increase our target price to $54. S&P 500 907.39

Financial Statistics
Key Points
Equity Mkt. Cap. $646M
Net LT Debt./
Gross margins increase. We were pleased with the increase in gross margins due to lower
Mkt. Cap. 0.1%
diamond and precious metal costs as well as improvements in sourcing. We modeled in fur-
ther improvements to gross margins throughout the remainder of the year. Total EV $592M
10 Yr. Treasury 3.3%
Earnings expectations rise. Earnings per share of $0.13 were better than expected despite a ‘08 FCF Yield NA
higher than expected operating expenses. We have increased our FY09 earnings estimates to
$0.66, up from $0.55. EPS
EPS P/E
Average order size increases, number of orders decreases. The increase in order size was 2006A $0.76 36x
a significant surprise considering the consistent downward trend in diamond pricing. As ex- 2007A $0.90 31x
pected, the number of orders dropped 13%, slightly more than we expected. We expect orders 2008A $0.75 37x
to fall by 12% in 2Q09 and average order size to decline by roughly 5%. 2009E $0.66 67x

Margin expansion drives multiple higher. The increase in gross margin leads us to believe
the market will assign a higher multiple for shares of Blue Nile. We have increased our earn- Free Cash Flow
ings estimates and increased our target price to $54 per share, based on a multiple of 81x our FCF/
2009 earnings estimate of $0.66. Share P/FCF
2006A $1.73 16.2x
2007A $1.53 18.1x
2008A -$0.85 NA
2009E $1.32 33x

Relative Daily Price 5/8/09

Source: BigCharts, Company

Reports and Sturdivant & Co. Estimates.
Important disclosures appear on the inside cover and back of this publication.

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STURDIVANT & CO., INC.

RELATIVE STOCK PRICE PERFORMANCE

Rating and Price Target History for Blue Nile (NILE )

5/8/09
MP: $44.58
T: $54.00

Source: BigCharts.com OP: Outperform MP:Marketperform MU: Market Underperform

Mr. Bolan does own shares of Blue Nile

Disclosures

Rating System Definitions

Sturdivant & Co.’s stock ratings system reflects the investment decisions our clients face every day, and is meant to assist clients in making these decisions by recommending a
specific action to take with each stock we cover. All of the ratings correspond to a specific investment action that we recommend taking on the date the research is published. Thus,
“Outperform” (equivalent to “Buy”) ratings are reserved only for stocks that we would be actively buying at the time the research is published. “Marketperform” (equivalent to
“Hold”) ratings are reserved for stocks that we believe are in line with the market’s anticipated performance and we recommend holding. “Underperform” (equivalent to “Sell”)
ratings are assigned to stocks where the analyst anticipates stock price declines relative to the market. Please note also that the price expectations that determine the rating are in
absolute dollar terms, not in terms of relative performance to a sector or an index. Therefore, analysts will not use the “Outperform” rating for stocks that are expected to perform
well relative to their sector but only for stocks that are expected to appreciate in actual dollar returns.
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Analyst compensation is based on: (1) the analyst’s productivity, including the quality of the analyst’s research and the analyst’s contribution to the growth and development of our
overall research effort; (2) ratings and direct feedback from our investing clients, our sales force and from independent rating services. Sturdivant & Co.’s Compliance and Re-
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expressed in the report.
Research Analyst Certification
The senior research analyst(s) certifies that the views expressed in this research report and/or financial model accurately reflect such senior analyst's personal views about the
subject securities or issuers and that no part of his or her compensation was, is, or will be directly or indirectly related to the specific recommendations or views contained in the
research report. Mr. Bolan does owns shares of Blue Nile. This is not a complete analysis of every material fact regarding any company, industry or security. The opinions ex-
pressed here reflect our judgment at this date and are subject to change. The information has been obtained from sources we consider to be reliable, but we cannot guarantee the
accuracy. The Dow Jones Industrial Average, S&P 500, S&P 400 and Russell 2000 are examples of unmanaged common stock indices used to measure and report performance of
various sectors of the stock market; direct investment in indices is not available. A complete listing of all companies covered by Sturdivant & Co., Inc. and applicable research
disclosures can be obtained from the Company.
Price Target Risks
Investment risks associated with the achievement of the price target include, but are not limited to, the company’s failure to achieve our earnings and revenue estimates, unforeseen
macroeconomic and/or industry events that adversely impact demand for the company’s products or services, product obsolescence, changes in investor sentiment regarding the
specific company or industry, intense and rapidly changing competitive pressures, the continuing development of industry standards, the company’s ability to compete for talent,
and adverse market conditions. For a complete discussion of the risk factors that could affect the market price of the company’s shares, refer to the most recent form 10-Q or 10-K
that the company has filed with the SEC.

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 Table of Contents
Earnings Overview 4

Valuation— Margin Analysis 5

Valuation— Stockholders Equity to Market Value 6

Valuation— Price to Earnings 7

Conclusion 8

Income Statement 9

1Q09 Income Statement review 10

Institutional Contacts 11

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STURDIVANT & CO., INC.

Earnings Overview

Blue Nile reported revenue of $62.4M and earnings per share of $0.13. Although revenues were down
11% from the year ago period, they were still much stronger than our estimates. The strength in the
topline came from higher than expected average selling prices (ASP’s). Orders were in line with our
expectations.

Gross margin of 21.2% was well ahead of our expected rate of 19.5% due to lower diamond pricing,
lower metal input costs and improved sourcing. Going forward, we believe that margins will improve
as diamond pricing may continue to see weakness and the improvements in sourcing will also serve as a
tailwind to gross margins.

IDEX—Diamond Index

Source: IDEXONLINE.com

High end purchases, those at or above the $25,000 price point continue to suffer due to weak economic
conditions. This seems to be more of an industry concern that a Blue Nile specific issue. We believe
that when the economy turns around, the higher price point items will resume sales.

The company moved to reduce inventory to $16M down from $19.4M. This 17% reduction is partially
due to the company moving to better manage inventory and the lower number of orders compared to
the same time last year. The read through in lower inventory leaves us with the idea that orders will
continue to face pressure.

For 2Q09, we are expecting orders to fall by 12% from the year ago period and ASP’s of $1,700. Our
estimated ASP is roughly 5% below the year ago level. The company noted on the call that the second
quarter, which contains Mothers Day, is slightly weaker than the first quarter (with any growth
removed from the equation).

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 STURDIVANT & CO., INC.

Valuation—Margin Analysis
1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09 2Q09E 3Q09E 4Q09E
Total Revenue 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of sales 80.5% 79.3% 80.2% 81.0% 80.2% 79.5% 79.7% 79.4% 78.8% 79.2% 79.6% 80.0%
SG&A 14.1% 13.7% 14.5% 12.1% 15.5% 14.6% 15.3% 14.4% 16.5% 14.8% 15.1% 14.5%
Operating Margin 5.4% 7.0% 5.4% 6.9% 4.3% 5.9% 5.0% 6.2% 4.7% 6.0% 5.3% 5.5%
Net Margin 4.1% 5.2% 4.4% 4.9% 3.6% 4.3% 3.6% 4.1% 3.1% 4.1% 3.7% 3.7%

Our initiating coverage report carried a theme of Blue Nile facing declining margins and lower sales.
With lower sales ‘baked’ in the stock, the increase in margins comes as a welcome surprise. We have
updated our model to reflect stronger gross margins, which provide a boost for net margin as well.

Net Margin
6.0%

5.0%

4.0%

3.0%

2.0%

1.0%

0.0%
1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09 2Q09E 3Q09E 4Q09E

Source: Company reports and Sturdivant & Co research

Gross Margin

The increase in gross margin was attributed to three factors, lower diamond pricing, lower precious
metals costs and improved sourcing. We believe that diamond pricing is likely to continue on a
downward path and gross margins should continue to benefit. Our model has been revised to reflect
stronger gross margins for the remainder of the year.

Gross Margin
21.5%
21.0%
20.5%
20.0%
19.5%
19.0%
18.5%
18.0%
17.5%
1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09 2Q09E 3Q09E 4Q09E

Source: Company reports and Sturdivant & Co research

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 STURDIVANT & CO., INC.

Valuation—Stockholders Equity to Market Value

1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09

Stockholders Equity (SE) $ 39,617 $ 49,112 $ 59,500 $ 63,478 $ 26,630 $ 32,365 $ 15,194 $ 19,308 $ 23,040

Market Capitalization (MC) 914,600 1,578,615 1,378,497 742,281 755,160 629,800 388,208 287,573 660,720
fully diluted shares 16,617 16,617 16,912 16,617 16,275 15,694 15,200 14,831 14,821

Reported 5/7/2007 8/6/2007 11/6/2007 2/12/2008 5/6/2008 8/5/2008 11/4/2008 2/18/2009 5/7/2009
Stock Price
Day of report 47.35 82.00 74.68 53.85 45.18 39.52 28.25 21.03 44.58
Day after 55.04 95.00 81.51 44.67 46.40 40.13 25.54 19.39 44.58

SE/ MC 4.3% 3.1% 4.3% 8.6% 3.5% 5.1% 3.9% 6.7% 3.5%

Year over Year

Change in SE -33% -34% -74% -70% -13%
Change in Price -16% -58% -69% -57% -4%

Qtr over Qtr

Change in SE 24% 21% 7% -58% 22% -53% 27% 19%
Change in Price 73% -14% -45% 4% -14% -36% -24% 130%

Source: Company reports and Sturdivant & Co research

In measuring the value of Blue Nile, we looked closely at the company from a both a growth and value
perspective. Our model is calling for significant top line decreases, thus forcing us to focus our
valuation on more value based metrics. One metric we analyzed is Stockholders Equity (SE). Our
table above denotes the dramatic changes in stockholders equity over the last year. We looked at the
effect of SE being divided by market capitalization (MC) to see if value investors would be rewarded
by investing in Blue Nile in a period that saw SE increase as a percentage of MC. This is not a
foolproof method, as the growth in shareholder equity in 4Q07 was coupled with a 46% decline in
market capitalization and reached the high water mark for SE/MC over the past two years. This was
followed by a more than 50% decline in market value.

Our analysis indicates that the market looks ahead of the changes in stockholders equity.

Stockholders Equity (SE)
$70,000 

$60,000 

$50,000 

$40,000 

$30,000 

$20,000 

$10,000 

$‐
1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09

Source: Company reports and Sturdivant & Co research

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 STURDIVANT & CO., INC.

Valuation—Price to Earnings

Price to Earnings Valuation Table

1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09

Price to Earnings 71 116 94 49 51 43 27 21 60

Price to Forward Earnings 62 111 102 64 75 63 43 29 67

Price 914,600 1,578,615 1,378,497 742,281 755,160 629,800 388,208 287,573 660,720
Earnings 12,932 13,581 14,730 15,019 14,776 14,776 14,200 13,563 10,999

Forward Earnings 14,776 14,200 13,563 11,630 10,051 10,011 8,967 9,824 9,824

Variance (1,844) (619) 1,167 3,389 4,725 4,765 5,234 3,739 1,175
Qtr over Qtr
Change in Price 73% -14% -45% 4% -14% -36% -24% 130%

Change in PE 64% -19% -47% 3% -17% -36% -22% 183%

Change in Forward PE 80% -9% -37% 18% -16% -31% -32% 130%

Source: Company reports and Sturdivant & Co research

Blue Nile has seen a steady decrease in its multiple over the last two years. We see that the market
prices the stock off of trailing earnings. There is a high degree of correlation between the movements
of the trailing twelve months earnings multiple and the change in price.

The falling price of diamonds and news in the quarter that production mines would slow helped the
multiple expand. The falling price of diamonds allowed the company to boost the gross margin line
which will also serve to expand the multiple. We believe that the multiple could continue to expand.

Price to Earnings and Price to Forward Earnings

120 

100 

80 

60  Price to Earnings
Price to Forward Earnings
40 

20 

‐
1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09

Source: Company reports and Sturdivant & Co research

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STURDIVANT & CO., INC.

Conclusion

The falling price of diamonds and improvements in sourcing have helped boost gross margins. This
expansion of margins is likely to continue and will boost the multiple on the stock. We have updated
our model to reflect our expectation of higher gross margins.

We are maintaining our rating of market perform and increasing our target price to $54 based on a
multiple of 81x 2009 earnings.

Valuation Matrix
Valuation Matrix Multiple
Price 50 51 52 53 54 55 56 57 58
P/Sales
CY08 2.6 2.7 2.7 2.8 2.8 2.9 2.9 3.0 3.0
CY09 2.8 2.7 2.7 2.8 3.0 3.0 3.1 3.1 3.2

P/Operating Income
CY08 48.5 49.4 50.4 51.4 52.3 53.3 54.3 55.2 56.2
CY09 51.2 52.2 53.3 54.3 55.3 56.3 57.4 58.4 59.4

P/Net before tax

CY08 43.4 44.3 45.1 46.0 46.9 47.7 48.6 49.5 50.3
CY09 48.9 49.9 50.9 51.9 52.8 53.8 54.8 55.8 56.7

P/Net Income
CY08 66.6 68.0 69.3 70.6 72.0 73.3 74.6 76.0 77.3
CY09 75.3 76.8 78.3 79.8 81.3 82.8 84.3 85.8 87.3
Source: Company reports and Sturdivant & Co research

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 Blue Nile — Income Statement
STURDIVANT & CO., INC.

1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr. 2008 1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr. 2009
Blue Nile In Thousands of U.S. Dollars
(except for per share items) Estimate Estimate Estimate Estimate
Total Revenue 70,460 73,706 65,376 85,787 295,329 62,403 61,704 58,745 85,474 268,325
Cost of Revenue 56,536 58,583 52,114 68,100 235,333 49,200 48,894 46,731 68,379 213,204
Gross Margin 19.8% 20.5% 20.3% 20.6% 20.3% 21.2% 20.8% 20.5% 20.0% 20.5%
Sell/General/Admin 10,898 10,758 9,980 12,369 44,005 10,299 9,101 8,894 12,394 40,688
SG&A as percent of sales 15.5% 14.6% 15.3% 14.4% 14.9% 16.5% 14.8% 15.1% 14.5% 15.2%
Total Operating Expense 67,434 69,341 62,094 80,469 279,338 59,499 57,995 55,625 80,773 253,892
Operating Income 3,026 4,365 3,282 5,318 15,991 2,904 3,708 3,119 4,701 14,433
Operatin Margin 4.3% 5.9% 5.0% 6.2% 5.4% 4.7% 6.0% 5.3% 5.5% 5.4%
Other Income
Interest Income 835 280 184 121 1,420 67 200 200 200 667
Other 91 285 95 -26 445 13 -15 5 10 13

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Net Income Before Taxes 3,952 4,930 3,561 5,413 17,856 2,984 3,893 3,324 4,911 15,113

Provision for Income Taxes 1,381 1,725 1,226 1,894 6,226 1,044 1,363 1,164 1,719 5,289
Tax Rate 34.9% 35.0% 34.4% 35.0% 34.9% 35.0% 35.0% 35.0% 35.0% 35.0%

Net Income 2,571 3,205 2,335 3,519 11,630 1,940 2,531 2,161 3,192 9,824

Basic/Primary EPS Excl. Extra. Items $ 0.16 $ 0.21 $ 0.16 $ 0.24 $ 0.78 $ 0.13 $ 0.17 $ 0.15 $ 0.22 $ 0.68
Basic/Primary EPS Incl. Extra. Items $ 0.16 $ 0.20 $ 0.15 $ 0.24 $ 0.75 $ 0.13 $ 0.17 $ 0.15 $ 0.22 $ 0.66

Basic/Primary Weighted Average Shares 15,601 15,018 14,621 14,493 14,496 14,500 14,450 14,400
Diluted Weighted Average Shares 16,275 15,694 15,200 14,831 15,500 14,821 14,820 14,800 14,700 14,785

Source: Company reports, Sturdivant & Co Research

STURDIVANT & CO., INC.

Blue Nile — 1Q09 Earnings review

1st Qtr. 4th Qtr. 1st Qtr. 1st Qtr.
Blue Nile In Thousands of U.S. Dollars
(except for per share items) 2008 Estimate Actual Yr/Yr Qtr/Qtr Estimate
Total Revenue 70,460 85,787 57,460 62,403 -11% -27% 9%
Cost of Revenue 56,536 68,100 46,255 49,200 -13% -28% 6%
Gross Margin 19.8% 20.6% 19.5% 21.2% 7% 3% 9%
Sell/General/Admin 10,898 12,369 8,763 10,299 -5% -17% 18%
SG&A as percent of sales 15.5% 14.4% 15.3% 16.5% 7% 14% 8%
Total Operating Expense 67,434 80,469 55,018 59,499 -12% -26% 8%
Operating Income 3,026 5,318 2,442 2,904 -4% -45% 19%
Operatin Margin 4.3% 6.2% 4.3% 4.7% 8% -25% 9%
Other Income
Interest Income 835 121 150 67 -92% -45% -55%
Other 91 -26 -15 13 -86% -150% -187%

Net Income Before Taxes 3,952 5,413 2,577 2,984 -24% -45% 16%

Provision for Income Taxes 1,381 1,894 902 1,044 -24% -45% 16%
Tax Rate 34.9% 35.0% 35.0% 35.0% 0% 0% 0%

Net Income 2,571 3,519 1,675 1,940 -25% -45% 16%

Basic/Primary EPS Excl. Extra. Items $ 0.16 $ 0.24 $ 0.12 $ 0.13 -19% -45% 14%
Basic/Primary EPS Incl. Extra. Items $ 0.16 $ 0.24 $ 0.11 $ 0.13 -17% -45% 14%

Basic/Primary Weighted Average Shares 15,601 14,493 14,300 14,496 -7% 0% 1%

Diluted Weighted Average Shares 16,275 14,831 14,600 14,821 -9% 0% 2%

Source: Company Reports

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STURDIVANT & CO., INC.

Sturdivant & Co.’s

Businessman’s Approach to Value Philosophy

Sturdivant & Co. uses the businessman’s approach to evaluating stocks. This philosophy is predicated on looking at a
company as a prudent man would were he to consider making a reasoned investment in a business. We focus on a
company’s strategy, the competitive position a company has versus its peers, quality of management, risk factors, its
prospect for growth, as well as critical catalysts and milestones as evidence of progress. Finally, of course, we look at a
company’s valuation to determine where we feel the stock is priced attractively.

Chairman

Albert A. Sturdivant
Asturdivant@sturdivant-co.com
856-751-1331 ext. 108

Fundamental Research

Richard A. Verdi Beth Ann Loewy, CFA Brian Bolan

Rverdi@sturdivant-co.com Bloewy@sturdivant-co.com Bbolan@sturdivant-co.com
856-751-1331 ext. 109 856-751-1331 ext. 114 312-345-1534
Industrials Food Technology
Consumer Staples
Retail

Institutional Sales

Carl R. Gibbs, Jr. Terry Williams

Cgibbs@sturdivant-co.com Twilliams@sturdivant-co.com
856-751-1331 ext. 107 856-751-1331 ext. 101

Institutional Trading

Harvey R. de Krafft Debra L. Bailey James Campanella

Hdekrafft@sturdivant-co.com Dbailey@sturdivant-co.com Jcampanella@sturdivant-co.com
800-486-1515 or 800-486-1515 or 800-486-1515 or
856-751-1331 ext. 112 856-751-1331 ext. 110 856-751-1331 ext. 115

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 STURDIVANT & CO., INC.

Date Price Rating Target

NILE 3/24/09 29.61 MP $24.00

5/8/09 44.58 MP $54.00

Total Technology Group

Outperform Marketperform Underperform

40% (2) 60% (3) 0% (0)

Investment Banking Relationship

Outperform Marketperform Underperform

0 0 0

US-Technology Group

Investment Rating Company Ticker Symbol Initial Coverage Date Research Analyst
Market Outperform
Google GOOG 10/7/2008 Brian Bolan
eBay EBAY 1/22/2009 Brian Bolan

Market Perform
Yahoo YHOO 12/10/2008 Brian Bolan
Blue Nile NILE 3/25/2009 Brian Bolan
Amazon.com Inc. AMZN 11/17/2008 Brian Bolan

Market Underperform

Member: FINRA and SIPC

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& Co. has not received compensation from this company in the past 12 months and this company is not an
investment banking client.

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