Peloton Interactive (PTON, Financial) claims to be the largest interactive fitness platform in the world with a membership base of over 2.7 million. The company is largely responsible for the popularity of widespread connected, technology-enabled fitness, and the streaming of immersive, teacher-led boutique classes to members around the world.
Products
The company’s primary product is the Peloton Bike, which features a carbon steel frame, an almost silent belt drive, durable magnetic resistance features and a 22” high-definition touchscreen with built-in stereo speakers to stream live and on-demand classes. The Bike+ model includes additional features such as a 24” 360-degree rotating screen.
The Peloton Tread is an advanced treadmill product that features a stylish belt drive, 24” touchscreen with integrated soundbar and subwoofer and ergonomic pace and incline control knobs and jump buttons. The Tread+ version has additional advanced features including a 32” high-definition screen.
Subscriptions
Peloton produces the majority of its revenue from the Connected Fitness Subscription plan, which is paid on a month-to-month basis for approximately $39.00 and gives the user access to all live and on-demand classes. The Connected Fitness Subscription also includes access to content through Peloton Digital, a digital app which is available through mobile devices with Apple (AAPL, Financial) or Android (from Alphabet (GOOG, Financial)(GOOGL, Financial)) operating systems as well as most tablets and computers. Subscriptions as of the end of 2021 were 2.77 million.
Financial review
The company has been losing money since inception, despite very strong revenue growth. For the fiscal years 2021, 2020 and 2019, revenues were $4.0 billion, $1.8 billion and $915.0 million, respectively. This represented growth of 120% and 100%, respectively, on a year over year basis.
Net losses over that time frame were $189.0 million, $71.6 million and $95.6 million, respectively. Adjusted Ebitda (which excludes stock compensation for executives) was a positive $253.7 million for 2021, positive $117.7 million for 2020 and a loss of $71.3 million for 2019. The company’s revenues received enormous tailwinds from the Covid-19 lockdowns and stay-at-home dynamic.
Revenue growth in the second quarter of fiscal 2022 ending Dec. 31, 2021 slowed dramatically as the tailwinds from the Covid-19 turned into a headwind as people returned to gyms. In addition, a controversial advertising campaign, shipping and logistics problems, recalls and quality control issues also contributed to a bad first half of fiscal 2022. Product revenue declined 8.4% and the company reported a quarterly loss of $425.7 million.
On Feb. 8 of this year, the company announced a comprehensive restructuring plan and cost savings initiatives. Peloton hopes to achieve at least $800 million of annual run-rate cost savings through operating expense efficiencies and margin improvement actions in the Connected Fitness category. The company will also decrease its planned capital expenditures in 2022 by approximately $150 million. Workforce reductions were also announced which will result in the elimination of approximately 2,800 global positions. Corporate positions will also be reduced by 20%.
The company's balance sheet remains in reasonably good shape despite ongoing losses with cash and equivalents at the end of 2021 of $1.6 billion and total debt of $846.7 million. The debt consisted of convertible notes with a conversion price of $239.23 per share and pay no interest. These “busted” converts pay no interest and are a great benefit to the company, but a horrible investment for note holders as they are receiving no interest and a Peloton stock price over $200 per share could be many, many years away.
Inventory of products also ballooned during the last six months of calendar year 2021 from $937 million to $1.54 billion. This potentially excess inventory often leads to markdowns and lower gross margins.
Guidance
The company provided guidance for the fiscal year ending June 30, 2022, which estimates 3 million Connected Fitness Subscriptions and revenues in the $3.7 billion to $3.8 billion range. This would be a revenue decline of 6.7% at the mid-point range. Estimates are for negative Ebitda of approximately $650 million.
The expected cost savings initiatives won’t have a material impact on financial results until fiscal 2023. However, even then, GAAP profitability will be elusive and Ebitda may be close to breakeven.
Guru trades
Gurus that have purchased Peloton recently include Baillie Gifford (Trades, Portfolio) and First Pacific Advisors (Trades, Portfolio). Gurus who have reduced positions include Catherine Wood (Trades, Portfolio) and Philippe Laffont (Trades, Portfolio).
Conclusion
One would think a 78% decline in Peloton's stock and massive workforce reductions would create an undervalued stock, but it may not be so. It’s possible the business model may not be scalable enough to produce profits that generate a positive GAAP return on capital. Further, what if an economic downturn comes soon and consumers are no longer interested in $2,000 to $3,000 fitness products? I think it's better to be cautious on Peloton until profitability improves and substantial increases in free cash flow occurs.
