Peloton has built a niche audience, and that's very impressive. Now, as the company heads toward an initial public offering (IPO), it has attracted a lot of competition. Some comes from internet-based competitors with limited name recognition. The name-brand fitness companies, however, may represent the biggest threat to the company because they already have an audience. That puts Peloton in an interesting position as it goes public in an attempt to become a much larger brand, which may require moving into gyms, hotels, and other locations outside the home.

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This video was recorded on July 16, 2019.

Dylan Lewis: All right, Dan. Like so many of the unicorns that have gone public in 2019, there is some serious demand for shares of Peloton. I've heard and read that there are a lot of people that are pretty excited to see this company go public. What has you excited about this business?

Dan Kline: They've carved out a brand, and that does mean something, but I'm not that excited about this business, only because they are hitting one piece of the market. Call it the SoulCycle crowd, the pricey, the fancy, the good-looking fitness people, the wealthy. And when you look at where the market is going, every existing fitness brand has the ability to move into connected fitness, and they might have the ability to do it by offering an add-on for products that are already out there. If you look at who's going into it now, brands you've heard of, really, the name brand is NordicTrack. NordicTrack has always done infomercials and advertising. They've been a very public-facing brand. They sell direct to consumers with financing. They have some stores. And they're offering Peloton-like products of all the different cardio machines they make. For your average consumer, that might be more appealing than Peloton. There's also some, let's call them sports-specific. There's one called Hydrow. It's a rowing machine. Same sort of premise as the bike. There's one for boxing where you can take virtual boxing classes. There's another one that's called MIRROR, which is a mirror you put on your wall where you have access to gym workouts. You might take a yoga class, you might take a strength training class. This space is going to become very, very crowded, and that's without, what if Planet Fitness starts offering at-home classes to members? What if any of the other studios make things available? There's just a lot of potential competition, and I'm not sure what the advantage they have is other than branding.

Lewis: What we've seen so far with Peloton is that most of their ads seem to be targeting the individual buyer, the consumer. They are not saying, "Go to this hotel and use it," or, "Go to this gym and use it," at least for most of the spots I've seen out there. It's much more, "This is something that is in your home." I wonder, though, at the price point for these products, is this something where more of the customers might ultimately be people that are enabling a ton of people to use it instead of it being a device that sits in one person's home?

Kline: I mean, health clubs are about 40% of the connected fitness market. I think there's obviously an ability to bring this into everyday gyms, where maybe there isn't always a class going. Even the fancy gyms might have classes from the main hub in New York or wherever it happens to be. The reality is, Peloton would be working against fitness companies that already have a sales rep network that sells to your national chain gyms. If you're Peloton, one, you have to create a commercial product, which is going to be a higher grade of steel, a more durable bike than a home bike which gets used an average of 13 times a month. Even if you have two or three people in the house that use it, that is not the equivalent of being in a gym, where it's going to be used hour after hour and need a maintenance program. So, yeah, I think those are all markets for Peloton, but it's going to be hard for them to get in. Even something like selling to my home gym or your home gym in our building, the companies that already sell to those places have an advantage. Do they have to take on reps? Do they have to be sold by a third party? They're going to be fighting an uphill battle.

Lewis: The flip side of that, I will say, is by creating this aspirational brand, they are able to create some pull for their own products, or create cachet for places that would be putting their products there. If you were trying to be the hip apartment building in Columbia Heights in D.C., you might have a Peloton instead of your average stationary bike.

Kline: The building across the street from me in West Palm Beach is a hip, fairly expensive rental building connected to the brand-new, ultra-high-speed train. I could see a place like that advertising as an amenity, "We have Peloton machines." There's absolutely that piece of it. That's a nice market, but what I don't see this brand becoming is eight or nine times bigger. Can it become a $2 billion brand? Maybe. But at some point, does it hit a life cycle where, yes, it's hit all the places it can go, and there's not that many new customers coming in? Again, how many people are buying, how many businesses are buying, a $2,400 -- or a commercial one, say a $4,000 or $5,000 -- bike? And how often are they replacing it? It's not going to be that often. Now, is your commercial subscription going to be higher? They don't have a lot of added costs for more subscribers. This isn't Netflix, where they have to make exercise classes that appeal to an incredibly vast array of people. There's somewhat of a limit to it. If you're doing one studio with three different gyms that has live classes every 20 minutes, that's probably going to cover your bases pretty well. And then your taped archive becomes enormous very quickly.

Lewis: One thing I do think is pretty smart with how they've set this business up is, we talked about the difficulties of the hardware business. Those difficulties are there whether you're selling iPhones, TVs, or these incredibly specialized fitness devices. The upgrade cycles are very hard to anticipate. The inventory decisions that you have to make are really difficult. And you need to keep coming out with hit products and expanding your portfolio. What they have done well is say, "You need the hardware to really be in this. You can access it elsewhere, but if you have it in your home, then you're like you're hardcore, you're in this. But we have this recurring, super-high-margin revenue coming in from memberships." And I imagine those content costs scale over time and it all becomes incremental for every user they're able to add.

Kline: Yeah. Look, if this was a private company that I was having a chance to get a piece of, I think it's an amazing business. They already make money. I see no reason in the next three years they couldn't triple their user base, which has almost no incremental cost, in terms of added content. So, that $39 a month per another 1.5 million people is really highly profit.

That said, there is a pressure as a public company to show growth quarter over quarter, month over month, year over year. And I do think this tops out, and the ability to have a next product -- if I already have an exercise bike, and that gets me into shape, am I going to want a rowing machine, a climbing machine, a Peloton, I don't know, slow cooker? I'm not sure what the next angle would be. In a lot of ways, this to me is like a GoPro-like play, where you can be very successful and still not be a good publicly traded company.