Chewy's (NYSE:CHWY) fiscal third-quarter earnings report from earlier this month showed the company grew net sales by a blistering 40%, while margins expanded once again. Net sales beat management's guidance for the quarter, and management raised its revenue expectations for the full year. The company's core pet food and supplies business remains on fire, driving the bulk of that growth, but Chewy is also seeing a boost from its rapidly growing private brands and pharmacy businesses.

More customers, more spending

Chewy reported active customers of 12.7 million at the end of the quarter, up 33% year over year. Active customers include shoppers who have placed an order within the last year. Chewy is growing this active base quickly by both retaining its existing customers and attracting new ones.

As far as keeping existing customers, the company's IPO filing stated that its net sales would have grown 20% in 2018 only accounting for sales growth from its active customer base entering the year. In other words, even if Chewy hadn't attracted any new customers during the year, its sales still would have grown 20% from its existing customers spending more.

A yellow lab being served dog food on a deck.

Image source: Getty Images.

A big part of that stellar retention is the popularity of Chewy's autoship offering. Items like dog food, cat litter, and poop bags are perfect for this service, because pet owners need to replenish them on a regular basis. On top that, they do not tend to change brands very often, and having these essentials delivered to their doors at regular intervals is much more convenient than going to the store.

Last quarter, 70% of Chewy's net sales were to customers who had an active autoship program in place. That was up from 66% in the same quarter last year. As Chewy wins over these customers with low prices, a wide selection, and strong customer service, pet owners tend to spend more with the company over time. We can see that in net sales per active customer, which grew 11% to $360 during the third quarter.

The expansion of private-label products

Management has been working to expand its assortment of private-label products. Exiting last year, private brands accounted for only 5% of the company's net sales, but CEO Sumit Singh believes it can reach 15% to 30% over time. To get there, Chewy has expanded its private-label assortment by more than 80% in the last year, and sales from this category were up more than 60% year over year in the latest quarter.

Chewy's private-label products now have a double-digit market share in certain subcategories, such as frozen foods, jerky treats, and natural bones and chews. And Chewy's private-label market share has reached more than 30% in hard goods, potty pads, poop bags, apparel, and leashes. Best of all, private-label products generate higher margins for Chewy than sales of third-party products.

The growth of the pharmacy business

During the third-quarter earnings call, Singh said Chewy's pharmacy business is its fastest-growing segment. That suggests it outpaced even the "over 60%" growth that the private-label business enjoyed. One benefit that kicked in near the end of the quarter was the implementation of minimum advertised pricing (known as "MAP pricing"), which is when product manufacturers make Chewy and other retailers maintain certain minimum retail prices for their products. This forced Chewy to raise some of its prices among its pharmacy products, which should help boost revenue (and profits) down the road as MAP pricing only went into effect in the back half of the quarter.

The big opportunity Chewy has is to encourage its nearly 13 million active customers to spend more with the company, including private-label and pharmacy sales, both of which come with higher margins than the core business. Chewy is not yet profitable as it spends heavily on marketing, but both of these high-growth segments are pushing the company in the right direction.

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