The COVID-19 crisis boosted both the pet industry and e-commerce as a whole. Stay-at-home orders made the time-consuming responsibility of owning a pet more feasible for some, and shopping on the internet more appealing for most.
Based on this, Chewy (CHWY 3.02%) -- a company operating at the intersection of pet supplies and e-commerce -- seems primed to deliver meaningful shareholder returns over the long term. Here's why Chewy is a strong buy today.
Impressive performance justifies a lofty valuation
In Chewy's most recent third-quarter results, it excelled across the board. Sales spiked 45% year over year to $1.78 billion. The company's financial success drove a 1.8% boost to its gross margin to 25.5% year over year, and its adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) more than doubled to $5.5 million also year over year.
According to Chewy CEO Sumit Singh, the financial outperformance was driven by especially strong demand. While this could be a temporary boost from COVID-19, there are no signs of momentum slowing down.
Volumes at the back end of Chewy's most recent quarter saw traffic, conversion, orders, and user retention all handsomely exceed expectations. Looking ahead to the fourth quarter, Chewy's holiday season could be so strong that it puts logistics pressure on the pet supply organization -- the company will report these 2020 holiday results on March 9th 2021.
It will be an important earnings report for the company, and luckily for investors, Chewy had been preparing for this hectic season since the early summer by streamlining inventory processes and prepping fulfillment centers. While this holiday season was invariably a hectic time for Chewy, Singh and his team were ready to handle anticipated surges in demand. As a result Chewy expects to capture more than half of its industry's revenue growth in 2020 as a whole according to Singh.
With a somewhat elevated price-to-sales multiple of 5.63 -- versus an average of 2.74 for the S&P 500 -- Chewy is far from a cheap stock. It will need to maintain strong financial results going forward to continue earning this type of love from investors. There is good reason to believe it can do just that (beyond the company's own projections).
COVID-19 has prompted younger generations to spend on their pets at a growing rate. Per People Magazine, amid the pandemic roughly 33% of millennials spent incrementally more on their pets compared to just 10% of baby boomers. Additionally, younger generations are more likely to own a pet than baby boomers according to Forbes.
Perhaps even more encouraging for Chewy: Millennials and Generation Z are more willing to splurge on quality pet products than their older counterparts, regardless of young folks' generally lower levels of disposable income. Younger consumers spending more on Chewy's supplies hints at a long runway for continued company growth.
Even more encouraging for Chewy, the same generations that own and pamper pets at a higher rate also are far more inclined to shop online for their pets.
A favorable reality for Chewy's industry translates into a healthy compound annual growth rate (CAGR) of 11.3% for pet e-commerce sales, according to Grand View Research. This is set to power the market to $20.75 billion annually by 2027. With Chewy's standing as the most popular website for pet supplies and its leading market share, the company's future seems quite bright.
What to do with Chewy
Chewy's valuation is elevated, but deservedly so. Its promising growth and niche within an ideal sector sets it up very well for the long term. Regardless of its strong returns thus far, Chewy has a great chance to continue powering solid shareholder profits. For this reason, I think it's a buy.