Typically when a public company becomes large enough, Wall Street analysts start following the stock, saying whether they think it is a buy, sell, or hold. They can also set a price target for what they think the stock will be worth in the next 12 months. This was the case on Friday, Jan. 7 with Piper Sandler analyst Peter Keith and the online pet-supply marketplace Chewy (CHWY -2.54%).
Image source: Getty Images.
Chewy is experiencing decelerating sales and rising costs
Keith lowered his price target for Chewy to $55 from $70, which still leaves about a 22% upside from the recent closing price of $44.86 . The analyst pointed to headwinds on both sales and expenses for the online pet retailer.
Sales and customer acquisition soared for Chewy at the pandemic's onset. Consumers wanted to avoid shopping in person in stores, so Chewy captured some of those customers. With economies reopening, folks are shopping in person again, causing the company's sales growth to decelerate. Still, revenue increased by 24.1% in its third quarter, ended Sept. 30. However, management guided to slower 18% growth at the midpoint in the fourth quarter.
And costs are certainly going up for Chewy. It reported spending more on wages to attract workers, while still falling short of staffing needs. Furthermore, its contract for outbound shipping was reset higher in January.
On top of all that, Chewy's suppliers are asking it to pay higher prices for products. But despite all these higher costs, the company impressively expanded its gross profit margin by 90 basis points and net profit margin by 30 basis points in the third quarter year over year.
Chewy's enterprise value to sales ratio is already depressed
Keith's other reason for lowering Chewy's price target is that he believes the company should be trading at an enterprise-value-to-sales (EV/S) ratio of 1.8. The stock price is down significantly from its highs, and as of this writing, it trades at an EV/S of 2.17 , which is near the lowest in its history going back to 2019. At its peak, it was selling at an EV/S over 6 and has spent most of its time above 3. So if there is an argument to be made against Keith's price target, it is in his estimation of the EV/S of 1.8.
Over the years, Chewy has done an excellent job growing sales, from $900 million in 2016 to $7.1 billion in 2021. It has also demonstrated economies of scale, increasing gross profit margin from 16.6% to 25.5% over that same time span. Investors can have confidence in management's ability to navigate the short-term headwinds and drive revenue growth and expand profit margins in the long run.
Lastly, even the pessimistic outlook from Keith still values Chewy 22% higher than its recent price. All in all, long-term investors can feel good about owning Chewy stock.
