Pet ownership has been on the rise amid the pandemic. And for investors, a great way to tap into those growth opportunities has been to invest in Petco Health and Wellness (WOOF 3.09%). From supplying pet food to running veterinary hospitals, the company helps consumers keep their pets healthy.
But the growth stock has been struggling the past year, falling more than 19% while the S&P 500 has risen by a relatively steady 6%. Using four charts, I'll summarize where Petco's business is today, and whether it's a stock you should consider.
Image source: Getty Images.
Coming off a strong year, but profits were uninspiring
On March 8, the pet health company reported its most recent results for the fiscal period ended Jan. 29. During the quarter, net revenue of $1.5 billion was up 13% year-over-year. Net income of $27.3 million was also positive, rebounding from a net loss in the prior-year period. However, the company's margins have been fairly modest, normally coming in at 5% of revenue or less:
Data source: Company filings. Chart by author.
The lack of consistency in the bottom line makes it difficult to get too excited about the business. Its gross margins of around 40% barely cover the company's selling, general, and administrative expenses, which routinely account for 36% (or more) of revenue.
For growth investors, the more important figure may be the company's rate of cash burn, which can help determine how likely dilution and share offerings may be in the future.
Free cash flow has (usually) been positive
The good news for investors is that in four of the past five quarters, free cash flow has been in the green for Petco. And in the past year, the company brought in $358 million in cash from its day-to-day operating activities.
Data source: Company filings. Chart by author.
As of the end of the quarter, the company's cash and cash equivalents balance was $221.9 million, nearly double the $119.5 million it reported at the end of the previous year. The company hasn't needed to make any large stock offerings and looks to be in a good position to fund any growth opportunities that come up without needing to dilute its investors. And that is key, because the potential for the pet market could be huge.
Industry may nearly triple in size by 2030
As with any growth stock, there needs to be something ahead that justifies taking a chance on the business. And according to analysts at Morgan Stanley, the U.S. pet industry will be worth approximately $275 billion by 2030. A key reason for that is a continued increase in pet ownership, which the investment bank expects will increase by 14% by the end of the decade. Meanwhile, household spending per pet expected to grow from $980 in 2020 to $1,909 by 2030.
Data source: American Pet Products Association, Morgan Stanley. Chart by author.
Petco is a big name in the industry -- and with all that growth ahead, it could set up the business for some impressive gains. In fiscal 2022, the company expects to see its top line increase between 6% and 8%.
As a bonus, the stock's relatively low valuation may only sweeten the deal for investors.
Petco is cheap compared to other pet stocks
When looking at its price-to-sales ratio, Petco compares favorably against online pet food retailer Chewy and pet pharmacy PetMed Express:
WOOF PS Ratio data by YCharts
The stock is trading at a discount, recently coming off a 52-week low on Feb. 24 when its shares fell to $16.22.
Should you buy Petco stock today?
The growth in pet ownership should lead to some strong returns for Petco in the long run, especially if spending is also likely to increase. Multiple brokerages have set price targets for the stock north of $25, which would translate into gains of more than 35%.
There is some short-term risk given that growth stocks aren't the best of buys these days, and Petco's low margins will likely prevent some investors seeing it as a safe investment. But with positive free cash flow, a low valuation, and some exciting opportunities ahead, Petco should be able to deliver more favorable numbers in the future. Buying and holding the stock today could be a solid move for investors.
