This Profitable Pet Stock Has a Blazingly Bright Outlook

Over the past few quarters, Chewy's (CHWY -1.80%) business has underperformed, but is a rebound coming? In this clip from "The Virtual Opportunities Show" on Motley Fool Live, recorded on April 12, Fool contributors Demitri Kalogeropoulos, Travis Hoium, Jose Najarro, and Rachel Warren discuss how the online pet-product retailer is poised for significant growth and success.

Demitri Kalogeropoulos: The company Chewy, ticker symbol CHWY. Their reported earnings in late March, as you can see in this chart here, Wall Street was not really happy about that earnings report or much of the last two. Stock is down what is that 45%? Almost 50% in the last year. The earnings were not that bad. The sales came in at 19%, sales growth was 19% which is just a little bit lower than what Wall Street had expected. The main thing is there was a little uptick in churn, cancellations, which has investors pretty worried.

CFO Mario Marte explained that it was basically an issue with lower customer retention because of unusual aspects about the year-ago group of customers that signed up for their subscription service, the pet food, and pet supply products. Most of their revenue comes from the subscription service where you're just getting these recurring revenue, purchases of food, and things like that.

But, because in early pandemic days, they were getting a bump in subscribers for maybe not so much recurring services greater than the usual portion of that group canceled in the next year, which is causing some volatility in their growth numbers. There was also higher costs as we're seeing throughout the industry that hurt profitability.

Gross profit margin fell to about 25% of sales from 27%. Adjusted earnings became a little bit of a loss. They lost $28 million compared to a $50 million dollar gain a year ago. I understand why Wall Street was unhappy with a lot of those numbers. Typically like to see losses come up and then slowing growth like that. But I think the long-term growth story is good here.

I mentioned that subscriber number, they've got around 71% of their customers are signing up for that subscription-based service. That's a really great business model. We've seen this with other companies like Costco (COST -0.00%), for example, where most of their revenues coming from that recurring process. That's a record for them. Their customers are engaged. It doesn't appear to be that it's losing a lot of market share to other big companies like Walmart or something.

Management is basically saying this is just an anomaly, it's a one-time thing, we think it's going to smooth its way out over the next couple of quarters. I tend to want to take management's word at that because it's hard to say they could be not sure either. But that's what it looks like to me. I think the stock could really rebound the gross profit margin they have, they are expecting to get that up to that 28% of sales. They have been raising prices. That's going to be happening over the next couple of quarters.

The industry itself, as we mentioned, is a really high-growth industry. They serve pet ownership and the North American market is growing. It's massive and as we mentioned before, people are spending a lot more money on their pets. We mentioned TikTok earlier. There are lots and lots of TikTok stars, dogs, little dogs, and cats that have millions of followers out there. [laughs]

Travis Hoium: Hey, I'm getting a dog. Does the dog come with a TikTok account or do I have to do that myself?

Jose Najarro: Now you return it.

Hoium: Exactly. They're paying their way man.

Rachel Warren: That would be awesome.

Hoium: There'll be enough to pay for my Trupanion (TRUP 2.50%).

Kalogeropoulos: Now we are talking. [laughs] Maybe you might not want to buy the stock right now but it's one I would watch for sure if you're interested because I'm curious about the way the next few quarters are going to play out and I think this company could rebound. Like I said, I like the long-term growth idea though. Do you have something to add there Rachel?

Warren: Just this is also a stock that I've been following and I do think it's one that the market has been hard on. I think stocks in this space, there's been a lot of volatility. I think two of the main ones that investors would watch would be Trupanion and Chewy.

Like you mentioned with Chewy, it has really been able to maintain a sizable market share even though there is competition in this space. I think one of the reasons behind that is it is a lot more than just a company that sells pet food, dog food, cat food. It has this really growing side to its business and its pharmacy segment, which is continuing to account for an increasing amount of its overall growth. It has this telehealth side too, that pharmacy segment as well where pet owners can log on and in connect with the veterinarian in minutes.

There's a lot that I think it's offering its users beyond just what you would traditionally think of as an online pet store to go and find food or toys for your animal. I think there's a lot of potential with this business. I want to see how management executes over the next few quarters especially. But I do think that there is a lot of growth here. I just think it's one of those things where as an investor, I think if it were me and I was already invested in this business, there might be the need for some patience ahead, but I do think it is a really great company.