Perhaps no other stock exemplifies the wild impact the coronavirus pandemic had on businesses quite like Peloton Interactive (PTON 3.05%). The company saw a surge in demand from stuck-at-home consumers wanting to exercise, and the stock skyrocketed 434% in 2021, nearly achieving a $50 billion market cap.
But the economic reopening led to a drop-off in demand that leadership didn't expect. Couple this with overinvestment in manufacturing, an inventory glut, product recalls, and a bloated cost structure, and the stock has fallen 95% since its January 2021 peak.
With pessimism surrounding Peloton at an all-time high, investors might see a potential buying opportunity. Nonetheless, gaining a better understanding of this consumer discretionary stock is worthwhile. Here are three must-know facts about Peloton.
1. Subscriptions are the future
On Feb. 8, Peloton brought in Barry McCarthy, formerly the CFO at Netflix and Spotify, as the company's new CEO. While most people are familiar with the hardware business -- selling stationary bikes and a treadmill -- McCarthy's experience has led to a new goal to make subscription revenue a more significant part of Peloton's operations.
In the fiscal 2022 third quarter (ended March 31), sales of connected-fitness products produced a gross margin of -11.4%, down considerably from prior quarters as management has reduced prices multiple times. By contrast, subscription revenue, which increased 55% year over year, carries a stellar gross margin of 68.1%.
Besides better profitability, generating more subscription sales is important because it means more recurring revenue. Selling equipment is a one-time transaction, but keeping customers paying for workout content for many years increases Peloton's long-term financial success.
The recently launched One Peloton Club exemplifies this strategy as it reduces the friction of buying the expensive equipment by combining the cost of a Bike, Bike+, or Tread and a subscription into one monthly cost. This should lead to more subscribers over time.
2. Positive free cash flow is on the way
Over the past four fiscal quarters, Peloton has lost a combined $1.9 billion. And with $1.6 billion of cash and cash equivalents on the balance sheet, after raising $750 million in debt, management seriously needs to turn the financial picture around if this business has any chance for long-term survival.
Earlier this year, Peloton announced a major restructuring plan to rein in costs. In addition to laying off 20% of its employees, the company intends to lower manufacturing, logistical, and marketing expenses. What's more, reducing capital expenditures and selling excess inventory, totaling $1.4 billion as of March 31, can help lead the business into the black.
Peloton expects to generate positive free cash flow (FCF) starting in fiscal 2023, a major turnaround in the company's fortunes if it can be done. I'm sure many investors are skeptical about this ambitious goal, given just how much money Peloton has historically burned through already. But as McCarthy said on the Q3 2022 earnings call, "Positive cash flow trumps growth."
3. McCarthy wants 100 million members
Peloton ended its most recent quarter with seven million total members. This includes not only connected-fitness subscribers, or those who have purchased a piece of equipment, but also subscribers to the $12.99-a-month digital-only app. And since there can be multiple accounts on each subscription, the membership total really measures the number of different people accessing the workout content.
In the most recent shareholder letter, McCarthy clearly stated that one day, he wants Peloton to amass a whopping 100 million members. Not only is this more than fourteen times where the business stands today but also represents about half of the 200 million or so gym memberships worldwide. This is clearly an audacious target that, if achieved, would certainly skyrocket the company's low valuation.
Introducing new products is one way to attract new customers. Peloton recently launched the Guide, its first-ever strength-training product. And it has been confirmed that the business will soon release a rowing machine. Furthermore, entering new countries will expand the addressable market. Peloton is currently in the U.S., Canada, the U.K., Germany, and Australia.
Investors are now better informed about this beaten-down stock. Consequently, now might be an opportune time to buy Peloton shares in hopes of a huge turnaround.