Peloton Interactive (PTON 0.34%) was arguably one of the greatest beneficiaries of the coronavirus pandemic -- at least, that's how it seemed. The surge in new customers and purchases set off by gym closures and lockdowns led Peloton to make decisions that have caused tremendous downside.
Management invested hundreds of millions in adding capacity to fulfill the boom of interest in its products. Just as it got enough inventory to serve all customers, the purchases suddenly stopped. As a result, Peloton is stuck with too much inventory, and capacity it does not need. This chain of events has Peloton's stock down 74% in 2022. Here's why it's a buying opportunity for long-term investors with a high-risk tolerance.
Peloton is working to correct its mistake
Notably, Peloton sells interactive exercise equipment and a subscription to live and recorded classes accessed through large screens on its bikes and treadmills. It's a convenient alternative for folks who want to exercise but wish to do so in the comfort of their own home. Driving to the closest gym, looking for parking, and hoping the machine you need is available are all detriments to exercising. More than a few times, I have skipped a workout because of the time involved in the process above.
Exercising interactively on a Peloton machine solves millions of people's real problems. That underlying advantage will likely fuel demand for Peloton's products for years. But the near term will be volatile as folks cherish the opportunity to return to their gyms after being cooped up at home for the better part of two years. Even so, people purchased $594 million worth of Peloton's connected fitness products in its fiscal third quarter, which ended on March 31. That was down considerably from the $1 billion sales in the same quarter last year, but some dropoff was expected as gyms reopened.
The structural problem for Peloton was the overinvestment in capacity, assuming that robust customer demand would continue beyond the lockdown phase of the pandemic. It was one massive miscalculation. Nevertheless, the CEO who made the decision resigned, and new CEO Barry McCarthy is taking steps to reduce costs and rightsize the business. Between cost-cutting and working through the inventory backlog, Peloton will eventually find an equilibrium.
From there, it can again focus on growth. McCarthy has set a bold target for 100 million subscribers to Peloton in the long run (as of its most recent update, it boasted just 2.96 million). Even if Peloton grows to just a fraction of that target, it will be millions more than where it is now. That said, growth is the last of the key priorities on the new CEO's mind (the first is stabilizing cash flows). In its most recent nine months, Peloton lost $1.7 billion in cash from operations and has only $879 million in cash left.
Peloton's stock is not for the faint of heart
Peloton's stock is best for long-term investors with a high risk tolerance. It will take time for the company to work through the inventory backlog, reduce capacity, and set its sights on growth. The opportunity is ample, and Peloton has proven consumers love its products, but executing its plans has become more challenging because of its financial position after overinvesting.
However, the risk versus reward is favorable after the stock has fallen 74% in 2022 and is trading at the lowest price to sales in its history.