To say that Peloton Interactive (PTON 4.29%) is facing a difficult time would be a huge understatement. The once-booming fitness stock is undergoing a major restructuring amid burgeoning costs and falling demand for its premium exercise equipment. And the stock, down 70% in 2022, trades for a record low price-to-sales ratio of less than one.
In the company's latest quarterly report, there's a single data point that stands out in illustrating Peloton's worsening situation, and it could spell trouble for this consumer discretionary stock's future.
More subscribers are leaving the platform
In Peloton's most recent quarter, which ended June 30, the business reported average connected-fitness monthly churn of 1.41%. This is roughly double the previous quarter's churn rate of 0.75% and far greater than the 0.52% churn reported in the same quarter two years ago, during the depths of the coronavirus pandemic.
This huge sequential uptick in churn is noteworthy, because it starts to weaken leadership's argument that once people buy a Peloton stationary bike or treadmill and enter the ecosystem, then they are likely to stick around instead of canceling their memberships thanks to the growing assortment of fun and immersive workout content.
But during the fiscal fourth-quarter earnings call, CFO Liz Coddington attributed the change to a price increase: "That was related to our all-access subscription price increase that we had in June." Peloton raised the price from $39 to $44 a month in the U.S. and from $49 to $55 in Canada. Management expects churn to "remain roughly consistent" going forward.
For a subscription-based company, churn is a key metric that both management and investors track to assess whether or not customers are remaining loyal. A low and improving churn rate signals that customers find value in the product or service. On the other hand, a high or rising churn rate means just the opposite -- more customers are canceling their subscriptions for whatever reason.
To be fair, Peloton's 1.41% average connected-fitness monthly churn during its fiscal 2022 fourth quarter is still outstanding, probably because spending more than $1,000 on a piece of exercise equipment keeps customers around for longer. The issue, though, is that churn for Peloton worsened as sales of its exercise bikes and treadmills plunged 55% in the same period. Engagement, as measured by average monthly workouts (for connected-fitness subscribers), was 14.8 last quarter, continuing a downward spiral. And revenue, which just dropped 28% year over year, is expected to fall another 21% in the current quarter.
If churn remains elevated or rises, the business has two choices. The first option is that it will have to spend more on sales and marketing, already accounting for 23% of sales, in order to drive higher demand and bring on new subscribers. Additionally, the company can invest even more in improving the hardware, software, and content offerings to help retain existing members. However, both of these plans will make it much more difficult to achieve profitability, a target that has been extremely elusive.
I'm sure the management team would consider these moves if they were viable from a financial perspective, but CEO Barry McCarthy has instituted a major restructuring plan, putting in place cost cuts across the board to better match expenses with a declining revenue base.
As a result, there is simply little to no room for Peloton to get aggressive in attracting additional subscribers or to keep existing ones from leaving the platform. To hammer home the point, Peloton posted negative free cash flow of $2.4 billion in fiscal 2022 while sporting a market cap of just $3.6 billion as of this writing.
Peloton is in a defensive position, trying to streamline operations by cutting expenses, with the main focus right now on ensuring the business has enough cash to weather any economic turmoil that might happen in the near term. This is a stock that investors should stay away from until its outlook shows improvement.
