Investors appear to have given up on Chewy (CHWY 2.99%) for now. The pet supply company's shares are down more than 25% since late May. That timing is no coincidence, either. Chewy announced fiscal first-quarter results on May 31, and the stock has been on a nearly unbroken slump since that report, even as the S&P 500 rallied.
Chewy has another earnings announcement in just a few days, with the potential to change that negative investing narrative. Here are three reasons the stock looks attractive heading into that Aug. 30 update.
1. Growth is good
The business showed solid sales trends in the first quarter, which ran through late April. Revenue rose 15%, easily beating peers like Petco with its 5% uptick. The proportion of customers who signed up for its auto-shipment service hit a new high, and average spending set a record as well.
"2023 is off to a strong start for Chewy," CEO Sumit Singh said in a press release.
It wasn't all good news on growth, though. Chewy's customer base shrank by 1% in the period, marking no improvement over the rate at which it lost shoppers in fiscal 2022. Investors in late August will likely be looking for this negative trend to end before celebrating a rebound in the business.
2. Improving margins and cash
Chewy has done a great job protecting profitability in a tough economy. Rising prices are helping, and so is management's focus on cutting costs. Gross profit margin in the first quarter improved by a full percentage point to reach 28% of sales. Net profits held steady in positive territory at roughly 1% of sales.
CHWY free cash flow data by YCharts.
Ideally, both these figures will move steadily higher as Chewy scales up in the U.S. and benefits from its upcoming push into Canada.
But investors are likely to see more-immediate wins with the company's cash flow metric. Free cash flow improved to $126 million last quarter from $6 million a year earlier. Further gains here imply improving earnings over time.
3. It's priced to move
There's no denying that Chewy's stock valuation is unusually low. You can buy shares for about 1 times annual sales, down from a price-to-sales ratio of 6 at the height of the pandemic growth surge.
Sure, the business' growth prospects have dimmed since then. But Chewy was valued at more than 2 times annual sales as recently as February.
The stock's movement in the past few months suggests that Wall Street is bracing for a disappointing earnings report. This might show up in the form of slowing sales growth, continued customer losses, and a stable or declining gross profit margin.
Yet there's also a good chance that Chewy will extend the positive momentum that it showed in the first quarter, especially given the high engagement from auto-shipment customers. Looking further out, profitability can set new highs with help from management's push into areas like pet health and insurance.
In any case, the risk of owning the stock now seems modest thanks to that low valuation. If you've been waiting for a good chance to buy Chewy shares, this could be your opportunity.
