Make use of your proper to go away

Peloton Interactive, headquartered in New York (PTON) offers interactive fitness products. I am neutral on the stock.

It seems like ages ago now, but in 2020, the COVID-19 crisis made Peloton a superstar on Wall Street for a while. Widespread lockdowns meant people had to exercise at home instead of going to the gym. Peloton, it seemed, was the right deal at the right time.

However, the framework conditions have changed significantly in recent years. Lockdowns have largely been lifted in the US, and people are venturing into gyms across the country. Also, Peloton faces the same challenges as many other companies in 2022, including inflation and supply chain issues.

As a result, the company must demonstrate its economic viability. Investors facing sharp price falls won’t wait forever for Peloton to improve its financial position. As we’ll see, the company appears to be taking action, but it may not be the right action since Peloton doesn’t need a large debt load. Ultimately, potential investors should watch and wait to see what Peloton does next and whether it’s constructive or destructive.

After the mania

At the peak of the hype period, Peloton stock was trading in the $170 range. That’s almost unimaginable now that the stock price recently dropped to $12 and is changing. So are aspiring traders seeing the bargain of a lifetime or just a value trap?

At least one expert seems pessimistic about the industry Peloton operates in. Indeed, Craig Hallum analyst Steve Dyer appears to be preparing for a bumpy road noting that “after the mania of 2020/2021, the home fitness industry is now in a normalization mode. Demand is falling, cost inflation is rising and competitive headwinds are increasing.”

Dyer further suggested that “the business fundamentals for companies in this niche market will be challenged in the near term.” Of course, that doesn’t bode well for Peloton and its stock.

Additionally, Peloton’s most recent quarterly data release tends to support Dyer’s risk-off stance. However, this does not mean that Peloton cannot maintain its membership. In fact, Peloton grew its membership base by 29% year over year in the third quarter of fiscal 2022. With a total of seven million members, you’d think Peloton would be in full turnaround mode, right?

Not necessarily. We’ve already watched how far Peloton’s stock price has fallen. Clearly, investors are unmoved by the company’s recent membership growth. There must be deeper problems in the company.

It is not difficult to find these problems. For one, Peloton’s revenue fell 24% year over year in the third quarter of fiscal 2022. If a company’s membership is growing but revenue is falling, something is definitely wrong.

More money, but no free money

If Peloton’s top-line result was bad, then the company’s bottom line was even worse. From the prior-year quarter through the third quarter of fiscal 2022, Peloton went from a net loss of $8.6 million to a staggering loss of $757.1 million. Additionally, the company grew from positive Adjusted EBITDA of $63.2 million to negative Adjusted EBITDA of $194.0 million.

What happened here? Peloton cited lower revenue as the primary reason for the profit decline, along with lower Connected Fitness gross margin and higher operating expenses. Referring to the higher spend, Peloton noted that its total operating expenses for the most recent quarter were “$920 million, up 101% year over year.” Some austerity measures would certainly be justified at this point.

A related theme is Peloton’s free cash flow, which was negative at $746.7 million. The company characterized that unfortunate result as “a higher-than-expected outflow,” which certainly won’t offer much consolation to Peloton’s shareholders.

Additionally, Barry McCarthy, Peloton’s CEO and President, acknowledged that his company closed fiscal third quarter “barely capitalized for a company of our size.” With that in mind, investors should be asking themselves whether Peloton is a company they can be confident about owning shares in over the long term.

Perhaps to solve its financial woes, Peloton signed a binding commitment to borrow $750 million in five-year debt from some major financial institutions.

It was reported that the sale of this five-year debt was successfully completed and that the effective yield on the loans at issuance exceeded 8% and is subject to change. In other words, don’t just assume this is anything more than temporary relief from Peloton’s financial woes. The company must repay the $750 million — with interest.

Take Wall Street

As for Wall Street, PTON comes in as a moderate buy based on 15 buy, 10 hold, and two sell ratings issued over the past three months. Peloton Interactive’s average price target is $22.58, which represents an 85.2% upside potential.

take that away

A $750 million capital injection could certainly help Peloton in the short term, but it probably won’t solve the company’s deepest problems. Investors should want to see Peloton implement big cost-cutting measures while also getting creative to find ways to increase the company’s revenue. Until there’s evidence of this in forthcoming financial reports, Peloton stock is a no-go.


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