Peloton Should Sell off the bikes

TLDR:

Becoming the “Turnaround Guy”
Peloton is more valuable without bikes.

I’ve been thinking about where to take the Newsletter.

And I’ve decided to go all in on analyzing public companies and sharing the insights with you all. I really enjoy sharing my thoughts and market perspectives with every week, but the responses I’ve been getting over the past months since diving into earnings has been great. Keep em coming.

I really enjoy diving into the numbers seeing what others are doing and what takeaways there are. I don’t think any of these are copy and paste insights, but the comps/new vantage points are presenting new ways to think about your business. At the end of the day that’s why I write this.

If you have a particular brand you want me to dive into the numbers reply with the name or ticker symbol and I’ll add it to the list. This isn’t saying I’ll never share a market perspective on a future newsletter, but they’ll be less frequent.

Now let’s get into one of the trickiest DTC businesses on the market. What to do with Peloton?

Peloton Needs to Sell the Bike biz

Peloton is dying on the vine and ironically the bike business is what’s holding the company back. The tech-enabled luxury fitness brand boomed to unimaginable heights during the pandemic, but is in free fall ever since.

The stock has been absolutely pounded into the ground since as they oversold bikes and are now searching for new demand like trying to find change in a couch cushion to cover your drive through order. It’s rushed, anxiety ridden, and not really sure it should be done in the first place.

The stock is trading at $8.37/share with a $2.97B market cap. Down -67% since it’s $8.1B cap at the 2019 IPO.

I’m going to take a slightly different approach today and pretend like I’m on their board. I don’t think outside money needs to step in for a massive unlock in Ent value, but going to lay out the game plan in case a big PE firm wants to claim all the value for themselves.

The Financial TLDR:

Gross Margins at 34% is just unacceptable for a DTC. Its’s even worse for a luxury DTC product with high margin Software. The fall from grace has been rough and the falling hardware (-44% YoY) is throwing the business into peril.

The trailing 12 months is the first time Software Revenue ($1.2B) outpaced Hardware ($900m). What’s more important are the Gross profits.

$839m/$723.5m of the company’s Gross Profits came from Software. Yup you read that right. They lost -$116m of Gross Profits on hardware sales. They would have saved my smashing their hardware products Rage room style then shipping them to customers.

The strategy has always been for the hardware to be a loss leader, but the product used to generate some gross profits. Now it’s just a loser dragging down the business.

Here’s my 3-step to unlock Peloton’s value:

1) Sell the hardware business. Become a Consumer Subscription App.

It sounds insane but hear me out.

Peloton has always been a software business that sells hardware. The bikes were just an entry product to get consumers into their ecosystem. Think iPhone → App store, just not as ubiquitous.

Now that they’re doing $1B+ in software revenue they should sell off the bike biz and rapidly expand into the software market. They’ve validated the need for a great workout app and proven they can scale it. What they’re missing in the current strategy is how ubiquitous an affordable app could be vs. how niche luxury workout equipment it.

They’ve already announced they want to be an accessible brand. The concept of being the right fit for every customer no matter where they workout. Let’s put aside the brutal 180 that is from their startup Call to Arms it doesn’t vibe with their product mix. Nothing about retailing $1.5k bikes is widely accessible.

The Hardware business is a falling knife and covering up an incredible Software business. At $909m in annual Hardware sales they could probably offload the luxury bike business for ~$1B to another provider. That alone would push the stock up.

Solution: Sell off the bike biz to go all in on the high margin software biz.

2) Scale the App. Aggressively

Peloton has the opportunity to be the Netflix of Fitness. An app with a captive audience producing category leading content to a broad range of people is a hundreds of billions dollar business.

At 235m subscribers, Netflix’s Gross Margin % (33%) is half of Peloton’s (66%) but Netflix’s market cap is 30x as big. If Netflix doesn’t acquire them the opportunity staring Peloton in the face is HUGE.

Peloton has 6.7m subs. Again almost $1B in annual profits at <10m subs. If Peloton could scale to 120m subs they could have a similar market cap to Netflix as twice the audience.

With that in mind. Scale baby scale.

Peloton should reinvest the $500m Growth budget into acquiring every user possible. At $839m in Gross Profits, Peloton could be spending $600m/yr acquiring new subs. For $13/mo that should be significantly easier than selling a $1.5k bike. Growth should return to the more aggressive early stage of the company.

Opening up the market to virtually everyone who can afford a gym membership would completely change Peloton’s narrative. Instead of selling expensive bikes into a quickly saturating market, Peloton would be a high growth consumer app with plenty of green field ahead of them again.

Solution: Aggressively scale the app downloads to capture as much market share as possible.

3) Triple Down on Content

Netflix paved the way on this model. Well, really HBO did but let’s not get caught up in semantics.

Peloton needs to become the “Movie Studio” for Fitness content. The best content should be produced for the Peloton app across all content types. Consumers will subscribe for their current fitness trend and stay when they shift to another trend.

Peloton should take all the freed up capital from the bike exit (+ potentially raise more) and heavily invest in content. Peloton’s destiny is to become the go-to fitness app on the planet.

They blueprint:

• Consistently bring in the best talent for “classes”.

• Go broad on popular niches.

• Provide ‘rabbit holes’ of content variety.

• Internationalize the most popular formats.

Fitness trends are fickle, similar to TV/Movies. If they can provide both the breadth and depth of workout content a subscriber can constantly explore revenue will explode. I wouldn’t be surprised if you even started to see “The Biggest Loser” style shows on the app. Keeping people engaged is the name of the game.

Peloton is lighting a pile of money fire in the hardware business. It’s become too big of a business to just shutdown the line. But it definitely feels like a ball and chain around their neck at this point.

With the same capital they’re investing trying to make fetch happen in the luxury bike market they could be investing it in captivating content, which they’ll have to do whether they keep the hardware business or not.

Solution: Become the “Fitness Movie Producer” where the fitness audience turns into loyal app subscribers.

Final Thoughts

The losses reflect the tale of 2 cities happening within the company. The best of times with a consumer app pacing to surpass $1B Gross Margins next year and on the path to multi-billions. And the worst of times with consumer hardware sales falling 52% YoY dragging the entire line into unprofitability.

A company losing $1B/yr is worth more as parts than it is together.

For the right buyer the Hardware biz could probably be sold for ~$1B. If the right strategic doesn’t inherit the overhead and growth costs, close to $1B in revenue would be a massive boon to their business. The challenge would be making the bikes cheaper to produce or restoring the price point to right side the unit economics.

With the right narrative the Software biz alone is worth ~$5B+. (Netflix has a 5.7x sub Rev multiple). The software component alone is 2x more valuable than the current company is worth.

As a former shareholder its infuriating to see this company torch so much Ent value. If Netflix was smart they’d buy them for a 1.6% of their current market cap and spin out the hardware business to recoup 1/3 of the acquisition price. Then they’d truly own someone’s home and have a unique angle in the Content wars against Disney.

🧠 The Takeaway

Peloton is twice as valuable spinning off their Hardware business. Their consumer app is stifled by their capital tied up in hardware.

1. Peloton is on pace to break $1B/yr in software gross margins.

2. The Hardware business is in a death spiral and operating at a complete loss.

3. Peloton has the ability to become a $100B company. They just need to invest in the right growth.

👷 What can you do about this?

1. Break out your products by category. What categories are driving your business? What are holding you back?

2. Can you carve out a part of your business so the winner can grow faster?

3. It’s never too late to move away from your original product line. The best always adapt.

As always. Stay confident, connect with your customers, and keep crushing it.

Jeremy Horowitz

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