Let’s face it, Peloton has been a total stinker this year and has been a drag on my returns all year. They are down 37% YTD and flat over the last year due to reasons that have been well documented by the board. I can certainly understand why the majority of the folks here have moved on from this business since the opportunity cost of holding this has been substantial as most other stocks have done well. With that being said, I wanted to raise this business to the board once again because I am not confident that the stock fully reflects what’s going on with the underlying business.
What I want to focus on is the subscription revenue. Ultimately, this is the reason to own Peloton. Here is the breakdown of sub revenue over the last four years:
Sub Revenue Q1 Q2 Q3 Q4 FY 2018 $14.3 $16.5 $22.5 $27.0 $80.3 2019 $31.7 $37.3 $51.1 $61.0 $181.1 2020 $67.2 $77.1 $98.2 $121.2 $363.7 2021 $156.5 $194.7 $239.4 $281.6 $872.2 QoQ Change % 2018 15% 36% 20% 2019 17% 18% 37% 19% 2020 10% 15% 27% 23% 2021 29% 24% 23% 18% YoY Change % 2019 122% 126% 127% 126% 126% 2020 112% 107% 92% 99% 101% 2021 133% 153% 144% 132% 140%
Here we have a company that is growing their subscription revenue at well over 100% while at a $1B+ run rate. This to me is outstanding. They are growing pretty consistently at 20% QoQ. If they continue at this pace next year, they will end with subscription revenue north of $1.8B. They have already guided for 3,630 fitness subs for next year, good for 56% YoY growth, which will almost certainly be raised every single quarter.
Their subscription revenue is starting to become a larger percentage of their total revenue. This is a trend shareholders should like to see. It dropped in Q4 '20 and Q1 '21 when they sold a ton of bikes during COVID but it just hit a record high of 30% last quarter. Please note it is lower in Q2 & Q3 when they sell more hardware during the holiday season.
Sub % Revenues Q1 Q2 Q3 Q4 FY 2018 25% 13% 16% 25% 18% 2019 28% 14% 16% 27% 20% 2020 29% 17% 19% 20% 20% 2021 21% 18% 19% 30% 22%
The best part is these subscribers tend to stick around. Their retention rate has remained consistent at 92% for the past five quarters. It does not look like many folks who bought a bike during the peak of COVID are cancelling their subscription. Their average net monthly churn has also held very consistent:
Avg. Net Monthly Churn Q1 Q2 Q3 Q4 2018 0.52% 0.49% 0.55% 0.85% 2019 0.50% 0.52% 0.68% 0.79% 2020 0.90% 0.74% 0.46% 0.52% 2021 0.65% 0.76% 0.31% 0.73%
This all goes to show, their subscription revenue is growing at a very healthy pace and the members are not going anywhere. In addition to this, the subscription revenue is far more profitable than the hardware, of course. Sub gross margins have increased steadily the last three years: 43%, 57%, 62%. This trend should also continue.
After losing over a third of its value this year, Peloton finds itself valued at roughly $27B. If we were to value it solely off its sub revenue, it would trade at a TTM P/S of ~32. I would say that is pretty good value for a business growing ~20% sequentially with 62% gross margins.
Let’s compare that quickly with one of our favorite SaaS businesses, Cloudflare. Their TTM revenue is $530.6M, growing at 53% YoY and 10% sequentially. They are currently valued at $42B, which equates to a TTM P/S of ~79. Now I will readily admit this is an apples to oranges comparison, and Cloudflare is likely overvalued at the moment, but I find it striking. Does this kind of difference feel right to you?
The best part of all, is we are not even considering the additional $3.1B in revenue Peloton had last year from bike sales. Sure this comes at far lower margins but it is not meaningless. Ultimately, Peloton guided for $5.4B in revenue next year, good for 34% YoY. It is fair to assume this is heavily sandbagged and should be raised the next three quarters.
Given the current valuations seen across the market, am I the only one who thinks Peloton might be quite undervalued? I am not blind to all the challenges they have faced with their hardware (i.e. recalls, safety issues, supply problems, etc.), however I think a very strong case can be made for buying this business thanks to their incredible subscription revenue growth. Am I insane? Is the best behind this company? Are they headed for slower growth indefinitely regardless of their new tread launch and the jump into the commercial market? I have learned the hard way that it usually makes the most sense to own the best of breed companies that are firing on all cylinders. I know Peloton does not currently fall in that bucket but I tend to own a few more stocks and give a bit of a longer leash that many here. For what it’s worth, I can say that as a bike+ owner, I see the value in their offering and think there is still a long runway ahead.
Long PTON… for now
P.S. Cody Rigsby (bike instructor) was recently picked to be on Dancing with the Stars. He began his first dance this week riding a Peloton bike. This is some great publicity for the business but also speaks to the power of the brand that they have an instructor selected to be on Dancing with the Stars.