Special Situation: Peloton Needs to be Acquired

Quick take on earnings and a surprise change of heart?

For those of you who may not know, I have been highly critical of Peloton PTON 0.00%↑ over the last few years. Numerous times on Twitter I’ve publicly shown why anyone betting on this company for a turnaround will be incredibly disappointed and that there were better options out there to bet on.

My most recent post compared earnings to Xponential Fitness XPOF 0.00%↑ back in May which you can read below.

Earnings Recap: XPOF & PTON

And then a more meaty post exclusively on Peloton back in October of last year (2022).

PTON: A Zero or Hero?

Many bulls highlighted its

• Cult-like following

• High software margins

• Low churn

amongst other things. While all of these are true, I always thought them to be “great-to-haves” but not something that warrants a premium multiple to be thrown on the company, especially when it's in decline.

Based on the most recent earnings that sent the stock tumbling ~28% this past week, there are key items to highlight before I get into my updated opinion.

First off, revenue. The trend is not a good one which is to be expected when you know the story of the company and understand that it was a COVID darling just trying to find its place in the world in a post-pandemic environment.

It's not shocking, but in their shareholder letter, I’ve highlighted and underlined a few essential parts that go against the grain of turnaround bulls.

Source: PTON Investor Relations.

There is really not much to like when you see this table even from a Q/Q which I feel is more important since Barry has taken a lot of initiative to quickly put the company back on a growth trajectory. This means I discount the Y/Y changes mainly because the company was largely implementing a lot of restructuring efforts in CY’2022.

1. Core CF subs ⬇️

2. Churn ⬆️

3. App subs ⬇️

4. Subscription CM ⬇️

5. FCF ⬇️

Source: Giphy.

The narrative since the summer of last year was that things were getting back on track. The FCF bleeding was mostly dealt with, planned initiatives were canceled or put on hold (except the row), and lots of employees, unfortunately, lost their jobs.

Source: LinkedIn.

But even with that, is it too little too late for Peloton? I understand that trying to throw out everything but the kitchen sink was critical for the company to at least grant them some type of runway to come up with ways that Barry could restart growth.

Many of the ideas he’s had I’m actually onboard with despite them not being too lucrative in the ROI department.

But here’s where things get a little spicer. Peloton’s balance sheet is looking to be a little stressed.

FCF for the fiscal year, was down a whopping $470 million ($388 million in CFO + $82 million in capex), leaving the company with just $814 million in liquid cash.

Source: PTON FY’23 Investor Letter.

If exercised now, the 0% convertible senior notes represent ~50% of the stock’s current market cap. Talk about dilution.

The distressing nature of the earnings report sent the price of the bond down 4% to $74 before rebounding to $74.50.

Source: FINRA.

Additionally, the term loan is fully drawn on — the $750 million — which the net is just the $691 million that you see there. PTON has really leveraged itself, albeit, in different ways to not just survive but somehow restart the engine to continue sailing to better times ahead.

But this post is not about me bashing the company or yelling how right I was. Infact, I’ve been wrong on many things. No, this is actually something that might surprise many of you.

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I’m finally changing my thoughts on the company. *Gasp*.

I’ve always said that the company offers a great product. Aside from the laughable recall, it’s true. They make a well-made bike.

I’ve also said that there IS a product market fit for the company but it just never was as big as all the bulls thought it was. Perhaps this was just them languishing over how valuable the company was years ago and bulls stuck in the SaaS tech multiple world trying to apply it to PTON.

So let me be completely clear here. I think there is value in Peloton. However, I do not believe there’s value in Peloton as a standalone company.

What do I mean by this?

Well, I think Peloton has done a great job showing the world that there is demand for an exercise bike that can be connected to classes in the comfort of your own home.

Check. Done. Agreed. Moving on.

But I do not think that a company like this will do well on its own. Case in point the last 2 years.

I chalk up this rationale to what happened with Fitbit and Ring. They were great products that offered services but business-wise, they did have their own limitations.

However, taking those products and services and combining them with a strategic was the better play.

Hence why Google GOOGL 0.00%↑ bought Fitbit after the price collapsed and went sideways for years.

And why Amazon bought Ring

¹

from Jamie since they clearly saw the potential of integrated systems with Alexa, etc.

This is why I believe that Peloton would be good to be wrapped into another company instead of by itself.

My main contender is Apple AAPL 0.00%↑. Yes, there were rumors in early 2022 about it and I was also on the side that it wouldn’t happen with prices back then because I thought it was too expensive. Now? Different story.

I think there are a lot of synergies that can be made between the two companies, especially as Apple is looking to continue building out its services business and fitness business.

Secondly, I do see a world where Amazon AMZN 0.00%↑ buys the company to roll it up into the Prime offering. Similar to how Microsoft MSFT 0.00%↑ rolls new products into office suite.

Is it clear-cut? No.

Is it probable? Sure.

Is Peloton worth something today? Yes.

However, my take is not so much on the turnaround but rather on someone finally coming to the table and acquiring them. It won’t be for a lucrative price, but it will most likely be the right move should management wake up and realize this.

I just don’t see a world where Peloton gets rewarded again like in the past as a company by itself. This is why I’m treating it as a speculative trade and not a turnaround.

Those are my quick thoughts on the company post-earnings. I hope you enjoyed what you read. If you have a comment, please do so below, I’d love to hear from you all, and don’t forget to subscribe if you haven’t already.

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Until next time,

Paul Cerro | Cedar Grove Capital

Personal Twitter: @paulcerro

Fund Twitter: @cedargrovecm

HoldCo Twitter: @cedargrovech

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Disclaimer: I/we (“Cedar Grove Capital”) currently do have a stock, option, or similar derivative position in Peloton Interactive (PTON) at the time of writing this article.

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1. Amazon buys Ring