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How Peloton Can Pull Itself Out of a Deep Ditch

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Few companies represent the pandemic era more than Peloton Interactive Inc. The fitness company’s stationary bike connects users virtually with other riders and instructors, making it a must-have accessory during the Covid-19 lockdowns. Peloton shares surged from about $20 in early 2020 to almost $170 in January 2021. But then the development of Covid-19 vaccines and therapeutics allowed consumers to leave their homes again. Peloton was slow to adapt, and its revenue suffered. Its shares have fallen 90% since peaking, dropping to a low of about $12 earlier this month. 

Is Peloton an irreparably broken company, or can it be fixed and once again thrive? Its main product, which costs in excess of $1,000, represents a major investment for consumers at a time when spending habits are shifting out of pandemic mode. For example, airline companies have forecasted a record summer travel seasons as people leave their homes to get out and about again. Gym operators are also doing better, with Planet Fitness Inc. reporting 16.2 million members spread across 2,291 stores as of the end of the first quarter, up from 14.1 million members and 2,146 stores a year earlier. Bloomberg Opinion columnists offer some thoughts on how the New York-based company might turn itself around.Leverage Its Powerful Subscription Model: Justin FoxPeloton is now a company in crisis, with net income of negative $757 million in the quarter ending March 31 and a stock price down more than 90% from its 2021 peak. It’s also a company with a lucrative subscription business that just keeps signing up more customers.

US connected fitness members who own Peloton bikes or treadmills pay a monthly fee of $39, which is scheduled to go up to $44 in July. A basic digital membership, which gives you access to classes via your phone, tablet, computer or TV costs $12.99 a month, and there’s an intermediate level too. There’s not much subscriber churn — an average of 0.75% a month in the first three months of this year for connected fitness — and revenue has been growing faster than costs. As the company’s leadership appears to have decided, those $500,000+ salaries for instructors may be a bargain.

So why does the company’s net-income trajectory look like this? (Free cash flow looks similar, so it’s not some weird accounting quirk.)

The simple answer is that attached to Peloton’s wonderful subscription business is a more complicated product business. The company’s bikes and treadmills are essential to attracting and keeping subscribers, and at prices ranging from $1,195 for a basic bike to $2,965 for a treadmill with a lot of extras, they can bring in a lot of revenue as well. They were responsible for the company’s three profitable quarters in 2020 and 2021. But the company has been slashing prices, and the bikes and treadmills are now costing it more than they bring in.

Given the power of Peloton’s subscription model, its bikes and treadmills (rowing machines are reportedly on the way) don’t have to bring in big profits for the company to succeed. In miscalculating how fast demand for them would need to grow as the pandemic eased, and ramping up spending on other things that don’t show up as cost of revenue in the above charts (sales and marketing, general and administrative, research and development, capital investment) the company has dug itself into a deep hole. But those subscription numbers still do look really good.

Get In Shape by Joining With a Gym: Andrea FelstedIt’s clear that much of the world is shrugging the last vestiges of Covid restrictions, with people getting out and about again much like they did before the pandemic. That’s been bad news for Peloton. Besides expanding its digital only subscriptions and a nascent business that rents bikes and treadmills to consumers, Peloton must find a way to tap into the out-of-home exercise market.

Peloton already has a strategy to put its equipment into settings such as hotels, workplaces and apartment buildings, but it needs to do more. Developing more of its own studios is one option. It currently has one location in London and another in New York, where it produces and broadcasts classes. Both will open to the public shortly. Such a roll-out, though, would be expensive. If Peloton were to partner with, say, a no-frills gym operator like Planet Fitness, it would be able to ship a large number of bikes, helping to reduce some of the inventory backlog that is weighing on its cashflow. It also has Precor, the equipment maker that it acquired in late 2020 and which already has relationships with gyms, to help it reach fitness locations around the world.

Such a strategy might mean that Pelton could no longer view itself as a luxury brand. After all, Planet Fitness, with its famous $10 per month membership, is proudly no-frills. But that might not be so much of a problem. With its cheaper digital only membership and a program that enables customers to bundle the cost of equipment and classes into one low monthly fee, Peloton is becoming more of a mass-market brand. What’s more, having Peloton bikes in more gyms introduces the concept to a broader range of customers. A low-cost gym membership enables members to continue to splurge on digital classes as well, perhaps a HIIT or yoga instructor they particularly like, without breaking the bank. That extra digital membership could equally be a Peloton subscription or a Peloton rental contract.

Like the world of work, fitness has become hybrid. Peloton needs to pedal in this direction too.

Embrace Its Inner Manufacturer: Brooke SutherlandPeloton is essentially just a manufacturing company, and it’s time it accepts that reality. The company’s primary sources of revenue are exercise bikes and subscriptions to live and on-demand, instructor-led fitness classes. Peloton says this combination makes it “an innovation company at the nexus of fitness, technology, and media.” But the mishmash of equipment plus some sort of software-enhanced service offering is fairly standard for the manufacturing industry today. From air-conditioners to tractors, just about every piece of heavy duty equipment now has a digital element.

There was a moment in 2016 when manufacturers argued the data-driven efficiency gains and innovations in predictive maintenance garnered from these software offerings should win them technology company-like valuations. It didn’t happen. This was in part because it was never clear how or why these digital enhancements would translate into higher revenue and wider profit margins; it was more likely that software features would simply become table stakes for the service relationships that manufacturers have long relied on to supplement their metal-bending businesses.

“The magic doesn’t happen in the sheet metal,” Peloton CEO Barry McCarthy told the New York Times’ Dealbook in February shortly after he was appointed to the top job. “It needs to be good enough, but it’s not sufficient. If it’s just NordicTrack, you’re not winning. The magic happens on the screen.” Magic is an interesting word in that it implies a kind of specialness. The reality may be more banal: an exercise bike without a subscription offering isn’t going to sell in today’s world but that doesn’t make Peloton a growth story. NordicTrack also offers subscriptions. The new rowing machine that Peloton just introduced will do little to change this narrative. 

Peloton’s plan to lower the price of the company’s bikes and other hardware while rising the cost of subscriptions isn’t a bad strategy. It’s actually similar in concept to how jet-engine makers typically recoup losses on initial sales of equipment via service agreements that can stretch for decades. But manufacturing investors have much less patience than technology ones for companies that chase scale or spend millions investing in the next big thing with little to show for the effort. Industrial companies have to earn the right to market share and big spending outlays, and they do so by cutting costs and delivering consistently high-quality machines. It’s not sexy but it works. It’s worth noting that Peloton’s share slide has left it with an enterprise value of about 1.7 times its expected revenue this fiscal year. That’s in line with the valuation of Johnson Controls International Plc, which makes air conditioners and recently launched its OpenBlue suite of digital offerings to help buildings operate more efficiently and sustainably. Unlike Peloton, Johnson Controls makes money. 

Slash the Marketing Budget, Focus on Existing Customers: Conor SenFixing Peloton requires hard choices that the current management team has yet to make. It’s why investors continue to punish the stock. The company began announcing its restructuring plans in February, but the bounce it got from that proved to be short-lived. The problem is management is unwilling to make up its mind about what it wants to prioritize: growth, prospective new members, current members or near-term profitability. Instead, it’s trying to do a little bit of everything while ultimately satisfying nobody. Existing members are upset about the subscription price increase, and the company has had to spend extra money trying to get equipment to new members while continuing to spend a lot on marketing. Investors trust neither the profitability nor the growth outlook.

I would suggest the company prioritize current members and near-term profitability. Peloton’s seven million members love the company and the product. Despite the price increase, churn in the most recent quarter was less than 1%. They should be left alone. Instead, I would slash the sales and marketing budget, which in the most recent quarter was $228 million, or almost a quarter of the company’s total revenue. Peloton’s goal might be to get to 100 million members but goals don’t mean anything if it runs out of cash. The company has convertible bonds outstanding that mature in 2026, and since it reported earnings those bonds have fallen from 80 cents on the dollar to around 70 cents, implying investors believe there’s a strong likelihood the company files for bankruptcy.

Keep current members happy and rebuild trust with its investor base, which now sees the company as a value or turnaround story rather than a growth darling. Once Peloton has proven it can be profitable, it can increase its ambitions again.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Bloomberg Opinion provides commentary on business, economics, politics, technology and markets.

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