I recently listened to an interview of the Peloton CEO on Bloomberg on the day of their public listing. I was really impressed – by the level of hubris, that is.
The stock came public at $29.00/share and proceeded to close down 11% to $25.76 (today it’s trading at $22.60). When asked about the less than spectacular debut, the Peloton CEO replied essentially, some people get it, and some people don’t. “Believers” that invested previously have always been well rewarded (with paper gains, no doubt) and they have always proven the naysayers wrong.
Like others, Peloton attempts to leverage itself to all the favorable trends across a variety of industries. Peloton describes itself as a media company, a technology company, a social network, etc. Anything but a fitness company (and the lower multiple it commands). Remember when GoPro tried to peddle itself as similarly? How did that turn out? Oh yeah, turns out they were an electronics company. At the peak of the hype the stock traded over $85/share. Today, it trades at $5/share. Oops.
In our view, many of these consumer-facing businesses have intelligently employed technology to redefine and upend traditional business models. That does not make them technology companies. The Peloton CEO suggests that they are hiring more software engineers than any other position – so, ipso facto, they are a technology company. We beg to differ — they sell fitness machines and exercise class subscriptions. With the help of technology they have certainly innovated, but they are ultimately confined to the economics that have been established over the last 50 years. And the fitness graveyard is rife with broken companies that are no longer with us having left behind closets full of cutting edge exercise equipment that are now used primarily as clothes hangers.
Surely the economics of their business must be impressive? According to Bloomberg, Peloton is projected to produce $200 million in negative free cash flow next year. But the CEO objects, saying the company is not losing money, “it’s semantics – we’re investing.” Then, he makes the point that Peloton’s business is recession-proof. And when considered on a “per use” basis (assuming two users per household), the equipment and subscription are “insanely” cheap. Peloton’s fitness bikes start at $2,000 and its treadmill starts at $5,000 – hardly a must have in a recession. Finally, he brings up the total addressable market argument (TAM) and, if you’ve read our previous blogs, you know how we feel about that. The CEO states there are 183 million people in the world with gym memberships and we assume it’s a “winner take all” market. And guess what — we win. Please.
In our opinion, these “unicorns” (private companies with $1B valuation) have been in the private equity echo chamber for too long. For years, “super smart” VCs (most of them in Silicon Valley) have stumbled over themselves to lead the next round of funding for Peloton, WeWork and other private companies. And, instead of valuations based upon fundamental economic realities, they were based upon an almost self-fulfilling concept of paying more than the previous round (a version of the greater fool theory, in our opinion). And with private equity firms swimming in cash and behemoths like Japan’s Softbank bidding aggressively for firms with a $100B cash hoard, valuations went up like clockwork. Until recently, that is.
In short, great product, but at the core, history tells us it’s a mediocre business. Just like Uber, Lyft and WeWork. At the very least, these businesses deserve a lower valuation. The bloom is now off the rose for many of these companies – it seems the public market is tired of hearing these fantastical stories in the face of massive losses and no road map to profitability. We sincerely hope such rational thinking lasts.
The views presented herein are those of Validus Growth Investors, LLC (“Validus”) as of October 2019 and are provided for informational purposes only. There is no guarantee that any historical trend illustrated above will be repeated in the future, and there is no way to predict precisely when such a trend might begin. The information is based on the economic and market conditions as of this date. The information is not intended as a discussion of the merits of a particular offering and should not assume that any discussion or information provided herein serves as the receipt of, or as a substitute for personalized investment advice from Validus or any other investment professional.
This material is provided for informational purposes only and does not constitute a solicitation. The material is not intended to be relied upon as a forecast, research or investment advice and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. There is no guarantee that any forecasts made will come to pass.