With the Nasdaq Composite (^IXIC 0.52%) down 9% year to date at this writing, some Wall Street analysts are seeing value among leading consumer brands. Shares of Chewy (CHWY 4.83%) and Peloton Interactive (PTON 6.59%) have fallen well off their highs the past few years.
But analysts see 49% to 128% upside for these stocks based on expectations for improving financial results. Let’s explore what is going right for these companies and whether you should bet your money on these analysts’ opinions.
1. Chewy
Chewy is the leading online brand for pet supplies, but rising inflation pressured sales and the share price over the past few years. The stock has rebounded based on improving sales trends. Earlier this year, Evercore ISI analyst Mark Mahaney upgraded the shares to an outperform (buy) rating with a $47 price target, implying upside of 49% over the recent $31.50 share price. Should investors buy the stock now?
Chewy’s sales growth stabilized over the last year, and the company is also showing the potential to improve margins. In the October-ending fiscal third quarter, sales grew 5% year over year, but growth in higher-margin offerings like pet pharmacy, private-label products, and advertising could benefit the bottom line. Mahaney sees free cash flow doubling in the next three years, which would be a strong catalyst for the stock.
However, there are risks that could keep the stock from reaching the analyst’s price target. A significant portion of Chewy’s suppliers for its private-label and non-consumable products are located in China, so tariffs on imports could negatively affect sales in the near term.
Another thing to consider is that Chewy shares don’t measure up well to other e-commerce stocks on growth and valuation.
For example, South Korea’s leading e-commerce company, Coupang, grew revenue 24% year-over-year last year. But the stock trades at a price-to-sales (P/S) multiple of 1.4, which is only marginally higher than Chewy’s 1.2 P/S multiple. Overall, Coupang offers a better growth-to-value ratio, which makes Chewy stock look relatively expensive.
For Chewy to hit the analyst’s price target in the next year or so, it may need to show accelerating top-line momentum. That’s going to be more difficult to achieve in the current economic environment.
2. Peloton Interactive
Peloton Interactive has given investors a wild ride, with surging demand during the pandemic shutdowns leading to a falloff in sales as people returned to the gym.
However, the stock has rebounded sharply off its 52-week low, and Argus analyst John Staszak sees more upside. In February, Staszak upgraded the stock to “buy” with a $15 price target, implying upside of 128% over the recent $6.58 share price.
Peloton is starting to report improving financial results. In the December-ending second quarter, revenue was down 9% year over year but grew 15% over the previous quarter. The main catalyst that could drive the stock higher is improving margins, where its gross profit margin is trending up. The company reported a whopping 385% year-over-year improvement in free cash flow.
New CEO Peter Stern is clearly bringing better cost discipline. The company focused on selling more premium-priced products that generate higher margins during the holiday quarter, and it also reduced discounting. These actions put Peloton on the right track financially.
Still, Peloton is not out of the woods. A business can only improve margins so far before more top-line growth is needed to create sustainable shareholder returns. While Peloton still holds a large member base of more than 6 million, it is not growing. Memberships fell 4% year over year and decreased by 1% over the previous quarter.
The stock trades at a price-to-free cash flow multiple of 16, so there could be some upside if Peloton continues to grow free cash flow. But it’s unclear how much more free cash flow it can produce to justify sending the stock to $15, or double the current share price.
Peloton’s subscription business generates twice the gross margin its hardware sales do, which could be a valuable source of profitable growth, but the challenge is to get subscriptions growing again. The recent decline in memberships indicates that Peloton may have a limited addressable market for its products that will make it difficult to deliver meaningful shareholder returns over the long term.
John Ballard has positions in Coupang. The Motley Fool has positions in and recommends Chewy and Peloton Interactive. The Motley Fool recommends Coupang. The Motley Fool has a disclosure policy.
