Peloton Interactive, Inc. (PTON) Earnings Call Transcript & Summary

Thanks, everyone, for joining us virtually today at JP Morgan's 48th Annual Global Tech Media and Communications Conference. So before we get started, I just want to mention that we'll take questions from the audience via Zoom. So please go to the Q&A button if you'd like. So I'm Doug Anmuth, JP Morgan's Internet analyst. We're pleased to have with us, Jill Woodworth, CFO of Peloton. So Peloton is a technology company, centered around empowering people to improve their lives through fitness. Its core products, most of you are familiar with, a stationary bike, treadmill and a digital app that allows users to stream workout classes through a subscription service. Peloton actually crossed 1 million Connected Fitness subscribers just this morning, and the company is on track to reach $1.73 billion in annual revenues in this fiscal year. So I'm pleased to welcome Jill. Prior to joining Peloton, Jill worked in financial services for more than 20 years, leading JP Morgan's Disruptive Commerce Group. And before that, its equity capital markets origination for retail and consumer products companies. And prior to JP Morgan Jill worked at Morgan Stanley, holding a number of positions across its investment banking division. So welcome, Jill.

Welcome. Thanks, everybody, for joining today virtually.

All right. So let's get right to it. You had a little bit of news this morning. I was a little surprised actually, to see that, that quick. So you announced that you crossed 1 million Connected Fitness subscribers. You're now about 70% of the way to the high end of your guide, and it's just less than halfway through the quarter. So hoping you can give us some thoughts there and just how you're thinking about the quarter and your path.

Obviously, as you can imagine, within the company, it was a big celebration when we passed the mark over the weekend. But we did give guidance out last week for Connected Fitness subscribers and in our fiscal year 2020 Q4. And there's no updates to our guidance there. We have, I think, talked about some of the things that are impacting our ability from a supply and demand perspective. And so I'd have everybody sort of keep that in mind, plus we also talked about the fact that we do expect churn levels to go to more normalized levels before the end of Q4. So while we're very excited about the milestone, no changes to the guidance that we laid out last week.

Okay. All right. So well, we're going to circle back more there. Let's talk about the last couple of months, it's been a pretty extraordinary time. I want to know what you've learned, what surprised you most about the Peloton community during that time.

Yes. So yes, it has been a really extraordinary time for us. I think the most amazing aspects of it has been, really, the resiliency of our employees across the board. We're very highly integrated. So without missing a beat, it felt like all of our headquarter employees adapted very quickly to a work from home environment, including our entire member support team out in Plano. We also, from a frontline perspective, adapted our retail sales specialists to help in other areas of our business during our retail closure period. And then lastly, warehouse and delivery that really had to adapt to a front-line environment with additional safety protocols and cleaning protocols. And as you know, we changed our delivery method to do threshold delivery, to be safe for our members, our employees as well as our community. And then, of course lastly, without much fanfare, we did open up our 30,000 square foot Peloton Studios New York. That was opened back in March without a live audience, but we did quickly close the studio and began producing content from many of our instructors' homes over this time period, again understanding that the relevancy of having updated content and live rides during this time is super important. So again, just -- I mean, I applaud everyone at the company for all of the hard work they continue to do from home and especially our front line, we're still delivering tens of thousands of bikes to new members. So I have just been so proud to work at an organization that quickly pivoted so quickly on many levels.

Okay. Great. Let's hit on a few of those kind of changes and challenges that you've had over the last couple of months, just as you've adjusted to the current environment. But you talked about entering 4Q, this current quarter with a big backlog as order to delivery times have been pushed out. I guess we obviously learned a little bit more about that this morning. But many of us see up to 8 weeks, often quoted on the site. What's the current status of the supply chain? And I think William also talked about doubling the pace of production since March. How have you been able to do that?

Yes. So 2 things. One, as you know, we use a combination of our own manufacturing facility, Tonic, which we purchased in the fall of last year and -- which has obviously proven to be a good investment during this time for us, where we've been able to add several lines of production. In addition, we also work with third-party manufacturers who have also, at this time over the last several weeks, been able to add lines and ramp production. So I believe what William said was that if you look at where bike production was in early March, by June, we expect to double production. And for us, it is hugely disappointing as a member-first organization not to give products to people when they want them. And so this is the challenge that we've been working through over the last several weeks, how can we get that order to delivery window down as quickly as possible. We don't expect it to materially improve before the end of the quarter. That does mean that by the end of Q4, we will also end the quarter with, again, a large backlog of sales to fulfill in the late part of the summer. Our hope is that by late July, early August, we get back to normalized levels. The other thing that we're doing to shore up our supply chain for the longer term, especially as we think about entering a holiday period in the not-too-distant future, time seems to be going by very quickly here, is that we are building a new facility at Tonic to help us ramp production ahead of holidays. So I think with the additional lines that we've added at Tonic today, the new factory as well as the great partnership that we've had with our third-party bike manufacturer, we are hopefully going to be in a good position by the end of the summer.

Okay. Good. Let's just follow-up there and talk about Tonic a little bit. That's -- so a long time manufacturer for you, but I think an acquisition that may have surprised some people a little bit last year when you did it. What have you kind of learned since then? How has that been validated, especially during this time now, where it's obviously more important to control your capacity and your full capabilities?

Yes. It's a really great question. And I realize that probably, it was unexpected for us to even further verticalize our already very vertical model with delivery and retail and now manufacturing. But it's proven so helpful, one, because we can ensure that we're investing appropriately in our supply chain for the long term. It goes back to breaking ground on the new factory, adding lines and really controlling our own destiny a bit more. We don't want to see a period like this again where we're disappointing new members with long delivery waits. And so I think it's taught us how to very quickly pivot. And then I would say separately, when you work with third party manufacturers, oftentimes, you don't fully control the investments that they make in terms of manufacturing efficiencies. So we're excited to invest behind Tonic in this way so that we have state-of-the-art facilities, robotics and all of the things that we believe, over time, will allow us to produce millions of bikes and treads.

Okay. Great. So let's talk about shift to the delivery process a little bit. You obviously had to change that materially. You mentioned that. But if you could talk more about the impact of moving to outside the home, these threshold deliveries, how that's impacted costs and overall efficiency. And then, I mean, how do you think about the timing of when you could actually resume? And what are the kind of criteria that you're looking at for doing that?

Yes. I mean, I think for us, it's first and foremost, following all of the relevant -- in each of our localities, the relevant government protocols for entering the home. Obviously, it was unfortunate that we had to pause tread delivery at a time where we obviously saw great demand for our tread product. But we won't be moving too quickly here. Again, it just goes back to wanting to really keep our members safe and our employees safe. So for now, as you can imagine, with our Q4 guidance, what we outlined last week was that we don't expect to resume in-home activities such as tread assembly before the end of Q4. But we believe when we do, it will be on a market-by-market basis. As you know, different markets have been hit more severely with COVID-19. And so where it is safe to do so, we will begin to think about again, in-home servicing, tread assembly. And then lastly, obviously, being able to do some of our returns, facilitate some of our returns as well. So we're excited to get that underway, but we're in no rush.

Got it. Okay. So let's shift and talk about member engagement a little bit. So strong in 3Q, 17.7 classes per month on average, so up about 27% year-over-year and 40% sequentially. And it is normally a strong seasonal period in 3Q. But what trend did you see there in late March? How has that progressed now into the fourth quarter?

Yes. So what I would say for Q3 is that even as early as January with New Year's resolutions, we were seeing increased engagement on our platform. Clearly, with the work from home, school from home environment, we obviously did see an uptick in engagement with our platform, with people at home and walking by their Peloton and probably reminding them that they need to get on it a little more than most people who are kind of commuting and going to and from work. So obviously, we've been excited about that increase in engagement. We also launched a couple of really fun fitness verticals like Dance Cardio and Fit Family Fun, which we already had in the works prior to COVID-19, but I think has given an ability for some of our Peloton members to share the fitness experience with the broader family. So we were excited about launching those last month as well. And we also have seen incredible engagement with the new live classes that we're producing from our instructor homes. I know we talked about the first ride with Robin having over 23,000 live riders. And we continue to see great engagement with our products. So people love recency, they love dialing into new classes. And so we're super excited that we're going to continue to produce new content at this time.

Okay. Just in terms of recency, we get this question a lot. Was just hoping you could hit on the percentage of classes that members are actually taking live. And then also, more of the recency effect, perhaps the percentage of classes that have aired in the last week or 2 weeks on a normalized, like pre-COVID type of...

Yes. So I'll answer the second question first because that's an easy one. I think, especially with the high level of engagement that we're seeing, recency really matters. And so what we've seen historically, and we continue to see is about 80% of the classes that are taken have been recorded in the last couple of weeks. Stepping back, one of the value propositions of the Peloton platform is the convenience factor, meaning you can take a class with what instructor you want, for the length of time that you want, the music you want, at the time of day that you want. And so as a result of that, we'd generally never seen, and if you look at the overall number of classes taken, a large percentage of that being live rides, the majority are taken on demand. So it's much more than 90% of all classes that are taken, are taken from that on-demand library, but that initial point that I made is that those classes that people are taken -- that are taken have been recorded in the last 2 weeks. So recency matters, but joining a live ride, unless you're celebrating a milestone like your 100th ride or 500th ride, there's general -- you don't see of people necessarily building their schedule around our live rides as much as maybe you would think.

Got it. Okay. That's helpful. All right. So your 4Q outlook, you've obviously crossed the 1 million subscribers, your high end, is it 1.05 million subscribers, about half of which will have joined basically in the past year. So clearly, very strong level of growth, where you've stayed around triple digit. But how do you think about that pull forward of subscribers? And what really gives you the confidence that accelerated pace of shift to connected home fitness and Peloton in particular, is sustainable going forward?

Yes. So when we look at our addressable market, right, it -- and this is stuff that -- research that we had done last year, we look at purchase intent to explain our addressable market. And purchase intent for us is our current products at our current price points. And even prior to COVID, I will emphasize the fact that our brand awareness has grown significantly, especially in our newer markets, like the U.K. and Germany and Canada, has grown tremendously over the last several quarters. And what we've seen over time is that purchase intent for our products, once people understand what we do, how the product works, purchase intent largely follows brand awareness. So what we've seen now post-COVID, and I understand that's the question on everyone's mind is, is this a pull forward of demand or is this really truly more expansion of your market? And we obviously, as a management team, need to understand that as much as anyone. And what we've witnessed, based on some research that we've done with our post-COVID buyers is these were people that actually did not indicate purchase intent for a Peloton product prior to COVID. And so with the majority of the new people that we're attracting to the platform did not previously have purchase intent for Peloton, we believe that, that is a significant expansion of our market opportunity. Clearly, there have been some sales, especially early on of people that thought, "Oh, I want to buy a Peloton. And now I'm going to buy it a lot sooner than I originally anticipated." but we think a large part of that is very much an expansion of our market. And I think when you further take a step back, we have 2.6 million members today. We have 90 million people in our 4 current markets that have gym memberships. And also based on our research, we do think people are going to be more hesitant to return to the gym and are thinking harder about home fitness options. And so we think that, that hesitancy in some of the research that we've done around how long it may take for gyms to open in a meaningful way or boutiques to open, we think the landscape is changing. And we think that, that is yet another data point that will continue to see an expansion of our market opportunity over time.

Okay. Great. Let's shift gears, let's talk about EBITDA profitability. So you should be EBITDA profitable in the back half of fiscal '20 and in the fiscal year overall. And you basically pulled forward that profitability by between 2 to 3 years, let's say. Can you just talk about the key drivers and what's changed here? And then also, even if it's more qualitatively, but how should we think about those puts and takes into fiscal '21?

Yes. So great question. Obviously, with the growth that we're seeing right now, what we're seeing in terms of fiscal 2020, to me, is a demonstration of the power of our financial model and how attractive it can be when we do achieve scale and leverage. We have some anomalies in fiscal 2020 in that we have turned off any cancelable media since around mid-March. And so we are seeing some cost savings. And obviously, in the future, when we launch new products, when we get back to normal, when our showrooms are open, we most certainly will continue to grow our brand awareness, especially in our more nascent markets like the U.K. and Germany. So some anomaly with respect to sales and marketing being lower, but do remember that in Q4, we're also -- that is somewhat offset by the additional costs that we incurred to launch our free trial for digital, and extended that free trial for 3 months and had 1.1 million people download that app and use that content for free during this time, which we were really excited to provide people while they're at home and sheltering in place, the ability to access great fitness content. So there is some offset to the cost of digital there. And we're also incurring some costs in terms of expediting shipments so that we could try to solve our order to delivery window as quickly as we can. And we're also paying our warehouse and delivery teams hazard pay as well, which again, we don't really expect beyond Q4. So there are some puts and takes there, but I do think that we've achieved scale of our platform sooner than expected, and it shows with what fixed cost leverage we do have. In terms of looking at fiscal '21, the one thing I can say is that I do believe we will see material leverage in operating expenses as a percentage of revenue going forward. It will be interesting to see the landscape of advertising and how things evolve there. But I do think based on what we're seeing today, we could see more sales and marketing efficiencies moving into fiscal '21. And we've always talked about the fact that this is a massive investment year for us as a newly public company in G&A. So we do expect a lot of operating leverage there. So I guess, without making any promises, going forward with respect to EBITDA profitability, I can say I'm pretty confident with the scale that we've achieved if we continue to grow the way we believe we're going to grow. I think it's a relatively attractive business model from both a top and bottom line perspective.

Okay. Let's follow-up just on your comment. You mentioned sales and marketing. It's always been an important part of your business and the customer acquisition process. What could change going forward there? Like how does your philosophy around advertising spending potentially change beyond the current environment?

Well, I think one thing we're experiencing right now is increased word-of-mouth, right, which we know is an incredibly efficient way for us to grow our business. And the focus that we've had on creating the best possible customer experience is really what's driving that. And so that's something that makes us incredibly excited. And so to the extent we're accelerating the growth of our member base, word-of-mouth should only become a bigger "sales channel" for us, which we're super excited about. In terms of the steady state, you're 100% correct in that we're going to continue to grow our brand and product awareness, especially in our more nascent markets. But we do spend a fair amount on TV advertising. And so if you think about the different types of programming that we typically advertise on, I think we're going to have to see what the right media mix is going to be or channel mix is going to be for us going forward. We tend to advertise during sporting events, fingers crossed, hopefully, that comes back sooner rather than later, but we're probably going to have to think a little more creatively about the channel mix going forward. But I do see us getting more efficient, largely due to word-of-mouth, but we will continue to grow our brand and prioritize growth in Connected Fitness subscribers. And in order to do that, we need to stay top of mind with consumers. I would also add that, of course, as we launch new products, we're going to invest behind that in terms of advertising. And thankfully, we already have a great showroom base. We have almost 100 showrooms across our 4 markets, which will be critical to launching new products. So we're really excited about our positioning going into '21.

Okay. Great. So I wanted to ask you about new products. It sounded like from the last earnings call, that you are pushing out the timing for your lower-priced tread, or at least that was my interpretation of it. How does this impact the cadence of new product launches overall, just as you think about the better, best strategy across bike and tread and then potentially, a rower as well. Maybe if you could talk about kind of the product launch cadence and how you're thinking about it.

Sure. So without giving any specifics away, in terms of new product timing. As you can imagine, we would love to launch a new product in an environment where not only can we enter the member's home and assemble the product properly, introduce the product properly to our new members, obviously, sufficiently train our workforce, whether it's delivery, whether it's member support and showroom specialists on that product. And so that does involve -- it's a very difficult thing to do virtually. And then the third thing is with showrooms. We know if you look at our bike sales and our tread sales today, prior to COVID, about 20% of our bike sales came through showrooms, about 40% of our tread sales came through showrooms. If you look at new markets like Germany where we're just selling bike today, 35%, 40% of those sales are in showrooms. And so we know that as it relates to new products, people want to touch and feel it. So of course, for us, the ideal environment for a new product launch would be for us to be able to have potential members come in and try the product and at least see the product before they buy it. So we hope that when we get to a more normalized period, we're obviously continuing to work hard on hardware development, software development. We've always said, better, best strategy in bike and tread. We will roll these things out when we're in the optimal environment for the consumer to be able to experience that new product. And I think it would be hard to, for example, do it in an environment like we're in today.

Okay. Let me take one from Zoom. So you've been a direct-to-consumer company, but curious how you think about insurance and benefit providers, right? Many employers have planned to subsidize gym memberships. Is there an opportunity to work with benefit providers or with corporations to cover part of monthly subscriptions or part of hardware fees? What's your view there?

Yes. That is a really great question. It's something that for the last, I would say, about 12 to 18 months, we've built an internal team to think about how we can potentially execute on something like that. I have nothing to announce today, but we're certainly talking to various healthcare providers and different businesses who want to provide better health and wellness to their employees. And as you can imagine, with Peloton and the amount of data that we collect in terms of usage, that we could be a very attractive platform and partner, not only for healthcare companies, but for businesses directly as well. So we're sort of building out some capabilities and teams there to analyze that as an opportunity, but nothing to announce today.

Okay. So while you've obviously done very well over the past couple of months, all of our Instagram feeds are also filled with lots of other home fitness options. So curious how you think about the competitive landscape in general. And then perhaps also just how it's shifted specifically over the past couple of months. And look, SoulCycle, Equinox is one that comes up frequently with investors. So just curious if you have any latest views there.

Yes. I mean, I think the current environment is really going back to this whole point without access to bricks-and-mortar fitness, whether that be big box or boutique. You obviously have a number of participants in home fitness, none that have the scale of the platform that we do. And of course, we have tremendous respect for both bricks-and-mortar competitors as well as those that are entering the digital and home fitness space. But we just go back to the fact that we've had a 6-year head start. We were the pioneer of the category. We think the network effect of the scale of our platform is huge. And with our balance sheet and our lead in the industry, we're going to just continue to invest aggressively in our platform. Certainly, we -- with the long order to delivery, it pains us to think that there's anyone that's turned to another home connected fitness product at this time, when they were potentially frustrated with the long lead time for our product. But as I said last week, we continue to see strong sales into May. What I feel good about is the fact that while we have these long order to deliver -- delivery windows, we feel very good that the elevated levels of sales still say that there is high demand for our product. And that people understand the difference of our platform versus other home connected fitness platforms. And again, I'd just go back to that scale benefit of having thousands of people on the leaderboard, the supportive community of members. I just don't think there's anything else like it out on the market. So we just continue to focus on our own business.

And another question from Zoom, but related to that, just curious about music and music rights. Is that a competitive advantage for you relative to some of your peers?

Yes. I mean, we believe so. I mean, as many know, it's been a long sort of battle, if you will, to sort of get to where we are today. I mean, we have millions of songs in our library that our members love. We've built our own internal platforms, not only that help us determine what we're -- what we have the rights to play, but very innovative platforms that our instructors use to create their own playlists. We believe we have the most sophisticated software in the world for our instructors to be really efficient and really effective at building their own classes. So everything that we've invested behind music, we think does -- and we know what a critical component that is to the platform. We know it's one of the most sought after ways in which people filter their classes, by the type of music that they like and how important that is to the fitness experience. And so we've made the requisite investments there, I think, ahead of our competitors and have, what we believe is the largest music library for fitness content in the world.

Okay. Great. All right. We're going to do a -- we're going to wrap up with a quick word association, okay?

Okay.

I'll give you 10 words or phrases, and then you can just tell me whatever first comes to mind. So member engagement?

Workouts.

Supply chain?

Sophisticated.

Digital subs?

Lead gen.

Connected Fitness gross margins?

High.

TAM and SAM.

Big.

Lower-priced tread?

Game changing.

Robin or Alex?

Alex and Robin, I don't know. I can't choose.

Good answer. That was a tough one. International expansion?

Measured.

Competition?

Respect.

And EBITDA profit?

Attractive.

All right. Good. We're going to leave it there. Thank you, Jill. Appreciate it. Thanks, everyone, for joining.

Thanks, everyone. Thank you to everybody participating. Thank you.

Bye-bye. Thanks.