Peloton sinks: Great product, not a great stock, analyst says

Shares of Peloton Interactive (PTON) have fallen by as much as 20 percent on Thursday after reporting mixed second-quarter results. Third-quarter guidance was also a disappointment for investors.

Needham & Company Managing Director Bernie McTernan points to one issue: how much the company is spending on marketing compared to the payoff they're getting from it. "The difficulty is that... this past quarter they spent $200 million on marketing, but net adds for their connected fitness subscriptions were only up forty thousand. So it's really that equation...it's just not working," McTernan says. Overall, McTernan states "The problem is, it's a great product, just not a great stock at this point."

Watch the video above to hear who McTernan says could potentially buy Peloton as speculation grows that it could become a takeover target.

For more expert insight and the latest market action, click here to watch this full episode of Yahoo Finance Live.

Editor's note: This article was written by Stephanie Mikulich.

Video Transcript

SEANA SMITH: Let's take a look at Peloton. Shares are plunging this morning after reporting second quarter results that disappointed the Street. You're looking at a loss. Look at that, 18%, below 5 bucks a share.

Now, the exercise equipment maker showing mixed results. Beating on revenue, but it did report a slightly steeper than expected adjusted loss per share. Here with more reaction, we want to bring in Bernie McTernan. He is Needham and Company's managing director.

Bernie, it's great to have you here. I think a lot of investors are scratching their head trying to figure out what exactly the future looks like for a name like Peloton. The company has failed to really turn around its business now for the last couple of years, ever since it's hit its high in the height of COVID. What do you think the future looks like for Peloton?

BERNIE MCTERNAN: Yeah. Well, it's challenging right now. And so in the holiday important period for Peloton, adjusted EBITDA coming in lighter than expected. So that's both for the December quarter and then the guidance for the March quarter.

And really the difficulty is that they spend-- it's LTV to CAC. This past quarter, they spend $200 million on marketing. But net adds for their connected fitness subscriptions were only up $40,000. So it's really that equation is just not working.

And so Barry, on the call, mentioned that they could make some significant structural changes to their marketing budget to drive operating leverage, which would certainly help. But right now, it's a company that still has probably just under $3 billion of enterprise value at this point. And so getting back to EBITDA positive next year is really important. But to generate the hundreds of millions of dollars to support that valuation is important.

BRAD SMITH: Stock's down 72% over the past year, down another 16% here today. Bernie, you still got a hold on it. What would you need to hear to ultimately pivot that rating and say, hey, this is a sell at this point?

BERNIE MCTERNAN: Yeah. Look, the problem is it's a great product, just not a great stock at this point. I think most of the bad news is already factored in to me. So for me to get even more bearish, it would have to be that we would even be longer away from getting back to adjusted EBITDA, longer way to getting to free cash flow positive.

And that's why I mentioned the important things that Barry calling out on the call saying that there could be structural changes coming. And then sales and marketing matters, but ultimately it's revenue growth as well. And so they were calling out success that they've had with third party retailers, so that's like a Dick's Sporting Goods or an Amazon. Also, with their rental program as well too.

So it's really balancing revenue growth versus profitability. And then I think, ultimately, like what's difficult for the company right now too is balancing the short term versus the long term. And so getting back to revenue growth, if they're able to do it in this challenging market for connected fitness, would obviously be the most bullish thing for the company. But if you're managing costs more in a near-term basis, have you focusing more on things like cost cutting and price increases to really maximize those 3 million connected fitness members that you have. But again, that's probably not the best for the long-term opportunity.

SEANA SMITH: Bernie, talking about that long term, the fact that, like you just said, Peloton, its business, it has products that are attractive, do you think it could be-- is it a potential takeover target? Something that we have been talking about now for, what, 12 to 18 months.

BERNIE MCTERNAN: I know. Well, I think some of the culprits that we-- or potential M&A candidates that we're talking about before that could take over Peloton, probably a bigger fish to fry now than connected fitness market, thinking about generative AI. So Apple and Amazon always came to mind.

I just think they're probably focused on larger opportunities now. And then also with Amazon, the iRobot acquisition getting shot down earlier. It's unclear what they would be able to buy or not.

And then so that's why I mentioned short term versus long term. That short-term perspective is almost like a private equity angle. And so I think that that's what you would have to be looking at in terms of you know takeout candidates. I think that would probably make the most sense at this point.

BRAD SMITH: What is the best pivot that connected fitness companies can and need to make right now? I mean Peloton, even in this quarter, they were talking about just making sure that people could rent them at first and then transition them into sales. What is the overall categorical shift that needs to happen?

BERNIE MCTERNAN: Yeah. Well, I think it's that dealt with a big pull forward from the pandemic and that's what you're dealing with now. And you know, Barry talking about know what's going to drive growth in the future and just like aging population, things that we talk about. But there's a lot of you know 35-year-olds now who might own a bike that would have been buyers at 45 years old, but it got pulled forward during the pandemic.

So I think just going after new ways of product market fit, they were leaning in early on their free digital app. Now, they're leaning in on paid digital apps. I mean, they're just doing a lot of different things to try to see what sticks to be honest.

And the other thing that Barry alluded to on the call is that there will be more on new products coming to market over the next year or two and geographic expansion as well. So I think those are continuing to see kind of what can drive growth here in terms of new market opportunities for the business. Because ultimately what they want to do is they want to leverage their content.

They have best-in-class content, so how can you leverage that in different ways? The TikTok partnership, they were scant on details in terms of what they expect that benefit to be. But that's another example of leveraging content to hopefully engage their audience more and on other platforms

BRAD SMITH: Yeah, it sounds like it's not going to be in University of Michigan colors anymore though, Bernie, based on what was in the release here. Bernie, I appreciate the breakdown. Bernie McTernan breaking down all things ticker symbol PTON. Peloton down 18% right now.