Peloton Interactive, Inc. — Fiscal 2023 Third-Quarter Form 10-Q
Reporting period: Three and nine months ended March 31, 2023, compared with the same periods in 2022. Peloton operates an interactive fitness platform offering Connected Fitness Products and recurring subscriptions. The company reported 6.7 million Members and 3.1 million ending Connected Fitness Subscriptions at March 31, 2023.
Financial Performance and Position
| Metric | Three months ended March 31, 2023 | Year-over-year change | Nine months ended March 31, 2023 | Year-over-year change |
|---|---|---|---|---|
| Total revenue | $748.9 million | (22.3%) | $2,158.1 million | (25.7%) |
| Connected Fitness Products revenue | $324.1 million | (45.5%) | $909.8 million | (51.9%) |
| Subscription revenue | $424.7 million | 14.8% | $1,248.3 million | 23.4% |
| Gross profit | $270.2 million | 46.7% | $722.4 million | (0.8%) |
| Gross margin | 36.1% | Improved from 19.1% | 33.5% | Declined from 25.1% |
| Loss from operations | $(266.0) million | Improved from $(735.8) million | $(971.3) million | Improved from $(1,521.2) million |
| Net loss | $(275.9) million | Improved from $(757.1) million | $(1,019.9) million | Improved from $(1,572.4) million |
| Adjusted EBITDA | $(18.7) million | Improved from $(194.0) million | $(173.7) million | Improved from $(694.2) million |
| Free cash flow | $(55.3) million | Improved from $(746.7) million | $(396.0) million | Improved from $(1,945.5) million |
Margins and segment performance: Connected Fitness Products generated gross losses of $17.6 million in the quarter and $116.0 million year to date, with gross margins of (5.4%) and (12.8%), respectively. Subscription gross profit was $287.8 million in the quarter and $838.5 million year to date, with subscription gross margins of 67.8% and 67.2%. Subscription Contribution Margin was 72.3% in the quarter and 71.9% year to date.
Cash flow and liquidity: Cash and cash equivalents were $873.6 million at March 31, 2023, down from $1,253.9 million at June 30, 2022. Cash, cash equivalents, and restricted cash totaled $952.9 million. Nine-month operating cash use was $332.2 million; capital expenditures and capitalized software costs were $63.8 million. Management stated that existing cash and expected operating cash flows should fund working capital and capital expenditures for at least the next 12 months, while noting that additional financing could become necessary.
Debt: The company had $1.0 billion principal amount of 0% convertible senior notes due February 2026 and a term loan with $750.0 million principal, reduced by $5.6 million of repayments. The term loan’s effective interest rate was 13.7% after November 25, 2022. The revolving facility was undrawn at quarter-end, and outstanding borrowings under the credit agreement totaled $744.4 million. Total liabilities were $3.14 billion, compared with $4.03 billion of assets, resulting in stockholders’ deficit of $127.0 million.
Material Changes Versus the Prior Comparable Period
- Product revenue declined sharply as deliveries normalized after pandemic-driven demand, while subscription revenue grew from higher subscription counts and the All-Access price increase from $39 to $44 per month effective June 1, 2022.
- Ending Connected Fitness Subscriptions increased to 3.1 million from 3.0 million, while average net monthly churn increased to 1.1% from 0.8%.
- Gross profit improved in the quarter because of lower inventory reserves and restructuring-related payroll costs, but year-to-date product margins deteriorated because of promotional pricing, inventory reserves and write-downs, and recall-related charges.
- Sales and marketing expense declined 32.1% in the quarter and 40.7% year to date, primarily because of lower advertising, marketing, and personnel spending.
- Restructuring charges were $48.0 million in the quarter and $280.2 million year to date. The company expects approximately $20 million of additional cash restructuring charges and approximately $35 million of additional non-cash charges.
- Inventory declined to $625.7 million from $1.10 billion at June 30, 2022, but included $216.4 million of reserves, primarily for excess accessories and apparel and returned products.
- The company adopted ASU 2020-06, increasing the carrying value of the convertible notes and reducing additional paid-in capital by $160.1 million.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
Outlook: Management maintained its long-term view of the Connected Fitness opportunity but acknowledged substantial difficulty forecasting near-term demand and operating performance. The company is exiting owned manufacturing, expanding third-party manufacturing and logistics relationships, reducing retail and support operations, and expects the restructuring plan to be substantially implemented by the end of fiscal 2024. No specific revenue or profitability guidance is provided in the filing text.
- Product recalls and corrective actions: The Tread+ full-refund period runs through November 6, 2023. Recall-related return reserves were $29.3 million at March 31, 2023, and recall-related costs recognized in the quarter were $13.2 million. Peloton accrued $8.4 million for a proposed corrective action plan involving seat posts on the original Peloton Bike. The company stated that additional losses could be material but could not estimate them.
- Legal and regulatory matters: Peloton agreed to a $19.1 million CPSC civil penalty related to the Tread+ recall. It also entered into a May 2023 settlement with DISH involving a one-time $75.0 million payment to resolve patent litigation. A securities class-action settlement of $14.0 million remained subject to court approval as of the filing.
- Liquidity and financing risk: The company continues to incur operating losses and negative free cash flow. The term loan and convertible notes create substantial future obligations, and additional equity or debt financing could dilute shareholders or increase restrictions and debt service.
- Commitments: Contractual obligations totaled approximately $3.05 billion, including leases, music-license minimum guarantees, convertible notes, term-loan obligations, and other purchase commitments. Contract-manufacturer inventory and component commitments were approximately $211.9 million.
- Internal controls: Management concluded that disclosure controls were ineffective because previously reported material weaknesses concerning inventory controls and impairment-analysis controls remained unresolved as of March 31, 2023. Management stated that the financial statements were fairly presented after additional procedures.
- Subsequent events: On May 2, 2023, the revolving credit commitment was reduced from $500.0 million to $400.0 million and the minimum trailing-revenue covenant was removed, subject to revised borrowing limitations. On May 1, 2023, the CEO’s annual base salary was increased from $1.0 million to $1.25 million.
Most Important Facts for Investors to Verify
- Whether subscription growth and high subscription contribution margins can offset continuing product-revenue declines and negative product gross margins.
- The pace and magnitude of cash burn, including the effect of recall costs, restructuring payments, debt service, and future legal settlements.
- The adequacy of cash resources relative to the $1.0 billion convertible notes due in 2026 and the term loan’s potential springing maturity provisions.
- Actual costs and timing of the Tread+ recall, original Bike seat-post corrective action, and other product-safety matters.
- Whether the restructuring plan delivers expected savings without further impairments, inventory charges, supplier settlements, or service disruption.
- Remediation and auditor assessment of the material weaknesses in inventory valuation and impairment controls.
- The final effect of the DISH settlement, the CPSC and DOJ matters, securities litigation, derivative claims, and other pending proceedings.