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Peloton: Fitbit 2.0, or Netflix 2.0? $PTON

Posted December 28, 2020

I love exercising. I do it basically every day (well, once a week I'll generally take a White Claw inspired day off). I used to do it two times a day, and I'd still like to if I could, but as I've gotten older time demands have generally precluded two work outs a day. Still, I'm pretty religious about blocking out an hour to an hour and a half for a good workout every day.

COVID's kind of sucked for that. Most of my favorite exercises involve some type of weight lifting, a machine based high intensity workout (I rowed in college, so 8 x 500m on an erg once or twice a month is something of a ritual), or a class based workout (I was a regular at three different boutique gyms in NYC, and most of the instructors knew me by name). None of those workouts have been available to me during COVID; it's pretty much been only body weight HIIT video classes or running outside.

With the weather getting colder and another round of lockdowns looking more and more likely, I splurged and got a Peloton (bike) over Thanksgiving. It won't be delivered until mid-January, but I've been using the Peloton app for the past ~3 weeks and absolutely loving it.

I know what you're thinking: why the fudge is this guy who writes a finance blog regaling us with stories of his fitness life? And how much money was he spending on work out classes to have instructors at three gyms know him by name?

In reverse order, the answer to those questions is

  1. Too much, but I made a decision a while ago that fitness was something I'm really passionate about and it was one of the few areas in my life I was comfortable splurging a little.
  2. Because I wanted you to know why I've been thinking about Peloton so much

Anyway, long winded intro to get into a thought I've been kicking around recently: with Apple launching Apple fitness, why am I not concerned about Apple crushing Pelton?

I will admit that I am not an expert on Apple or Peloton; my diligence consists of having followed the space for a while, reading Peloton's last shareholder letter, and having taken ~50 Peloton classes. So I come at this much more from a "curious business analyst interested in the space " than I "definitively believe this and am staking my life on this" position. Take that for what it's worth.

That said, I could point you to history that would suggest either outcome (Apple crushing Peloton, or Peloton thriving despite Apple) are possible.

On the bear / Apple crusting them side, the precedent here is clearly Fitbit. It's easy to forget now, but Fitbit was a $10B+ company when they launched. Then Apple came out with Apple watch, and a bunch of knockoff competitors came in the space, and now Fitbit is selling themselves for a (relative) song to Google.

If you're a bull, you'll probably quickly say Peloton is not Fitbit, and the comparison is silly. I hear you. But, as I write this, Peloton's market cap is approaching $50B. The company has sold under 600k bikes, so their EV / bikes sold is around $83k. Clearly the market is screaming that they love the lifetime value (and growth opps) from this business. If you're Apple and you're trying to launch Fitness+, why isn't that math screaming to you "just make and give a bike away to everyone who has an Apple watch?" I get that sounds silly, but I doubt a bike costs even $1k to make. If Apple just gave away 1m bikes, it would cost them ~$1B..... but it would capture a huge percentage of Peloton's future growth and jump start Fitness+ while also further locking people into the Apple ecosystem. Look, I don't know, but the market is screaming this is a valuable business that is worth huge multiples of what it costs to make these bikes. Apple has plenty of assets and cash on their balance sheet, and it seems like they could build a viable competitor overnight for an absolute fraction of what Peloton is valued at. Maybe that's crazy, but given the valuation of Peloton it seems like something of a bear case for them, no? (A counter counter argument here: this "the implied value is so far above what they've done so far" has been tossed around on Tesla for years, and neither that argument nor the fact that they are barely growing has ever slowed them. Of course, Apple is set to enter that market too...)

For the PTON bull case, for years people have said competitors would crush Netflix. Amazon Prime, Disney+, Apple Tv.... bears have always pointed to a looming wave of competition. None of them have really slowed Netflix down. Why can't Peloton be like Netflix: a beloved category killer that tech giants keep trying to attack but can't encroach due to a variety of little things and scale benefits? Comparisons to Apple or Tesla would make sense as well: beloved companies that moved first and created a best of class product in a market, and no larger player could ever match their quality / consumer love / tight ecosystem integration.

So I guess the question is: why did Netflix thrive while Fitbit died?

A lot of people will point to management being the differentiator. On our podcast, Mario Cibelli suggested to me that Reed Hastings was the best manager he's ever met, so there's certainly something to that. But it's not like Fitbit's management were slouches; they were led by their founders (some of their quotes in this interview about being a focused player competing against deep pocketed rivals are interesting). Fitbit was a hardware startup; building that from the ground up into a >$1B company that had near universal brand recognition is no small feat!

It's kind of interesting to think about that for a second. Remember Netflix started out mailing DVDs and pivoted to streaming and making their own content. So, in many ways, the lesson of Netflix versus Fitbit could be that you need to pivot from the physical world / hardware into "software" in order to survive an onslaught from tech giants. That would suggest a point in Peloton's favor: the market clearly isn't valuing Peloton as a hardware company; what the market is so interested in is Peloton's subscription product and the potential growth there. (PS- I know a Netflix comparison for a fitness company might seem a little unusual, but I think it makes sense. After all, Peloton is must watch TV in 2020).

Bulls might point to Peloton's community and the game like nature of it (hitting your different challenges, having your workout history, etc.). There's definitely something to that; if you left Peloton for a competitor, you'd lose all that history. Which would suck. And if you and your friends take a Peloton class every day at 7, there's a little bit of a community moat there: if you switched to a competitor, you'd lose that connection with your friends. Even if a cheaper competitor came out, you might stick with Peloton just to keep that connection.

I think that all makes sense.... but I do remember Fitbit had some nascent efforts at this. Fitbit had a bunch of historical data on their users, they had games and challenges every day, and they were definitely aware of the social aspects of their challenges and tried a few times to lean into those. I remember my family would have a daily step competition against each other that we both loved. We lost that when I upgraded to Apple Watch. Obviously Peloton has this community more built out than Fitbit ever did, but I'm just saying there's precedent for a larger tech company using their huge scale and other assets to dominate a nascent competitor, even after that competitor has gotten its hardware to millions of people.

So look. I don't know. I've just really been enjoying my Peloton, and the stock and situation is really interesting. I have friends who think this is Tesla 2.0 and are riding this thing to $1k/share, and I have friends who think this is Fitbit 2.0 and it's going to get crushed the moment real competition comes online (and the world gets a little bit more back to normal and people can go to in-person gyms). I'm somewhere in the middle: I love the product and think the moat is way more defensible than Fitbit, but I have no idea how to justify the valuation and do think competitors will blunt a lot of their growth in the end. Gun to my head, I'd want to be bullish: the recent history of having something with crazy high NPS that controls the credit card for a million+ active users is that the companies can grow into huge valuations and have massive strategic value, but Peloton's valuation has already hit the point where you can make a credible pitch that Apple could create value by just giving away bikes for free. That's a big valuation!

One last thing on Pelton's growth. One of the great things about the Peloton model is that users (in general) love their brand and Peloton has all of their credit card information. I don't see why Peloton can't use that brand to expand into a bunch of other things. The most obvious has to be apparel. Millions of users take Peloton classes every week, and Peloton instructors are celebrities among the users. People tend to wear what celebrities wear, and the Peloton celebrities increasingly wear Peloton gear. With that marketing and Peloton's brand, eventually users are going to wear a ton of Peloton clothing as well. How much? Who knows. But Lululemon built a $50B apparel company out of love of yoga, and Under Armor built an $8B company from dominating football gear. Isn't Peloton eventually going to have a multi-billion dollar apparel business inside of it? So yeah, maybe Peloton is overvalued if you only thought of them as a subscription workout business.... but if you think of all of the possibilities as they grow and with all the data they have (why couldn't they partner with health insurance to give members discounts for taking workout regularly? Wouldn't that both increase their moat and be a source of profit? Fitbit had efforts at something similar, but I think a partnership that got a multi-thousand dollar bike into your room would be stronger than a partnership that got a $20 watch on your wrist), there is a lot of upside optionality here.

PS- I've also been wondering if there's a fintwit Peloton community. If not, I'll happily coordinate one once I get the bike. I'm thinking it's pretty simple; a regular bike class once a week that we all attend / push each other on. If there's already one out there, let me know. If there's not and you're interested, slide on over to my DMs and I'll figure something out once my bike gets in (January 21-ish).

PPS- I've frequently seen people discuss the "fitness instructor inflation risk." The argument can be cut a few ways, but it comes down to "how will Peloton afford their instructors as competitors pop up?" I'm not too worried. I think you could break the argument into two different categories: how will Peloton keep their instructors if well funded start ups try to pick them off, and how will Peloton keep their instructors if Apple is willing to massively overpay in order to build a competitor? Let's address the first point first: what if some start ups get big VC checks and try to steal an instructor? Peloton has 1m+ paying subs and data on each one; I guarantee you they know exactly how much each instructor is worth based on how many people watch their classes, number of repeat classes, ratings, etc. So put yourself in competitor's shoes. Say you're going to go to Peloton's most popular instructor and offer them a huge paycheck to leave. How many of Peloton's 1m subs are actually going to leave to follow one instructor? I would bet the answer is not many, but Peloton is going to have a good idea. Peloton has the chance to match what you offer if they see value add in keeping their instructor, or just let the instructor walk if you (the competitor) are overpaying. And Peloton's scale should give them a big advantage in pay; if they end up having to paying $500k/year/instructor... well, they amortize that over a 1m+ user base (so it's <$1/year/instructor/member). A competitor would be amortizing that over a much, much smaller base. So I think start ups will have trouble grabbing PTON instructors. What about Apple stealing instructors? Well, that's a risk, but I don't think any one instructor makes or breaks PTON. So they'll have a chance to replace instructors as they leave and build new celebrities. And I also think instructors might be wise to stick with Peloton: say you leave PTON to go over to the Apple competitor. How many eyeballs are going to be on you? Celebrity fades quickly when you're not in the public eye; are all those celebrities going to be joining you for guest rides and tagging you on Instagram when you're on a different platform than they are? And that's to say nothing of the side hustle opportunities; remember, being a celebrity is monetizable these days. If you leave Peloton and your celebrity starts to fade because you're getting overpaid by a smaller Apple platform, what happens as you slowly lose instagram followers. Do those endorsement deals dry up? Will you miss the Vanity Fair pieces and New York times pieces that you get quotes in once a year? All in, I just can't imagine that Peloton's downfall comes because they can't afford to pay their instructors or because they're losing instructors to a competitor (and that's assuming that big numbers of clients would actually follow instructors as they left, which I don't really believe).

  • I'd also suggest that the history of people trying to poach celebrities to jump start subscriber numbers is pretty poor. Think of all of the start up video services that have tried to use a show with a celebrity to pull in new subs (Quibi, we hardly knew ye, and how did Mixer taking Ninja from Twitch workout for them?). Peloton instructors are only celebrities to current Peloton members, so if you poach one you're doing so explicitly to steal Peloton members as they're the only people who will care. How many current Peloton members are going to abandon their community, their bike, their autopay membership, and their relationship with other instructors to go to Apple Fitness just because their favorite instructor left? I would guess the answer is "very low", even if Apple was offering them a free bike trade in. Just too much hassle to switch from a product you know and love with plenty of other instructors who you probably have a good "relationship" with.
  • One other fun thing on this: if you've got a Pelton, you'll notice that at every break instructors are calling out milestones ("200 cycling classes for Jess; way to go! Welcome to the comma club; congrats on your 1,000th class Andrew!). This is clever for two reasons: for newcomers, it's enforcing the game like aspect of Peloton that hitting milestones is the goal. That encourages users to develop the habit of doing Peloton classes every day. However, it's also useful for locking in users. The people who rack up the most milestones are also the people most likely to grow attached to coaches. So, when a coach leaves, a user faces a choice: follow the coach and lose all of those milestones, or stick with the status quo and keep all your milestones. My bet is that very, very few people will form a bond deep enough with an instructor that they will drop Peloton for a competing service if the coach leaves. Inertia is a powerful force, and add to inertia losing all your milestone status... again, I doubt tons of people leave Peloton if they lost a star instructor or three.

PPPS-I thought this was an interesting look at how Peloton instructors tryout and join. It's from Peloton corporate, so obviously it's very much spun in their favor, but still interesting.

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Michael Loeb
Michael Loeb
2 years ago

How do we talk about the massive value of the subscribers without any analysis of the churn? There are slides in the investor day deck that suggest churn was heading higher before the pandemic saved them. Since people who take advantage of zero-cost financing are locked in for 39 months, it would be interesting to know what the churn is for the zero-cost financing folks vs. the people who bought the bike outright. Or at least the split of current subscribers who are currently on the zero-cost financing 3-year plan.

The bear in me says the underlying churn is way higher than advertised due to this dynamic.

Paul Lee
Paul Lee
2 years ago
Reply to  Michael Loeb

wasn't advertised vs actual churn also a concern with $NFLX bears during their early streaming years?

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