A Promising Online Pet Retailer
Chewy has firmly established itself as a leading online pet retailer, providing pet owners with a wide range of products and services. Despite facing some challenges in recent years, such as a slowdown in revenue growth, Chewy remains an intriguing investment. While its revenue had been decelerating significantly since the economy reopened, there is renewed optimism about the company's future prospects. Management has indicated that they expect revenue to re-accelerate starting in 2025, with early signs of that rebound already visible in the latest financials. As Chewy continues to adapt to a post-pandemic environment, the company’s strategic focus on driving profitability and growth has the potential to result in strong financial performance moving forward.
In this article, I’ll be providing an update on my recommendation for Chewy stock, evaluating whether it’s a buy, hold, or sell. I’ll dive deep into the company's recent financial performance, including revenue growth trends over the last few years, its evolving cash flow dynamics, and the company's impressive returns on investor capital. Furthermore, I’ll examine the company’s future growth potential through an updated discounted cash flow (DCF) valuation model, which includes new forecasts for its free cash flow over the next several years. Additionally, I will assess Chewy's valuation using key financial metrics, such as the forward price-to-earnings (P/E) ratio and price-to-free-cash-flow ratio, to determine if the stock is currently undervalued or overpriced.
Earning Overview
Revenue Growth: The company reported net sales of $3.25 billion for the quarter, marking a 14.9% year-over-year increase and exceeding the anticipated $3.19 billion. Earnings Performance: Chewy achieved adjusted earnings per share (EPS) of $0.28, significantly outperforming the projected $0.03 and down from $0.07 in the same quarter the previous year.
Customer Growth and Engagement
Active Customers: The company's active customer base expanded by 2% to reach 20.5 million, contributing to the overall revenue growth. Autoship Program: Sales from Chewy's Autoship program increased by 21% to $2.62 billion, accounting for over 80% of total sales, up from 76% in the prior year.
Fundamental Analysis
Revenue Trends: Pandemic Boom and Post-Reopening Slowdown
Chewy's revenue growth over the past few years illustrates the significant impact that the pandemic had on consumer behavior and spending patterns. In 2020, as COVID-19 forced people to stay at home, Chewy saw a tremendous boost in sales as more customers turned to online shopping for their pet-related needs. The pandemic also saw a spike in pet adoptions, as people sought companionship during lockdowns, driving further demand for pet products and services. These factors helped Chewy experience a surge in active customers, increased order volume, and, ultimately, substantial revenue growth.
However, as the economy reopened in 2021 and people resumed their pre-pandemic routines, spending habits began to shift. Pet ownership rates saw a decline as some individuals returned pets, realizing that owning a pet is a long-term commitment that may be more challenging once daily life resumed. This led to a slowdown in demand for pet products and services, which was reflected in Chewy’s financial results for the subsequent quarters. Despite this deceleration, Chewy managed to maintain a resilient business model.
Most recently, however, Chewy’s revenue growth showed signs of recovery, with the latest quarter showing a modest 3% increase in revenue. Management has expressed confidence that revenue growth will continue to improve, forecasting mid-single-digit growth for the full year in 2025. This recovery in growth reflects Chewy's ability to adjust to shifting market conditions and capitalize on opportunities in the pet care industry. With the company’s strategic investments and focus on customer retention, Chewy is poised to experience more stable and consistent growth in the years to come.
Prudent Management Decisions for Sustainable Growth
What sets Chewy apart from other companies that struggled during the pandemic is its management team’s measured and strategic approach to growth. While many companies, such as Peloton, made aggressive expansions and capital investments during the pandemic boom, Chewy’s leadership made the smart decision to avoid overreacting to the surge in demand. Unlike some competitors who were quick to expand manufacturing capacity and diversify aggressively based on short-term gains, Chewy focused on long-term sustainability and profitability.
This caution in expanding manufacturing and operations has allowed Chewy to avoid the risk of overcapacity and high fixed costs in a fluctuating market. Moreover, rather than aggressively pursuing market share at any cost, Chewy chose to invest in technologies that would improve operational efficiency, such as automation, robotics, and more robust inventory management systems. These investments have helped Chewy improve its cost-to-serve metrics and enhance its ability to manage operations more effectively, ensuring that profitability remains a priority. As a result, Chewy has positioned itself well to capitalize on future growth opportunities without overextending itself in the process.
This focus on profitable growth—rather than just expanding for expansion’s sake—makes Chewy a more attractive long-term investment for those who value operational discipline and sustainable growth. Investors can appreciate a company that is focused on investing in its core strengths and expanding in a way that is both responsible and aligned with the broader market opportunities.
Guidance
CEO Sumit Singh expressed confidence in the company's trajectory, attributing the strong performance to solid active customer growth and robust loyalty among Autoship customers. Looking ahead, Chewy projects earnings between $0.30 and $0.35 per share for the current fiscal quarter, with net sales estimated between $3.06 billion and $3.09 billion, both above analysts' forecasts. For the full fiscal year, net sales are anticipated to be between $12.3 billion and $12.45 billion.
Free Cash Flow
(CHWY) has demonstrated a positive trend in its cash flow performance over recent years. In the fiscal year ending January 2024, the company reported operating cash flow of approximately $419.4 million, a significant increase from $349.8 million in the previous year. Capital expenditures have remained substantial, totaling $151.0 million in the same period, reflecting Chewy's ongoing investments in infrastructure and growth initiatives. Despite these investments, the company has maintained a positive free cash flow, amounting to $294.2 million for the fiscal year ending January 2024.
Risks and Challenges
Increased Competition Chewy faces substantial competition from both traditional brick-and-mortar pet stores and other e-commerce platforms, including Amazon, which has a strong presence in the pet product sector. Additionally, new and existing competitors, such as Petco and Walmart, are also expanding their online offerings, which could impact Chewy's market share and growth potential.
Customer Retention and Acquisition Costs Chewy’s business model relies heavily on customer acquisition and retention, particularly through its Autoship program. While Autoship is a significant revenue driver, Chewy must continue to innovate and offer value to maintain customer loyalty. If customer growth slows or the cost of acquiring and retaining customers rises, it could impact profitability. Additionally, customers can switch providers if Chewy fails to meet expectations, making it a challenge to maintain a strong customer base.
Economic Sensitivity Chewy's performance can be affected by broader economic conditions. In times of economic downturn or uncertainty, consumers may reduce discretionary spending, including on premium pet food and products. This could hurt revenue growth and make it harder for Chewy to maintain or grow its customer base.
Profitability Pressure Although Chewy has shown strong revenue growth, maintaining profitability can be challenging. The company's capital expenditures, investments in technology, and expansion efforts, especially in new markets like Canada, could continue to exert pressure on margins. As the company competes with larger, established players, it will need to balance growth investments with profitability.
Valuation
DCF Calculation for Chewy (2025-2029)
Projected Free Cash Flow:
Terminal Value Calculation:
Terminal Value = $377.4 million × (1 + 3%) / (8% - 3%) = $7.55 billion (rounded)
Discounting Cash Flows:
Discounting Terminal Value:
Discounted Terminal Value = $7.55 billion × 0.681 = $5.14 billion
Total Enterprise Value:
Enterprise Value = $272.7M + $272.2M + $269.6M + $264.4M + $257.9M + $5.14 billion = $6.48 billion
Equity Value:
Assuming Chewy has $500 million in net debt (a conservative estimate), the Equity Value would be: Equity Value = $6.48 billion - $500 million = $5.98 billion
Intrinsic Value per Share:
Chewy has approximately 180 million shares outstanding, so: Intrinsic Value per Share = $5.98 billion / 180 million shares = $33.22 per share
Based on this DCF model, Chewy's intrinsic value per share is approximately $33.22, which is in line with its current stock price of around $33.25. This suggests that Chewy's stock is fairly valued at the moment, according to this model.
However, it’s important to note that DCF models are sensitive to the assumptions used, such as the growth rates, discount rates, and terminal growth rate. Any changes in these assumptions could significantly impact the valuation.
Market sentiment
Looking ahead, Chewy still has significant growth potential. The U.S. pet market alone is valued at over $110 billion annually, and Chewy's revenue represents just a small fraction of this market—less than 20%. This indicates that Chewy has ample room for growth as it continues to expand its market share. Additionally, Chewy’s expansion into the Canadian market further expands its total addressable market, presenting billions more in potential revenue.
Despite this growth potential, Chewy's management will need to continue making strategic investments to capture more of the market and sustain long-term growth. While the company has shown impressive results without excessive capital expenditure in the past, future growth may require additional investments in infrastructure, technology, and market expansion. However, given Chewy’s history of prudent decision-making, there’s confidence that these investments will be made with a focus on profitability and long-term value creation, rather than just chasing revenue at any cost.
Conclusion
Given Chewy’s promising growth prospects, disciplined management approach, and strong financial performance, my updated recommendation for Chewy stock is a Hold. The company has demonstrated the ability to adapt to market changes, optimize its operations for profitability, and tap into a substantial and growing market opportunity. With an updated valuation that suggests the stock is currently undervalued, Chewy offers an attractive investment opportunity for those seeking exposure to the pet industry.
Disclaimer: I want to make it clear that I am not a financial advisor, and nothing I say is intended to be a recommendation to buy or sell any financial instrument. Additionally, it's important to remember that there are no guarantees or certainties in trading or investing, and you should never invest money that you can't afford to lose.
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