Peloton is the feel-bad story that keeps on giving.

On Tuesday, the company reported lackluster earnings as it failed to meet expectations and saw widening losses, increasing inventories, and a decrease in overall cash levels. Not exactly what investors were hoping for under the helm of new CEO Barry McCarthy.

In the three-month period ended March 31:

• Peloton had a loss-per-share of $2.27 vs. the $0.83 expected by The Street.
• Net losses widened to $757.1 million.
• Revenue came in lower than anticipated — $964.3 million vs. $972.9 million expected.
• Cash and equivalents for the quarter were down 22% year-over-year.

McCarthy joined the company roughly three months ago with a plan to change its narrative from spinning out of control to peddling its way forward. Thus far, the road has been arduous.

In his letter to shareholders, McCarthy highlighted just how difficult the undertaking will be: “Turnarounds are hard work. It’s intellectually challenging, emotionally draining, physically exhausting, and all consuming. It’s a full-contact sport.”

On the other end of the spectrum, brick-and-mortar gyms have seen sharp increases in both revenue and profitability. In the past week, we received strong earnings reports from both Planet Fitness and LifeTime Fitness in a stark reversal from the 2020 “shift to digital fitness.”

In the first quarter of 2022, Planet Fitness saw almost all of its financial metrics increase year-over-year. 

• Total revenue increased by 66.9% to $186.7 million.
• System-wide same-store sales increased 15.9%.
• Net income increased to $16.5 million from $5.6 million in the previous period. 
• 37 new Planet Fitness stores were opened during the quarter.

LifeTime Fitness is having an equally notable run as the gym company sets its sights on expansion. In the first quarter, LifeTime’s sales soared 50% year-over-year and memberships rose 24%. The company plans to add to its 160 locations with another 12 in 2022 and in 2023.

While both companies have surpassed most financial expectations in the market, neither has benefitted when it comes to share-price appreciation. Planet Fitness and LifeTime are down 21% and 17%, respectively.

The entire landscape right now is a bit confusing. Just 18 months ago, connected fitness seemed here to stay.

Fast-forward to today and connected fitness companies like Peloton and Beachbody have undergone restructuring in their platforms and pricing models, sales have slowed substantially, and customers are increasingly opting for in-person workouts instead.

Making Sense of the Numbers

Even during its most tumultuous times, Peloton boasts a less 1% churn rate. The figure is impressive regardless of industry, and indicative of the fact that Peloton has already solved the most difficult part of the puzzle: product-market fit.

With a loyal user base and a track record of growing connected fitness users month-over-month for three-plus years, how are things going so poorly?

According to the company’s financials, it’s a cash issue.

• In the third quarter, Peloton’s free cash flow was negative $746 million, meaning that cash generated after operating expenses and capital expenditures is nonexistent.
• The business’ revenue growth decreased by 24% to $946 million during the quarter.
• For every $1 dollar of revenues, Peloton has to burn through 79 cents of free cash flow.

Peloton currently has $879 million of cash on its balance sheet. The company was also recently able to take out a five-year loan from J.P. Morgan and Goldman Sachs for $750 million. Add up the existing cash on the balance sheet and the new loan from the banks and the company is operating with $1.6 billion. 

However, the business is expected to burn through approximately $500 million of its cash flow during the next quarter. This means that Peloton — even after getting a $750 million loan — only has enough cash on hand to survive three quarters at the current burn rate.

In the earnings call, McCarthy insinuated that the company is aiming to be cash-flow positive by 2023 — a tall task by any stretch of the imagination.  

The biggest hurdle is going to be hardware. On the call, McCarthy stated, “We need to be good at hardware, but being good at hardware is not nearly sufficient and that calls for a shift in the investment priorities of the business.”

The sentiment suggests that a continued shift to a subscription-first approach is imminent, but it also looks like Peloton is still set on diversifying its hardware portfolio.

On Friday, the company teased its long-awaited Peloton Rower. While no financial or product information was released, the partial reveal seems odd given the surrounding circumstances, and you’d think McCarthy would know better.

“The balance-sheet challenge has been managing inventory,” he said in the aforementioned letter to shareholders. “We have too much for the current run rate of the business, and that inventory has consumed an enormous amount of cash, more than we expected, which has caused us to rethink our capital structure.”

Existing customers love Peloton’s products, but the company put itself on an unsustainable growth trajectory by positioning itself as a tech stock. Without the requisite cash-fund growth, the downward spiral continues.

The Real Issues Are Bubbling Up

So, has the connected fitness bubble popped?

Peloton’s woes alone do not represent the crumbling of digital fitness — quite the opposite. The product works, and people love it. The issue is how we perceive the company.

It’s just that facilitating the level of growth that Peloton experienced from 2019 through 2021 (547% increase in share price) is extremely difficult when the core product is as capital-intensive as a super-fancy stationary bike.

I believe that connected fitness is exactly as meaningful and important a trend in the industry as it was at the onset of the pandemic. The market simply needs to realize that not every tech-enabled platform deserves to be treated like a tech giant.