David Einhorn Believes Peloton Is Undervalued, but His Bull Case Comes With a Big "If"

Shares of Peloton Interactive (NASDAQ: PTON) are undervalued, according to hedge fund manager David Einhorn. Speaking at a recent investor conference, the founder and chief of Greenlight Capital argued the fitness equipment maker's stock could be worth as much as $31.50 per share. That's about 330% higher than where the stock trades as of this writing.

The catch? The struggling company needs to ... tweak a few of its numbers.

And to be fair, Einhorn's premise is a valid one. Using similar companies' stock valuations, there's a case to be made that Peloton shares are indeed undervalued.

Einhorn's bull case, however, is undermined by one major flaw: It's unlikely the company will actually be able to do what's necessary to fuel such a gain. After all, Peloton's business continues to shrink, and the future doesn't look any brighter than the recent past.

Cost cutting is the key, but it's a tall order

You may recall Peloton Interactive's exercise bikes and treadmills were all the rage in the early days of the COVID-19 pandemic. People were stuck at home with the time to use its equipment (and the discretionary income to buy it, in part thanks to stimulus checks). Although the idea of online workouts led by live trainers wasn't exactly new then, lockdowns sparked huge demand for connected-fitness equipment.

Interest in Peloton's equipment clearly peaked in 2021, however.

Data source: Peloton Interactive. Chart by author.

Peloton responded. For instance, in an effort to cut costs, the company stopped manufacturing its own equipment in 2022 and instead shifted production to lower-cost third-party manufacturers.

But the company has continued to struggle with waning marketability, stagnating membership growth, and lingering losses, prompting CEO Barry McCarthy to step down in May 2024.

His replacement was named just last week, bringing much-needed hope to shareholders. In conjunction with the release of Peloton's fiscal 2025 Q1 results, the company announced that Ford and former Apple executive Peter Stern would be taking the helm at the beginning of this year. Einhorn is presumably optimistic that Stern will continue cutting costs as a means of improving Peloton's earnings before interest, taxes, depreciation, and amortization (EBITDA). That's how Einhorn's coming up with his price target for the stock: Based on valuations of similar companies, if Peloton Interactive can produce $450 million in annual EBITDA, there's a case to be made that shares are worth more than $31 per share.

The problem is Peloton's current cost-cutting efforts only put it on pace to produce between $240 million to $290 million of adjusted EBITDA for fiscal 2025. Given the company's lack of top-line growth, culling the bottom line enough to add $160 million to $210 million of EBITDA growth is unrealistic, at least in the near term.

And that's only half the problem.

Peloton Interactive's biggest problem still stands

Einhorn's argument highlights the complicated challenges when high-profile activist investors buy a major stake in a company (Greenlight owns about 7 million shares of Peloton). From the outside looking in, it's easy to say cost-cutting is an easy means of improving profits, but it's much easier said than done. Such drastic reductions to spending can crimp an organization's ability to grow.

Take Einhorn's assessment of Peloton's outlays on research and development as an example. Peloton is still spending on the order of $300 million per year on R&D. That's roughly one-tenth of revenue, which is a lot, even for bigger companies that can afford it. Peloton could seemingly do just as well without spending so much on this front.

But the underlying technology making its connected-fitness equipment so appealing isn't simple. Peloton's exercise bikes and treadmills require about as much tech as your mobile phone or computer. The company must also constantly update and improve its offerings to not only encourage repeat purchases from previous customers but to also stay ahead of a growing number of competing offerings.

Other spending that can't simply be cut without an adverse impact on the business includes expenses like sales and marketing. As you can see below, memberships fell during fiscal Q1, in conjunction with a 30% reduction to operating expenses.

Data source: Peloton Interactive. Chart by author.

Connect the dots. Although spending less on R&D and marketing is boosting Peloton's EBITDA right now, that's not helping Peloton slow its loss of paying subscribers. If this attrition continues, it will eventually drag EBITDA down with it. It's just a matter of time before there's just not enough revenue relative to the company's minimum possible spending to maintain margins.

Data source: Peloton Interactive. Chart by author.

The one expense that might be a viable candidate for reduction? Peloton's administrative costs, which include stock-based compensation. The company regularly spends over $300 million per year on these awards or roughly one-tenth of its top line.

Such compensation is needed to attract and retain talent, though, and reductions here could lead to an exodus of key employees. There's clearly no simple answer as the company has already spent years trimming down its cost structure.

Not now, and maybe never

There are only so many levers Peloton can pull in order to deliver the EBITDA Einhorn wants to see. The company's higher-margin subscription fees are key to its recovery, but they face their own challenge: waning consumer interest in becoming -- or remaining -- a paying Peloton subscriber.

Perhaps incoming CEO Peter Stern will have the right strategy, but until management outlines a plausible plan to turn around this business, there's no real reason to count on Peloton shares climbing any more than they already have in recent weeks.

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James Brumley has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Apple and Peloton Interactive. The Motley Fool has a disclosure policy.