Peloton’s Pricing Strategy: Racing Into Trouble?

 

It is well known that pricing % changes produce dramatic leverage in operating income. That works both ways!  Peloton’s price cuts on its core Bike were bound to savage its Connected Products profitability, even before the perfect storm of higher costs for commodities, energy, shipping, labor and components hitting every manufacturer out there.

 

In addition, Peloton’s price slashing has been both in large increments, and across the board. It has not tried enough tools from the pricing arsenal such as time-limited promotions, bundling additional value elements, or expanding the optionality in its product line-up. Peloton’s blunt approach to pricing suggests either knee-jerk reactions to slowing growth, or impatience to test and learn in more incremental ways. Maybe most of all, they reflect the limited optionality in its offering design.

 

In fairness to Peloton, I should make a global disclaimer that many decisions that appear completely wrong from the outside (and with the wisdom of hindsight), can look completely different with the data that only management has. It is entirely possible that Peloton had planned its Connected Products prices as a classic price skimming strategy, which the COVID demand tailwinds extended even longer than it had hoped. If so, one wishes their price reductions would have been in smaller increments, to avoid cannibalization of higher margin customers.

 

Most importantly, the only price that hasn’t changed @Peloton remains that flagship $39/month All-Access membership. That is hopefully a tell that there is in fact a strategy here, just one confronted with a lot of headwinds. The increase in high-margin subscription revenue is the silver lining in Peloton’s numbers. Peloton is in effect buying subscribers, and it’s paying for them by relinquishing profit margin upfront on the Bike. The CAC is going up with the receding pent-up demand of COVID-driven lockdowns being replaced by a more realistic level of demand. If so, however, Peloton should be set up to run a highly capital-intensive business, set up to “finance” the acquisition of these cash flow streams by selling $1,500 Bikes at or below cost. Splurging on operating expenses and stock options compensation like the outlier growth during the pandemic will last forever seems contrary to an understanding that the CAC’s are going up. Finally, while Peloton is still seeing only low churn ~8% in its subscriptions, that too is (slightly) ticking up, and engagement (number of workouts / device) is down. With a Bike list price down ~40% from its original, the “sunk cost” element may be eroded in its ability to guarantee long-term stickiness.

 

It is tempting to say that Peloton made (and is making) some costly pricing strategy mistakes, but I stick to the caveat above. Unfortunately, whether poor strategy or a perfect storm of headwinds, or simply a lower TAM that is wearing thin, it is clear that the Peloton is paying a dear price, and honeymoon is over for both customers and investors. Peloton can use that ballooning R&D budget to hopefully wow us with better products, value, and pricing.