Description

I've run out of time on another writeup I was drafting before my deadline so am going to have to go with something very condensed here. I'll apologise for the brevity upfront and will be fleshing this idea out in the message thread over the coming days.

The crux of the thesis here is that Chewy is an obvious COVID beneficiary but the market and street have been lulled into a false sense of security about the health of the business by significant category inflation which is boosting growth for now but likely to roll over shortly and leave the business growing in-line with volumes (which would mean anaemically). The company won't actually disclose volumes perse but they do give very useful breakdowns into the drivers of COGS growth in their Qs so you can actually get volume growth or close to it there and you can also look at Nielsen/BLS category pricing and strip it out of the Y/Y revenue growth metrics to get another proxy for volumes. This busniess was growing volumes 20%+ before COVID and that has slowed to LSD today. This is not just a COVID reopening lapping issue either. The bulk (~70%) of revenue are consumables. These need to be bought month-in, month-out by pet parents. This is a penetration issue. There are a bunch of good sell-side surveys on this but if you look at the groups of pet product buyers who don't shop online they've pretty much all said in one form or another that they don't want to and won't. The point is that there are very few online shopping amenable pet parents left out there who aren't already using Chewy or Amazon. The street has revenue growth in the low/mid teens next year. That is not going to happen.

The margin profile of this business is also structurally capped by Amazon. The core consumabels category is dominated by a small number of brands with significant loyalty. That means that consnumers know exactly what they want and can price compare easily. There is not going to be any room, ever, to price above Amazon in this business and given they offer free shipping to a huge % of Americans via prime while Chewy requires a $50 basket to qualify, that's going to make life very hard for Chewy, particularly in a time like this when consumers are more cost conscious and looking to manage personal working capital via smaller basket sizes.

The stock is on 1.7x forward revenue. At a 3% normalised EBIT margin you're paying ~70x normalised NOPAT for a business that I expect to grow MSD next year. That means the stock can halve from here if not more.

Again, apologies for the brevity. I'll be following up in the comments.

Catalyst

- big downgrades to next year's revs/margins