Chewy Earnings: Long-Term Narrative Intact as International Expansion Begins; Shares Still Cheap

We expect to maintain our $42 fair value estimate for narrow-moat Chewy CHWY as we mull over quarterly results, with sluggish active customer growth (we’re lowering our annual forecast to 1.3% growth from 3% prior) offset by time value and better-than-expected net sales per active customer. Shares jumped 13%-14% after the release and a modest 2023 guidance raise, though we view the magnitude of the lift (a 0.45% bump to net sales targets at the midpoint, and a 0.25% lift to adjusted EBITDA margin) as an insufficient catalyst for the market’s reaction. Rather, we view the surge as having more to do with partially unwinding unnecessarily punitive pre-earnings expectations than of any structural changes to the business, with shares still down 17% over the past quarter. Our long-term forecasts remain effectively intact, calling for 12% average annual sales growth over the next decade and 6.7% operating margin in equilibrium.

During the quarter, Chewy’s $2.78 billion in sales and $0.05 diluted EPS edged our own $2.73 billion and $0.02 loss estimates. Sales leverage was driven by strong growth in net sales per active customer, which moved up to $512, or 15% annual growth (against our 13% estimate)—laudable results, given ongoing pressure in the discretionary hardgoods business (down 1.6% annually). On the margin side of the ledger, 70 basis points of gross margin expansion were driven by a less promotional environment than contemplated in guidance and modest leverage over freight and packaging costs.

Perhaps the biggest news from quarterly results was the firm’s decision to launch in its first international market, with a Canada debut slated for the third quarter of 2023. While the market appears to be relatively small—in the neighborhood of $6 billion across pet food and products, per Euromonitor data and our calculations—international expansion remains an important part of Chewy’s long-term growth narrative, and we’ll be closely monitoring the firm’s first foray abroad.