Online pet retailer Chewy (CHWY -2.79%) is an under-the-radar stock. It doesn't garner much excitement from investors because selling pet products isn't an exciting business compared to selling electric cars or the latest smartphones. However, what could get investor interest is the potential returns this little-talked-about company can deliver.
Near-term headwinds related to global supply chain issues are causing this stock to trade at lower prices than it otherwise would. But over the longer run, Chewy is doing a solid job growing its customer base and increasing profit margins simultaneously.
Chewy stock is down 30% in 2021. Image source: Getty Images.
Increasing revenue leading to higher profit margins
The coronavirus pandemic led many pet parents to look online for goods for their furry friends. The sudden shift accelerated customer growth for Chewy, which focuses on pet foods, medications, and toys. Fortunately for shareholders, the company has sustained the momentum and has added 3.5 million active customers in the past 12 months ended Aug. 1.
Interestingly, Chewy customers spend more as they mature in their relationship. That trend has led the net sales per active customer to reach $404 as of its fiscal second quarter, an increase of 13.5% from the same time last year. It's a good sign for investors when you see customers increasing their spending with a company over time. It demonstrates high customer satisfaction and could indicate a potential for growth as customers trust Chewy for more of their pets' needs.
As the company is expanding customers and those customers are spending more, its annual revenue has grown from $2.1 billion in 2018 to $7.1 billion in 2021. That is exciting growth from a not-so-exciting business of selling pet products. What's more, Chewy is increasing sales efficiently. At the same time, its gross profit margin expanded from 17.5% to 25.5%. Increasing profit margins as sales grow is a sign there are efficiencies of scale in Chewy's business. In other words, profit margins could continue to expand if revenue keeps growing. For instance, higher spending could lead to bigger order sizes, reducing fulfillment costs as a percentage of sales.
Why buy Chewy stock in October?
Chewy's stock is down 30% year to date and 18% in the last month. The sell-off is creating an opportunity for long-term investors to acquire shares of the growth stock. Chewy has fallen out of favor with the market recently for two main reasons: First, the company benefited during the most acute phases of the coronavirus pandemic when folks were not leaving their home as often. Investors worry that as economies reopen, sales growth could slow at Chewy.
Secondly, Chewy is negatively affected by global supply chain shortages. That's causing the company to pay rising prices for freight, labor, and materials and leads to a lack of supply of certain products. Each of those issues is a legitimate concern for investors and is likely to hurt Chewy's revenue and profits in the short term.
But therein lies the opportunity -- these issues are likely to get resolved in the next year or two. Meanwhile, you can get a company that is making solid progress adding customers, getting those customers to spend more, and increasing profit margins all the while.
