Planet Fitness: Too Much Debt

Planet Fitness is getting attention for its great revenue/earnings growth.

People aren’t paying much attention to the balance sheet.

With nearly $700 million in debt, and promised stock repurchases, I worry about the risk.

It’s extremely impressive what Planet Fitness (PLNT) has done in the gym/exercise space. They’ve leveraged pricing and marketing to become a major corporate player in an industry that has predominantly been a small business endeavor. That said, the company’s financials do not justify the share price. I think at this point investors have missed the run and there is too much underlying risk. One stall in the growth story and that debt will be a much bigger concern.

The revenue growth is great. Over the last five full years Planet Fitness has successfully increased its sales by over 100%, while boosting gross income annually. I’m a bit critical of their earnings though. Net incomes are volatile with actual earnings per share trending downward through fiscal 2017 due to a share count that is outpacing income that doesn’t always increase.

The second quarter of 2018 changed that. Revenues of $140.6 million were a 31% increase year over year. On that revenue, the company managed to increase net income to $30.4 million vs. $18 million the year before. You certainly can’t complain about that. When you apply that income to earnings, it looks even better. Earnings per diluted share were up 81% to $0.29 a share. The higher earnings is even more impressive considering the climbing share count; but that climbing number of shares outstanding is the first thing I notice about Planet Fitness. Their growth is requiring a lot of financing. It’s not all stock based either. This firm has taken on a lot of liabilities in order to drive its growth goals.

J.P Morgan (JPM) actually downgraded the stock yesterday based on valuation concerns. I wouldn’t necessarily mind the valuation as much if the balance sheet offered a cleaner proposition. Over the past five full fiscal years, Planet Fitness’ long term debt increased roughly 97% to $696.5 million. The second quarter did very little to alter that situation with total long term debt resting at $693.9 million. This debt makes this stock completely unappealing to me. Based on the company’s own guidance, they’re expecting a 33% increase in adjusted earnings per diluted share for fiscal 2018. Based on 2017’s FY $0.84 per diluted share, that means Planet Fitness expects to deliver $1.11 or rounded up to $1.12 per diluted share in 2018. That means the stock is currently trading at 46.7x its forward earnings. Who wants to pay a 47x premium on a stock with negative total equity? It’s a high risk investment that just isn’t worth it.In January the CEO was quoted saying there’s potential for 4,000 stores in the United States. Yep, 4,000. The company currently has less than 2,000. Can you fathom the investment that will be required to reach 4,000 locations? The past demonstrates that they’re financing most of it through debt. That means those liabilities are only going to go up. There is already a deficit in stockholders’ equity of $91 million. Are sales revenues going to take off enough in the next six months to create a cash position that fixes that? Planet Fitness has a lot of cash on hand; $147 million to be exact. But that capital seems destined for continued expansion rather than debt reduction. Furthermore, their second quarter release included a share repurchase program increase to $500 million. Where’s that money going to come from?

There are lot of questions here that I don’t see easy answers for. Because of that, I can’t get behind this stock price when you consider the leverage being incurred by the company. Any issues with their growth story could result in a pretty nasty quarter. This just doesn’t seem like the time to get involved.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.