The Rising Cost of Customer Acquisition in Connected Fitness

Connected fitness is getting more expensive - not for consumers, but for the companies selling products and services in the sector as a whole.
You ate all the turkey, and are now in a guilt-induced fitness tech purchasing frenzy.  This Black Friday has brought some of the best deals yet from the leading connected fitness brands:

• Peloton:  $600 off the Bike+ ($2,145 to $2,595), $400 off the original Bike ($1,495 to $1,795), $550 off the Tread ($2,495 to $2,695).  And for the original bike, that’s on top of the price drop from $2,245 originally to $1,495 today.
• SoulCycle:  $600 off the bike ($1,900)
• Hydrow:  Up to $650 off the rower ($1,795 to $2,195).
• Ergatta:  Up to $500 off the rower ($1,999).
• Mirror:  $500 off the fitness mirror ($995).
• Tempo:  $500 off their computer vision fitness weights system ($1,995).
• Tonal:  $250 off their connected cable gym ($2,745).
• CLMBR:  $639 off their connected climbing machine ($2,399).
• FightCamp:  $548 off their connected boxing offering ($999).

We’re going to dig into these numbers a bit, but first let’s define five terms:

1. Customer Acquisition Cost (CAC):  How much it costs these companies to get new customers - marketing, sales headcount, advertising, shop retail space and (importantly) discounts.
2. Cost Of Goods Sold (COGS):  The cost to manufacture the goods (which is dramatically different for the physical hardware than for the video content you access on the hardware).
3. Life Time Value (LTV):  The total average value from a customer across the lifecycle - in this case, the up front payment and then all the monthly payments until he or she cancels membership.
4. Churn:  The percentage of users who cancel their membership each month, so essentially a measure of the average length of membership per person.
5. Total Cost of Ownership (TCO):  This is how much it costs to own something over its lifecycle - the upfront purchase, and then the maintenance (or in this case, monthly subscription) costs.

So in general, the connected fitness vendors are being battered right now, in between a rock and a hard place or two horses of the apocalypse, stemming from two central problems.
The main problem is that the cost of acquiring customers (CAC) is going up - kind of a lot:

• All those Facebook, Instagram, YouTube and TV ads you keep seeing - they all cost money.
• The discounts on the hardware, which mean that these companies are making less or even losing money on the hardware.  In one of the most extreme examples, Echelon is giving away a free bike in exchange for a 2 year content subscription ($960).
• The increasing use of retail stores - by Tonal (stand alone and in Nordstroms), Peloton (around 100 locations), Mirror (in Lululemon stores), Hydrow (in Best Buy), etc.

This first problem is reflected in comments and results by the companies.  Two months ago, the CEO of Lululemon (Calvin McDonald) called out growing CAC for their Mirror business unit as a course of concern in their September 2021 earnings call.  Then earlier this month Peloton’s shares slumped by 31% as it dropped its sales forecast by as much as $1B - with the pandemic ending and people returning to local studios and gyms.  From the Reuters article, “Sales and marketing expenses more than doubled to account for 35.3% of total revenue in the first quarter and were expected to remain high in the crucial holiday period.
”The second problem is that the cost of making the hardware (COGS) has also been going up - from the same Reuters article, “Peloton has also grappled with global chip crunch, supply disruptions and rising freight costs that have piled on the expenses.”  This electronics components shortage has hit COGS and profit margins at Apple and many other electronics manufacturers.
So how do they hope to make money?  Well it all comes down to how long customers keep paying the subscription dues.  The profit margin (technically “contribution margin”) on the subscriptions is over 90%, because it’s just watching videos and some math calculations for metrics.  It’s a bit like the cell carriers giving you a big discount on the latest iPhone in exchange for locking you into a 36 month contract.
Right now the rate of churn (members canceling) looks low, so the life time value will be high, but there’s natural tension in this.  It’s not just that you have to stay subscribed in order to watch the workout videos, for some of this equipment, it’s that you have to stay subscribed for them to work at all:

• In a mini PR disaster, Peloton initially “bricked” its treadmills (as part of a safety update) if you didn’t keep paying the subscription, and then later fixed it (after a lot of user screaming on Twitter and Reddit).  From their sales chat today: “Without the membership, the Bike will have 3 pre-selected 30 minute classes & a Just Ride feature which will show the metrics while riding, but will not track them to your rider profile.”  No interval training programs or any of the things you’d expect out of a piece of cardio equipment then.
• I got a Tonal demo recently at a local Nordstroms, and the sales rep explained that the $49 per month isn’t just for the video content.  From their sales support chat today: “If you decide to cancel you will lose access to all of Tonal's intelligence and personalization features as well as the workout library (including live and on-demand workouts). Your Tonal will still function in Basic Free Lift mode, but you would guide yourself through your own workouts and wouldn't have access to the intelligence features such as data analytics, Dynamic Weight Modes or the personal training services we provide through the membership.”
• With a Mirror, is there any value at all without the subscription?  Perhaps checking hair and makeup?  That’s right, as Mirror’s sales chat put it: “Yes, it is a beautiful full length Mirror if you cancel your subscription.”  At $1500 MSRP and close to that in manufacturing and install cost, that’s like turning a pickup truck into a fixed location toolshed :-).

This is less true with Bowflex and NordicTrack - their iFit (and similar) digital content subscriptions are more optional, and the hardware works just fine without them.  I’d be willing to bet that the percentage of NordicTrack owners who pay monthly subscriptions is way lower than that for Peloton and Tonal.
I’d also be willing to bet that there will be some tension in the future - as these new connected hardware companies test out user anger for which features they can turn off when the subscription is cancelled - to discourage owners from canceling.  Who wants a $3000 paperweight or blank wall feature?
And so we come to the final term - total cost of ownership.  When does the subscription cost exceed the hardware purchase cost?

• Tonal:  About 4.5 years
• Peloton:  About 3 years
• Mirror:  About 2 years
• Tempo:  About 4 years for the original Tempo Studio, and just 10 months with the new Tempo Move.

The irony with Peloton is that if you don’t care as much about competing on their leaderboard, you can save a lot of money by buying a third party bike (from NordicTrack or Echelon), and then just subscribing to the Peloton digital app instead.  I’ve seen people posting tables with this math in the Peloton user groups on Facebook to explain their Echelon and NordicTrack purchases - saving $26 per month adds up to over $300 per year.
Given the stakes, Peloton has had a sense of humor failure over patent protections recently.  Earlier this month Peloton sued Echelon and iFit for patent infringement over distributed leaderboards for metrics and auto-adjusting resistance for following along on rides.
For the first of these, Orange Theory and MyZone have been doing metrics based leaderboards in classes forever, and spin studios have used ANT+ connected spin bikes, so I guess the innovation is that the same thing happens “over the internet”?  This reminds me of an episode of IT Crowd from Netflix.
Similarly for adjusting resistance on rides, that might impact all the bike trainers and many more connected fitness vendors (Tonal), just at a time when the industry is introducing standards for controlling connected fitness hardware (like FTMS).
To add a twist of irony, Lululemon sued Peloton for infringing its design patents on its sports apparel lines, and Peloton just sued back claiming that Lululemon’s patents are invalid as they are too “obvious” to merit patent protection.  Pot kettle.
But what’s the angle here for local fitness?  At Tribe we believe that hybrid and omni-channel represents an opportunity for fitness boutique brands and gyms to launch differentiated connected fitness offerings.  There are several synergies and superpowers that fitness boutiques can leverage to bring down their cost of customer acquisition and reduce churn:

1. Local fitness boutiques already have a stronger sense of community and friends than any of the digital platforms - because people meet there face to face.
2. With in-studio video walls showing data from at-home metrics and video cameras, at-home members can determine the level of in-studio presence they’re comfortable with during a class.
3. If a local boutique sets up studio cameras in its local space (versus say just buying Les Mills content), then members can take classes from home with the coaches they actually know.
4. If a local boutique sets up its studio for hybrid classes (in-studio and virtual at once), the additional operating cost for creating digital content can be very small.
5. Members are walking past every day, which means that they will get to see that connected equipment every time they go for a class.
6. If a brand embraces omni-channel metrics, and enables the same metrics in-studio (rowing power, spin power, heart rate, punching force, weight lifted, etc), then the members' workouts in studio and at home count towards the same goals (challenges, milestones, etc) - no at-home fitness equipment offering really does that today.

Forme has teamed up with Barry’s, putting Forme strength devices into Barry’s studios - I could go see one in the Barry’s here in Austin.  The stated goal of SoulCycle is to allow you to take classes from your local coaches on a connected bike at home (see Studio Stream).  And Orangetheory Live also enables at-home classes with Splat points led by local coaches.
There’s no question that the pendulum is swinging and people are going back into local fitness boutiques and gyms.  The impact on connected fitness and gamification is just beginning - both at home and in-studio.
At Tribe, we’re big believers in local fitness, and our platform is designed to help level the digital playing field so that local fitness coaches and instructors can outcompete the impersonal “at-home only” first wave of connected fitness.