Planet Fitness [NYSE:PLNT] is a lightning rod for controversy and opinions. Serious fitness types tend to hate PLNT and even take the time to produce videos highlighting how inferior Planet Fitness gyms are, how wrong their policies against excessive lifting and grunting are, and why only wimpy people would ever go there. The IPO itself was a little choppy - it priced at the high end of the range at $16 but then opened down at $14.50 before ultimately finding a footing here at $18.

Planet Fitness is trying to do something that few have done so far which is to customize their offering precisely for the new and uninitiated. The market is much larger and needs to be because their $10/month starting price is so low. But that price also makes it such a bargain that people tend not to cancel. And even where a specific location is bad, people wind up sticking with it and noting that "you're not likely to do any better at $10/month."

It's not all grim however. As a franchise model there are both good and bad locations. Most are pretty good based on a survey of online reviews - generally 3.5 to 4 stars out of 5. In terms of themes and trends improved diet and exercise have infiltrated the mainstream. Companies like Fitbit [NYSE:FIT] are doing very well and both Apple and Google are investing heavily in technologies aimed at improving health and fitness. Crossfit has become a big business and SoulCycle has filed for an IPO. SoulCycle did $34M in revenues in the March 2015 quarter compared to $36M for the *year* of 2012. So the growth is strong. We'll cover SoulCycle in greater detail in a separate note but they also generate a nice profit.

Turning to PLNT the key to growth and expanded valuation will be franchised stores. Critics might point to their equipment business which is substantial ($131M) and relatively low margin (21%), especially compared to the 70% margin on the $77M franchise business. But the franchise business is going to get even better - a substantial number of existing franchise locations will be "rolling off" their older, lower percentage agreements and moving up to the current 5% rate. That would increase franchise royalties by 40% even if they didn't add any new ones.

History Lessons & Competition

It's a mixed bag for sure. On one hand Life Time Fitness (NYSE:LTM) was just acquired for over $4B but still-public Town Sports International (NASDAQ:CLUB) is struggling with an market capitalization of $59M, a fairly high debt load and very low valuation. Listening in to the latest company update calls it's pretty clear management there has no clue in turning the company around.

Curves [Private] had meteoric success as a place catering to women with a similar kind of "no judgement" environment. After a ton of growth a recession was a catalyst for many members to cancel their plans. Cost was a major issue. At $60/month consumers were eager to cancel plans when they didn't feel they could afford it or didn't use the club enough to justify it.

The $10/month strategy is designed to avoid the "considered purchase" process. For example most gyms charge $10 or $15 for a *single session* for guests and visitors. The premise is that lots of people will join but a smaller percentage than usual will actually show up. One statistic not offered by management was how many of the average 6600 location members are "active" insofar as they come in at least once a week. The money counts just the same though.

Established brands like Equinox are getting more aggressive in the "casual" gym segment. Equinox has thrived at the high end with memberships in the $150/month range. It's a "luxury" and/or serious club depending on what you see. They claim that members visit 4x per week on average which compares to a stated industry average of 4x *per month.*

But Equinox has launched "Blink Fitness" that aims at making working out "fun and uplifting" and starts at about $20/month. Right now growth and their franchise model are focused mostly around the NY Tri-State area which limits the near-term competitive threat but it's a sign that competition for this casual gym user is intensifying.

Intrinsic Valuation

We tried to be conservative with the model - using a 15 multiple on what is a 20%+ grower with recurring revenue and high margins. Even accounting for the $506M in debt we reach an IV of $35/share versus the current $18.

A good deal of the growth is purely execution dependent and to some extent built in as royalty rates increase with renewals. The stock doesn't have analyst coverage yet but when they do it should be very supportive based on our own model and IV estimate.

In the longer term management should consider adding some dimensions to the monetization story with a growing body of members. PLNT might have ways to deliver additional services to members that fit into a broader strategy. Nike [NYSE:NKE] and Under Armor [NYSE:UA] have been aggressive at investing in technology and applications for health, fitness and nutrition.

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