As long as short interest remains high, the overall view of CHWY stock is cloudy

Shareholders in Chewy (NYSE: CHWY) are getting some relief from the relentless sell-off in the stock. In late-day trading, CHWY stock is up 23.8% on the back of a strong earnings report. The online retailer of all things pet-related, not only beat expectations for earnings per share, but they posted a surprise profit coming in at three cents per share.

Chewy also posted $2.43 billion in revenue which was slightly above the $2.41 billion expected by analysts. It was also an increase from the $2.39 billion the company delivered in the prior quarter. And it was a 13% year-over-year (YOY) increase from the same quarter in 2021.
But before you decide to get in on this rally in CHWY stock, let’s take a look at the good, and not so good, that’s going on with the online retailer.

There’s a Bullish Revenue Story Emerging

Digging into the company’s earnings report, and specifically the conference call with analysts there are two things that stood out to me. First, Chewy is doing a good job of increasing its net sales per active customer (NSPAC). This is a key metric that analysts use to determine to forecast the possibility for long-term revenue growth.

In the first quarter, the company increased NSPAC 15%. The $446 is an all-time high. And management was quick to point out that many of these customers have been acquired in the last three years (I.e. the pandemic). This speaks to the fact that certain behaviors have changed and customers are unlikely to go back to their old patterns.

For what it’s worth, the company cited internal data to show that between the first year and fifth year of being a customer, the customer’s total spend increased from $200 to $700. That means the NSPAC number is likely to continue to move higher. And the company also continues to grow its customer base which suggests that this quarter’s earnings report may not be a fluke.

Will Stronger Margins Spell Stronger Earnings?

As promising as the revenue outlook appears to be, it doesn’t wholly explain the sharp spike in earnings. To get there it suggests that the company is seeing margin improvement. And that does appear to be the case.

Gross margin was up 210 basis points from the prior year. And while it’s still down 10 basis points on a YOY basis. Considering that Chewy, like all e-commerce retailers are dealing with increased freight costs, this is an encouraging number.

This is Where Things Get Cloudy

For all the positive takeaways in the earnings report, short interest on CHWY stock remains uncomfortably high at over 20%. On the one hand, this provides reason to believe that what’s happening with the stock today may be the beginning of a short squeeze. And as investors saw in 2021, that could mean there’s more upside to come.

But it also means that the stock isn’t moving up based on a fair notion of its real value. It’s benefiting because investors are racing to cover their short positions.

In fairness, analysts tracked by MarketBeat give CHWY stock a price target of $63.45 which is a 120% increase from the current price. Significantly that would bring the stock within striking distance of the all-time high it hit early in 2021.

Should You Take a Bite Out of CHWY Stock?

If you don’t currently have a position in the stock, I believe it’s one for the watchlist. Short squeezes can reverse rather quickly and you don’t want to become the greater fool. However, let another quarter play and if the company’s optimisic outlook for revenue and earnings plays out the way they expect, there may be another opportunity when short interest moves to less troublesome levels.