When I bought shares of Nutrisystem Inc. (NASDAQ:NTRI) last month, I thought that I was buying the dip. Nutrisystem stock had neared $70 back in late July and was in the mid-40s by the end of January — after ending 2017 at $53. The steady decline in NTRI shares implied that the market was pricing in essentially an end to Nutrisystem’s impressive growth over the last four years.
That seemed far too conservative to me at the time. But, as it turns out, it wasn’t.
Nutrisystem stock plunged in after-hours trading Monday, dropping 27% after a disappointing Q4 earnings release. The problem wasn’t Q4 earnings themselves; Nutrisystem actually beat consensus on the top and bottom lines. But exceedingly poor guidance for 2018 indeed suggests that growth is coming to an end — at least for now.
As bad as the numbers look, the initial response to the quarter does look like a bit of an overreaction.
Nutrisystem management insisted that the disappointing 2018 projections are coming from fewer new customer activations in the key first quarter. But the economics of the business remain sound. The company’s South Beach Diet, acquired at the end of 2015, had a strong first quarter, and should post torrid growth this year.
Meanwhile, Nutrisystem stock looks downright cheap. Right now, it’s priced as if there were basically zero possibility that 2018 is an anomaly, and not the beginning of the trend. I understand why investors are fleeing NTRI — but I will actually be averaging down with Nutrisystem stock back under $30.
Good Earnings — And Terrible Guidance
Looking backward, Nutrisystem looks just fine.
For the fourth quarter, revenue grew 20%, more than two points better than consensus. EPS of $0.42 (excluding a one-time $0.06 tax impact from tax law changes) was $0.02 better than the Street. Full-year results are even more impressive. Revenue grew 28%. Adjusted EBITDA rose 46%, with 200 bps of margin expansion. And EPS (again excluding the Q4 tax impact) rose 65%.
But 2018 guidance is simply abysmal, at least in the context of expectations. Revenue is guided to $685-$705 million. That implies basically zero growth relative to 2017’s $697 million. Analysts had forecast sales of $792 million, 13% more than the actual figure last year.
Even worse, South Beach is guided to grow from $27 million in sales to $70 million. That means the legacy Nutrisystem business should decline year-over-year, by about 7% at the midpoint of the guidance range.
It’s not hard to see why that revenue guidance has spooked investors. Competition is intense. Weight Watchers International, Inc. (NYSE:WTW) has pulled off an impressive turnaround, though Nutrisystem management has insisted in the past that Weight Watchers isn’t as much of a competitor as some think. There’s been concern that meal kit companies like Blue Apron Holdings Inc (NYSE:APRN) could steal customers as well.
More broadly, the fear is that, as one analyst put it on the Q4 conference call, the Nutrisystem brand “is kind of maxed out”. Over time, this has been an inconsistent business. And it may be that in this day and age, there simply aren’t that many customers left for Nutrisystem to catch.
Doubling Down on Nutrisystem Stock
The fears are valid, to be sure. But below $30, there is a risk of an overreaction here. On the call, management explained repeatedly that the weak 2018 was coming from weaker new customer acquisition. That was chalked up to essentially tired advertising.
In addition, Nutrisystem overspent and overcommitted to advertising on news channels like Twenty-First Century Fox Inc (NASDAQ:FOX) property Fox News and Time Warner Inc (NYSE:TWX) network CNN. Those channels provided excellent returns a year ago — in the wake of President Trump’s inauguration. A year later, however, viewership was lower and the ads simply weren’t as effective.
To Nutrisystem management, the problems are “very fixable,” as CEO Dawn Zier put it on the call. Comparisons this year are very tough, given 2017 performance. And Nutrisystem revenue aside, there is some good news here.
Guidance suggests that margins will remain intact, with Adjusted EBITDA guided basically flat year-over-year. South Beach is expected to grow revenue 150% year-over-year.
And Nutrisystem stock now is priced as if 2018 isn’t “very fixable”, or fixable at all. Backing out over $2 per share in cash, NTRI trades at 13x the midpoint of 2018 EPS guidance. Free cash flow expectations suggest an 11x P/FCF multiple, and the EV/EBITDA multiple is below 8x.
All of those multiples suggest that Nutrisystem has peaked — but that’s not necessarily the case.
The Bottom Line for Nutrisystem Stock
After four impressive years of growth, during which time revenue has nearly doubled, Nutrisystem stumbled in the key “diet season” (when many dieters try and implement New Year’s resolutions). It’s not good news, by any means — but a single miss doesn’t doom the business model to a cyclical, or secular, decline over the next few years.
If 2018’s problems are fixable, NTRI is far too cheap. If not, a raised dividend provides a 3.5% yield, and even stable profits going forward essentially justify the current price. I’m not convinced the weakness totally is coming from advertising missteps — but the odds on taking that bet look very favorable.
As of this writing, Vince Martin is long shares of Nutrisystem Inc., and has no positions in any other securities mentioned.