My “New Years Resolution Rally” thesis for Nutrisystem (NTRI) looks way wrong. $700 million revenue guidance for full year vs. consensus at $825 adn $777 the year past? Sometimes you can chalk off a miss to being “early.” This is not one of those times. I was just wrong. This stock won’t be worth touching with a 10-foot pole for some time.
This article is a reprint of my February 12, 2007 RealMoney column
Although I was bearish on NutriSystem (NTRI) in October, I thought the stock might offer a trade surrounding a possible “New Year’s Resolution Rally.” As the New Year began, I offered two potential ways to play the trade:
If we get to, say, Jan. 14 without an announcement, I’d consider that an all-clear signal for the trade.
The actual earnings report will probably come out in early February, along with the guidance for the first quarter that will be so important for the resolution trade. Given the uncertainty around this name, the resolution rally trader probably won’t want to hold for more than a few days past the February announcement unless there is some really good news, and even then it might be wise to clear out before the first quarter is reported in April.
Alternatively, I’d consider writing put options. As of the close on Dec. 31, the Feb. 16 ($25) puts were selling at about $2.00. With the stock at roughly $27, that gives a break-even price of $23 if things go wrong, and an 8% gain in six weeks if things don’t go wrong.
The trade, so far, has been one of ups and downs. Overall NutriSystem has lost 4.7% this year (at the time of writing), which at least puts it ahead of the decline in the S&P 500. For the fleet of foot, an ideal exit opportunity came and went in a flash last Monday when the stock surged more than 13% in one day, only to give it all back (and more) over the remainder of the week due to an analyst downgrade over concerns that the current quarter’s orders were running below expectations.
The options expire this Saturday and the earnings report is due out next Tuesday (the 19th). For those that missed last week’s opportunity, it is time to revisit the trade and think about exit strategies.
As a result of the volatility, the options expiring this week are trading well above the intrinsic value and probably aren’t worth closing out until near the close of trading on Friday. The more adventurous may even want to chance being put the shares in hopes of the company beating estimates or, more importantly, issuing better than expected guidance on Tuesday’s call.
For what it’s worth, I think the $0.30 earnings estimate for the December quarter is in the bag. If there were to be a significant miss it most likely would have been preannounced. The $0.92 expected for the current quarter is $0.12 below the earnings reported in the first quarter last year, despite an estimated 5% sales increase.
It seems like everything is working against NutriSystem right now. First it was expectations that GlaxoSmithKline’s (GSK) over-the-counter weight loss drug Alli could put NutriSystem sales on a diet. After a strong start in June, Alli’s sales over the subsequent 6 months have been slimmer. Meanwhile, the concern over NutriSystem sales has shifted to consumer spending concerns. The expectations of growth in sales but a decline in earnings indicates the company may have expanded its base of telephone representatives (and their related costs) too much, resulting in lower margins.
But that’s where I think the NutriSystem story could start to be one of those “bad news is good news” names. For one thing, it is easy to correct having too many telephone reps, since the voluntary turnover among such employees is enormous. For another, the company has been buying back shares and increased its buyback authorization by $100 million – which is (probably not coincidentally) nearly identical to both the amount of cash sitting on the balance sheet at last check and the amount of free cash flow generated during the last year.
Using a nice round $25 share price, a $100 million buyout would reduce the number of shares by $4 million, or nearly 12% of the total number outstanding. Getting the expenses back in line, along with a substantial share count reduction, could go a long way toward spurring earnings growth once again.
So if I had made the resolution trade (which I didn’t) I think I would wait things out until after the earnings call. The market is anticipating that lots of things will go wrong, and there are also lots that can go right. But that is a risky play, and I can also understand the motivation to lock in a tax loss and the moral victory of beating the S&P on the trade to date.
Disclosures: None
The following is a reprint of my January 2, 2008 RealMoney column.
After Nutri-System (NTRI) missed its third-quarter earnings estimate in early October, I said it didn’t qualify as a sound investment opportunity, despite an apparently cheap valuation. However, I also said “after we gorge ourselves this holiday season, we are likely to make the same New Year’s resolutions we have often made in the past. And in each of the last three years, NutriSystem has enjoyed a strong rally from January through April.”
To decide whether there really may be a resolution rally, and to figure out how to play it if there is one, I decided to update my inputs. In the three months since that article was published, a few things happened:
The lowered estimates still show some modest earnings growth for the coming year, the momentum has fallen sharply. Its current Zacks rating of 4, for example, indicates that NutriSystem’s earnings revisions are among the worst 20% of all the companies tracked.
On the other hand, the Zacks rank was 5 (the worst) last week. So perhaps the loss of earnings momentum is bottoming out. The valuation also looks enticing, with a P/E ratio of just 8.5x. With trailing 12 month free cash flow of $95 million against an $845 million enterprise value, the 11.2% free cash flow yield offers a juicy return even if there is not growth.
In fact, given the current 5-year Treasury bond is yielding less than 3.5%, investors should be able to earn a 100% risk premium even if NutriSystem’s cash flow declines by 4% per year.
Cockroach Theory
Seldom is the first earnings miss also the last. It is also uncomfortable having a new CFO around. So before jumping in, I want to get a feel for the earnings quality and whether there have been any major changes. To do this, I calculated the accruals ratio, which measures how much of the earnings are due to accounting methods rather than cash flow. The closer to zero, the better the ratio.
Source: Zacks Research Wizard, compiled by William A. Trent
NutriSystem is in a trend toward higher earnings quality. The spike up in the latest quarter is somewhat concerning and bears watching, but is not particularly surprising given that there was an earnings miss.
How I Would Play A Resolution Rally
NutriSystem preannounced the last quarter’s earnings miss on October 3, which suggests that any preannouncement for the current quarter is could come in the next week. If we get to, say, Monday the 14th without an announcement I’d consider that an all clear signal for the trade.
The actual earnings report will probably come out in early February, along with the guidance for the first quarter that will be so important for the resolution trade. Given the uncertainty around this name, the resolution rally trader probably won’t want to hold for more than a few days past the February announcement unless there is some really good news – and even then it might be wise to clear out before the first quarter is reported in April.
Alternatively, I’d consider writing put options. As of the close on December 31, the February 16 puts were selling at about $2.00. With the stock at roughly $27, that gives a breakeven price of $23 if things go wrong, and an 8% gain in 6 weeks if things don’t go wrong.
Zacks Investment Research has provided Stock Market Beat with a complimentary trial subscription to Research Wizard.
This article was originally published at RealMoney on October 4, 2007.
Less than a month after topping Fortune Magazine’s list of the 100 fastest-growing companies, Nutri-System, Inc.’s (NTRI) growth rate came to a screeching halt. The company announced yesterday that while revenue growth will top 20% in the third quarter it will be well below expectations, and earnings per share are expected to be between $0.62 and $0.66 – barely budging from $0.63 last year and well below the $0.82 consensus. With the shares selling off more than 20% in after-hours trading, investors have to figure out whether this stock’s weight loss is permanent or whether, like many of its customers, it could be on a yo-yo.
To start out with, I’m going to lay my cards on the table and admit I didn’t see this coming. I thought investors were being a bit irrational when they sold the shares following a strong earnings report and slightly weak guidance (that has now been revised to really weak.) So when considering anything I say about the name, remember that I have been dead wrong about it to date.
That said, with the after hours sell-off the stock is now trading at just over 10x the trailing 12-month free cash flow. From that multiple, I feel like I can earn an adequate return even if the company doesn’t grow – all it needs to do is maintain its current levels of cash flow.
The problem is, the aforementioned growth has taken the cash flow off the charts. For example, if the growth had been steady I might feel that free cash flow could retract to the $60 million the company posted in 2006, rather than the $108 million it gained in the last half of that year and the first half of 2007. While that would be a sharp cutback, the free cash flow yield would still offer support from which I would hope for growth.
But what if cash flow dropped to 2005 levels? It is surely possible that Nutri-system, a company more than 30 years old, could drop back to the levels seen two years ago, is it not? Well, if it is possible it would be a big problem. In 2005 Nutri-System’s free cash flow was only $12 million. Next to nothing. And I don’t even want to think about 2004.
So, from my point of view Nutri-System doesn’t qualify as a sound investment opportunity right now, despite an apparently cheap valuation. It might, however, be worth a trade.
One guy who did get this story right was Citigroup’s Gregory Badishkanian, who warned last month that sales may suffer in the short term as dieters try out GlaxoSmithKline’s (GSK) new over the counter weight loss drug Alli. He also noted that the comparisons to last year’s third quarter are difficult as that is when Dan Marino joined the company as spokesman. And, of course, October is not known as the time to start a diet.
The tough comparisons are likely to continue, but Badishkanian doesn’t expect dieters to enjoy the digestive side-effects of taking Alli for very long. After we gorge ourselves this holiday season, we are likely to make the same New Year’s resolutions we have often made in the past. And in each of the last three years Nutri-System has enjoyed a strong rally from January through April.
Personally I feel like I would benefit more from the product than from the stock at this point. If the shares are still down in late December I may even attempt the seasonal trade, and by the time that is done there may be a little more clarity about the sustainability of free cash flow.
In any case, making the resolution play will require a good deal of resolve for this volatile stock.
Small Cap Watch List (Track at Marketocracy) member NutriSystem, Inc. (NTRI) announced results for the second quarter ended June 30, 2007:
— An increase in revenue of 61% to $213,556,000 in the second quarter of 2007 compared to $132,631,000 in revenue in the second quarter of 2006;
– Growth in operating income to $52,729,000 (24.7% of revenues) in the second quarter of 2007 compared to $31,030,000 (23.4% of revenues) in the second quarter of 2006; and
– An increase in diluted earnings per share of 81% to $0.96 in the second quarter of 2007 compared to $0.53 per diluted share in the second quarter of 2006.
The consensus among Wall Street’s finest was that the company would earn $0.85 on $194 million in sales, so at first blush it is hard to see why the stock plummeted in after hours trading. Scrolling a little further down the press release we see the likely explanation:
For the third quarter of 2007, the Company estimates that revenue will be between $200 and $208 million, and expects diluted earnings per share to be between $0.77 and $0.82.
The consensus for next quarter was $0.89 on $209 million in sales. So basically the company is saying it will give back $0.07 – $0.12 of the $0.14 upside they had in the second quarter.
The Company is raising its full year 2007 guidance and now expects revenue to be between $810 million and $820 million and 2007 diluted earnings per share to be between $3.46 and $3.52 per share.
The previous estimates were $3.43 on $800 million. So the $20 million upside to Q2 revenue is offset by approximately $5 million in downside to the rest of the year, while $0.05 – $0.11 of the $0.14 earnings per share upside is expected to be given back during the remainder of the year. Hardly justification for a 20% drop in value in two days.
If you ask me, the investors in Nutri System are like binge dieters, and the weight of the stock (in their portfolios) goes up and down like a yo-yo. I look at the chart and see this isn’t the first big and sudden drop. I look at the fundamentals and think it could probably be as temporary as the others.
Small Cap Watch List (Track at Marketocracy) member Pre-Paid Legal Services, Inc. (PPD), announced financial results for the second quarter ended June 30, 2007. Membership revenues increased 4% to $106.9 million from $103.1 million for the same period last year. Net income increased 9% to $13.2 million from $12.1 million for the previous year. Diluted earnings per share for the quarter increased 22% to 99 cents per share from 81 cents per share for the prior year’s comparable quarter, higher than the net income increase, due to an 11% decrease in the weighted average number of outstanding shares. According to Yahoo! Finance, there were no Wall Street estimates with which to compare the number.
From an earnings quality standpoint, cash flow from operations grew at a slightly faster rate than net income, which is generally a good sign. Much of the cash flow was returned to shareholders through the buyback plan, but the selling shareholders probably shouldn’t have, as the average transaction price was below $49 and well below the current $68.50 share price. It seems the company can at least spot a good buying opportunity in its own shares.
The press release did not include a balance sheet or detailed cash flow statement, so a more thorough analysis will have to wait for the 10Q.
With the end of the first quarter approaching, it is time to adjust the names in my Watch Lists. I will price all the new lists as of the close on Friday, June 29.
Today I present my planned updates to the Small Cap Watch List. There was a fairly high level of turnover to the list. 12 of the 24 names from the previous run made it to the current list, which was also 24 names. Performance-wise, the list created in March has returned an unweighted average return of 2.6% through June 28, with 80% of the stocks in positive territory. All of the money-losers from the previous list fell out of consideration.
So without further ado, the names on the chopping block from the previous list are: PW Eagle (PWEI), Insteel Industries (IIIN), Allied Defense (ADG - Annual Report), Hartmarx (HMX), Parlux (PARL), Hansen Natural (HANS), FirstFed Financial (FED), Young Innovations (YDNT), ITT Educational (ESI), Rent-a-Center (RCII), Valassis (VCI), and Travelzoo (TZOO). The castaways include four of the five money losers from the previous portfolio (HMX, PARL, YDNT and TZOO) as well as the biggest gainer (ESI).
The new list is:
I will continue to track both lists on StockPickr.
Small Cap Watch List (Track at Marketocracy) and Mid Cap Watch List (Track at Marketocracy) member NutriSystem (NTRI) reported earnings:
NutriSystem, Inc. (NASDAQ:NTRI), a leading provider of weight management and fitness products and services, today announced results for the first quarter ended March 31, 2007, including:– An increase in revenues of 62% to $238,360,000 in the first quarter of 2007 compared to $146,751,000 in revenues in the first quarter of 2006;
– Growth in operating income to $59,610,000 (25.0% of revenues) in the first quarter of 2007 compared to $35,179,000 (24.0% of revenues) in the first quarter of 2006; and
– An increase in net income of 70% to $37,867,000 or $1.04 per diluted share in the first quarter of 2007 compared to net income of $22,335,000 or $0.60 per diluted share in the first quarter of 2006.
Pretty impressive. The consensus was estimating NutriSystem would earn $0.91 on $213 million in revenues. Apparently all those ads we’ve been seeing on CNBC are having the desired effect. And while most people complain about yo-yo dieting, regained weight is contributing to sales as well:
“The solid growth of our core women’s market and continued strength of the men’s market allowed us to achieve record earnings,” said Michael J. Hagan, Chairman, President and Chief Executive Officer. “In addition, an integral part of our first quarter has been the ongoing expansion of our pool of ex-customers and their desire to return to NutriSystem for weight management services.”
As unfortunate a choice of words as “expansion” may be in this case, investors were pleased by the ballooning growth of Nutrisystem’s customers top line. Particularly since the company indicated it will continue:
For the second quarter of 2007, the Company estimates that revenues will be between $190 and $200 million, an increase of at least 43% year over year. Diluted earnings per share are expected to be between $0.82 and $0.86, an increase of at least 55%. Further, the Company expects to add at least 210,000 new Direct channel customers in the second quarter of 2007. The Company now expects full year 2007 revenues will be between $790 million and $805 million. 2007 diluted earnings per share are expected to be between $3.34 and $3.46 per share. This guidance does not reflect the effect of any potential future stock repurchases.
Analysts were expecting $0.70 on $171 million in revenue for the coming quarter and $3.05 on $735 million for the year.
On a dreary, rainy day in New York we woke up to find that Small Cap Watch List (Track at Marketocracy) member Pinnacle Airlines (PNCL) has reported that one of its planes was involved in an accident:
Pinnacle Airlines flight 4712 operating between Minneapolis – St. Paul and Traverse City, Michigan has been involved in an incident at Traverse City. Flight 4712 departed Minneapolis at 9:44 p.m. and landed in Traverse City at 12:43 a.m. The aircraft, a Canadair Regional Jet, was carrying a crew of 3 and 46 customers. Upon landing, the aircraft received no braking action and came to a stop off the end of the runway. There are no injuries reported to passengers or crew.
We may be overreacting to the local weather, but it seems like a day to stay inside. Thank goodness nobody was injured.
When Intuit (INTU) recently reported its interim sales figures for TurboTax, we said:
Sales since November are up 1%, but the company expects sales for the full season – ending in less than a month – to be up 3-5%? We know people procrastinate on their taxes, but didn’t they procrastinate last year as well? By sticking to the previous guidance, Intuit is saying people are significantly more likely to procrastinate this year than they were last year.
And even with the implausible guidance, consensus estimates were at the high end of management’s range. No wonder the shares are down after hours. For those procrastinators out there, however, it’s time to file your taxes. If you’re getting a refund it should arrive just as the stock is bottoming.
A commenter begged to differ, saying:
The guidance isn’t at all implausible. Intuit delivers TurboTax two basic ways: through software installed on desktop computers, and with a web version. With the desktop version, you pay up front; with the web version, you pay only when you file. Both products cost the same amount.
If the broad trend toward the web version continues, you would expect a higher percentage of turbotax purchases to occur when people finish their taxes, not when they start them. And it’s not completely a guessing game, either; Intuit can track activity on the web version, and they should have a pretty good idea of who is and isn’t likely to ultimately purchase and file through TurboTax.
We found that to be a solid argument. However, it appears to be at least partially refuted by H&R Block’s Interim Tax Season Results:
H&R Block Inc. (HRB - Annual Report) today reported tax season results for the interim period from Nov. 1, 2006, through March 15, 2007.
Total clients served (for both the company’s retail operations and digital tax solutions business) reached 14.6 million, an increase of 467,000, or 3.3 percent, over the prior year period. Digital tax clients served advanced 14.1 percent over 2006 while office-based clients increased 0.5 percent.
So H&R Block’s digital customers showed even more growth than its overall rate, which shoots a hole in the increased-web-migration argument (though Intuit could still have more web-based filers as opposed to software purchasers relative to H&R Block.)
Yet another possibility is that filers start out on Intuit’s software, then give up and hire a human. So regardless of Intuit’s customer awareness, we’re sticking with our Intuit-ion and repeat our thesis that their guidance sounds implausible.
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