First Day Pop for Vitamin Shoppe IPO?

by: Renaissance Capital IPO Research

Founded in 1977 as a single store in New York City, Vitamin Shoppe (NYSE:VSI) is now the second-largest retailer of vitamins, supplements and other health and wellness products in the US with 434 stores in 37 states. The company initially filed for an IPO almost two and a half years ago, before the IPO market virtually shut down for consumer-oriented companies in early 2008. If it finally completes its IPO this week, it will be the first traditional retailer to go public in the US since agricultural/construction equipment provider Titan Machinery (NASDAQ:TITN) did so in December 2007. Vitamin Shoppe plans to offer 9.1 million shares, 16% of which will be offered by selling shareholders, at a price between $14 and $16. JPMorgan, BofA Merrill Lynch and Barclays are the bookrunners on the deal, which is expected to price on Tuesday and begin trading Wednesday on the NYSE under the ticker "VSI."

Healthy numbers

Vitamin Shoppe generates 87% of its revenue from its 434 stores and the other 13% from direct marketing (formally through catalogues but now mostly online). Its stores, which average 3,700 square feet in size, sell 8,000 products from over 700 brands, while an additional 12,000 products are available online. Its largest product categories are specialty supplements, such as fatty acids and probiotics, and sports nutrition, such as weight gain powders and meal replacements. Helped by growth in the $25 billion nutritional supplement market, which grew at a 4.9% CAGR from 2001 to 2008, the company has maintained same-store sales growth above 4% despite the economic downturn, impressive considering its rapid store growth.

Active ingredients for growth

Since being acquired by Bear Stearns' private equity arm back in 2002, the company has more than doubled it store base and increased annual revenue to over $600 million. The acceleration of growth led to net losses in 2004 and 2005, but the company became profitable in 2006 and has maintained operating margins near 6% since. Looking forward, it believes that the expected 4.5% annual growth in the nutritional supplement market (and the faster growth in some of its key product markets, such as sports nutrition) will help it maintain same-store sales growth in the 4-6% range while expanding its store base by 10% annually with a long-term target of 900 stores. Net income growth should be further boosted if the company reaches its operating margin target of 10% and continues to pay down its LBO-incurred debt ($138 million post-IPO).

Possible side effects

The biggest risk Vitamin Shoppe faces is significant competition. GNC, the largest specialty retailer in the space, is two and a half times bigger than Vitamin Shoppe. In addition to other specialty retailers, the company also competes with drugstores, supermarkets and big-box retailers, as well as online sellers known to compete aggressively on price, such as recent IPO (NASDAQ:VITC). Same-store sales growth has slowed during the recession (from 6.2% in 2007 and 2008 to 4.3% in 3Q09) and while Vitamin Shoppe also sells online, this segment of its business is not growing. Lastly, demand for many health and wellness products is somewhat discretionary and depends on consumer trends and preferences that the company will have little control over.

Testing the IPO market's fitness

While the IPO market has certainly seen a rebound in activity in recent months, some more high-profile deals have had lackluster debuts, including last week's IPOs of private equity companies Dole Food (NYSE:DOLE) and AGA Medical (AGAM). With over 60% of Vitamin Shoppe's IPO proceeds going to existing shareholders, primarily private equity backer Irving Place Capital (formerly Bear Stearns Merchant Banking), through either share sales or preferred stock redemptions, investors will be wary that the IPO is serving to put cash in insiders' pockets rather than benefit new shareholders and spur future growth. With that in mind, while Vitamin Shoppe has a solid fundamental story, its performance could be somewhat tempered by these concerns. If successful, the IPO could create positive momentum for pending IPOs from other retail stores, including Dollar General (NYSE:DG) and rue21 (NASDAQ:RUE).