NutriSystem Collapses: What Now?

NutriSystem (NTRI) pre-announced that the third quarter would fail to meet expectations. The press release was issued after the close on Wednesday and immediately the stock dropped nearly 25% in after hours trading. While sales were likely up 21% to $188m, the company expects EPS to fall between $0.62 and $0.66. This compares $0.63 in the same quarter last year and basically represents no growth over the last year. The street consensus was for earnings of $0.82 this quarter so it is understandable that investors are very disappointed with the announcement (the stock closed Thursday down 33.6%).

Last time I covered NTRI, I discussed that the cost of acquiring new customers was increasing and that this was causing concern across the street. The most recent announcement now has customer acquisition costs [CAC] increasing from $182 per new customer last quarter to a range of $212-216 for the most recent quarter. At the same time, the number of new customers in the quarter were 218,000 which is 7% less than the same quarter last year. Thomas Weisel says that this statistic proves that we have reached a level of diminishing returns on marketing spending. Management stated that they were satisfied with the number of previous customers that they convinced to reactivate, but were disappointed with new customer adds.

It appears that the story with NTRI is now moving from a growth story to a mature company. This means that even though the firm is profitable and cash flow positive, its stock should receive a lower multiple because the earnings side of the figure is not expected to grow. Thomas Weisel has revised its 2007 estimates to $3.05 which represents a 33% growth rate from 2006. It also revised its 2008 estimate to $2.78 which actually represents a contraction in earnings. If this estimate is correct, investors can expect a very different valuation on the company.

Management stated that the board has increased the existing stock repurchase program which may provide a bit of support to the stock but will not have very meaningful effect. There is also a decent amount of short interest (myself included) in the stock that will likely cover at some point. This will also provide some support so I do not think this is the proper current environment to short into.

However, just as last quarter, many voiced their belief to me that the stock had sold off too hard, it is possible that this new level near $35 could become “normal” for the stock and we could see additional selling below this level. At this point, I am thankful that the short has worked, I will trade around the position a bit, and I think the company will continue to have significant challenges.

NTRI Notes

Disclosure: Author has short position in NTRI