Lifevantage (NASDAQ:LFVN) was founded and became a public company in 2004. The company's main product is Protandim, an Nrf2 activator, which is a patented formulation of natural plant ingredients designed to combat oxidative stress; it comes in capsule form to be ingested orally. A more technical description of Nrf2 is as follows:
Nuclear factor (erythroid-derived 2)-like 2, also known as NFE2L2 or Nrf2, is a transcription factor that in humans is encoded by the NFE2L2 gene. NFE2L2 induces the expression of various genes including those that encode for several antioxidant enzymes, and it may play a physiological role in the regulation of oxidative stress. A good discussion of the importance of Nrf2 can be found in this study from University of Texas titled "Nrf2, a guardian of health span and gatekeeper of species longevity".
Protandim activates Nrf2, a messenger protein, which communicates with cells instructing them to do what they're already designed to do: up-regulate our "survival genes" which enable cells to survive in the face of stress from free radicals and other oxidants, and down-regulate other genes that promote inflammation and fibrosis, helping the body function at an optimal level. Considering the many diseases that are caused by inflammation and fibrosis, many of which in turn are thought to be rooted in oxidative stress and free radical damage, and the market opportunity begins to take on new meaning.
Lifevantage distributes its products via network marketing and is headquartered in South Jordan, Utah. The company has gone through some growing pains, and in its short history it had a few iterations in terms of management, product distribution, business operations, strategic focus, and governance. However, Lifevantage is now on solid footing as a business and a public company, and is undervalued due to typical stereotypes, negative perceptions, and a general lack of knowledge by the investment community.
This view is based on a detailed analysis of financial metrics and the company's rapid growth, and comes down to my opinion that the market is ignoring the company's exceptional growth curve and prospects for that growth to continue.
1. Financials-Revenue & Earnings Growth, Balance Sheet & Margins
Let's look squarely at the numbers and the trends over the last four years and as well as fiscal 2012. First, Lifevantage has a very strong balance sheet (virtually no debt). They have a significant amount of cash and expectations for robust free cash flow going forward. By my estimates, the company had over $25 million in the bank on June 30th, 2012. The company paid off its credit line in January 2012, has no off balance sheet arrangements and all derivative liabilities (and therefore losses booked from a net rising stock price) were eliminated as of March 31, 2012. Sequential quarterly revenue and earnings are growing at a rate that is higher than most annual comparisons exhibited by growth companies.
Annual Revenues in millions (June 30th fiscal year)
|2009||20101||2011||2012 (est)||2013 (est)|
*Year is complete but not reported. Management has given this as guidance.
More to the point, the previous three quarters of revenue for fiscal 2012 were:
Quarterly Revenues/Operating Income in millions (2012 fiscal year)
For Q4, management has issued guidance of $44 million based on its full-year guidance. However, current management has been conservative in their past forecasts, with the mantra of under-promising and over-delivering, which I believe will be the case here as well. In my opinion the number could exceed $48 million, continuing its sequential growth of at least 25% per quarter for the past six quarters. Net pre-tax margins are approaching 18%, and could reach 20% as there is little in the way of competition for the foreseeable future. There are very few companies I have seen in my money-management career that have exhibited these growth rates, particularly as they approach the impact of the "law of larger numbers." The question is: can this growth continue for the next several years uninterrupted? I believe the answer is yes, with a number of factors that play into the scenario.
2. Lifevantage: The science behind Nrf2 activators and Protandim
Two major objections by skeptics of Protandim and Lifevantage are that "there is no science behind it", and "it is your typical nutraceutical company." I took a closer look and disagree with those conclusions. Below are a few relevant items which figure into my analysis:
First, in December of 2011, Reata Pharmaceuticals announced a joint agreement with Abbott Labs to develop and commercialize next generation antioxidant inflammation modulators. Reata Pharmaceuticals, Inc. is the leader in discovering and developing novel, oral anti-inflammatory drugs that activate Nrf2, the primary regulator of cellular antioxidant and detoxification enzymes, and suppress NFkB, the primary regulator of inflammatory genes. Reata is developing these compounds - called antioxidant inflammation modulators (AIMs) - with the goal of one day making them available to patients suffering from a broad range of diseases associated with inflammation and oxidative stress.
What did Abbott pay to Reata, up front, for 70% of the expenses and 70% of the profits of Reata's Nrf2-related portfolio? $400 million. This is in addition to a $450 million payment by Abbot to Reata in September of 2010, for the right to develop and commercialize Reata's lead Nrf2-activating compound, bardoxolone methyl, outside of the United States. Biogen is also pursuing an Nrf2 activator drug with the FDA for treatment of multiple sclerosis (http://www.nrf2.com/nrf2-fda). Lifevantage currently holds four patents on the Protandim compound which may potentially address some of the same conditions which "big pharma" is literally spending a billion dollars to develop drugs.
While Lifevantage is not undergoing double-blind studies to create an FDA approved pharmaceutical product, it reiterated the following in its May, 2012 form 10-Q filing with the SEC:
Protandim has been, is currently, or is planned to be the subject of, approximately 25 independent scientific studies at various universities and research facilities. The nature and stages of the studies vary, as some are still in planning stages, while other studies are currently in progress or completed. The universities and institutions involved in this research include the University of Colorado; Colorado State University; Children's Hospital, Denver; Virginia Commonwealth University; Louisiana State University; Ohio State University; Northwestern University; the University of Utah; Harvard University; and VU University Medical Center, Amsterdam. The various studies address the alleviation of oxidative stress under the following conditions: altitude sickness, non-alcoholic steatohepatitis, lung antioxidant status in withdrawing alcoholics, autonomic physiology and aging, skin cancer, multiple sclerosis, pulmonary hypertension, heart disease, coronary artery bypass graft failure, Duchenne muscular dystrophy, capsular contracture, and experimental allergic encephalomyelitis.
3. The Management & the Board of Directors- The transition is complete
Given the near-parabolic growth rate, I believe the appropriate Lifevantage management team is in place to take the company to a higher level with minimal execution risk. R&D spending has increased and the company's other expenses have grown as management and the board are building the infrastructure for rapid growth in the next three to five years, trying in particular to capture high-margin sales during a period of essentially zero competition. They have acted with discipline and foresight in conjunction with the company's Board of Directors to make sure there is no interruption in the current business model and to prepare for expansion into other possible product lines, geographic regions in the U.S., and international distribution.
The quality of the management team and the directors has vastly improved in the past few years. Although a micro cap company still trading on the Bulletin Board, the company has stated its desire to move to the NASDAQ and I believe that approval for that move is imminent. The company has nine Board members, six of whom are outside, independent directors. That may seem excessive, except in the context that this is a serious team that has ambitions far beyond what the company is today. Let's take a look at the CEO and some of the company's Board members.
Doug Robinson, the current CEO, started as a Board member with the company in January of 2010; he has served as Chairman of the Compensation Committee, and as a member of the Audit Committee as well as the Executive Committee. He became the CEO in March, 2011. Using his vast experience in the healthcare field, Doug has guided the company through 18 months of rapid growth, taking Lifevantage from an unprofitable to highly profitable business while filling key management positions. He also has his hands on the pulse of the vast distributor base, yet continues to explore ways to expand the company in a measured way.
Elwood Spedden, the current Chairman of the Board, has an extensive background in business that spans more than 45 years. He has served as the CEO and President of a public company, and has been involved in management and on boards of public companies that have experienced growth in a variety of industries (Credence Systems, Teradyne, Hewlett Packard, and Advanced Energy Systems, to name a few). The fact that he is now Chairman of a company that did $11.5 million in revenues two years ago is a statement in itself of his expectations for Lifevantage's success.
Michael Beindorff: Served as Chairman and CEO of PlanetRx.com, has worked for VISA (Executive VP Marketing, Operations, Product Management) and Coca Cola (Director of Global Advertising), and currently serves as a principal for a consulting company.
Dave Manovich: Served as VP and Executive VP for Apple Computer for over ten years. He started his career as a CPA for Deloitte.
There are other talented members of Lifevantage's management team, but the point is made with these: the company's Board members have vast experience working with enterprises both large and small, and in all facets of the businesses. There is a reason why a small public company that has just turned profitable has attracted seasoned businessmen to the board of Lifevantage.
4. Lifevantage is a typical MLM with one product- or is it?
Lifevantage distributes its products through a multi-level marketing (MLM/network marketing), with its main product being Protandim, although they do have a secondary skin care product. A few basic facts:
- The company's distributor base is growing rapidly.
- Protandim is manufactured at one facility.
- The product has a high margin and cannot be bought through retail chains.
- There are multiple sources for the Protandim ingredients; the company has a stable, diversified source of suppliers,
- Unlike other industries and companies, Lifevantage is not particularly vulnerable to severe commodity price swings.
- The company can scale from here by adding modest costs to infrastructure.
Other items worth mentioning about Lifevantage:
- The company has developed geographic diversity outside the U.S. In the last quarter, Japan represented 29% of sales, and has been experiencing rapid growth for the past year. The company has begun or is about to begin shipping product to Australia as well. While Mexico has been a disappointment, it appears the company will continue to sell its products in that country.
- I do not believe the company will remain a one-product company. With its vast and growing distributor base, the ability to cross-sell additional products is just a matter of time. Management has alluded to other products on past conference calls, so they are clearly pursuing the idea. Given what has occurred with Abbott and Biogen thus far, there may be an opportunity for a big Pharma licensing or joint venture agreement in the future.
- The penetration rate in the U.S. is still extremely low, with approximately 100,000 customers out of a potential 30 million or more.
- A significant competitive advantage is that unlike other MLM's in the marketplace, the revenues do not rely on the number of new distributors continuing to increase, although this clearly has been the case. According to management, about 70% of new enrollees are new preferred customers (e.g., end users, not distributors) and over 70% of those customers remain from one year to the next. This makes Lifevantage's revenue growth more reliable and predictable than most peer companies. If you look at a more mature company, such as Herbalife (NYSE:HLF), the story is quite different in that the turnover of distributors exceeds 50% a year, and a significant amount of revenue occurs from the distributors (as opposed to the end customer) buying the product.
5. Potential risks & catalysts
a. What are they going to do with all that cash? Assuming the growth rate projections are met, Lifevantage will have more cash than it can put to work. In a low interest rate environment such as we are experiencing today, excess cash is not rewarded by investors. The company attempted to implement a share repurchase program back in early 2011, but it did not get traction. One logical step would be to declare a quarterly dividend, but it remains to be seen what decision the company will make on how to use its cash position to increase shareholder value.
b. Revenue & earnings growth rate: a double-edged sword? Clearly, the market seems to assume that Lifevantage's growth rate is not only unsustainable, but will decline in the near future. This is evident from the current market capitalization, yet the possibility exists - indeed, I believe it is likely - that the company can continue to surprise to the upside and more than double year-over-year revenues in fiscal 2013 and beyond. Either way, the case can be made that given projections for next year, today's multiple to revenues, earnings or even EBITDA, is low relative to the current growth rate.
c. The skeptics claim that Protandim is a waste of money and has no positive health benefits: Given that it is all over the Internet, on blogs and message boards, this is not news. I stand by what was written earlier in the document with respect to the science: this is not your ordinary vitamin company. Lifevantage makes no claim that Protandim can cure or prevent anything; they merely discuss the Nrf2 science and make a concerted effort with respect to the science through the multitude of studies they are conducting. However, both MLM and the supplement businesses are highly scrutinized by regulatory agencies. The company goes the extra mile to make sure they are in compliance, and my view is that the potential downside on this front is minimal. On the other hand, consider the aging population in Japan and the demonstrated demand for Protandim. The same demographics are occurring in the U.S., so the demand and affordability of the product are working in favor of the company. As the cost of healthcare continues to rise, the demand for lower-cost alternatives to prescription drugs is expected to increase, as is preventative supplementation.
d. There is business execution risk: While clearly a factor in the past, current management and board are strong, and, as previously discussed, have the ability to take this company to a much higher level. The company has recently added to its management team, and the Board of Directors appears to be driven to optimize the business strategy for maximum growth and profitability.
e. Other criticisms such as "the company is on the OTC Bulletin Board" or "the stock price is too high after increasing dramatically in the last two years": On the contrary, the company has applied for NASDAQ listing, the stock is trading about 30% below its recent highs, and there is no catalyst that would suggest a correction of this magnitude. However, it is hard to borrow the stock for over three months, so draw your own conclusions.
Lifevantage shares are undervalued by any reasonable metric. For a company with a compounded annual growth rate (top and bottom line) in excess of 100% over the past 3 years and extremely strong growth prospects going forward to be trading at 6-7x pre-tax current fiscal year's (2013) earnings forecast represents, in my view, a compelling investment thesis. It appears that 10-12x next year's earnings, assuming no slowdown in growth, is more reasonable. Fuurthermore, the balance sheet is now pristine, and cash is growing every quarter. For the moment, the company has no peers is in a high-growth mode, and has assembled a credible management team and Board to execute on its long-term strategic plan. There are risks, as is true of any small, high-growth company, but the company is "safer" from a risk/reward standpoint now, albeit at a higher price, than it was a year or two ago.
Disclosure: I am long LFVN.