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Larry Meyers, PDL Capital (74 clicks)
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The NY Times profile of a start-up, called LifeSize, simultaneously exposes why diet companies have done so well, and why they are vulnerable to what I call "the portion control revolution". The Huffington Post has weighed in favorably, as well.

After checking out the product, I firmly believe this concept will de-throne Weight Watchers (WTW), Medifast (MED) or NutriSystem (NTRI), and their stocks along with it. It isn't just the product. Diet stocks are now a sunset industry, and LifeSize is just another nail in the coffin.

Here's why, and why you should short the diet stocks.

Why Diet Stocks Are A Sunset Industry

A sunset industry is an industry in decline.

We've all heard about the obesity epidemic. If diets worked, why are things getting worse instead of better? Because Americans have stagnated. They are frustrated with lack of results. Consequently, diet companies are resting on their laurels and are caught behind the 8-ball while consumers move on. Diet companies rely on big ad spends and marketing plans - not on any ability of their product to actually work. All a diet company can do is repackage the same failed concepts.

Consequently, diet companies and their stocks have done well over many years, because losing weight is such a high priority for people that they never totally give up. Every January, the New Year's resolutions are made. People join a gym. People start a diet. And they just keep rotating from one diet to the next, moving on to the latest fad, spending their money over and over again in on an impossible task. And so it goes, and has gone, for decades.

Meanwhile, entrepreneurs rely on pounding the pavement, filled with gusto and passion, and that trumps a massive corporation every time. It also helps that the Emperor actually has clothes - ones with thinner waistbands because the new solutions work. Innovation trumps stagnation every time, and the diet industry is in stagnation, with innovators breathing down their neck.

Examining LifeSize

There are four macro items that buttress LifeSize at the expense of the public entities:

  • LifeSize is about freedom. Diets are about restrictions.
  • LifeSize is simple. Diets are complicated.
  • LifeSize works. Diets fail.
  • LifeSize is a one-time purchase. Diets cost more.

Freedom vs. Restrictions

Diets are not "tried and true". They are "tried and failed", as the NY Times points out in a separate article. The reason is that humans do not respond well to deprivation. How many people -- yourself included -- do you know who have dieted, lost weight, but actually kept the weight off? How many have tried multiple diets? How many diets permit you to eat ice cream and pizza and whatever else you love? Answers: None, All, and None. You can eat anything you want on the LifeSize program. This buttresses LifeSize. You are restricted on diets. This is crippling for diet programs.

Simplicity

Adopting LifeSize is easy. The product is designed to be simple. It's a set of specially-designed portion servers, a wall chart to show how every food item translates into a Lifesize Portion, and that you get 6 Lifesize Portions a day. No points, no counting calories, no weigh-ins, no support groups nor prepared meals.

People will always take a simpler solution over a more complicated one. Think about products in your life that solve a problem. Are they complicated products to use or simple ones? They are always simple. A remote control instead of a channel tuner. A microwave instead of an oven. A word processor instead of a typewriter.

Success vs. Failure

Some might say, "humans are stubborn, and adopting new diet habits is hard".

Humans are stubborn, but frustration will trump the most stubborn person's heart -- and humans are incredibly frustrated with diets. Diets don't work. Diets are designed to fail.

The only reason people have stuck around diet brands is there was never a better choice. Now there is, and it's been proven to work. The Times article indicates that a scientific study at Colorado State University proved that LifeSize users lose weight. That's the coup de grace.

Cost

LifeSize requires a single $80 purchase (plus shipping). Everything you need is there. Every other diet company requires you to purchase all kinds of products - seminars, cookbooks, calorie counters, pre-packaged foods, consultations, etc etc. Think how much money you've spent dieting over the years. Is it more than eighty bucks? I bet it is.

Other Thoughts

There is only one downside/challenge/headwind LifeSize faces: brand awareness. The way past this is through marketing. As long as they have the capital for market penetration, they will capsize the diet industry's Titanic. That capital shouldn't take long to build. The NY Times indicated the product had already appeared on Home Shopping Network (HSNI), which is 34% owned by Liberty Media Interactive (LINTA), and will likely appear again. HSN is all about cash flow. That's what John Malone does when his Liberty Media (LMCA) conglomerate buys anything -- he buys cash flow intensive businesses. HSN obviously sees enough cash flow value in this one product to give it precious airtime and multiple appearances. That's one hell of a vote of confidence.

How Is This Actionable?

For starters, the economic climate is one reason for why diet stocks are struggling and it plays to LifeSize's advantage. People have less money to spend, so that's been showing up in diet company financials (Weight Watchers earnings are expected to decline 1% this year). However, all these diet products require ongoing consumer expenditures. LifeSize is a one-time purchase. If you have limited funds, are sick of diets, and still want to lose weight, the choice will be obvious.

Weight Watchers is vulnerable. The concept is entirely too dependent on counting points, and you can't carry a silly manual with you everywhere you go, for the rest of your life. Meeting depend on how good the organizer is, and the personalities of other attendees. The brand forces pre-packaged foods on you and those get boring very quickly. Financially, it has only $40 million in cash and just saddled itself with another $1.5 billion in debt, raising its total to $2.34 billion. Enrollment trends are weakening. The brand is tired. The stock is 45% off its high, and a major hedge fund sold out at the $82 top. There have been no insider buys in the past two years. If this were a sunrise industry, they'd be buying. I say, short it.

NutriSystem is entirely dependent on its prepackaged foods. With the big push by consumers into organics, and thus mounting competition from Whole Foods Market (WFM), a prepackaged meal just won't stand up. A good, freshly prepared meal will always trump a pre-packaged one. It's easy to get bored with them, and they are also expensive: $300 -$400 per month! Financially, the company has $70 million in cash and $30 million in debt. The company lost money in two of its last four quarters. Cash flow is not impressive - it was actually negative $7.4 million in Q4. There have been no insider buys in more than two years, and insiders only hold 4.13% of the company. That's hardly an expression of confidence. Short it.

Medifast has been in business since 1980, yet after thirty years has not made a major impact on American weight management. That's because it is focused on shakes and powdered meals. How boring does that get? It's expensive, as well. It also focuses on deprivation. That probably why, after all this time, it still only generates meager free cash flow - between $14 million and $20 million annually. Net income was flat from 2010 and 2011, and is on track for a 30% decline this year. Short it.

The window has closed on diet stocks. The door is opening for innovation. I only wish I could find a way to invest in private companies like this start-up. Instead, I'll have to settle for big returns on my shorts.

Source: This Start-Up Is The Short Sell Signal For Diet Stocks

Additional disclosure: LifeSize is privately held.