After a Bad Start to 2014, Is There Hope for Weight Watchers International?

Weight Watchers' stock price has been heading in the wrong direction in 2014, hurt by lower customer volumes at its trademark meetings, which have translated into lower profits for the company. Is it time to bet on the king of weight loss?

May 2, 2014 at 9:35AM


Weight Watchers International (NYSE:WTW) started the year off on the wrong foot, after a poor showing in the company's fiscal fourth quarter led to a sharp drop in its share price. Operationally, Weight Watchers was hurt by a double-digit decline in attendance at its trademark meetings business in both domestic and international geographies. The company, like competitor Medifast (NYSE:MED), continues to struggle to find the right recipe for top-line growth, as free technology applications and competition from the more diverse GNC Holdings (NYSE:GNC) have siphoned away customers at the margins.

Weight Watchers reported better-than-expected results in its latest quarter. But its much-ballyhooed online division, the focus area for future growth, continues to lose its momentum, reporting a year-over-year decline in subscribers. So, in the midst of the darkness, is there hope for Weight Watchers?

What's the value?
Weight Watchers is the self-described king of the weight loss sector, a business category that company founder Jean Nidetch pioneered in the early 1960s from her apartment. The company should theoretically be in a sweet spot, given that much of the world is overweight according to the World Health Organization. But the anecdotal inability of people to remain on their diet plans leads to constant customer churn, raising Weight Watchers' marketing costs. 

In addition, the aforementioned rise of free, diet-oriented technology applications has further exacerbated the already high level of competition in the sector, making growth a difficult task for Weight Watchers to achieve.

In its latest fiscal year, Weight Watchers posted disappointing financial results, highlighted by a top-line decline of 6.3% that was primarily a function of lower meeting attendance levels across its major geographies.More notably, the company's overall business continued to skew toward online services and away from physical meetings, a negative development that limits its ability to sell high-margin ancillary products. The net result for Weight Watchers was lower overall operating profitability, thereby hurting its ability to pay down the sizable debt load from its ill-advised leveraged recapitalization in 2012.

It's hard all over
Of course, the company isn't alone in its current quagmire, as competitors have likewise struggled in their bids to find elusive top-line growth. Case in point is Medifast, a major player in the meal-replacement product niche, which seemed to hit a brick wall in FY 2013 after four straight fiscal years of double-digit revenue gains.

For the period, Medifast reported flat revenue growth versus the prior-year period, partially due to lower sales at its company-owned weight loss centers, which are undergoing a transformation to a mostly franchise model. On the upside, though, the company grew sales in its direct-selling operation, known as Take Shape For Life, a higher-margin operating segment that provided a nice pick-me-up for Medifast's overall profitability. The net result for Medifast was better cash flow, allowing it to invest more resources in product development, highlighted by the recent introduction of its Flavors of Home product line, part of its trademark 5&1 Plan.

A better way to go
Given the uneven growth prospects for the weight loss players, especially Weight Watchers, investors should probably be looking for competitors that incorporate weight loss products into their business mix, rather than focus solely on the diet space. A well-positioned player that fits the mold nicely is GNC Holdings(NYSE:GNC), the eponymous retailer of health and wellness products that operates an unrivaled store base of more than 8,000 locations around the world.

Unlike Weight Watchers and Medifast, GNC had no trouble finding a top-line gain in FY 2013, continuing a multi-year trajectory that has seen its revenue rise more than 50% cumulatively over the past four fiscal years.Each of GNC's units generated positive results during the period, led by an 11.1% increase for its wholesale unit, which benefited from an expansion of the company's store-within-a-store concept at drugstore chain Rite Aid. More importantly, GNC's operating cash flow ticked slightly higher compared to the prior-year period, helping to fund a further expansion of the company's operating footprint in 2014 in places like Russia and the Asia/Pacific region.

The bottom line
Technology has seemingly degraded much of Weight Watchers' value proposition, that of its trademark meetings, as customers seem to believe that they are capable of losing weight on their own, with the help of online planning tools. While the company looks pretty cheap, with a current single-digit P/E multiple, its negative business trends and highly leveraged balance sheet make it a risky bet. Prudent investors should probably look elsewhere for a health and wellness play.

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Robert Hanley owns shares of Medifast and GNC Holdings. The Motley Fool owns shares of Weight Watchers International. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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