USANA manufactures nutritional and personal care products which focus on reducing the risk of chronic degenerative disease to promote long-term health. The customer can be classified into two types. First are Associates who are independent distributor of the products, and can use the product for personal use. Second are Preferred Customers, who strictly buy products for personal use only. Currently it has 222,000 active Associates and 68,000 active Preferred Customers.
The company is using the network marketing system, similar to franchise business to do marketing and sales of its products, similar model with Avon (NYSE:AVP), Herbalife (NYSE:HLF), Nuskin (NYSE:NUS) and Amway (this company is not listed yet). Those companies have very high market valuation due to its growth in both revenues and earnings overtime. Here is the relative valuation of these marketing companies today:
We can see quite clearly that USANA is trading at the large discount compared to the relative valuation of its bigger competitors in the same field and with the industry average. 40-50% for the earnings multiple and cash flow multiples. Besides, it is cheap compared to the historical company of its own as well. On the rolling five-year average basis, USANA P/E stays at 17.2, and P/CF is at 12.6, double the current valuation right now.
For profitability, USANA for the historical period of 10 years has increased its sales, from $114 million to $518 million at the end of 2010, with the annual compounded growth rate of 16.3%. The operating margin fluctuated around the range of 9=18%, whereas the net margin is on the 6-12% range over the last nine years. Along with that, the return on equity is quite high, with only little help from leverage. The Dupont model has shown us that:
|Return on Equity||16.05||52.13||66.65||66.75||83.34||77.91||91.7||84.98||63.19||41.59|
The normalized net margin for the last 10 years stayed at 8.7%, and the normalized ROE is at 62.4%, and gradually the firms reduce the level of financial leverage, which makes the ROE less attractive than before, but still at the very high number of 41.9
For financial health, Debt/Asset ratio is at 27%, with no bank debt, both long- and short-term debt and the level of cash 12% of the total asset. With the market capitalization of $511 million, adjusting to debt and the level of cash on hand, its enterprise value is at $482 million only, driving the multiples valuation even lower.
For cash flow, it consistently got positive growing cash flow over the last 10 years in both operating cash flow and free cash flow.
Over the historical 10 years, the CFO has increased from $10 million to $66 million, and the FCF increased from $3 million to $62 million, with the annual compounded growth rate of 20.7% and 35.4%.
Even with the high growth rate like that, if we assumed very, very conservatively regarding to its historical growth in free cash flow, the discounted free cash flow will look like this based on very conservative assumptions:
Assume that the FCF will increase 8% continuously for the next five years and then increase 1% to infinity, with the discount rate of 10%. Doing inverse calculation to get the discount rate and the growth rate for the company, the enterprise of $360 million would match the assumption of significantly high discount rate of 20%, the growth of 4% for the next five years and no growth afterwards. Clearly, at the enterprise of $360 million, it is ridiculously undervalued.
In terms of management, it is reported that it doesn’t have a lot of stakes inside the company, but there are two positive signals in terms of guru buying and insider buying. First is the CEO has bought the stakes in August 2011, and until now the price had advanced nearly 40%. In addition, Magic Formula guru Joel Greenblatt began to buy the stock in March, and increased holdings in June.
In terms of catalyst, there are two things which might increase the share price in the company. The first one is the confidence of investor into the network marketing companies, as people sometimes shield away because of legal scrutiny for direct selling operation. Second is the notice of other smaller funds/investors into the company, it seems like this company is being ignored in the stock market. If the fundamental is still growing (even at the slower rate than before) and it reflects in the share price, the investor of today would have high probability of getting a whole lot of gains.
This is the subjective viewpoint of the author, and it is not the recommendation to buy, hold or sell the stocks mentioned in this analysis. Anyone who wishes to buy, hold or sell the stocks has to do his/her own analysis at his/her own risk.