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Sell Weight Watchers Now. It’s a Value Trap.

April 09, 2014 | About:

I lost 40% on Weight Watchers.

That doesn’t tell you anything about the investment. But taking a 40% loss is tough in any situation and I know that a lot of value investors own it.

But here’s why I took the blow to the gut and why you should consider selling Weight Watchers too.

I Sucker Punched Myself Into the Value Story

I Got Sucker Punched

The value story is short, simple and compelling.

  • Well known brand
  • Credible studies and proven results
  • Not a quick scam or fad
  • Currently in a marketing down cycle
  • Free mobile apps are the true fad

If you dig deeper into the value side, it’s really good. Comes across as a once in a decade opportunity. But I’m against it now.

The Moat and Brand Value isn’t Durable

Brands Don’t Know Much About Themselves

Weight Watchers is supposed to have a strong and durable brand moat but I don’t buy it.

Name a soda.

Coke.

Name a weight loss program.

umm…

Coca Cola is a moat and brand. Unfortunately, Weight Watchers isn’t as wide or deep as you think.

Even if Weight Watchers has a strong within the industry, it doesn’t stop companies from going bankrupt.

Blockbuster was a brand.

Kodak was a brand.

Hotmail was a brand.

My point? The Weight Watchers brand is easily erodible.

The Younger Generation Doesn’t Care or Have any Loyalty to Weight Watchers

Can You Guess Weight Watchers Target Demographic?

If you look up weight loss forums or other weight loss programs online, it’s clear that younger folks are more comfortable with online forums. People post their underwear photo for the whole world to see but won’t attend a live group.

The very act of meeting a bunch of strangers and discussing weight loss and life style changes is not something a person in their 20′s or 30′s is interested in.

People are just less willing to open up and interact with other humans. When I attend events or social gatherings, I see people build a “I’m not interested in socializing” barrier. They stand in a corner or lean against a wall and stare at their phone.

Why?

Because it’s easy and “safe”.

I’ve done it. You’ve done it. Everyone has done it.

The Weight Watchers support group is a broken model the longer it goes.

The Dying Trend of Group Meetings

I admit that the meetings are extremely important in achieving weight loss.

It works.

But the program isn’t the problem. The program is good.

The mistake is to believe that the group meeting format will continue to be the heart and soul of Weight Watchers.

Unfortunately, that was 3 fiscal years ago when the Points Program was launched in Dec 2010. Problem is, the meeting fees declined immediately after one year. Not to mention that the Points Program was delayed by several years to get it perfect.

Consecutive years of revenue declines immediately following a new program launch is a big red flag.

I don’t see how the group meetings can continue to be the cornerstone strategy for Weight Watchers.

Weight Watches Value Trap Revenues | Click to Enlarge

As meeting enrollments go down, in-meeting product sales also go down. Licensing has been flat and will likely remain flat. How many restaurants or ice creams will license the Weight Watchers brand?

That means the only revenue stream with growth potential is the online business.

But with management focusing on reducing costs and improving inefficiencies, the chance of being left behind on the technological front is very real.

*cough* Blockbuster Video *cough*

Weight Watchers is NOT a Lifestyle Change Company

A huge mistake is how value investors view Weight Watchers as a lifestyle changing company.

I also fail to see how this adds value to Weight Watchers as an investment opportunity, but I see it come up all the time.

The truth?

Weight Watchers is a weight loss program pure and simple.

Overweight people don’t want to hear lectures about changing habits and eating healthier.

Weight Watchers knows it. That’s why all of their ads focus on how much weight Jessica Simpson andJennifer Hudson lost.

Here’s something to think about.

Two friends were talking and one was smoking.

Non Smoking Friend: If you put the money you spend on cigarettes into an index fund and let it compound at 8-10% you’d be a millionaire in 10 years.

Smoker: You don’t smoke, so why aren’t you a millionaire yet?

Changing people’s behavior is one of the hardest things to do and that’s why apps, diet plans, pills, fads and scams will continue to do so well and keep eating away at Weight Watchers.

There is so much noise and crap in the weight loss industry that it’s extremely difficult for Weight Watchers to penetrate the market.

From the looks of things, it’s only going to get noisier.

The BIGGEST Mistake is Believing that Free Apps are Competitors

Weight Loss Apps are Just the Beginning

Free apps are NOT the competitors.

It’s the start of a massive trend as new companies also see the market potential and start crossing boundaries into the fitness and weight loss category.

Nike, Apple, Samsung, mobile apps that sync with web apps and the huge shift towards wearables.

I’m not talking about free or 99c apps here.

There are huge players invading the weight loss territory. Look at what mint.com did to the personal finance space. It’s getting easier to track your goals and manage weight with the help of gadgets.

Nike uses sensors and partnered up with Microsoft to offer a Kinect weight loss training game.

Game on Weight Watchers.

Results Using the Nike+ Kinect Weight Loss Game

Defense isn’t going to cut it for Weight Watchers when competitors are innovating like crazy.

Everybody knows how big of a market this is.

Weight Watchers needs a big shift in strategic direction instead of focusing on cost cutting.

Weight Watchers is a Dinosaur and a Value Trap

Ironically, Weight Watchers it the big, fat, stubborn incumbent in the weight loss industry.

I just wrote 1,000 words explaining two words. Value Trap.

Weight Watchers is working with a broken model. They need to start innovating, making itself known and getting consumers excited. Otherwise, expect margins, FCF and memberships to continue falling to the point where intrinsic value does become $20 per share.

Value investors are mistaking the width of the moat.

It isn’t as wide as it seems.

Free apps aren’t the problem. It’s just the start of its problems.

Have Your Say

Do you own WTW? Let me know what you think and why you are holding.

About the author:

Jae Jun
Founder of Old School Value (http://www.oldschoolvalue.com) dedicated to offering the most complete and detailed stock valuation and analysis spreadsheet. Investing made easy by importing 10 years of financials and 5 quarterly statements directly to excel for your analysis needs. Save time, make smarter decisions and make more money.

Visit Jae Jun's Website


Rating: 4.1/5 (14 votes)

Voters:

Comments

jessie86
Jessie86 premium member - 3 months ago

I agree, I was going to buy it after reading couple of Geoff's articles ( I am a big fan) then I decided to wait and subscribed myself to the program to see what is really going on. My experience was pretty dismal so I decided to skip the buy, even though the company was (is) at a clear discount relative to past valuations and I am a big sucker for reversion to the mean. Debt has always been an issue for me too, no matter how much capacity a company has to repay the debt, D/E more than 50% gives me stomach aches (maybe because I work at a bank, and I have allergy to leverage in general). But it looks like it all comes to revenue/gross margin issues at the end of the day for these value traps, which is kind of hard to detect, same thing happened to me with good old RadioShack (lost 60% after I bought it following a 50% dip), so good luck finding solid value investments, I guess it's not that easy

william.b.thomson
William.b.thomson premium member - 3 months ago

I am not totally in agreement with all of what you say, but the general thesis rings a big bell. I have been watching WTW for a year or two, and frankly, the more value players get involved the less I like it. One thing that I have noticed about the business model, not the stock itself, is that the advertising competition on television is relentless. Jenny Craig, Nutrisystems and others seem to inundate the airways with advertising. This can not be an easy business. Of course, you point out the other less obvious competition. It is not a business, as you suggest, with a moat.

heisenman
Heisenman premium member - 3 months ago

My biggest concern was how much shareholder value was destroyed when WTW management choose to buy back shares at around $80 from its largest investment group, which happened to also be a part of the company's management team in 2011. While the share buyback provided the investment group with liquidity, it was done at a very high cost to the rest of the company's shareholders. So, instead of being accretive the "buyout", with management's approval has been a burden with most of the cost funded with borrowed $$$.

In regards to the WTW model being "broken". I don't necessarily concur. The accountability that comes from the group meeting setting appears to provide measurable results (success) that the "do it yourself" apps and diet fads do not. I just met a young man at the local gym who is in his mid to late 20's that lost over 140 pounds via Weight Watchers, in conjuction with a regular exercise regimen at the gym. He and his now wife met at a doughnut shot. They decided together to make a commitment to get healthier (she lost over 100 pounds) prior to setting a marraige date. They succeeded and he continues to stick. The local newspaper showed the "before and after" pics. A dramatic success story.

ney123456789
Ney123456789 premium member - 3 months ago

Love the articles. Never the less I disagree on this one:

  • Apps dont change behaviour. (I call this apps glorified yellow pads, because they have a calculator and graphs attach)
  • Social preasure changes behaviour though
  • If it works (and looks like it does 2X to 5X more than having a nutritionist) then there´s will be a way to monotize it.
rrurban
Rrurban premium member - 3 months ago

The numbers on WTW do not make it out to be a good value investment, now or ever.
EV = $3.4B. FCF ~ $250M and declining. LTD = $2.4B. If I could afford it, I would not buy this entire company for $3.4B to get a $250M return (7%) that is in decline. There are way better opportunities out there with less catastrophic risk. I would require a 15% return which means I'd need to pay an EV of $1.7B, and the only way to do that is to pick it up in/after bankruptcy. My suggestion is to stop looking at the equity as an investment and instead start looking at senior bonds (under 5 years). Doing this you may end up owning the equity in a worse case scenario, or at least get a decent return if the company recovers. However, WTW has very little real asset coverage so unless you can pick up bonds for pennies on the dollar it's likely not worth it.

EV/EBITDA
EV/EBITDA premium member - 3 months ago

Is it possible that someone will come up with a successful online app or wearable technology that would replace Alcoholics Anonymous meetings? It seems that there are people that have an extreme issue with weight control and they need extra help that online apps won't provide. It's true that all the alternatives will have an impact on WTW's revenue but their business model is solid in my opinion. WTW and other companies like it will be around in 20 years.

grandpagates
Grandpagates - 3 months ago

Price is everything. I am a buyer at $10.

sapporosteve
Sapporosteve premium member - 3 months ago

Jae,

I am very curious as to why you make this assessment of WTW after you lost 40%. Only now it appears that you think it is a hopeless company and a value trap. Are you maybe paying too much attention to the price and not the value? Are we able to see how you determined that it was not a value trap when you bought it? How come you did not make the same negative assessment when you bought it?

By my calculation, the ratios are very favourable and it appears to have an opportunity for an asymmetrical return. Yes I hold it.

Your brand analysis is a bit selective - name a soda Coke? OK but this does not really say anything does it? Is Coke a great investment at the moment? I see where people are drinking less soda - so should you sell Coke?

There are very few companies with moats and people tend to think that if it does not have a moat then it is no good as an investment. Ben Graham made 20% per year without the need for moat. Plenty of investors make money on turnarounds, growth stocks etc etc. My point is that if you are as experienced as Buffett then by all means go chase moat stocks (plus consider that Buffett has too much to invest Graham style anymore not like the rest of us, or me anyway), but personally there are plenty of successful investments that are not moats. Just imagine if every investors just simply invested in moat stocks. They would be overpriced for a start and there would be no industry per se. Not every company in a sector/industry can be a moat stock, but that does not stop you from selecting asymmetrical investment opportinities.

For every Blockbuster, Kodak etc there are plenty of companies that have dealt with changing markets and debt loads. You are being selective in your examples. I could also do that to show the opposite of the point you are making.

Your product does not need to appeal to every age group. Young people may think Apps are the way to go but not older people who enjoy the company of others. People are always shy at these types of meetings (going to these types of meetings covertly says - "Hey look I am fat" which is not exactly what you hold up as your best trait. Go to the gym and watch people. They are the same there - Hey I'm skinny/fat/shapeless/etc etc....My point is you wont find many people telling you in person about their failures or their bad points.

But check out the successful WTW stories and those people are the chatty ones. It is part of our human nature to boast and be proud of our individual success. That is why there are so many before and after shots. Well, people go to meetings to do the same thing - "look at me...I made it". Just like the photo you posted. But judging his shape, he appears to have adjusted his food intake as he does not look that much more muscular.

People might think they can use an app and simply lose weight. If you need to use an app, then you will most likely fail. Why? Because it is like having a Personal Trainer - some people need an external motivator like leaving the house or making an external commitment- my wife has a PT and I tell her that $150 a week is ridiculous, but she tells me she wont go to the gym because she is not motivated enough.

The main way to lose weight is to adjust your food intake. It is not achieved by stuffing your face with the same food, but then going to the gym or looking at an app. This is well documented in research. There are plenty of thin people who dont exercise. It simply what and how much they eat - in short, it's a food issue not an exercise issue.

As Bruce Greenwald states in his book Competitive Advantage Demystified, the internet is there for everyone so there is no competitive advantage for anyone. Yes there may be some new entrants in this market but WTW has some "antifragility" charateristics and a considerable brand.

Note this from Bloomberg today:

Baby Steps

Online financial adviser LearnVest often calls itself the “Weight Watchers for personal finance.” One thing the start-up borrows from the weight loss program is an emphasis on the boost that comes with small achievements, especially early in the process. While Weight Watchers might instruct members to clean out their refrigerator, LearnVest sometimes advises new clients to clean the unnecessary cards and old receipts out of their wallets. Achieving these “bite-sized financial to-dos” provides an important sense of accomplishment, said LearnVest founder Alexa von Tobel.

A decent brand recognition in my book.

As a value investor, you wont succeed 100% with every investment. This is simple reality and the law of averages. Even Mr. B has failures. So maybe WTW was just not one of your own personal successes? Maybe you bought too early?

Or maybe it is just too early to tell whether WTW will be a successful investment...........

Regards

Steve

rrurban
Rrurban premium member - 3 months ago

You could own a basket of stocks like WTW and do very well over time. I would be looking very hard at WTW's debt payments and terms if I were long or considering being long the stock. What are the debt payments, interest rates and maturity dates? I haven't looked hard at this yet as I don't own the stock. I can tell you this though:
Cash & Equivalents on hand: $175M
FCF: $250M
Debt: $2.4B (even at 5% over 20 years the pymts are $190M but I'm pretty sure they're paying more than this)
If I had $3.4B and could buy the whole company and pay off all the debt, I would maybe earn about $450M or a 13% cash-on-cash return. Using "normalized earnings" is very difficult since there is no earnings visibility. Yes, WTW earns a great return on invested capital (thus the large interest in buying the stock). The problem, however, is the debt load and the lack of real tangible assets. They are cash strapped which just increases the challenges involved in turning the business around. Personally, if I decide to take a "flyer" on this stock I'd buy a put for insurance. I probably won't though, I just dislike debt in general as debt enslaves everyone, including companies.

batbeer2
Batbeer2 premium member - 3 months ago
It may be interesting to find out who owns the debt.

Let's say Artal took the cash from the tender and is now using that to buy the bonds at a deep discount..... Maybe they've seen how Michael stole Dell and they think they can do something similar.

I think it's worth noting that Artal could totally rip-off minority shareholders if they wanted to.

Will they behave more like Michael Dell (Trades, Portfolio) or Warren Buffett (Trades, Portfolio)?

Jae Jun
Jae Jun - 3 months ago

Great discussion folks.

Specifically want to address Sapporosteve since there is a lot of meat to go through.

Why am I writing this after losting 40%? I read Gannon's post and very lengthy PDF a little before I wrote this. I don't have 25% or 30% of my portfolio in this. I lost 40%, but it wasn't a big impact to my portfolio.

My original thesis was the same as you.

  • Fundamentals are fine even with the debt
  • Great low capex money generating biz
  • there will be overweight people forever
  • people are going to go to meetings
  • I'm aware of the WTW brand
  • I like to buy when things go down

"But where your money goes, you heart goes also".

Buying WTW made me start seeing more. Trends, patterns and questions not related to quantitative analysis. I could write a completely opposite article where I drill down on the fundamentals, but it's been done and I won't both rehashing the same thing.

And if WTW is a company where it's going to take 3-4 years for a turnaroud, and the bull argument is that meeting fees will also go up, then the moat deserves a deep look.

Because the argument boils down to just one thing Will meeting fees go up?

I say no and the direction of management pursuing ww.com and preventative healthcare also shows that WTW won't be known as a "meeting" goup forever.

AlbertaSunwapta
AlbertaSunwapta - 3 months ago

I just bought a few shares about a month ago. I don't think it's a value trap but I could sure see the shares falling further as people try and fail at the app approach. When I say fail, it's because my thinking is that the threat of exercise apps is overstated because increasingly scientists are finding weight gain has more to do with diet, blood sugar levels, sleep, etc and are downgrading the direct weight loss benefits of exercise. The threat from wearables that track bodily conditions and food consumption is much higher but I don't see it as a near term threat. In the meantime everything in general society is working against healthy weight maintenance. Adding sugar to replace healthier fats in most foods, kids eating crap prepared by over worked parents eating the same, manual labour jobs all being automated... The whole world adopting the same lifestyle. The global expansion opportunities are huge.

That said, batbeer2 you may be right. Is management trustworthy and shareholder friendly?

Barron's take on Dell:

http://online.barrons.com/news/articles/SB50001424052748704293904579071172835226710

jtdaniel
Jtdaniel premium member - 3 months ago

I do not own shares, having sold them for a very nice gain several years ago after WTW management navigated yet another successful turnaround. Based on history, this is not a stock I would short. I can personally attest to Weight Watchers Online for Men. I joined on February 20, just to shape up for spring tennis, and lost 23 pounds in less than six weeks. It was the first diet of my life, and I now consider it a lifestyle choice. No way would I switch to another system when I know this one works and costs very little. Yes, WTW could raise prices and keep my business.

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