Dobrila Vignjevic
OVERVIEW OF THE BUSINESS
Weight problems poses a variety of harmful well being dangers, each bodily and psychological. Bodily, weight problems considerably will increase the probability of creating persistent circumstances reminiscent of heart problems, diabetes, cancers, and issues. It locations a burden on very important organs and results in diminished mobility, leading to a diminished high quality of life. Furthermore, weight problems takes a toll on psychological well being, contributing to despair, anxiousness, and low shallowness. Not solely is the widespread epidemic a serious downside for the well being and funds of overweight people, however additionally it is a $173 billion monetary pressure on the U.S. healthcare system. Within the U.S., greater than 2 in 5 adults are categorised as overweight, and almost 76% of adults are chubby. That is the place Optavia steps into the image. Medifast, Inc. (NYSE:MED) is a MLM well being and wellness firm behind the rising coach-driven group referred to as Optavia. The aim with the Optavia platform is to alter the life-style of those that are chubby by creating small and wholesome micro-habits, reminiscent of weight-reduction plan, higher sleep, correct hydration, and so on.
Up to now, the Optavia community has greater than 58,000 coaches, and it has helped greater than 2 million prospects. By means of using coaches as gross sales representatives, Medifast sells on to customers an interchangeable vary of meal alternative plans, kits, and merchandise with the goal of serving to prospects shed extra pounds. Scientifically talking, their merchandise work, and there may be nothing groundbreaking about them. The efficacy of their merchandise lies within the easy precept of making a caloric deficit via portion management, serving to prospects eat fewer energy than they burn. These meal plans are customizable, permitting prospects to personalize their choices. Optavia’s merchandise embody plans for weight reduction, weight upkeep, and plans for individuals with medical circumstances, reminiscent of diabetes. Every package gives a month’s provide of lean protein, low-carb meals, and snacks. With costs starting from $395 to $442 per thirty days, Medifast’s kits are inexpensive in comparison with the estimated month-to-month meals plan expenditure of the typical one-person grownup family, which falls throughout the $300 to $420 vary based on the U.S. Division of Agriculture.
For almost all of Optavia coaches, their position serves to complement their earnings. Their compensation is primarily tied to consumer purchases made instantly via the Optavia web site. Coaches earn a normal fee of 15%, however their fee can improve as much as 31% based mostly on elements reminiscent of ongoing schooling with Optavia and gross sales quantity. Many are enthusiastic about Optavia, as greater than 90% of energetic coaches have been of their shoppers’ sneakers and used the meal kits themselves. Consequently, coaches can share their private success tales with their shoppers, and this vitality assists with holding the consumer motivated, which is a big chunk of the battle when shedding pounds. Having somebody to carry shoppers accountable will increase a consumer’s likelihood of success. Later down the highway, profitable shoppers are supplied the prospect to hitch on as a coach.
Regardless of being categorized as a multi-level advertising and marketing (MLM) agency, Medifast upholds higher practices in comparison with many different MLM firms (discuss with Determine 1). As an example, Optavia coaches don’t buy or maintain stock, obtain reductions, or set costs on merchandise, that are all widespread controversial practices in typical MLM fashions. Such practices usually result in predatory habits amongst associates. In distinction, prospects buy merchandise instantly from Optavia’s web site, with coaches serving to help the consumer.
![Competitive advantage](https://static.seekingalpha.com/uploads/2023/7/21/51776427-1689930459038415.png)
Determine 1 (MED Q1 2022 investor presentation)
Scrutiny of the MLM mannequin usually facilities round whether or not an organization prioritizes recruitment over product gross sales. The deal with recruitment can elevate considerations over potential pyramid schemes. Whereas the recruitment of coaches is a crucial side for Medifast, as they function gross sales brokers and assist maintain promoting prices low, the corporate asserts that its progress is just not reliant on recruiting many distributors and burdening them with stock on the market. Nevertheless, the recruitment of recent coaches stays a key metric when assessing Optavia’s future progress potential. The variety of energetic and incomes coaches has skilled exceptional progress, growing by 352% from 13,000 in 2017 to 58,700 in 2023. Furthermore, throughout the identical interval, income per coach has proven a notable improve of roughly 33%.
SETTING THE SCENE
Regardless of experiencing speedy progress in the previous couple of years, Medifast has encountered challenges with buyer retention and acquisition since 2022, seemingly stemming from the inflationary setting. On account of this downside, the corporate has had points with retaining coaches as effectively. There’s a silver lining, nonetheless. Buyer retention and repurchase charges have recovered again to historic ranges. Based mostly on previous transcripts, I presume that that is round 77% relative to the 62% retention fee in 2022.
Even nonetheless, Q1 2023 income has fallen 16.4% from $417.60 million the prior 12 months. Administration has tried to downplay these points by highlighting the quarter-over-quarter income and coach productiveness enhancements in Q1 2023 in comparison with the previous two quarters. Nevertheless, it is very important contemplate the seasonal nature of gross sales within the well being and health trade. Usually, there’s a surge in gross sales and exercise in Q1 because of New Yr’s Resolutions, adopted by a decline in subsequent quarters as extra individuals fail their resolutions. So after all, Medifast had higher outcomes relative to Q3 and This fall of final 12 months. But when the Q1 2023 outcomes are what units the development for the upcoming 12 months, decreased YoY efficiency in Q1 is just not an encouraging signal for the enterprise within the short-term.
Moreover, there are growing considerations relating to the potential impression of GLP-1 medicine on Medifast’s future gross sales. Though FDA-approved weight reduction medicines have been obtainable for a while, GLP-1 medicine are acknowledged as extremely efficient choices out there. Nevertheless, it’s essential to acknowledge that there has all the time been a constant marketplace for people in search of pill-based options somewhat than choosing dietary modifications. Subsequently, it’s my perception, partially, that the people who’re smitten by these medicine should not essentially the identical people inclined to stay to a constant weight-reduction plan.
Furthermore, regardless of the importance attributed to GLP-1 medicine, it is very important be aware that they’ve but to realize widespread adoption. Their prices stay excessive within the quick time period, and uncertainties persist relating to insurance coverage protection for these bills. As an example, medicine like Wegovy and Ozempic can exceed $1,000 per thirty days in value. Furthermore, these medicine are sometimes perceived as non permanent fixes, and the consequence of their long-term use stays questionable. In keeping with analysis by Prime Therapeutics, a majority of GLP-1 drug customers discontinue their utilization inside a 12 months because of some mixture of affordability and unintended effects.
As well as, a survey performed by Medifast revealed that prospects overwhelmingly favor a life-style and behavioral change strategy (3:1) for managing their weight, somewhat than counting on drug remedy. Nevertheless, it’s important to strategy these survey outcomes with a stage of skepticism, as market analysis can typically be influenced by the pre-existing beliefs and biases of the administration crew.
It’s additionally value noting that the market has a robust prejudice in opposition to MLM companies, and MLM firms at the moment commerce at substantial reductions relative to non-MLM companies. Some for good motive. For a lot of, there may be merely no center floor between good and dangerous. Regardless of the Optavia Teaching Mannequin’s higher practices relative to different MLM companies, they at the moment endure from the consequences of the MLM low cost.
Since reaching their all-time excessive in Could 2021, MED’s inventory value has skilled a big decline of over 76%, resulting in a market capitalization of $855 million on the time of this writing (equal to $79 per share). Within the following evaluation, I need to analyze the corporate’s incomes energy worth (EPV) and adjusted asset worth (AV) to see if this fall from grace is warranted. From there, we are going to have a look at the problem of progress, obstacles to entry, and aggressive entry, and we are going to try and arrive at a good valuation for Medifast after accounting for a number of dangers.
MEDIFAST’S EARNING POWER VALUE
In our incomes energy calculation, I’ve thought of each a base case and a bull case state of affairs (discuss with Determine 2).
Within the base case, we begin by estimating a sustainable income determine for Medifast transferring ahead. Q1 2023 gross sales amounted to $349 million, however contemplating the seasonality of gross sales within the weight reduction trade, it might be overly optimistic to multiply this determine by a a number of of 4x for the complete 12 months. Subsequently, income numbers above $1.4 billion are unlikely to be achieved in 2023. For the bottom case, we assume that income will decline to $1.1 billion, representing a lower of greater than 31.2% from the $1.6 billion in income reported in 2022.
To calculate working revenue within the base case, we utilized Medifast’s common working margin over the previous 22 years, which stands at 11.2%. This margin is barely decrease than the 11.6% working margin reported in 2022. With $1.1 billion in income and an 11.2% working margin, we arrive at an estimated EBIT of $123 million.
Medifast’s SG&A bills are much less sticky in comparison with different companies as a result of coaches are contractors, not staff. Subsequently, if income declines, fee funds to coaches ought to lower. For the bottom case, assuming gross margins stay round 70%, we estimate SG&A bills to be roughly $647 million. Nevertheless, it is very important be aware that firms usually spend extra on operational prices than what is important to take care of their present guide of enterprise. Extra spending is usually aimed toward income progress – i.e., further incentives for coaches or elevated depreciation bills because of progress CAPEX. On condition that we’re concerned with estimating a sustainable stage of incomes energy, we need to estimate and add again the extra progress spending to our EBIT estimate. On this case, we have now added again 20% of the $647 million SG&A expense, amounting to $129 million. Consequently, we adjusted the EBIT determine to $253 million.
With a 21% company tax fee, Medifast’s web working revenue after tax (NOPAT) quantities to $200 million. Discounting this determine by the weighted common value of capital (WACC) estimated at roughly 12%, the EPV of the working enterprise is calculated to be $1.66 billion. After including the $124 million in money and subtracting the $24 million in debt, the present EPV of the fairness stands at $1.76 billion for the bottom case.
For the bull case, assuming a fairly life like income goal of $1.3 billion, which represents an 18.7% lower from 2022, and using the typical working margin of 13.3% since Optavia’s launch in 2017, we arrive at an estimated EBIT of $173 million. With a 70% gross margin assumption, SG&A bills are estimated to be round $737 million. After including again 20% of this expense for progress initiatives, the adjusted EBIT quantities to $320 million. Making use of the 21% tax fee, NOPAT is calculated at $253 million.
Utilizing the identical 12% WACC, the EPV of the working enterprise is calculated at $2.11 billion. Including the money and subtracting the debt provides us the EPV of the fairness at $2.21 billion for the bull case.
![EPV Calculation](https://static.seekingalpha.com/uploads/2023/7/21/51776427-16899306588681176.png)
Determine 2: EPV Calculation for MED (Z McKannan)
Based mostly on our calculations, the present sustainable EPV of Medifast’s fairness is prone to be between $1.76 billion and $2.21 billion on the optimistic facet. This equates to $162 and $203 per share. Ought to these numbers be correct, the bottom case seems to supply upside potential of 106%. We’ll be rocking for our base case estimates of EPV for the rest of this text.
MEDIFAST’S ASSET VALUE & ROIC
As we speak, too little consideration is paid to the guide worth of belongings. Consequently, most traders lack a crucial understanding of an organization’s underlying enterprise, leading to an incapability to correctly assess anticipated returns if the inventory is acquired at a good valuation. Over the long term, the investor will discover it tough to carry out higher than the underlying enterprise, except the corporate is purchased at a reduction relative to its intrinsic worth. Consequently, consideration ought to be centered on ROIC. We calculate ROIC by dividing our estimate of NOPAT by the full capital employed (TCE) within the enterprise (fairness + liabilities – money). This metric permits traders to gauge the effectivity of capital utilization and the returns generated by the corporate.
To lower the likelihood of being on the unsuitable facet of a commerce, contemplating the guide worth is without doubt one of the a number of approaches that may be employed. However relying solely on the corporate’s GAAP monetary statements could create an phantasm of persistently reaching extraordinary returns on invested capital, as seen in Medifast’s case (discuss with Determine 3).
![Figure 3: GAAP ROIC for MED by year using our estimates of adjusted NOPAT](https://static.seekingalpha.com/uploads/2023/7/21/51776427-16899304585485153.png)
Determine 3: GAAP ROIC for MED by 12 months utilizing our estimates of adjusted NOPAT (Z McKannan)
Such persistently excessive ranges of ROIC merely aren’t plausible. This discrepancy arises from the numerous understatement of Medifast’s TCE because of GAAP, resulting in inflated returns on invested capital. This remark is confirmed when analyzing Medifast’s Q1 2023 steadiness sheet (discuss with Determine 4).
![Figure 4: MED’s balance sheet figures reproduced from the Q1 2023 10-Q](https://static.seekingalpha.com/uploads/2023/7/21/51776427-16899307483100119.png)
Determine 4: MED’s steadiness sheet figures reproduced from the Q1 2023 10-Q (Z McKannan)
As seen above, the reported guide worth stands at a mere $171 million with no intangibles accounted for. Nevertheless, it’s clear {that a} enterprise producing $1.1 billion in gross sales and $200 million in sustainable NOPAT, with tangible capital of solely $198 million, is prone to possess intangible belongings of considerable incomes energy and worth. If a possible competitor have been to copy Optavia’s community of 58,000 coaches and a pair of million prospects from scratch, it might require important funding to breed such a beneficial community.
Contemplating this, it’s obvious that Medifast’s unadjusted steadiness sheet solely gives insights into the tangible capital employed to generate present earnings. Whereas analyzing the returns on tangible capital employed is insightful, it’s important to estimate the worth of Medifast’s intangible belongings and make needed changes to the steadiness sheet. This adjustment will enable for a extra life like estimation of the corporate’s asset worth, ROIC, and worth from progress.
The popularity of intangible belongings is commonly debated, with some arguing that estimating their worth lacks precision and gives little worth to traders. Nevertheless, I maintain the opposing view and contemplate the inclusion of intangible belongings as a conservative strategy. Adjusting the guide worth upward to include intangibles reduces the estimated ROIC and gives traders with a extra correct illustration of the underlying enterprise. It will be important to not dwell on minor disparities between estimated intangible values and reported goodwill on the steadiness sheet however somewhat deal with the numerous disparities, as evident within the case of Medifast.
To find out the worth of Medifast’s intangibles, we are able to draw inspiration from the cost-of-production concept of worth initially proposed by Adam Smith. Though this concept has inherent flaws for the reason that worth of an asset is subjective to shopper preferences somewhat than manufacturing value, estimating the incomes energy related to an organization’s intangibles is speculative and difficult. Nevertheless, using manufacturing value as a proxy for worth is best than utilizing no estimation in any respect. Even with potential deviations in estimates, an affordable approximation gives a greater understanding of the full capital employed by the enterprise and gives perception into the true underlying economics and anticipated returns of Medifast.
Within the case of Medifast, important expenditures associated to SG&A bills have seemingly contributed to the creation of their intangible belongings, which may be handled as quasi-assets. Promoting bills and compensation paid to coaches have performed a vital position within the growth of the Optavia model and community. To find out the worth of those identifiable intangibles, we pose a easy query: What number of years of SG&A spending would a possible competitor have to speculate to breed this worth? One to a few years’ value appears cheap, with one 12 months being too little and three years being extreme for Medifast’s measurement.
Based mostly on historic SG&A expenditures from 2018 to 2022, which averaged $637 million, we have now utilized a 2x a number of to estimate the worth of Medifast’s intangibles at roughly $1.28 billion. Including this estimated worth of intangibles to the reported tangible fairness of $171 million leads to an adjusted guide worth of $1.45 billion, or $133 per share (discuss with Determine 5).
![Figure 5: AV calculation for MED](https://static.seekingalpha.com/uploads/2023/7/21/51776427-16899307751278398.png)
Determine 5: AV calculation for MED (Z McKannan)
Our estimate of guide worth is nearer to what I’d count on a competitor to pay so as to replicate the incomes energy of Medifast. Dividing our estimate of sustainable NOPAT of $200 million by the TCE, Medifast’s true ROIC is round 13.5% (discuss with Determine 6).
![Figure 6: TCE and ROIC calculation for MED](https://static.seekingalpha.com/uploads/2023/7/21/51776427-1689930797291462.png)
Determine 6: TCE and ROIC calculation for MED (Z McKannan)
Though barely above our estimate of Medifast’s WACC of 12%, the 13.5% ROIC presents a unique perspective in comparison with the GAAP figures (discuss with Determine 7). The GAAP ROIC gives a greater measure of Medifast’s return on tangible capital employed, which is spectacular and demonstrates the corporate’s capacity to function with minimal tangible capital. Nevertheless, incorporating intangibles considerably lowers Medifast’s ROIC for each earlier and present years, and I consider that the adjusted determine gives a extra correct illustration of the underlying enterprise.
![Figure 7: Comparing MED's GAAP ROIC and adjusted ROIC](https://static.seekingalpha.com/uploads/2023/7/21/51776427-16899308198788447.png)
Determine 7: Evaluating MED’s GAAP ROIC and adjusted ROIC (Z McKannan)
VALUING MEDIFAST’S GROWTH
To evaluate Medifast’s progress potential, we first study their market share within the $7 billion on-line weight reduction market within the U.S., which at the moment stands at roughly 20%. Nevertheless, the sustainability and potential progress of this market share are questionable. Traditionally, Medifast’s share of the market has been risky, indicating a problem in sustaining a constant place out there. An organization that can’t defend its market share will seemingly wrestle to generate superior returns on invested capital over the long run. This casts doubt on whether or not Medifast’s intrinsic worth is considerably greater than their present EPV.
Whereas there was a optimistic unfold between our estimate of Medifast’s ROIC and their 12% WACC from 2018 to 2022, indicating worth creation from administration’s progress initiatives, I’m skeptical about their future capacity to deploy capital at optimistic spreads. Historical past exhibits that superior returns appeal to hungry competitors, which is prone to trigger any superior returns on invested capital to revert to the imply. Certainly, Medifast has traditionally struggled to persistently ship an ROIC above their WACC, confirming the aggressive nature of the trade with restricted obstacles to entry. From 2001 to 2017, the typical adjusted ROIC for Medifast was roughly 12% (discuss with Determine 8).
![Figure 8: MED's adjusted ROIC by year after estimating intangibles](https://static.seekingalpha.com/uploads/2023/7/21/51776427-16899304586571484.png)
Determine 8: MED’s adjusted ROIC by 12 months after estimating intangibles (Z McKannan)
Within the interval following 2017, Medifast was capable of generate a superior ROIC for a short stretch. It’s tough to pin down causation. It coincided with modifications in management following activist involvement, with the present CEO, Daniel Chard, taking the helm after changing the earlier CEO in 2016. Chard’s deal with the Take Form For Life section, rebranded as Optavia in 2017, performed a job of their superior returns. Throughout this era, it appeared that Medifast’s moat, if it existed, stemmed from a buyer demand benefit within the type of buyer captivity.
Nevertheless, the important thing query is whether or not Medifast can maintain this buyer captivity and successfully keep at bay aggressive entry going ahead. Previous points with buyer retention elevate doubts concerning the firm’s capacity to take care of a robust moat. Subsequently, for the needs of our evaluation, we are going to assume a conservative strategy and assign zero worth to Medifast’s progress potential. We anticipate that future returns on invested capital will align with Medifast’s WACC.
Taking a conservative stance is advantageous on this case, because it permits us to keep away from overestimating the presence of aggressive benefits. If we’re mistaken in assuming imply reversion and the optimistic unfold stays, traders who buy the inventory at present costs would basically obtain the expansion free of charge.
MEDIFAST’S AV & EPV THROUGH HISTORY
By means of an evaluation of Medifast’s annual filings and historic inventory costs relationship again to 1996, we are able to establish the perfect occasions to purchase MED inventory relative to our historic estimates of EPV and AV. Curiously, there have been solely 4 situations over the previous 27 years when Medifast inventory introduced enticing shopping for alternatives.
The primary such occasion occurred in 2000 (discuss with Determine 9), previous to which Medifast operated below the identify HealthRite. At the moment, the corporate had two subsidiaries: Jason Prescription drugs (Jason) and Montana Naturals Worldwide (MTNA). Jason was the worthwhile proprietor of the Medifast product line, whereas MTNA appeared to service the natural trade and was unprofitable. Previous to 2000, HealthRite inventory seemed to be a traditional worth lure, with administration allocating massive quantities of capital to the unprofitable MTNA.
Nevertheless, a catalyst emerged in 1999-2000 when administration introduced the closure of MTNA. This choice marked a strategic shift, with HealthRite refocusing its efforts on its worthwhile asset, Jason, and the Medifast branded merchandise. By 2000, HealthRite was displaying working income after adjusting for one-time restructuring expenses. Had a contrarian turnaround investor acknowledged this reality, the inventory might have introduced a profitable alternative.
Traders who purchased shares throughout the 2000-2001 window and bought in 2003, when the shares turned overvalued, would have realized important returns, with almost 37 occasions their preliminary funding. In distinction, the S&P 500 delivered a -11.3% return over the identical interval. Realistically, nonetheless, the diligent investor would have seemingly bought previous to 2003, because the inventory was inflated relative to the worth of the underlying enterprise by 2002.
![Figure 9: MED's price, AV, and EPV from 1996 to 2006](https://static.seekingalpha.com/uploads/2023/7/21/51776427-16899304585441632.png)
Determine 9: MED’s value, AV, and EPV from 1996 to 2006 (Z McKannan)
The subsequent two situations the place our mannequin signifies undervaluation of Medifast inventory occurred in 2007 and a interval between 2011 and 2015 (discuss with Determine 10). Throughout each intervals, Medifast was a worthwhile enterprise working in a extremely aggressive trade. Traders who purchased shares between 2007 and 2008 would have witnessed a achieve of 583% by 2009, considerably outperforming the -19.4% return of the S&P 500 throughout the identical interval. Equally, shares purchased on the finish of 2011 would have compounded 205% by 2016, whereas the S&P 500 delivered a return of 99.4%.
![Figure 10: MED's price, AV, and EPV from 2006 to 2016](https://static.seekingalpha.com/uploads/2023/7/21/51776427-1689930458662982.png)
Determine 10: MED’s value, AV, and EPV from 2006 to 2016 (Z McKannan)
As already mentioned, the basic shift for Medifast occurred in 2016, when an activist fund acquired a board seat and applied modifications. Daniel Chard was put in as CEO and turned his focus to the Take Form For Life section (rebranded as Optavia). The underlying enterprise thrived, and the corporate achieved a median adjusted ROIC of twenty-two.5% from 2018 to 2022.
Whereas the market initially mirrored the worth of Medifast’s incomes energy from 2016 to 2021, the soundness of the EPV and ROIC turned out to be missing. The EPV has now reverted nearer to the AV, simply because the ROIC has reverted to the WACC. It may very well be argued that the market has overreacted to this imply reversion, as there exists a big discrepancy between Medifast’s present inventory value and the worth of the underlying enterprise (discuss with Determine 11).
It’s vital to notice that repurchases are additionally being made at costs under our estimate of Medifast’s EPV and AV. As of the beginning of 2023, greater than 1.4 million shares are eligible for repurchase, and the corporate repurchased inventory at costs ranging between $110 and $120 per share in 2022. And whereas insider possession is low, executives and administrators have been shopping for shares since August 2022 when MED’s costs have been effectively above $120 per share. This means confidence within the inventory’s undervaluation. Nevertheless, one should correctly weigh the dangers first earlier than shopping for.
![Figure 11: MED's price, AV, and EPV from 2016 to 2023](https://static.seekingalpha.com/uploads/2023/7/21/51776427-1689930458613006.png)
Determine 11: MED’s value, AV, and EPV from 2016 to 2023 (Z McKannan)
RISKS
When contemplating the dangers related to investing in Medifast, it is vital to acknowledge that many of those dangers are already mirrored within the present inventory value, as evident by the substantial value decline since 2021. Whereas I just like the valuation of the inventory at present value ranges, there are nonetheless many issues which might kill the returns of shareholders.
- Aggressive entry. Medifast operates in a aggressive trade with no important obstacles to entry. Whereas firms in such industries are anticipated to earn returns in keeping with their WACC in concept, the fact may be totally different. Overexpansion throughout favorable intervals can result in malinvestment and decrease returns sooner or later. If this happens, Medifast’s EPV might fall considerably under its AV. Whereas such occasions can carry alternatives for traders if the state of affairs is predicted to normalize, it definitely doesn’t really feel that means when the inventory is getting punished.
- Impairment of intangible belongings. The worth of Medifast’s intangible belongings, which kind a good portion of their AV, can be simply impaired if the corporate’s incomes energy completely declines. These intangibles are beneficial as long as they contribute to the agency’s total profitability. They’re additionally tough to worth, and subsequently, the investor ought to stay cautious concerning the stage of asset safety within the inventory at present costs.
- Well being and sustainability considerations. Whereas skepticism is warranted relating to GLP-1 medicine, there are additionally considerations about Medifast’s weight-reduction plan plans. Particularly, Optavia’s 5&1 plan, which includes a low-carb, high-protein weight-reduction plan with caloric restrictions of 800-1,000 energy per day, raises questions concerning the long-term well being and sustainability of their merchandise. Plainly the main target is to indicate shoppers outcomes as quick as doable to make sure their retainment. With that mentioned, the deal with displaying speedy seen progress to retain prospects doesn’t essentially align with one of the best curiosity of the consumer.
- MLM prejudice and regulation. The MLM mannequin, together with Medifast’s enterprise mannequin, faces scrutiny and regulatory challenges. Whereas Medifast itself does not have any lawsuits associated to its MLM construction, different MLM firms like Herbalife have war-torn litigation departments. Ongoing prejudice and regulatory scrutiny in opposition to MLM could end in Medifast’s inventory being undervalued relative to its intrinsic worth, even when they handle to maintain their nostril clear.
- Potential accounting shenanigans. Traders also needs to stay vigilant for any accounting shenanigans. For instance, in Q1 2023, Medifast made a coverage change that positively impacted income by including $9.1 million that will have in any other case been reported in Q2 2023. Whereas this may occasionally appear comparatively minor, the manipulation of monetary statements is a slippery slope.
DOWNSIDE VS. UPSIDE POTENTIAL
Based mostly on the valuation alone, MED inventory seems attractively valued relative to its historical past and the general market at a market cap of $855 million. The draw back would seem restricted, as an 8% dividend yield gives a ground for the inventory value within the quick time period. When it comes to dividend stability, there may be ample money on the steadiness sheet to maintain dividend funds for 1.8 years assuming that no extra money is being generated internally from operations.
Moreover, a market comps evaluation reveals that Medifast is reasonable relative to their friends, main me to consider that the draw back danger is partially mitigated. Nevertheless, it’s vital to strategy my market comps evaluation with warning, as every enterprise is exclusive and warrants an intensive valuation. On this case, we used an identical technique of valuation for the estimates of AV and EPV of Medifast’s competitors. Notice, nonetheless, that I used to be a lot more durable on Medifast’s AV and EPV calculation in comparison with their friends. Even nonetheless, they’ve the boast the very best adjusted ROIC and one of many lowest EV/NOPAT multiples relative to the competitors. The MLM low cost additionally turns into evident contemplating that HAIN and WW are the one non-MLM companies listed.
![Figure 12: Market comps analysis for MED](https://static.seekingalpha.com/uploads/2023/7/21/51776427-1689930900027506.png)
Determine 12: Market comps evaluation for MED (Z McKannan)
Regardless of the enticing valuation, we have to contemplate the totally different ways in which their intrinsic worth may be severely impaired – i.e., aggressive entry and disruption, potential malinvestment by administration, MLM rules and prejudice, well being and sustainability considerations round Medifast’s merchandise, and so on. These dangers have all the time been current; nonetheless, most individuals select to assign the dangers a heavier weighting during times of extended adverse returns.
Eyes ought to be on buyer retention going ahead. Whereas again at historic ranges, buyer retention may very well be impacted by current value will increase. Given the seasonality of gross sales, particular consideration ought to be given to Q1 2024 outcomes for proof of great deterioration in revenues and adjusted ROIC, as Q1 units the development for revenues and coach recruitment in subsequent quarters.
Lastly, one thing attention-grabbing was talked about in Medifast’s Q1 2023 earnings name which might impression the upside of the inventory. In July 2023, Medifast is predicted to unveil a brand new product line for coaches, which the CEO estimates will triple the scale of their complete addressable market. If that is true, and the corporate can preserve ample returns on invested capital amid growth, the inventory may very well be a compelling alternative particularly contemplating its low valuation.
CONCLUSION
After experiencing a big decline of 76% since 2021, MED inventory seems low cost relative to the estimated worth of the underlying enterprise, a rarity noticed solely 4 occasions within the final 27 years. Its enticing dividend yield of round 8% gives a possible ground for the inventory at costs under $80 per share. Moreover, regardless of working with higher practices in comparison with different MLM companies, MED inventory stays the most cost effective relative to its MLM friends (revisit Determine 12).
At a market capitalization of $855 million, our valuation evaluation means that value-oriented traders at these ranges have the potential to realize superior returns in comparison with the broader market. Nevertheless, it’s essential to acknowledge that our AV and EPV calculations, standing at $1.45 billion and $1.76 billion, respectively, don’t assure that the inventory will transfer to replicate this worth within the quick time period. Persistent prejudice in opposition to MLM firms or unexpected dangers might result in the everlasting impairment of the corporate’s worth. As such, warning is suggested, significantly for traders contemplating purchases at costs that lack an affordable margin of security.
Presently, we consider that it’s prudent to make use of our AV estimate of roughly $133 per share as our measure of Medifast’s intrinsic worth. On the present inventory value of round $79 per share, the inventory trades at a 40% low cost with upside potential of about 69%. To make sure an affordable margin of security of not less than 30%, Medifast inventory is advisable for buy as much as round $93 per share. Investing above this value stage could expose traders to a better diploma of danger with out ample safety.
We wish to thank Zach McKannan for this piece.