Lean Times for NutriSystem

Shares of the weight-loss outfit plunged Thursday after it warned of a profit shortfall as a new diet drug cut into its sales

Investors dumped NutriSystem (NTRI) shares on Oct. 4 after the weight loss and fitness company warned that its third quarter sales and profits will be slimmer than expected. Analysts blamed competition from GlaxoSmithKline's (GSK) weight-loss drug Alli, which was launched in late June, for cutting into NutriSystem's results.

NutriSystem shares lost a third of their value, plunging 33.6% to close at $31.59 on Oct. 4. In early trading, the shares touched a new 52-week low of $30.60.

The Horsham, Pa.-based company said it now expects third quarter revenue of $188 million and earnings per share of 62 cents to 66 cents. That's below its previous forecasts of revenue between $200 million and $208 million and EPS of 77 cents to 82 cents. It also misses analysts' estimates of 82 cents for EPS on $207 million in revenue.

"After a very strong first half of the year, our results for the third quarter didn't meet our expectations," said Michael J. Hagan, chairman and CEO of NutriSystem in a press release. "We continue to be satisfied with our success in reactivating former customers, but our performance with new customers we believe was affected by shorter-term competitive pressures which caused our marketing dollars to become less efficient, resulting in fewer new Direct Business customers than anticipated and customer acquisition costs to be higher than anticipated."

The company also said it incurred expenses for infrastructure investments and about $600,000 in transaction costs in the third quarter for a proposed acquisition that it's no longer pursuing. It expects customer acquisition costs for the third quarter 2007 to be between $212 and $216.

On the bright side, NutriSystem boosted its stock buyback plan by $100 million. And it obtained a $200 million unsecured credit facility (expandable to $300 million) to pursue potential acquisitions in the health and wellness business.

Wall Street certainly wasn't pleased with NutriSystem's disappointing numbers for the third quarter. BB&T Capital Markets analyst Laura Richardson, who downgraded the stock to hold from buy, said the company's ability to attract new customers was hurt by the launch of diet drug Alli. She noted that Alli costs $49 per month, less than NutriSystem's $250 per month price tag that includes food.

Canaccord Adams analyst Scott Van Winkle cut his recommendation to hold from buy and his price target to $42 from $74, saying NutriSystem's business model appears to be broken.

Broadpoint analyst William Lennan downgraded the NutriSystem to buy from strong buy, and slashed his $75 target to $50, saying it is "dead money, though value may underpin the shares near term."

Lazard Capital Markets analyst Colin Sebastian downgraded the stock to hold from buy, but he still believes its long term outlook is intact. "While the company previously tempered its outlook for the second half of 2007 as a result of competitive headwinds following the launch of diet drug Alli, we believe that the weaker-than-expected results warrant a more cautious view in the near term, until visibility improves for a rebounding business in the seasonally stronger first quarter and an increasing mix of higher margin reactivation revenues," Sebastian said in a note.

While the shares are likely to remain "choppy" in the seasonally slow fourth quarter, Sebastian thinks that trends are likely to improve into early 2008 with a revamped diet program, increasing contribution from reactivations, and international expansion.

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