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Candid Camera Redux —

August 21, 2012

For those unable to commit to a 3,000-word, in-depth analysis of NutriSystem, I have trimmed this version down to less than half its size, at 1,300 words. If you want the full she-bang, go to the original post.

Trigger warning: This post is all about NutriSystem and its weight loss philosophy.

If you’ve been reading Fierce, Freethinking Fatties awhile, I would assume you’ve come to accept that long-term weight loss programs don’t work for the vast majority of people. Some refer to it as the 95% Rule, which is a rough estimation of the failure rate at five years for every single weight loss program known to woman. It’s based largely on Albert Stunkard’s seminal work from the 1950s.

It makes you wonder how The Big Three (Weight Watchers, Jenny, and NutriSystem) stay afloat, financially, given their consistent, demonstrative failures. It’s obviously driven by advertising, as evidenced by Weight Watchers and its ridiculous Believe campaign, which emphasizes blind faith over evidence in the claim that most clients will see Hudsonian results.

You would think people would have caught on by now. But another commonly accepted fact is that weight loss companies are so profitable because its client base will ultimately regain the weight, blame themselves and eventually return for another go with the same company, or a different one. Weight loss profiteering is the corporate equivalent of the Sampo.

But I don’t think I’ve ever heard anyone from the weight loss industry admit as much.

Until yesterday.

But a little history, and context, is in order.

In 1971, an entrepreneur named Harold Katz opened his first weight loss center, Shape Up (later renamed Nutri/System), which offered the radical advancement in weight loss science known as “developing weight loss ‘centers’ that looked like medical offices,” according to a corporate profile on Funding Universe. Having witnessed his mother’s battle with weight, Katz intended to develop a permanent solution.

By the end of the 1970s, Nutri/System was one of the 100 fastest growing companies. At its peak in the 1980s, Nutri/System generated over $50 million in sales each year with predictions of staggering growth.

As a result of his newfound fortune, Katz undertook a series of investment disasters, which included a small, but similar weight loss company, Gloria Marshall Figure Salons. Franchisees felt threatened and insulted by the purchase, which marked the beginning of the end for Katz.

In the mid-1980s the tailspin began, with Nutri/System announcing “a $17.4 million loss in 1984, one year after reaping a $13 million profit.” According to the History of NutriSystem, Katz attempted to reassure franchisees and investors by bringing in new leadership under A. Donald McCulloch, an executive with extensive marketing experience.

As a way of saying thanks, McCulloch led an ugly leveraged buyout of Katz in 1986 for $70 million (PDF). Katz walked away with nearly $38 million, a fraction of the $300 million he could have walked away had he sold out four years earlier. By 1989, McCulloch had expanded the company further to 1,800 centers and $764 million in revenue.

The success was short-lived, as the ’90s brought public relations disaster for Nutri/System, when 19 women from Florida filing the first in a series of law suits against Nutri/System on March 20, 1990. Thanks to the rapid weight loss encouraged by Nutri/System, clients began developing gallbladder disease, which often required the removal of the gallbladder all together. At the heart of the lawsuits, former clients claimed that Nutri/System did not provide adequate medical supervision, the supposed advantage of its approach to weight loss.

Nutri/System’s response remained firm: there was no evidence of a relationship between Nutri/System and gallbladder disease. The fatties had already developed gallbladder disease. Nutri/System would also assert that it had won the relatively few suits it had followed through to judgement. Meanwhile, behind the scenes, Nutri/System settled hundreds of cases out of an estimated 700 similar lawsuits filed nationwide. In fact, Nutri/System settled 199 lawsuits in South Florida alone, according to a November 7, 1991 article in the Sun Sentinel. though the results remain confidential.

The lawsuits devastated Nutri/System, and on April 29, 1993, it filed for Chapter 11 bankruptcy and all non-franchise operated centers were shut down as seven banks seized the firm’s assets. Weeks later, operations were handed over to Heico Acquisitions, led by principal Michael Heisley. Heico announced the end of Nutri/System’s bankruptcy on December 29, 1993, just in time for the all important New Year’s resolution season.

Nutri/System cast off the shadows of bankruptcy and began growing immediately, as it began to offer an exciting new pharmaceutical arm to its plan: Nutri/System Rx. In September 1995, Nutri/System launched four Rx centers that specifically offered the wildly popular weight loss pharmaceutical cocktail of fenfluramine and phentermine, or fen-phen.

Nutri/System suffered another devastating blow when, in September 1997, reports of cardiac damage from fen-phen (PDF) were made public.

Two months ago the Mayo Clinic reported 24 cases of heart valve damage by users of fen-phen. A week ago, the Food and Drug Administration reported 58 more cases and ordered new warning labels. The F.D.A. stopped short of recommending that patients not use the pills, but it urged doctors to be cautious.

Another round of costly lawsuits forced Nutri/System to restructure itself yet again, abandoning its brick and mortar stores in 1999 and offering an online-only service. It also renamed itself In December 2002, Heico sold to HJM Holdings LLC, led by entrepreneur Mike Hagan. According to a 2005 profile on Hagan for Business Week, “Hagan heard Heisley was looking to get out and swooped in with an investor group that bought a 58% stake for $10 million in 2002.”

Six years later, NutriSystem launched an aggressive comeback, spending $35 million on television and radio advertising, bucking the trend of online ads. The new NutriSystem also concentrated on male dieters. The strategy worked and NutriSystem increased its annual revenue from $38 million in 2004 to $212.51 million in 2005.

Near the end of 2005, Marketwatch declared NutriSystem the undisputed winner, not just the Big Three, but on all of Wall Street:

The direct marketer of prepackaged diet products has gained an eye-popping 1,500% in value since the beginning of the year, making it the clear leader on the Russell 2000 and the biggest gainer on any major U.S. index.

Could advertising really impact a company’s bottom line? If so, then NutriSystem was hoping for a dose dependent response when it tripled the advertising budget, spending $26 million during the first quarter of 2006 compared to $8.1 million in the first quarter 2005.

This time, the results were evident and impressive, but  not as dramatic as the previous year. NutriSystem more than doubled its revenue from $212 million to $568 million in 2006. The revenue trajectory rose to a high of $777 million, making it Fortune magazine’s fastest growing company of 2007. In 2008, Hagan handed over the reigns of CEO to Joe Redling.

That’s when NutriSystem’s luck ran out, as the company bottomed out at $400 million in 2011:

As a result, in April 2012, NutriSystem and Redling announced a mutual agreement that he would step down immediately and would not renew his contract in September, while Hagan will return to his role as CEO.

Considering the tumultuous history of NutriSystem and its many near death experiences, one might wonder why investors continue to prop up NutriSystem, considering its repeated, abject failure as a company.

A June 2011 article on Small Cap Network, hints at the justification:

The bottom line: With so many obese people in the USA and developed countries, certainly weight loss and dieting stocks like Weight Watchers International, NutriSystem and Medifast are worth looking at closely as they definitely have room to grow.

But it’s Hagan himself who confirms our suspicions in the Business Week profile:

Dieters on portion-control plans like NutriSystem’s lose 5% of body weight after one year if they stick to it, according to many studies.

But of course, most don’t. The average customer stays on the program just 10 weeks and loses about 2 pounds per week. About one-third come back within a year, many having regained the weight. “It’s a sad thing from the consumer’s standpoint,” Hagan says candidly. “But it makes a very attractive business model.” [emphasis mine]

This is the business model which drives revenue for The Big Three and every other weight loss company out there. For NutriSystem, it isn’t about the weight you lose, it’s about the weight you can’t keep off. And any company that profits from self-inflicted health damage, as happens with weight cycling, is a company worth bankrupting.

2 Comments leave one →
  1. August 23, 2012 9:12 am

    I had this old friend decide to clean out his cupboards and during a time of low money, decide to help me out by giving me a box full of Nutrasystem food him and his girlfriend did not eat. That was the most digusting load of garbage I have ever seen in my life. Out of desperation [I really am one food insecure fat person] and an empty refrigerator, I ate one of their meals sealed in plastic, but forgot to look at the date which was 2008 and this was 2010. I ate two bites of the disgusting mealy mouthed chicken and nasty sauce and threw it away but then noticed the expiration date and called poison control. They told me I’d probably live since it was sealed up. The dry stuff was so disgusting and full of MSG and every other thing I was allergic to, I tossed it into the trash. I ate one protein bar that was equally gross. I asked the dude later, “How much did you pay for this stuff” and couldn’t believe the answer.

    • The Real Cie permalink
      August 25, 2012 1:34 am

      I think that astronaut food probably tastes better, and I don’t think I’ve ever heard of any astronauts raving about the quality of their squeezed from a tube rations!

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