EUR 850.00 For Business Accounts Only

Morningstar | Weight Watchers' Member Recruitment and Engagement Encouraging but Priced Into Current Valuation

We believe investors should walk away from Weight Watchers' second-quarter update optimistic about the innovative ways to reach nontraditional consumers, including the Summer of Impact advertising campaign, WW Good festivals, and new digital capabilities, including fitness advice and bar code scanning. As in the last quarter, 40% of second-quarter member signups were new to Weight Watchers, but the more impressive statistic may be that 70% of individuals referred by a friend were converted to members, reinforcing how far the brand has come in recent years. This is also evident in Weight Watchers' marketing efficiency, as reported subscriber value to cost per member ratio remains north of 5 times, and incremental active members per marketing dollar trends continue to accelerate year over year, which should be aided by a shift to digital marketing away from TV in the back half of the year. Member duration also remains close to peak levels--nearing 10 months--reinforcing new platform engagement measures. We expect this trend to continue to grow in the near term with expanded health and wellness, loyalty program, FreshRealm, in-app sales potential, and partnerships/acquisitions yet to be announced.

About the only concern we having coming out of the quarter is valuation. On the surface, the market price/earnings multiple of 23 times our preliminary 2019 EPS outlook around $4.00 (which includes a $0.50 tailwind from new subscribers in the base) appears reasonable given the platform's increased optionality. We plan to raise our fair value estimate to $65 based new monetization opportunities, but we believe the company would need to post average annual revenue growth in the midteens and operating margins in the high 30s to justify the current market price. This isn't impossible--and we don't see many downside catalysis on the horizon--but still difficult in what is a rapidly evolving industry with nascent sources of competition, the rationale for our no-moat rating.

Our updated fair value estimate assumes 2018 revenue of around $1.57 billion, 20% growth before currency adjustments, including 18% reported growth in North America, 16% reported growth in the United Kingdom, and mid- to high 20s reported growth in continental Europe. We believe gross margin guidance calling for 425 basis points of leverage (implying full-year gross margins in the low 57% range) appropriately balances the improved operating leverage in the platform with other technology and experience investments, while expected marketing and general and administrative costs of $240 million and $245 million should put the company comfortably within its new full-year EPS target range of $3.10-$3.25.

Looking longer term, we're planning a modest increase to our 2020 revenue outlook of $1.9 billion but maintaining our 2020 outlook for gross margin of 60% and adjusted operating margin of approximately 30%, which gives the company credit for the incremental leverage inherent in the model through the margin-accretive nature of new partnership structures and the shift to the online channel. We continue to see a great deal of innovation in management's plans to become a more comprehensive health and wellness provider, and we see management's target of 5 million active subscribers and another 5 million individuals "engaged in other ways" including sponsored cruises, new content (including some content derived from a new pilot program with meditation platform Headspace), or social media with other technology-based health and wellness solutions as an attainable longer-term goal.