Despite Its Legal Battles, Herbalife Enjoys Strong Fundamentals

Harriet is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Herbalife (NYSE: HLF) remains embroiled in a widely-publicized stockholders fight that started unfolding at the end of last year when activist investor William Ackman charged that Herbalife’s agreements with distributors represents a pyramid scheme. Repercussions from these entanglements sent Herbalife’s stock plummeting from $43.94 on December 14, 2012 to $26.06 just ten days later.

However, other companies have faced even more challenging litigation and managed to survive, or even to prosper. So, could Herbalife, which markets anti-aging products and nutritional supplements, follow their lead by putting its hard times behind it and coasting towards continued profitability? A quick glance at its fundamentals indicates it might have the financial heft to do just that.

Herbalife’s impressive fundamentals

Herbalife’s operating cash flow for 2012 was $567,784 million. That figure pales in comparison with the $50,856 billion OCF Apple recorded during that same year. Yet, it is noteworthy because it represents a 46% increase from the OCF ($389,084 million) Herbalife posted just two years earlier, a sign of ongoing growth.

OCF represents a measure of the amount of cash a company generates through it normal business operations. In calculating this statistic, net income is adjusted for items such as depreciation and changes to inventory. By stripping away the effect of accelerated depreciation or of a major sale for which it has not has not yet received payment, OCF provides a clear picture of a business’ ability to support its ongoing operations without becoming overly leveraged.

Another indication of Herbalife’s solid finances, its current ratio is only 1.93. This figure is calculated by dividing current assets by the amount in debts and other obligations a company owes within a year (current liability). Any company whose current ratio stands above 1.00 is thought to be heading into safe territory.

And Herbalife’s return on assets (23.34%) and return on equity (102.96%) point to the fact it enjoys effective management. The latter figure is particularly noteworthy, considering as the average return on equity for stocks in Warren Buffet’s Berkshire Hathaway portfolio during 2012 was approximately 28%. This group of companies is widely recognized for having strong fundamentals that can sustain them over the decades.

Herbalife’s PEG ratio for the next five years, meanwhile, is only .65. This term is defined as being the price/earnings ratio divided by estimated income over a certain period of time. Value investors who demand strong fundamentals are generally impressed when a company’s PEG falls below 1, interpreting that as being a sign it might be undervalued and due for a bump.

Some options 

Two companies – Nu Skin (NYSE: NUS) and GNC (NYSE: GNC) might be worth investors’ consideration. They share two major advantages with Herbalife: the items they sell, anti-aging products, are reaching an ever expanding market and they have impressive fundamentals. Yet, they are not facing the same legal challenges as Herbalife, complications that might continue to unnerve investors despite reassurances that Herbalife enjoys financial strength and the fact its stock price has rebounded in recent months since its December low.

Nu Skin’s OCF for 2012 OCF was $310,976 million, representing a 67% increase from the OCF ($187,883 million) it registered just two years earlier.

For the year ending on March 31, its current assets were listed at $599,403 million. This figure is nearly twice what its current liabilities ($320,000 million) were during that same period, a ratio considered desirable by value investors who demand strong fundamentals. And Nu Skin’s PEG estimated over a five year period is only .78, a good sign.

GNC's current ratio is 3.05, markedly higher than is Herbalife’s which stands at 1.99, and its levered free cash flow is $208.7 million. This latter statistic represents the sum a company has left over to pay for expansion and other expenses after interest on its debt has been paid off, being an important predictor of a company’s ongoing financial strength.

And its ratio of current assets ($818,797 million) to current liabilities ($245,319million) for the year ending on March 31 was even more impressive than was Nu Skin’s, further substantiating the fact it stands on firm financial ground. Also noteworthy: its PEG as estimated over the next five years is only .87.

A Foolish conclusion

Herbalife came under close public scrutiny and its stock price plunged after it faced a stockholders' suit at the end of last year. But those problems might be simply a bump in the road to the company’s continued growth. Its market value has rebounded sharply during recent months and its fundamentals point to ongoing financial security. And if investors would prefer to look elsewhere as they attempt to benefit from the ever expanding market for anti-aging products, they have at least two attractive alternatives: Nu Skin and GNC. 

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Harriet Tramer Tramer has no position in any stocks mentioned. The Motley Fool has the following options: long January 2014 $50 calls on Herbalife Ltd.. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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