Health Supplement Maker Muscles Up With Frequent Acquisitions

• Amy Reeves
• On 6:05 pm EST, Wednesday November 4, 2009

If you don't have an adequate spam filter on your e-mail, it seems like there must be 10,000 sellers of herbal remedies and exotic nutrients out there. And there's some truth to that. The nutritional-supplement business, even the more respectable kind, is growing, but highly fragmented.

Supplement manufacturer and retailer NBTY (NYSE:NTY - News) is acting as industry consolidator. It has made 28 acquisitions in the last 20 years. This has added a large portfolio of brands to its core Nature's Bounty line, including Rexall, Good 'N Natural, Met-Rx, Flex-a-min and Ester-C.

The most recently completed buyout, however, proved hard to digest.

Last year, NBTY paid $371 million for the private-label business of Leiner Health Products, a major supplement maker that had filed for bankruptcy after financial and regulatory troubles. This proved extra challenging at a time when raw-material prices were rising.

"Because we purchased them in Chapter 11, their inventory levels were very low," said Harvey Kamil, president and chief financial officer. "So we were forced to go into the market to purchase product, because the most important thing for us is to make sure we deliver product to our customers. (We) never went back to our customers telling them of the higher costs for the higher raw materials."

Meanwhile in the U.K., where NBTY operates nearly 600 stores under the Holland & Barrett and GNC brands, the pound was weakening against the dollar.

Also, British sales of supplements didn't prove as resilient in the recession as those in the U.S., where sales are climbing upward of 4% a year. By the fourth quarter of 2008, after-tax margin was one-third of what it was a year earlier.

As a result, earnings tumbled 23% last year to $2.33 a share, even though sales edged up 8%.

But in the fiscal third quarter of this year, things turned around. Profit jumped 25% from the previous year to 90 cents a share. Sales rose 22% to $651.7 million.

The results blew past most analysts' estimates. Lawrence Solow, an analyst at CJS Securities, says costs are under control, especially operating costs.

The company was also finally able to increase prices a bit.

Meanwhile, the macro trends that hurt the firm last year have largely reversed. Raw-material costs are down, the pound is up, and U.K. sales are recovering.

"Last year, there was sort of a perfect storm against them," Solow said. "Now, it's gone the other way."

The experience hasn't dampened NBTY's appetite for buyouts.

In September 2008, it announced a $25 million purchase of Julian Graves, which has 350 stores in the U.K. and Europe. So dominant is the Holland & Barrett chain there, however, that regulators put the deal through nearly a year of scrutiny before finally clearing it.

NBTY runs a 442-store chain in the U.S. called Vitamin World, but most of its retail business is abroad. In addition to the British stores, it has a 73-shop chain in the Netherlands called De Tuinen, 24 stores in Ireland under the brand Nature's Way and 86 sites in Canada called Le Naturiste.

Kamil says retailing in Europe is quite different from in the U.S. Zoning regulations keep sellers out of malls and competing for space in densely packed shopping streets.

Vitamin World, however, competes in a more freewheeling market with such large competitors as GNC (whose U.S. branch is separately owned) and Vitamin Shoppe (NYSE:VSI - News). Revenue from NBTY's North American retail unit shrank from $234 million in 2006 to $208 million last year.

Kamil speaks of domestic retail as less of a growth engine than as a market-research laboratory.

"We test new products (at Vitamin World) and if these products become successful, we immediately share the information with our wholesale customers," he said.

With Leiner fully absorbed, the wholesale division now draws more than $1 billion a year, making it by far the largest business unit. NBTY's products appear at Wal-Mart (NYSE:WMT - News), Target (NYSE:TGT - News), Costco Wholesale (NasdaqGS:COST - News), CVS (NYSE:CVS - News), Safeway (NYSE:SWY - News) and many other such value-priced chains.

Wholesale still seems to be driving growth.

In August, when the first year-over-year comparison was available after the Leiner buyout, wholesale revenue rose 20%.

European retail also did well, with 14% growth in local currency, excluding Julian Graves. North American retail was flat.

The firm's fourth vertical -- selling Puritan's Pride products in catalogs and over the Internet -- declined slightly.

Kamil hopes the last category will get bigger as NBTY expands into new markets. The firm already has German- and Japanese-language Web sites, and an office in China.

"We believe that as the Chinese population moves into the middle class, they will be much more interested in nutritional supplements," Kamil said.

Analysts polled by Thomson Reuters expect the rebound to continue. The company is due to report fiscal fourth-quarter results Monday, and consensus estimates forecast 193% profit growth to 82 cents a share. For fiscal 2010, analysts see a 32% increase to $3.17 a share.

Buzz up!