2 Surprising Bargain Stocks for Value Investors

Ouch! I was prepared for some volatility when I invested in a skin-care company that relies on direct selling. But I really didn’t expect to get skinned alive so soon after I bought the stock. For those of us who consider ourselves value investors, however, suffering through what we hope are temporary setbacks is just part of the game.

Perhaps I should back up and explain. In mid July, I bought 148 shares of Nu Skin Enterprises (symbol NUS), which sells skin creams and other anti-aging products. At $67.80, the stock had already been cut in half since the start of the year and was selling at 11 times projected year-ahead earnings. The shares looked cheap. Unfortunately, they got much cheaper, falling to as low as $43.50 after Nu Skin reported disappointing second-quarter results. The stock closed at $48 on August 7.

Nu Skin, based in Provo, Utah, uses multilevel marketing to move its products. Like Herbalife (HLF), which uses a nearly identical business model, Nu Skin has suffered through and survived numerous investigations into its sales practices.

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The most recent inquiry was conducted by the government of China, where Nu Skin derived $1.4 billion in revenue (43% of total sales) last year. The investigation caused Nu Skin to halt sales and recruiting efforts in China for several months. However, analysts apparently underestimated the extent of the damage. When they saw the latest financial results, they started rapidly cutting their earnings estimates. But the share price has fallen far more precipitously than those estimates, and Nu Skin now sells for just 9 times projected year-ahead profits. Granted, estimates may come down more, but the stock still looks awfully cheap.

Sure, I wish I’d bought at $43.50. But I don’t mind buying into companies that have been severely punished for a temporary earnings shortfall. Would I buy it today at $48? Probably. So I’m going to sit still and hope that all of the bad news is out.

China, alas, is not the only issue weighing on Nu Skin’s stock. The shares are apparently feeling the fallout from the long-running battle between Herbalife and hedge fund manager Bill Ackman, who claims that the weight-loss and nutrition-supplement company is a Ponzi scheme. Ackman’s fund sold short $1 billion worth of Herbalife shares last year, betting that they would lose value. Regardless of whether Ackman is right or wrong, the sales practices he criticizes are common to most of the multilevel marketing industry.

Multilevel marketing companies can be dicey prospects because they usually involve selling products to salespeople, who use the products in demonstrations to sell more products to their friends. Salespeople also recruit other salespeople, who also buy the products. If a company’s products are stale, ineffective or simply unpopular, sales are limited to the company’s own sales­people. Without new customers, a multilevel marketer collapses.

Right focus. I don’t think either Nu Skin or Herbalife is on the verge of collapse. Before Nu Skin’s China-related stumble, both outfits had been enjoying strong revenue and earnings increases. It’s hard to pull off those kinds of numbers for long stretches (both companies are more than 30 years old) through a Ponzi scheme unless you’re completely cooking the books. That seems unlikely in these instances. And although I think Herbalife, at $50, is also a bargain, I prefer Nu Skin because of its focus on anti-aging products, which resonates with me and my baby boomer friends as we try to convince the world that we’re still in our thirties. Unfortunately, the stock itself is doing little for my youthful appearance; its recent drop has already given me a few new gray hairs.