Is Medifast a Buffett Stock?

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Warren Buffett attracts a lot of attention. As the world's third-richest person and most celebrated investor, thousands try to glean what they can from his thinking processes and track his investments.

While we can't know for sure whether Buffett is about to buy Medifast (NYS: MED) -- he hasn't specifically mentioned anything about it to me -- we can discover whether it's the sort of stock that might interest him. Answering that question could also inform whether it's a stock that should interest us.

In his most recent 10-K, Buffett lays out the qualities he looks for in an investment. In addition to adequate size, proven management, and a reasonable valuation, he demands:

  1. Consistent earnings power.
  2. Good returns on equity with limited or no debt.
  3. Management in place.
  4. Simple, non-techno-mumbo-jumbo businesses.

Does Medifast meet Buffett's standards?

1. Earnings power
Buffett is famous for betting on a sure thing. For that reason, he likes to see companies with demonstrated earnings stability.

Let's examine Medifast's earnings and free cash flow history:

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Source: Capital IQ, a division of Standard & Poor's. Free cash flow is adjusted based on author's calculations.

Over the past five years, Medifast's earnings and free cash flow have grown pretty significantly.

2. Return on equity and debt
Return on equity is a great metric for measuring both management's effectiveness and the strength of a company's competitive advantage or disadvantage -- a classic Buffett consideration. When considering return on equity, it's important to make sure a company doesn't have an enormous debt burden, because that will skew your calculations and make the company look much more efficient than it actually is.

Since competitive strength is a comparison between peers, and various industries have different levels of profitability and require different levels of debt, it helps to use an industry context.

Company

Debt-to-Equity

Return on Equity (LTM)

Return on Equity (5-year average)

Medifast

7%

32%

21%

Weight Watchers (NYS: WTW)

N/A*

N/A*

N/A*

Nutrisystem (NAS: NTRI)

39%

24%

49%

Nature's Sunshine Products (NAS: NATR)

0%

20%

2%

Source: Capital IQ, a division of Standard & Poor's.* Negative equity.

Medifast tends to generate a high return on equity while employing almost no debt.

3. Management
CEO Michael McDevitt has been at the job since 2007. Prior to that, he held several other jobs at the company including CFO.

4. Business
The weight loss management industry isn't particularly susceptible to technological disruption, although drug makers have been trying to develop an obesity drug for years without success.

The Foolish conclusion
Regardless of whether Buffett would ever buy Medifast, we've learned that it exhibits several of the characteristics of a quintessential Buffett investment: consistent or growing earnings, high returns on equity with limited debt, tenured management, and a straightforward industry.

If you'd like to stay up-to-speed on the top news and analysis on Medifast or any other stock, add it to your stock watchlist. If you don't have one yet, you can create a watchlist of your favorite stocks by clicking here.

At the time this article was published Ilan Moscovitzdoesn't own shares of any companies mentioned.You can follow him on Twitter@TMFDada. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

Copyright © 1995 - 2011 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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