Rogue Franchisees, the Suicide Bomber of Retail and Discounted Protein Powder

GNC Holdings (GNC) is an efficiently run, rapidly growing pusher of pills and supplements—a company with the mind of an MBA grafted onto the soul of a huckster. Its fourth-quarter earnings release on Valentine’s Day was a love letter to Wall Street, reporting strong increases in sales and net income that sent the stock price up 10%, toward its 52-week high, as seen on this stock chart:

GNC Chart

GNC data by YCharts

Even after Thursday’s surge, GNC doesn’t look expensive, based on PE ratio, compared to rivals Vitamin Shoppe (VSI) and Walgreen (WAG):

GNC PE Ratio TTM Chart

GNC PE Ratio TTM data by YCharts

But GNC, despite its well-oiled salesmanship, has a potentially huge threat on the horizon: Amazon (AMZN), which is undercutting GNC’s prices, possibly with the help of none other than GNC’s own franchisees.

As YCharts has reported, Amazon has become the suicide bomber of retail, losing money on many sales while destroying its competitors. And Amazon’s weapons are aimed right at GNC.

William Blair analyst Mark Miller, who cut his rating on GNC to “market perform” on Feb. 1, said that in a January 2013 sample of 100 randomly selected GNC items, Amazon also stocked 84 of them—up significantly from 67 items last year. Most of the increase came from merchandise that carries the GNC label, which means Amazon is grabbing a bigger share of GNC’s supposedly exclusive products.

On average, Amazon’s prices on identical items were 20% lower than GNC’s, Miller found in October. GNC’s Pro Performance AMP Ripped Program: $74.76 at a GNC store, but only $52 on Amazon. GNC Mega Men Heart supplements: $52.34 in its own stores, $49.94 on Amazon.

Miller said GNC has acknowledged its products appear on Amazon’s website, but GNC claims the inventory is limited. “GNC Holdings does not sell its branded product to third parties or directly to Amazon, so we believe that franchisees are the source of the diversion,” Miller wrote.

If that’s true, those franchisees are risking the financial health of their employer, which said Thursday it will boost its first-quarter dividend 36%, to 15 cents a share, and added to its enviable growth in sales and operating margins:

GNC Revenue TTM Chart

GNC Revenue TTM data by YCharts

Though GNC didn’t mention Amazon in its earnings call Thursday, the company talked about some steps that could help close the price gap. In its stores, GNC has been testing member pricing, which gives customers who enroll a discount on every purchase. That’s a better deal than GNC’s current Gold Card program, which costs $15 a year and discounts merchandise 20%—but only during the first week of every month. Already, six million GNC customers are Gold Card members.

While the new, in-store member pricing hurts product margins, GNC says its gross profit margin in test stores increased overall, through gains in customer traffic and sales. It plans to roll out the member pricing to more cities this year.

GNC Chief Executive Joe Fortunato also told analysts he’s looking for a new head of ecommerce, who might take an interest in cracking down on rogue franchisees reselling products. The last thing GNC wants is to emulate former high-flying companies such as Best Buy (BBY) and Borders, which failed to recognize the Amazon threat before it squeezed the life out of their businesses.

Amy Merrick, a contributing editor at YCharts, is a former staff reporter for the Wall Street Journal, where she spent 11 years writing about the Midwest economy, state and municipal finances, and the retail and banking industries. Her work has been published in the Poynter Institute’s Best Newspaper Writing series. She can be reached at editor@ycharts.com.

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