Natural Health Trends Corp (NHTC) 2015 Q3 法說會逐字稿

Greetings and welcome to the National Health Trends Corporation third-quarter 2015 earnings conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Ms. Whitney Steininger. Thank you. You may begin.

Thank you and welcome to Natural Health Trends third-quarter 2015 earnings conference call. During today's call, there may be statements made relating to the future results of the Company that are forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Actual results, performance or achievements could differ materially from those anticipated in the forward-looking statements as a result of certain factors, including those set forth in the Company's filings with the Securities and Exchange Commission.

It should also be noted that today's call will be webcast live and can be found on the Investors section of the Company's corporate website at www.naturalhealthtrendscorp.

Additionally, in today's financial results press release, which was issued at approximately 4 PM Eastern time, instructions can be found for accessing the archived version of the conference call via the Internet.

At this time, I would like to turn the call over to Chris Sharng, President of Natural Health Trends.

Thank you, Whitney, and thanks to everyone for joining us. With me today is Scott Davidson, our Chief Financial Officer.

We had a record quarter. Our third-quarter revenue of $80.8 million and net income of $14.5 million both posted significant sequential increases and more than double that of the third quarter of last year. In addition, year-to-date as of September 30 we generated $65.2 million in operating cash flow and $61.5 million in free cash flow.

We continue to see strong consumer demand for our products in China. In addition, we achieved growth in our active member base to more than 94,700 versus 76,400 three months ago and 48,500 four months ago. We define active members as those who have placed at least one product order with us during the preceding 12 months.

We also have an upcoming incentive trip to New Zealand planned for our Chinese members in the spring of 2016. The qualification period runs through the end of this year. If our current sales trends hold up, we anticipate 1500 Chinese members in attendance, making it our largest incentive trip ever.

On this product front, we held our international success forum in Hong Kong in August, which was attended by over 7200 participants. At the forum we launched new and refreshed packaging designs for our entire product line for a cohesive look. Our new home goods product line, which was introduced in China last quarter and more officially at this forum, has surpassed $900,000 in sales for our indoor and cart air purifiers. Our top-selling products during the quarter, Premium Noni Juice, Essential Probiotics and Triotein, comprised about half of our total revenue.

We have initiated a process for submitting our direct selling license applications in the Chinese province of Guangdong. We are hopeful that a license will enable us to drive incremental growth by leveraging our growing brand recognition in China, as well as our Hong Kong distribution infrastructure. The timing for obtaining our direct selling license or whether we can get one is uncertain. In the interim, we will remain highly focused on managing all aspects of our core business.

That said, we anticipate devoting substantial resources to our mainland China entity. Uses for our investments may include establishing China-based manufacturing capabilities, increasing public awareness of the NHT global brand in our products, sourcing additional Chinese-made products, building a chain of service stations, opening additional healthy lifestyle centers or branch offices and adding local staff.

In support of our brand awareness initiatives, we started an online media campaign, as well as in print in China.

We also recently signed on as a sponsor for a Guangzhou-based charitable event in December called Walking Proud. Many of our members will participate in various activities in the week leading up to the walk itself.

Moving on to North America, in late November we plan to open our first healthy lifestyle center in the US in Southern California. Similar to our 14 existing healthy lifestyle centers already up and running in China, this brick-and-mortar presence will allow members to experience our products in person, as well as submit orders and pick up new products.

We are committed to enhancing value for our shareholders. Our strong liquidity position affords us the flexibility and the resources to continue investing in the growth of our business, while at the same time providing returns to our shareholders through quarterly cash dividends and repurchasing shares of our common stock.

As such, on October 21, our Board of Directors declared a $0.05 per-share cash dividend. Also, we will continue to execute against a $15 million stock repurchase announced three months ago with another $5 million buyback expected in the next few days.

Now I would like to turn the call over to Scott Davidson, our CFO, to discuss our third-quarter financials in greater detail. Scott?

Thank you, Chris, and thank you to everyone for joining us today. Total revenue for the third quarter was $80.8 million, an increase of 154% compared to $31.8 million in the third quarter of 2014. Sales in Hong Kong, which accounted for 94% of our third-quarter revenue, increased [168%] over the prior-year quarter. Third-quarter revenue outside of Hong Kong was up 38% over the prior-year quarter. Excluding the Commonwealth of Independent States, revenue increased 67% over the prior-year quarter. Our e-commerce sales in China were up 172% year over year as a result of strong air purifier sales.

Now turning to costs and operating expenses, gross profit margin for the third quarter increased to 80.2% compared to 78.8% in the third quarter of 2014. Commission expense was 49.6% of net sales for the third quarter compared to 45.6% in the same quarter last year, due to increased cost estimates for the current-year incentive programs. Selling, general and administrative expenses were $9.9 million, an increase of 94% from the third quarter of 2014, primarily due to credit card fees and employee-related expenses.

Now turning to profitability measures for the quarter, operating income totaled $14.8 million, an increase of 171% compared to $5.5 million in the third quarter of 2014. As a percent of total revenue, operating income increased to 18.3% as compared to 17.2% of revenue in the third quarter of 2014. Net income was $14.5 million or $1.18 per diluted share as compared to net income of $5.4 million or $0.42 per diluted share in the third quarter of 2014.

Turning to the balance sheet and cash flows, as of September 30, cash and cash equivalents totaled by $94.6 million, an increase of $20.2 million compared to June 30, 2015, due to strong cash provided by our operations. Our cash balance was net of $5 million, which was used to repurchase just over 162,000 shares of our common stock during the quarter at an average price of $30.76 per share, as well as $489,000 used to pay cash dividends. And as Chris mentioned, on October 21, our Board of Directors approved a cash dividend of $0.05 per share payable on November 20 to shareholders of record on November 10.

We also plan to buy back another $5 million of our common stock within the previously announced stock repurchase program.

That concludes our prepared remarks. I will now turn the call back over to the operator to begin the question-and-answer session. Operator?

(Operator Instructions) Leo Abbe, Iroquois Capital Management.

Great numbers. Great quarter. All good stuff. Just wanted to know real quick, it seems that in the cash buyback, if I understand correctly, something like 30% to 40% of the stock buyback, rather, is going towards buying back stock from a former Director. Wouldn't it be more beneficial to have like a special dividend, to declare some sort of a special dividend like $1 or $2 a share that would really, I think, add some juice to the stock, add some juice to the story, and that would create the buying necessary to increase the stock price and also be able to take this Director out of his remaining shares?

Your comment is well noted. And the total scope of our capital return is, on a regular basis, evaluated, and we think that is the right amount. I would love to take the chance to explain that this particular Director that participated, that [one-third] of the capital return, is Mr. Broady. Currently he's still on the Board, and he is a reluctant seller of the shares. It's the Board imposing upon him so that our capital returns program would not inadvertently increase his percentage of ownership.

But I appreciate your comments, and we will take that into account.

Right. Can I follow up with that or no?

Please go ahead.

Okay, great. I just wanted to make sure how this worked. It seems to me, though, that, okay, so he still is on the Board and he's a reluctant seller. But either way I guess my question is, to address the first part of your answer, it seems like the Company has so much cash on the balance sheet. And even with all the programs that you announced that you are seeking to make investment in, I just don't see how this Company could even dream of touching most of its warchest without -- even with this kind of a special dividend that I was suggesting. It would seem to me it would just be a win-win for everybody.

I think the size of our capital return is carefully analyzed. We are very straightforward in our public filings about the fact that we do operate in the country that has a lot of operational risk and we do have a concentration risk as well, and we don't have any bank account or any fixed assets to fall back on.

So we would like to have a healthy level of cushion. We do fund our own working capital, and we purchase inventories upfront, and then there is a lot of commitments on our part. And some of the cash increase is way ahead of our earnings increase. If you notice that, we are sitting on e-wallet cash; that's not really ours. It's our distributors' cash, and then we do have commitments that need to be made on a short-term basis as well.

I note your comment. I appreciate it. We will incorporate that.

Could you elaborate on -- when you say you are sitting on the cash but it's not your cash, it's the distributors' cash, what do you mean by that?

I'd like to point your attention to our balance sheet where it says that we have a line called e-wallet. The e-wallet is one of the ways with which we make commission payments, and then there's a rapid increase over the last few quarters in the balance of e-wallet. The commissions are already earned, and we keep the cash until they cash it out, they transfer it or they use it on this debit card. It was not unintended on our part that somehow cash would be accumulated that way. And then we had a lot of incentive programs, and a lot of them is coming in to due at the end of the year. So we had a lot of true commissions, for example, on the balance sheet.

I like to see that when we evaluate our capital return programs, that we are looking at our earnings, not just the cash balance.

Right. But even if you -- okay, so even if you were, though, to take your accrued commissions out of the cash balance that is there, it would still -- I'm not sure exactly what that number would be. Maybe you could enlighten us. But I imagine it would still be a very, very sizable number, much more than the Company could ever dream of having a need for in the next -- I can't even -- 24 to 48 months, you know.

I think you are entitled to your opinion, Leo. I appreciate your opinion. But we also have done our careful analysis, and we feel comfortable with what we have done. Thank you.

Martin Svanda, Western International Securities.

If I can just ask a couple, please, the first, I guess, kind of piggybacks on the last one. What portion of your cash is held on shore versus which portion of it is held in foreign accounts?

In the US, currently we have less than $500,000 held here. The rest is held offshore.

Got you. So I imagine that influences your decisions for dividend repayments and stock repurchases and things like that as well?

Yes, you are right, Martin, and that is one of the factors.

Okay. If I can also -- you mentioned that the Noni Juice, the Essentials and the Triotein are somewhere north of 50% of your overall revenues. Is that correct?

Yes, that is correct.

Okay. If I go back to your filings, all three of these products have pretty much been around for the last half dozen or dozen years. I think the Noni Juice has been around since you first started making filings. For what products would you account for the huge increase in the revenues that you've seen over the last course of the year or two? Is it just the old products are new again, or are there newer products that are on the tail end of that as well?

Martin, that's a very important question. I look at the progression of our product revenue. Five or six years ago the top five products accounted for more than 80% of our total, and that number has gone down to maybe 70%, 65%. We have, in the last few years, launched many products, and many of them are successful. So now we have really more of a diversified portfolio of products that we offer to our member base.

Okay. And if I could just ask one more question, if I go back through filings, you in the past have had upwards of 100,000 distributors, Hong Kong, China-based. Is there any way for you guys to track -- are the distributors that you are adding back now simply distributors that at one point in time fell off your roles and now are coming back into the system, or are they completely new distributors that you folks are attracting?

I can't tell you the specific number, but I personally have come across many people that have come back and become more active with us. But a lot of the people they have been using our product over the years. And maybe they have purchased more of the new products as opposed to the older products, as you alluded to.

All right. Thank you very much.

(Operator Instructions) [Lily Sunkin], a private investor.

I have a question for Chris. You guys have done spectacularly in the last few years since the, I guess, the regulatory environment change in early 2010 or so. And my question is this: what would you attribute your success to? You've done growth, and it seems like your growth rate has accelerated recently. How would you attribute your success, too?

And a follow-up to that question is that do you see changes in your growth rates in terms of the environment might change in the future and how would you address that in terms of strategy going forward? (multiple speakers).

I would like to consider our recent success attributable to the fact that we have an overall successful program in the market, and I will call them a combination of our leadership development, our product development, our training, our marketing programs, our incentive programs and the services that we offer.

I feel that we have done a good job over the last few years in planning and implementing effective programs in all those aspects. And I think that these programs are going to continue, and I feel very comfortable with what we are doing right now, and they will carry us into the future.

And you did see this kind of -- obviously, China markets is and your growth rate is 100% and 150% at this point. Do you see that growth rate going -- I know it's hard to foresee in the long future. But in the next few quarters, do you see that going at the rate it's been going?

As a matter of policy, I can't give guidance. All I can offer is that we feel very good about what we are doing right now, how we are doing right now, and I feel confident about our future.

Okay. All right. Thank you. May I ask another question?

Yes. Yes, go ahead.

Okay. So you had mentioned earlier in the call that you are investing your money in manufacturing and also China-based production forces. I'm curious about these because I thought you guys were advertising your products as US-made to the quality-conscious space consumers who are also health-conscious consumers. If you source products from China, would that defeat that positioning? And maybe I might have misunderstood your position previously. Can you address that?

Yes. As I understand, as we get closer to completing our direct selling license applications in China, having manufacturing facility or capability in China is a required ingredient in our business planning. And so I don't profess that we have manufacturing expertise in-house, but the Chinese authority would like to see us owning some process in manufacturing. And so we will take that on as our application moves forward. So I anticipate at some point we will make some investments.

Okay. Can you foresee that as a significant amount of investment, or is it symbolic investment that's required by the government?

I wouldn't call it symbolic. It will be a substantive investment. It will be a meaningful that meets the Chinese government's requirements, but I can't really tell you right now how sizable that might be. I don't know.

Okay. But you don't foresee this to be a drain on capital in terms of investment required?

Whatever the investment we made will have to be commensurate with our profitability, and we will have to invest in a responsible way. So no, I don't see that.

All right. Thank you very much.

Andrew Hanson, Redwood Investment Management.

First, congratulations on your great execution of a well-thought-out plan. I appreciate it. My first question has to do with the license in Guangdong. Is that provincial only, and will that extend to other provinces?

Andrew, the process is for us to submit a license application with the province first. And then if the province approves, then the application will go to the central government, the state counsel, and then the license will be granted by the central government. But then the province will give us a permit and (multiple speakers) from our selling.

So the central government issues the license, which is countrywide, then, I take it? But you need to have the permit from each individual province once that's issued; correct?

In theory, yes, it's countrywide, but we still need to go through the province-by-province process of obtaining permits.

Understood.

The initial permit is only applicable to Guangdong.

Okay. Understood. Second, your e-wallet program, how favorable is the response to that, and how often do you top off the wallet?

The feedback that we've received to date has been very well received by our members. In terms of topping off, we fund the wallet every week electronically, of course, and our members have the option of cashing out whenever they like. It's just a matter of preference on their part.

Got you. Thanks, Scott. And then the last question -- prospective members -- they are probably considering other companies with similar sales programs to yours. Do you get any feedback on why they choose Natural Health Trends over, say, another direct selling company or something similar?

Andrew, my experience in the field is that usually our members develop this affection for our products, and that's the first handshake we have with our member. And we like to retain them for a long period of time, and then they can also be the best advocate for other potential members.

I'd like to think that the reason that we could be appreciated because of our products. I think we have great products and high-quality, high-impact products, and for the most part, our manufacturer developed in the US. And that's a great marketing cachet for our Chinese consumers. I think that is the main factor.

Great. Thank you.

[Simon Brooke], a private investor.

Following up on the last caller's question, it sounded like it's a three-step process to get the approval. First, you submit an application to the province. Then, once that is approved, you get an approval from the central government, and then you request a permit from that province. Am I right so far?

Yes. That's consistent with how I understand it, yes.

Okay. So if you wanted to go into another province, would you have to do all three steps again, or is step one already done because of Guangdong and step two already done because the central government has approved it, and you would only have to do step three, or would you have to do all three steps for Province B?

Yes. If and when we overcome the three steps you mentioned, the next step to another province, as I understand it, is less onerous. There are a lot of the technical requirements pertinent to that province that we need to meet -- for example, that we need to have a network of service stations that supposedly were already in place in the first province, and we would have to make some investments. And then we need to build out these service stations where members could pick a product. They can exchange orders and stuff like that. It takes a little bit of time, but it's not as onerous as the first three steps.

Okay. Is there any field that you have for what might be the bare minimum amount of time to get all three steps done within Guangdong? Is it going to be at least two years, let's say, in the best case or at least one year? Is there any feel for that?

My personal feel is that it will take years. I can't say it is two years or more, but I think that this will be an interactive process. We will have to have a lot of consultations with various levels of government, and we need to find ways to fulfill what they need to see. So it will take some time.

Okay. Thank you so much for your help and all your hard work.

There are no further questions at this time. This concludes today's conference. Thank you for your participation. You may disconnect your lines at this time.