USANA Health Sciences Inc (USNA) 2008 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the USANA Health Sciences quarter one earnings conference. (OPERATOR INSTRUCTIONS). This conference is being recorded today, April 21, 2008. I would now like to turn the conference over to Mr. Riley Timmer, Executive Director of Finance. Please go ahead, sir.

Good morning everyone or good afternoon, excuse me. We appreciate you joining us today to review our final first quarter results. As a reminder, today's conference call is being broadcast live via webcast and can be accessed directly from our website at www.usanahealthsciences.com. As always, a replay will be available on our website shortly after this call.

Before I turn the time over to Gil, I remind you that during the course of this conference call management will make forward-looking statements regarding future events or the future financial performance of our Company. Those statements involve risks and uncertainties that could cause our actual results to differ perhaps materially from the results projected in those forward-looking statements. We caution you that these statements should be considered in conjunction with the disclosures, including the specific risk factors and financial data contained in our most recent filings with the SEC.

Also, during the course of this call management will discuss non-GAAP information. We provide non-GAAP measures to assist investors in understanding our operating performance.

I will now turn the call over to Gil Fuller, our Executive Vice President and CFO.

Good afternoon and welcome everyone. I'm pleased to be joined by Dave Wentz, our President, who will hear from shortly. Also in attendance are Fred Cooper, Executive Vice President of Operations; Bradford Richardson, Executive Vice President of Asia-Pacific; and Mark Wilson, Executive Vice President of Customer Relations.

This afternoon I will provide you with a review of our first quarter financial results and a few of the challenges that we faced during the quarter. I will then talk about our guidance for the second quarter of 2008, as well as our outdated forecast for the full year.

Net sales in the first quarter were $101.6 million, an increase of 0.9%, just under 1%, compared with $100.6 million reported in the first quarter of 2007. Net sales growth during the quarter was primarily driven by a 2.5% increase in the number of active associates compared with the same period last year, and a $5.6 million benefit from stronger foreign currencies.

Obviously, we were disappointed with this result. Dave will address the factors that caused sales to be lowered than expected during his prepared comments.

However, before I move on I will make one quick comment. During our preliminary call three weeks ago, a question was asked about retention of our customers. Let me reiterate that our first quarter results were a result of decreased customer retention. In the fact, our monthly Autoship rate during the first quarter continued to grow and represented 52.3% of our total product sales.

Our earnings per share from continuing operations were $0.46 in the first quarter, a decrease of about 28% compared with the $0.64 per share in the first quarter of 2007.

Let's now go through our operating results and talk about the major line items on the first quarter Statement of Earnings. Our gross margins in the first quarter of 2008 decreased by 80 basis points as a percentage of net sales to 78.8%. This is compared with 79.6% of net sales in the first quarter of 2007. This year-over-year decline can be attributed to higher relative freight costs and the decline in sales.

For the second quarter we expect gross margins to be more in line with margins achieved in the second quarter of last year, or approximately 79%.

Associate incentive expense in the first quarter of 2008 was 40.7% of sales, compared with 39.3% in the first quarter of last year. This increase of 140 basis points relates largely to the opening of our Malaysian market last year, and also to promotions and contests designed to increase sales. As we go forward, we expect that associate incentive expense will be up modestly as a percent of sales in the second quarter of 2008 compared with our first quarter of this year.

Selling, general and administrative expenses increased relative to net sales to 25.4% during the first quarter of 2008, compared with 21.4% in the first quarter of the prior year. This year-over-year increase in SG&A was due primarily to the following factors -- lower-than-expected net sales, which has a deleveraging impact on our SG&A expense line; higher wages related expenses of about $1.3 million, which is primarily due to an increase in human resource staffing; higher than anticipated accounting and legal expenses that increased about $930,000; an $850,000 increase related to our worldwide regional celebrations and our Asia-Pacific convention.

A $840,000 increase in depreciation and rent expense related to our new Salt Lake facility, Australia facility and other facility improvements that were made to many of our international markets during 2007. And an increase in advertising expenses of about $500,000, including our investment in market research, which we believe will show a return in future quarters.

Over the last few quarters we have made several step expanse investments, including the expansion of facility space in several of our markets in order to keep pace with our associate and sales growth. We have also had to hire a number of new employees, both locally and abroad, to meet the growing needs of our customers. These were critical investments to align our infrastructure with our operational needs.

During the quarter our Marketing Group spent most of their efforts completing market research to identify factors that motivate our associates. Moving forward, we plan to run a combination of both new promotions based on our market research, as well as the tried and tested promotions that have produced significant results historically. And Dave will talk more about this in his prepared remarks.

Please note that we're looking very closely at our current cost structure, and have canceled certain future expenses and postponed others until we see a sustained return to topline growth. However, we fully expect that our investments in human and capital resources will pay off in the long run, though the benefits don't always coincide with the timing of the expenditures.

Let's now review the balance sheet. Our cash at the end of the first quarter was $17.6 million, compared with $12.9 million at year-end 2007. Inventories at the end of the first quarter are up to $21.1 million compared with $19.4 million at year-end 2007. Capital expenditures for the quarter totaled about $6.1 million, down from $8.8 million in the same quarter one year ago. These expenses are due to the various facility expansion projects mentioned earlier.

While the increased depreciation did cause some near-term expense pressures, we expect to realize future operating leverage as we see sales growth return.

Before I turn the call over to Dave, I will comment on our guidance. Earlier today in our press release we provided second quarter guidance and updated full year guidance for 2008. Based on our current business trend, we believe that net sales for the second quarter of 2008 will be between $103 million and $106 million. We anticipate that earnings per share will be between $0.48 and $0.51.

For the full year of 2008 we believe that net sales will increase approximately 2% over 2007, and that earnings per share could decline as much as 20% compared with the full year 2007.

Operationally our business model is strong, and we're confident that we can regain our momentum. With that, I will now turn the call over to Dave to comment on our operating activities.

Good afternoon everyone. The first quarter of 2008 was a challenging quarter for USANA. I was personally disappointed with our financial results, but I'm very optimistic about our future growth prospects.

Sales in the U.S. during the first quarter declined 8.3% to $38.6 million compared with $42.1 million in the first quarter of last year. In addition, the number of active associates declined 3.3% on a year-over-year basis.

There were three main factors that I believe contributed to our results in the U.S. First, our promotions during the quarter did not have the positive impact that typically helps drive our sales. Frankly, some of the new things we tried were simply not effective.

For example, this year we held our RESET meetings via a live satellite broadcast. We have been successfully doing this in our Mexico market and delivering good results. We tried this technology in the U.S. and Canada because we felt we could reach more people throughout North America. What we found is that, at least in the short term, the live broadcast was far less effective than going out on the road and meeting face-to-face with our associate leaders.

Unfortunately, the results did not pan out the way we had hoped. Keep in mind, however, that we often see a delayed or lag effect with our promotions, so it is not always easy to tell right away if a promotion has or has not been effective.

Our plan for future incentives and promotions in the U.S. is to do a combination of both new promotions based on our market research, as well as the tried and tested promotions that we know incent and excite associates to grow their business.

As was mentioned on our preliminary conference call on March 27, we launched a global promotion on March 29. This is the Pacesetter Creator Cash Reward program. While we are pleased with the first three weeks of sales in the current quarter, it is too early at this point to determine whether these results represent a lag effect from first quarter promotions and events, or the success of our new Pacesetter Creator promotion. Nevertheless, we are optimistic that this promotion and other planned promotions will turn our momentum and drive topline growth.

Second, we're hearing from our leaders that the economic uncertainties in the U.S. are making it more difficult to bring in new customers. As a result, we have modified some of our marketing approaches and are considering other ways to help our associates capitalize on deteriorating economic conditions in the U.S. We continue to believe that our home-based business model offers us flexibility in both up and down economic environments.

While declining disposal income spending has impacted us and our associates in the near term, we believe that in the long run our direct selling opportunity will attract individuals as a way to supplement their income and/or provide security during tough economic times.

Third, and to a lesser extent, is the negative noise that is still pervasive on the Internet. However, it is important to note that we continue to hear less about this as every day passes. We believe that we're doing everything possible to counter the false and malicious attacks that have been levied against us. The third-party detractors and short sellers have been, we believe, discredited. Now it will just take time for the remaining noise to filter out of the Internet.

In Asia-Pacific during the first quarter of 2008, net sales in our Asia-Pacific regions increased by 8.8% to $39.3 million. The growth in these regions was led by year-over-year growth in Hong Kong of 48.8%, and growth in Malaysia of 43.8%. These increases were partially offset by declines in Taiwan and Singapore.

Over the past few quarters Taiwan has been hampered by some political uncertainty and the election of the new President. We believe this uncertainty is now behind us, and we expect Taiwan to return to one of our strong growth markets.

What I hope you take away from this call today is that we have a clear plan of action for the future. We have a solid management team who know and understand our leaders and this business model. We are 100% committed to turning the momentum back in our favor. We're focused on ensuring that our partnership with the field remains strong and becomes stronger.

We have planned a meeting with our top associates to make sure that management is in lock step with our leaders. They are no doubt the key to making USANA a successful Company. It is our job to provide the tools and resources that they need to build successful and residual home-based business.

Next we are offering promotions that incent our leaders to grow and build their businesses. We just completed a great convention in Kuala Lumpur, and have also had successful regional meetings in North America. We also have another global promotion that we will be announcing in the next couple of weeks that we believe will add to the upward momentum of our field leaders.

Finally, we are considering ways to increase profitability, including delaying and cutting certain expenses. Without question we needed to invest in our business infrastructure to support the significant growth we have seen over the past several years. We are now to a point where we can better manage our operating costs and leverage our business model as we grow sales.

On a call three weeks ago it was mentioned that we are also considering some enhancements to our associate compensation plan. These changes are based on our marketing research and will provide our business builders with incentives to grow their businesses beyond their current levels of activity. We believe we can fund these enhancements through improved gross margins and better cost control. By targeting our builders and leaders we can do a better job of efficiently returning value for both our associates and our shareholders.

Finally, we're working diligently on some exciting new products that we plan to roll out at our international convention. Again, it is our marketing research that is driving this effort, and we look to target our growing customer demographics.

With that, I will now turn the call over to the operator to facilitate our question and answer session.

(OPERATOR INSTRUCTIONS). Simeon Gutman, Goldman Sachs.

For Dave or Gil, in your best guess, and I realize the next quarter just began, do you think or does it feel to you that the U.S. business will have reached the bottom in this first quarter, or is there potential to get a little bit worse before it gets better?

Dave, do you want to jump into that? I will respond and you can always come in and cover me. We are certainly hoping and believe that the first quarter was the low point for any of our markets. We were really disappointed in that. We're hopeful that we build from that and go the other direction. Dave, you may --.

I think we have a lot of things coming out. We're stoking the fire with a lot of exciting things. And I think we have what is -- things like lined up to create a better second quarter, definitely.

And the morale from your I guess ground level distributors, I don't know if has surfaced to the top, but do they view the RESET promotion being unsuccessful? And are they aware that I guess corporate -- you guys are saying, hey, it might have been our fault the way we attached the promotion? Do they see that, and has that hurt their morale in any way? Do you have any anecdotes from that?

I think there are always some disappointment when they don't see the grow in organizations that they hoped from certain things. We're putting out a lot of things that they do like. And we're bringing them in to talk with them and get more of their ideas and more of their input so that they can be a part of making sure that the growth continues and their organizations grow.

We're excited about having them all in and talking and sharing ideas because they are the experts out in the field, and we're looking forward to spending some quality time with all of them and discussing ideas for the future.

Has all of this maybe prompted to think a little differently about -- I don't know, like the product promotion? And I thought I heard rumblings that there might be product -- not a promotion, but new launches, instead of it being solely at the Salt Lake convention at earlier venues. Is that something you guys are considering?

We still think of the convention as our best venue for launching products where we have the majority of our leaders and can really give a good message and explain the benefits of any new products, and send them off to from the convention well armed. We may occasionally, but for the most part convention provide the best venue that we believe to launch anything.

Switching to I guess the Asian business, in Malaysia how did that perform versus your expectations? Did you think it would just be stable at this point? And then if you look at the collective picture, which you guys have encouraged us to do, Singapore I thought was a little more disappointing. Was it just because there was a convention down there that we saw that stableness? And how -- what is the outlook for that collective market?

Malaysia definitely surpassed our wildest expectations. It is an incredible market, incredible strength throughout the year. Definitely we saw some shifting of business from Singapore to Malaysia once that market opened. And so there's going to be rebalancing, so to speak, of leadership between the two countries as they now move forward growing their own regions. A lot of excitement for Malaysia pulled away from Singapore. But I think we can now move forward in 2008 and grow both markets.

Bradford and his team did an incredible job of having to sustain a year where usually we see a huge increase in the first few months and then a sorting out and then growing from there. But in Malaysia we just saw continual strength there that was very impressive.

And for Singapore, should that market be up this year or it probably will be down?

It is tough to say with Singapore Malaysia being such combined tight markets where it would all sort out. But we hope to grow Singapore definitely from where it is today.

I'll just consolidate my last couple with my last two. Can you just elaborate a bit more on the market research, what specifically are you looking to do? And Gil, can you just comment on what has been canceled? What are you thinking about canceling on the expense side?

Market research-wise we are doing a lot of targeting, trying to find entrepreneurs. We have realized that there is a certain mindset of a person who is successful in this business. And a lot of our market research has been towards the entrepreneurs out there that our associates are looking for and how to help them succeed in finding entrepreneurs, communicate with those entrepreneurs, and then how we can help those entrepreneurs be successful.

In addition, a lot of market research being done on products, looking at what is out there, and what trends are moving in what directions, and making sure that we take advantage of those trends in product direction going forward. Those would be the two main fronts of our market research.

We're just taking a look at everything to just brainstorm with my colleagues here at the EVP level. We have done some things like postponed some capital expenditures that we can do later on rather than doing them now. And we won't -- obviously we won't do anything -- these decisions will be economically driven I can assure you. If it makes sense to do it, we will do it. If not, we will postpone it and do it when it is more appropriate.

We're taking a look at headcount issues, and where appropriate we're backing off of things that we might otherwise have down there. And just in brainstorming a bunch of general things we're looking at, how to be more efficient in everything from procuring materials to looking at packaging. We're just taking a hard look at our plan expenditures and seeing what we can do to -- whether it is planned hires or planned projects, we're just taking a look at them and evaluating them on the basis of the current situation.

And hopefully -- the first quarter, as I mentioned in the prepared remarks, had a string of things in there that we certainly hope to avoid, like the extra accounting fees and that kind of thing that were in that first quarter.

Doug Lane, Jefferies & Co.

Dave, I just wondered if you could elaborate on the promotions. What -- how this year is different from past years and what you're going to change going forward that should -- that you're looking at to reenergize the salesforce, whether it is more on the ground events. Any change in the compensation system on a permanent basis? Just more granularity on what you're doing on the promotional front, if you don't mind.

On a promotional front we are looking to do a combination of ones that we know have worked in the past with some new ones to find out which ones in the future will be those tried and tested promotions. The one we just launched, the Pacesetter Creator, we're very excited about because we believe it rewards the right things. It encourages people to get started fast. Once they have success quickly, it helps them in their future growth. If they take too long to get started and procrastinate too long, it is tough to get things going, and so we want to take advantage of their initial excitement to take get them off to a quick start.

So we are rewarding those people who bring in and help those people get successful, as well as those who achieve the success. That promotion we're very excited about.

We're also looking to discuss with the field some possible enhancements that may be permanent. If we are able to come up with some ideas that will get them excited about long-term growth possibilities, we will make some additional enhancements to our compensation plan. If we don't find anything, we will continue to focus on the contest and promotions that we know work, as well as trying a few or there new ones to find out other possible promotions to keep in our arsenal, so to speak, to have in our back pocket for when we need them.

A number of different things going on there. A lot of research being done and looking forward to a lot of good discussions with the leaders to make sure we're giving them what they want. They're the ones that know best what will excite them and push them to work harder than they have been working, what will drive them to reach those higher levels. So we're looking forward to those conversations.

I think Gil mentioned that your associate incentives could be a little bit higher as a percent of sales in the second quarter than the first quarter. Should we view this as a new level of spending here or is this just a function of the sales that are slowing down here, and then if sales growth resumes, the associate incentives go back to being closer to 40% of sales?

Let me take a crack at it, Dave. I think we have been seeing in recent quarters that we look for that number to be between 40 and 41%. It can move around a bit depending on what is going on, what contests are taking place, and then ultimately how successful the contest or incentive might be.

Our objective, as Dave mentioned I think in his prepared comments, is whatever we do there in enhancing the compensation plan that we would look for ways to make that self-funding, that is, pay for performance kind of objective.

That makes sense. Just lastly, Gil, can you give us an update on your viewpoint on stock buyback here?

We've got a $50 million authorization out there that has not been utilized. We're still -- we are coming to the tail end of large, at least for us, capital expenditure program. We expect that this program will be winding down, with the major projects done by the end of the second quarter or early third quarter.

With this credit crunch, just as an abundance of caution I have felt reluctant to push to close to the line of credit limits that we've got, notwithstanding the temptation to be out there with the stock so undervalued.

It is going to be a cash question of cash flow, and wanting to make sure we've got reserves if needed. But certainly we've got a $50 million authorization still available.

Scott Van Winkle, Canaccord Adams.

First the geographical disclosure change, and it makes sense. I guess Nu Skin, Herbalife some others out there do the same thing. But is that in association with any change in how do you manage the divisions or the regions?

Somewhat, I guess it is a little bit. Mainly it was just to be more similar to the other companies and to realize that there is an interflow of associates between a lot of lines. North America leaders move amongst all three countries continually. Australia/New Zealand, back and forth constantly. There are definite areas where, yes, we can draw with the border but it doesn't really signify the borders that the associates look at for where they build their business. And the regions tend to flow together sometimes.

But we have made a couple of alignments out there. We have gone to -- with the growth in Asia-Pacific, we have done some management realignment a bit as well. But specifically for the regions that Dave outlined it is hard to distinguish in many ways because the way our commission plan works, Singapore, Malaysia, for example. That is under common leadership over there now.

Dave, I think you mentioned some encouragement early in the upcoming quarter, maybe it was the late promotions from Q1. Did I get that right?

Second, how do you measure -- when you look at the trends now and you start to see an improvement, how are you going to measure it? Are you going to measure it first with distributor counts or you are going to measure it just based on revenue, preferred customers, a little clarity there?

The first few weeks are looking good, but yes, it is always tough to tell whether it is things that we finished first quarter that people are running with, like the Kuala Lumpur convention, or whether it is already the new promotion that we just launched at the beginning of the second quarter. I think probably a combination of the two have created some good weeks, but it is hard to pinpoint exactly which it is.

Going forward we always watch sales and distributor count hand in hand. And when either one of them start to deviate from what we like, we definitely address it and put things into place to take into account, whichever it is, that is change from what we expected.

The Pacesetter promotion, was that launched at convention?

Pacesetter was launched in Kuala Lumpur and around the world at the same time.

How are you going to launch the upcoming promotion you mentioned in a couple of weeks. What kind of communication are you going to do?

Our usual communication, e-mails, calls, Web conference calls, live meeting, our conference call mechanism. Where appropriate there will be flyers in the offices. Everyone comes into the Hong Kong office. You don't even have to e-mail them. Depending on whatever the market decides the communication is, it will be usual that we do for every promotion.

Rommel Dionisio, Wedbush Morgan.

Just a couple of questions about some specific initiatives. One is, you guys have talked about repackaging the Sense line in Asia in March. I just wanted to touch base to see how that went and what the reception was to that.

Yes, that was just launched a few weeks ago. Bradford, anything we have seen right off the bat?

There has been no -- I don't have any specific response on that. I think people are excited after the convention, both by the promotions and new product offerings, including the macro nutrition products being offered in Malaysia as well. But they are excited about having new packaging. And people are always excited when new products come into the market, so we are pleased with reception from the convention announcements.

The second question. I think on your last conference call you talked about some supply chain initiatives, a high-speed bottling line, a new shipping line by mid '08, and I just wanted to see if you are on track with that. Is it possible to quantify potential cost savings of that or the impact in gross margins going forward?

Maybe we will have Fred Cooper answer that. But while he is thinking about that, on the gross margin line we would expect to see some progress there, modest, but steady. And that is why we're doing this. We look at these things pretty carefully and go through the IRR calculations and this kind of thing. So, Fred, I'm not sure about the timing. Can you give us an update on the timing? You've got a packaging line and a shipping line, right, that you are --?

Yes on both of those. And I guess -- honestly it would be a guess to find out how soon that they would go forward. I'm sorry I can't answer it any better than that, but I wouldn't know. I didn't come prepared for it for how soon you would expect it or the amount.

Just in terms of when would the shipping line be --?

Active? Third quarter. But when do I see the dramatic impact, because I've got to take into account making it assemble correctly, get the throughput rate that I anticipated. And we are also looking at doing some structural changes to the packaging material itself to make it incur a better shelf life and better ease-of-use and convenience. There's a lot of dimensions to that question on when I could expect to realize it.

Hopefully by the third quarter it would be up and running. And whether or not we're down the learning curve with that to where we would see the benefits, I guess it is a little bit (multiple speakers).

The packaging line is up and running?

Yes.

And the benefits, how efficient are you right now on the packaging?

We're probably at about 60, 70% of where we had hoped to be when we initially did the ROI.

But progressing.

But progressing every quarter.

Mimi Noel, Sidoti & Co.

Dave, you have remained somewhat -- although you're talking about being very excited about some of the promotional activities you have in the pipeline, you have remained somewhat vague about them. You have given one example. And I understand with the newer programs you can't announce it ahead of when your associates would learn of it.

But can you talk about maybe some of the tried and true methods that you have used in the past, and also maybe point to more quantifiable evidence of how effective they are, like point to a quarter or a certain market in which you used the program?

You are absolutely correct. And I were to point you over to a couple I might spill the beans a little basically on what we're looking to do in a couple of weeks here. So I --.

Is there anything you can give me that would give me a little bit more confidence in what it is you're doing? Because I understand why you need to be vague, but I also don't have a lot to hold onto.

We have had five wonderful years of growth -- six years, excuse me, of wonderful growth. Those promotions and contests, you can see the results over the last six years. If you wanted to target one and specifically look at it, you can look at our announcements on what contest we launched and during what time and how much growth we were experiencing during that quarter, and pick and choose the ones that you wanted to investigate. We have looked at those and we are choosing which ones to rollout at and at what times. I guess our track record speaks for itself.

Gil, in turnings to the SG&A expenses that you listed early in the call, certainly some of them are going to be recurring such as wages, but I just want to be clear. The accounting and legal, $930,000, the celebration expense, the marketing $500,000 roughly -- those are all not likely to recur or better said, they are non-recurring?

I think certainly the accounting fees will go down substantially. We still have to have quarterly reviews, of course, and our current firm is somewhat more expensive than our past accounting firm. But you won't have the two accounting firms working together to get a 10-K out like we have now.

I understand, okay.

So that was a bit of a challenge. On the marketing research stuff I believe -- well, Dave, I'm not sure where we are on that, but I think that is substantially complete.

It is in there.

Yes. So we should see some diminished expenditures there. On the celebrations, we've got another celebration next week actually in Orlando. And we have one in May in Toronto. So we've got two more celebrations, but the Asia-Pacific convention is now behind us. That was successful and accomplished. We do have the international convention coming up in the third quarter. So I hope that helps a little bit.

Yes, a little bit. Okay, that's all I have for now. Thank you.

Gentlemen, there are no further questions. Please continue with any closing remarks.

Thank you for your questions. We continue to remain confident in the future outlook of USANA, including the investment opportunity we provide. If you do have any remaining questions, please feel free to contact us at investor.relations@US.USANA.com, or call Riley Timmer, Executive Director of Finance, at 801-954-7922.

We appreciate your interest in USANA. And thank you again for joining us on this call.

Ladies and gentlemen, this concludes today's conference. Thank you for your participation and you may now disconnect.