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USNA > SEC Filings for USNA > Form 10-Q on 10-May-2012All Recent SEC Filings

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Form 10-Q for USANA HEALTH SCIENCES INC


10-May-2012

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The following discussion and analysis of USANA's financial condition and results of operations is presented in six sections:

†          Overview

†          Customers

†          Current Focus and Recent Developments

†          Results of Operations

†          Liquidity and Capital Resources

†          Forward-Looking Statements and Certain Risks

This discussion and analysis should be read in conjunction with the Unaudited Consolidated Financial Statements and Notes thereto that are contained in this quarterly report, as well as Management's Discussion and Analysis of Financial Condition and Results of Operations that are included in our Annual Report on Form 10-K for the year ended December 31, 2011, and our other filings, including Current Reports on Form 8-K, that have been filed with the Securities and Exchange Commission ("SEC") through the date of this report.

Overview

We develop and manufacture high-quality, science-based nutritional and personal care products that are distributed internationally through a network marketing system, which is a form of direct selling. Our customer base comprises two types of customers: "Associates" and "Preferred Customers." Associates are independent distributors of our products who also purchase our products for their personal use. Preferred Customers purchase our products strictly for their personal use and are not permitted to resell or to distribute the products. As of March 31, 2012, we had approximately 219,000 active Associates and approximately 67,000 active Preferred Customers worldwide. For purposes of this report, we only count as active customers those Associates and Preferred Customers who have purchased product from USANA at any time during the most recent three-month period, either for personal use or for resale.

We have ongoing operations in the following markets, which are grouped and presented as follows:

† North America - United States (including direct sales from the United States to the United Kingdom and the Netherlands), Canada, Mexico, France(1), and Belgium(1)

† Asia Pacific

† Southeast Asia/Pacific - Australia, New Zealand, Singapore, Malaysia, the Philippines, and Thailand(2)

† Greater China - Hong Kong, Taiwan, and China

† North Asia - Japan and South Korea



(1) We commenced operations in France and Belgium during the last week of the first quarter of 2012. We have included sales and customer count information for these two markets with the United States for this quarter.

(2) We commenced operations in Thailand at the end of the first quarter of 2012.


Table of Contents

Our primary product lines consist of USANA† Nutritionals, USANA Foods, and Sensé
- beautiful science† (Sensé), which is our line of personal care products. The USANA Nutritionals product line is further categorized into two separate classifications: Essentials and Optimizers. The following tables summarize the approximate percentage of total product revenue that has been contributed by our major product lines and our top-selling products for the current and prior-year periods indicated:

                                 Quarter Ended
                             April, 2,   March 31,
                               2011        2012
Product Line
USANA® Nutritionals
Essentials                          29 %        28 %
Optimizers                          49 %        52 %
USANA Foods                         11 %        11 %
Sensé - beautiful science®           8 %         7 %
All Other                            3 %         2 %

Key Product
USANA® Essentials                   18 %        18 %
Proflavanol®                        12 %        12 %
HealthPak 100 ™                      9 %         8 %

We believe that our ability to attract and retain Associates and Preferred Customers to sell and consume our products is positively influenced by a number of factors. Some of these factors include: the general public's heightened awareness and understanding of the connection between diet and long-term health, the aging of the worldwide population as older people generally tend to consume more nutritional supplements, and the growing desire for a secondary source of income and small business ownership.

We believe that our high-quality products and our financially rewarding Associate Compensation Plan are the key components to attracting and retaining Associates. We strive to ensure that our products are up-to-date with the latest science in nutrition research and to keep our product lines relatively compact, which we believe simplifies the selling and buying process for our Associates and Preferred Customers. We also periodically make changes to our Compensation Plan in an effort to ensure that our plan is among the most rewarding in the industry, to encourage behavior that we believe leads to a more successful business for our Associates, and to ensure that our plan provides us with leverage to grow sales and earnings. There is a risk, however, that such changes may not accomplish their intended purpose and may cause an unanticipated shift in Associate behavior, which could negatively affect our business.

To further support our Associates in building their businesses, we sponsor meetings and events throughout the year, which offer information about our products and our network marketing system. These meetings are designed to assist Associates in their business development and to provide a forum for interaction with some of our Associate leaders and members of our management team. We also provide low cost sales tools, including online sales, business management, and training tools, which we believe are an integral part of building and maintaining a successful home-based business for our Associates. Although we provide training and sales tools, we ultimately rely on our Associates to sell our products, attract new customers to purchase our products; and educate and train new Associates.

Because we have operations in multiple markets, with sales and expenses being generated and incurred in multiple currencies, our reported U.S. dollar sales and earnings can be significantly affected by fluctuations in currency exchange rates. In general, net sales and gross profit are affected positively by a weakening of the U.S. dollar and negatively by a strengthening of the U.S. dollar. Currency fluctuations, however, have the opposite effect on our Associate incentives and selling, general and administrative expenses. During the quarter ended March 31, 2012, net sales outside of the United States represented approximately 76.4% of consolidated net sales. In our net sales discussions that follow, we approximate the impact of currency fluctuations on net sales by translating current year sales at the average exchange rates in effect during the comparable periods of the prior year.


Table of Contents

Customers

Because we utilize a direct selling model for the distribution of our products, the success and growth of our business is primarily based on our ability to attract new Associates and retain existing Associates to sell and consume our products. Notably, sales to Associates account for the majority of our product sales, representing 90% of product sales during the quarter ended March 31, 2012. Additionally, it is important to attract and retain Preferred Customers as consumers of our products. Increases or decreases in product sales are typically the result of variations in product sales volumes relating to fluctuations in the number of active Associates and Preferred Customers purchasing our products. The number of active Associates and Preferred Customers is, therefore, used by management as a key non-financial measure.

The tables below summarize the changes in our active customer base by geographic region. These numbers have been rounded to the nearest thousand as of the dates indicated.

                             Active Associates By Region
                              As of              As of         Change from   Percent
                          April 2, 2011      March 31, 2012    Prior Year    Change

North America              83,000    39.0 %   77,000    35.1 %      (6,000 )    (7.2 )%

Asia Pacific:
Southeast Asia/Pacific     40,000    18.8 %   51,000    23.3 %      11,000      27.5 %
Greater China              82,000    38.5 %   83,000    37.9 %       1,000       1.2 %
North Asia                  8,000     3.7 %    8,000     3.7 %           -       0.0 %
Asia Pacific Total        130,000    61.0 %  142,000    64.9 %      12,000       9.2 %

                          213,000   100.0 %  219,000   100.0 %       6,000       2.8 %

Active Preferred Customers By Region

                           As of                   As of           Change from   Percent
                       April 2, 2011           March 31, 2012      Prior Year     Change

North America         55,000        78.6 %     53,000       79.1 %      (2,000 )     (3.6 )%

Asia Pacific:
Southeast
Asia/Pacific           6,000         8.6 %      6,000        9.0 %           -        0.0 %
Greater China          8,000        11.4 %      7,000       10.4 %      (1,000 )    (12.5 )%
North Asia             1,000         1.4 %      1,000        1.5 %           -        0.0 %
Asia Pacific
Total                 15,000        21.4 %     14,000       20.9 %      (1,000 )     (6.7 )%

                      70,000       100.0 %     67,000      100.0 %      (3,000 )     (4.3 )%

Current Focus and Recent Developments

We are currently focusing our efforts on: (i) growing our business in Greater China, (ii) the implementation of our strategy to stabilize and grow our North American markets, and (iii) international expansion.

Our development efforts in China during the first quarter of 2012 included further educating our Associates on the USANA products that we introduced in that market throughout 2011, and on our China compensation plan. Additionally, we continued our efforts to obtain additional provincial licenses and opened a new branch office in Shenzhen, which is a key city for our business in southern China.


Table of Contents

In North America, we continue to execute our stabilization and growth strategy and expect initial results from this strategy as early as the fourth quarter of 2012. In this regard, we held several meetings and events during the first quarter where members of our management team worked together with our Associate Leaders to strengthen our relationship with our North American Associate base and offered a promotion specifically for Mexico that has delivered short-term success.

In terms of international expansion, we commenced operations in Thailand toward the end of the first quarter of 2012, and commenced operations in France and Belgium during the last week of the quarter. Thailand operated on a limited basis for much of the first quarter as we worked to finalize logistical issues, but became fully operational near the end of the quarter. We expect Thailand, France and Belgium to begin contributing to our results of operations during the second quarter of 2012.

Results of Operations

Summary of Financial Results

Net sales for the first quarter of 2012 increased 7.4%, or $10.6 million, compared with the first quarter in 2011. The increase in net sales for the quarter was primarily due to: (i) sales growth in our Southeast Asia Pacific region, which was driven by significant sales and Associate growth in the Philippines, as well as higher sales in several other markets in this region; and (ii) sales growth in our Greater China region, which was driven by higher sales in our Hong Kong and Taiwan markets. The sales growth in these regions was partially offset by a 2.3% sales decline in our North America region. Several factors contributed to our sales results in these regions, the most significant of which are discussed below under our regional results. Currency fluctuation during the quarter had a very minor impact on year-over-year net sales growth.

Net earnings for the first quarter of 2012 increased 21.2%, or $2.4 million, to $13.8 million, compared with the first quarter in 2011. This increase was primarily the result of higher net sales and lower relative Associate incentives.

Quarters Ended April 2, 2011 and March 31, 2012



Net Sales



The following table summarizes the changes in our net sales by geographic region
for the quarters ended as of the dates indicated:



                                  Net Sales by Region
                                    (in thousands)                  Change
                                     Quarter Ended                from prior    Percent
                           April 2, 2011      March 31, 2012         year       change

North America               60,021    41.8 %    58,632    38.1 %       (1,389 )    (2.3 )%

Asia Pacific:
Southeast Asia/Pacific      24,694    17.2 %    32,252    20.9 %        7,558      30.6 %
Greater China               52,111    36.3 %    56,635    36.7 %        4,524       8.7 %
North Asia                   6,740     4.7 %     6,601     4.3 %         (139 )    (2.1 )%
Asia Pacific Total          83,545    58.2 %    95,488    61.9 %       11,943      14.3 %

                         $ 143,566   100.0 % $ 154,120   100.0 % $     10,554       7.4 %

North America: The decrease in net sales in this region was the result of fewer active Associates in the United States and Canada. These decreases were partially offset by an increase in sales and the number of active Associates in Mexico, where local currency net sales increased 13.2%. During the quarter, we continued to execute our strategy in North America by working to strengthen our sales force, advance our personalization strategy, and implement incentives specifically for North America. As noted above, we commenced operations in France and Belgium during the last week of the quarter ended March 31, 2012, and anticipate that these markets will contribute to our regional results beginning in the second quarter.


Table of Contents

Asia Pacific: The increase in net sales in this region was the result of higher product sales volume in Southeast Asia Pacific and Greater China. The increase in product sales volume in Southeast Asia Pacific was primarily the result of a 180.7% increase in net sales in the Philippines and, to a lesser extent, higher net sales in Singapore, Malaysia and Australia. The net sales increase in the Philippines was driven by a 162.5% increase in the number of active Associates, and an increase in average spending per Associate on a year-over-year basis, which we believe is due to commission qualification changes for new Associates that were implemented in late 2010 and, to a lesser extent, a price increase in December of 2011. The net sales increase in Singapore and Malaysia was the result of a temporary increase in sales volume per Associate ahead of price changes that occurred in these markets during the quarter. The net sales increase in Australia was due, primarily, to our Asia Pacific convention, which was held in Sydney during the quarter and added approximately $1.7 million to net sales (this event was held in Hong Kong during the same period in 2011).

The increase in net sales in Greater China was due, primarily, to a temporary increase in product sales volume per Associate ahead of price changes that occurred in Hong Kong towards the end of the quarter. We estimate that this surge in sales volume added approximately $9.0 million in net sales in Hong Kong during the quarter. This increase was partially offset by certain events that contributed to Hong Kong's sales in the first quarter of 2011 that did not occur during the first quarter of 2012, namely: (i) the recognition of approximately $3.0 million of deferred revenue during the first quarter of 2011, and (ii) the addition of approximately $3.0 million in sales from our Asia Pacific Convention that was held in Hong Kong during the first quarter of 2011 (this event was held in Australia during 2012).

Net sales in Taiwan also increased 15.6% on a year-over-year basis due to a temporary increase in sales volume per Associate ahead of price changes in Taiwan during the quarter. Net sales in China for the quarter were essentially flat at $5.6 million, while the number of active Associates in this market increased by 18.2% to 13,000. We believe that our sales results in China are due to some minor changes to our China compensation plan, which, in the short-term, have lowered Associate productivity. We believe, however, that these changes will promote long-term growth in China.

Gross Profit

Gross profit improved to 82.3% of net sales for the first quarter of 2012 from 82.1% for the first quarter of 2011. This improvement is related to an increasing percentage of sales coming from certain international markets where we have higher gross margins and where we have also recognized slight currency benefits. Additionally, the price changes noted above also provided a slight benefit to gross profit margin and are expected to have more of a positive effect going forward. These improvements to gross margins were partially offset by an expected increase in the cost of certain raw materials and in costs related to our product personalization efforts.

Associate Incentives

Associate incentives decreased to 44.1% of net sales during the first quarter of 2012, compared with 45.1% for the first quarter of 2011. This decrease can be attributed primarily to a lower payout under our Matching Bonus program as a result of our continued efforts to efficiently manage this component of our Associate Compensation Plan. This decrease was also due to a lower payout of base commissions, as a percent of sales, due to the temporary surge in sales we experienced ahead of the price changes discussed above (when we experience a temporary surge or decline in sales our Associate incentives as a percent of net sales typically react in an inverse manner), as well as the relative impact of the actual price changes.

Selling, General and Administrative Expenses

Selling, general and administrative expenses decreased to 24.7% of net sales for the first quarter of 2012, compared with 25.0% for the first quarter of 2011. This relative decrease can be attributed to leverage gained on increased sales outside the United States in markets where selling, general and administrative expenses are lower. This improvement was partially offset by costs associated with opening our new markets and low initial sales in these markets.


Table of Contents

In absolute terms, our selling, general and administrative expenses increased by $2.2 million for the first quarter of 2012, compared with the first quarter of 2011. The most significant components of this increase in absolute terms were as follows:

† New market costs of approximately $0.7 million;

† An increase in the cost of our Asia Pacific Convention of approximately $0.6 million;

† An increase related to our corporate branding efforts of approximately $0.5 million; and

† An increase in credit card and bank fees that vary with sales of approximately $0.4 million.

Diluted Earnings Per Share

Diluted earnings per share increased by 28.6% from the first quarter of 2011 to the first quarter of 2012. This increase was due to higher net earnings and a lower number of diluted shares outstanding, which was the result of share repurchases by the Company that took place in 2011.

Liquidity and Capital Resources

We have historically met our working capital and capital expenditure requirements by using both net cash flow from operations and by drawing on our line of credit. Our principal source of liquidity is our operating cash flow. There are currently no material restrictions on our ability to transfer and remit available funds among our international markets. Repatriation of funds that are related to earnings considered permanently reinvested in certain of our markets would not result in a tax liability that would have a material impact on our liquidity.

Operating cash flow

We typically generate positive cash flow due to our strong operating margins. During the quarter ended March 31, 2012, we had a net cash flow from operating activities of $22.6 million, compared with $17.5 million in the same period of 2011. The most significant factors of this increase include: (i) higher net earnings; (ii) the change in deferred income taxes ; (iii) a reduction in inventory in the current year; and (iv) changes in other current liabilities during the current year compared to the prior year. These items were partially offset by a change in prepaid expenses and other current assets in the prior year period, which was the result of: (i) a term deposit from our acquisition of BabyCare in 2010 that matured in 2011; (ii) an increase in federal income taxes receivable in 2010; and (iii) the increase in deferred commissions in 2010 related to higher deferred revenue from a successful promotion in Hong Kong that ended the final day of 2010.

Line of credit

We have a long-standing relationship with Bank of America. We currently maintain a $60.0 million credit facility pursuant to a credit agreement with Bank of America, which expires in April 2016. We did not draw on this line of credit at any time during the first quarter of 2012, and, as of March 31, 2012 there was no outstanding balance on this line of credit.

The agreement for this credit facility contains restrictive covenants, which require us to maintain a consolidated rolling four-quarter adjusted earnings before interest, taxes, depreciation and amortization ("adjusted EBITDA") equal to or greater than $60.0 million, and a ratio of consolidated funded debt to adjusted EBITDA of 2.0 to 1.0 at the end of each quarter. The adjusted EBITDA under this agreement is modified for certain non-cash expenses. As of March 31, 2012, we were in compliance with these covenants. Management is not aware of any issues currently impacting Bank of America's ability to honor their commitment to extend credit under this facility.

Working capital

Cash and cash equivalents increased to $71.2 million at March 31, 2012, from $50.4 million at December 31, 2011. Of the $71.2 million held at March 31, 2012, $51.8 million was held in the United States, and $19.4 million was held by international subsidiaries.


Table of Contents

Of the $50.4 million held at December 31, 2011, $34.8 million was held in the United States, and $15.6 million was held by international subsidiaries.

Net working capital increased to $62.9 million at March 31, 2012, from $46.4 million at December 31, 2011. This increase in net working capital was due mostly to net cash provided by operating activities, which was partially offset by purchases of property and equipment, a decrease in inventories, and an increase in other current liabilities. Property and equipment purchases during the quarter included manufacturing and IT-related equipment as well as investments in infrastructure for our new markets. The increase in other current liabilities for the quarter related mostly to an increase in income taxes payable, accrued Associate incentives and promotions, and unearned revenue, which were partially offset by a decrease in accrued employee compensation.

Share repurchase

We have a share repurchase plan that has been ongoing since the fourth quarter of 2000. Our Board of Directors has periodically approved additional dollar amounts for share repurchases under that plan. Share repurchases are made from time-to-time, in the open market, through block trades or otherwise, and are based on market conditions, the level of our cash balances, general business opportunities, and other factors. There was no share repurchase activity during the first quarter of 2012 and the remaining approved repurchase amount under the plan remained $28.2 million. There currently is no expiration date on the remaining approved repurchase amount and no requirement for future share repurchases.

Summary

We believe that current cash balances, future cash provided by operations, and amounts available under our line of credit will be sufficient to cover our operating and capital needs in the ordinary course of business for the foreseeable future. If we experience an adverse operating environment or unusual capital expenditure requirements, additional financing may be required. No assurance can be given, however, that additional financing, if required, would be available or on favorable terms. We might also require or seek additional financing for the purpose of expanding into new markets, growing our existing markets, or for other reasons. Such financing may include the use of additional debt or the sale of additional equity securities. Any financing which involves the sale of equity securities or instruments that are convertible into equity securities could result in immediate and possibly significant dilution to our existing shareholders.

Forward-Looking Statements and Certain Risks

The statements contained in this report that are not purely historical are considered to be "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 and Section 21E of the Securities Exchange Act of 1934. These statements represent our expectations, hopes, beliefs, anticipations, commitments, intentions, and strategies regarding the future. They may be identified by the use of words or phrases such as "believes," "expects," "anticipates," "should," "plans," "estimates," and "potential," among others. Forward-looking statements include, but are not limited to, statements contained in Management's Discussion and Analysis of Financial Condition and Results of Operations regarding our financial performance, revenue, and expense levels in the future and the sufficiency of our existing assets to fund our future operations and capital spending needs. Readers are cautioned that actual results could differ materially from the anticipated results or other expectations that are expressed in these forward-looking statements for the reasons that are detailed in our most recent Annual Report on Form 10-K. The fact that some of these risk factors may be the same or similar to those in our past SEC reports means only that the risks are present in multiple periods. We believe that many of the risks detailed here and in our other SEC filings are part of doing business in the industry in which we operate and will likely be present in all periods reported. The fact that certain risks are common in the industry does not lessen their significance. The forward-looking statements contained in this report are made as of the date of this report, and we assume no obligation to update them or to update the . . .

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