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USNA > SEC Filings for USNA > Form 10-Q on 7-Nov-2012All Recent SEC Filings

Show all filings for USANA HEALTH SCIENCES INC

Form 10-Q for USANA HEALTH SCIENCES INC


7-Nov-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 is comprised of 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 only for their personal use and are not permitted to resell or to distribute the products. As of September 29, 2012, we had approximately 242,000 active Associates and approximately 64,000 active Preferred Customers worldwide. For purposes of this report, we only count as active customers those Associates and Preferred Customers who have purchased 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/Europe - 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(1)

† Greater China - Hong Kong, China, and Taiwan

† North Asia - Japan and South Korea



(1) We commenced operations in Thailand, France and Belgium 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:

                                 Nine Months Ended
                             October 1,   September 29,
                                2011          2012
Product Line
USANA® Nutritionals
Essentials                           29 %            28 %
Optimizers                           49 %            51 %
USANA Foods                          12 %            12 %
Sensé - beautiful science®            7 %             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. For example, during the second quarter of 2012 we modified the Matching Bonus component of our Compensation Plan, changing it from a short-term incentive to a long-term incentive. We now refer to this bonus as our Lifetime Matching Bonus. We believe that the Lifetime Matching Bonus will be a more attractive incentive to our Associates and will help facilitate long-term growth for both our Associates and the Company.

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 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 nine months ended September 29, 2012, net sales outside of the United States represented approximately 76% 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.


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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 nine months ended September 29, 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
                           October 1, 2011        September 29, 2012     Prior Year     Change

North America/Europe        80,000       37.4 %     79,000        32.6 %      (1,000 )     (1.3 )%

Asia Pacific:
Southeast Asia Pacific      47,000       22.0 %     58,000        24.0 %      11,000       23.4 %
Greater China               78,000       36.4 %     97,000        40.1 %      19,000       24.4 %
North Asia                   9,000        4.2 %      8,000         3.3 %      (1,000 )    (11.1 )%
Asia Pacific Total         134,000       62.6 %    163,000        67.4 %      29,000       21.6 %

                           214,000      100.0 %    242,000       100.0 %      28,000       13.1 %




                               Active Preferred Customers By Region
                                 As of                     As of            Change from   Percent
                            October 1, 2011         September 29, 2012      Prior Year     Change

North America/Europe        51,000        77.3 %       52,000        81.3 %       1,000        2.0 %

Asia Pacific:
Southeast Asia Pacific       7,000        10.6 %        6,000         9.4 %      (1,000 )    (14.3 )%
Greater China                7,000        10.6 %        5,000         7.8 %      (2,000 )    (28.6 )%
North Asia                   1,000         1.5 %        1,000         1.6 %           -        0.0 %
Asia Pacific Total          15,000        22.7 %       12,000        18.8 %      (3,000 )    (20.0 )%

                            66,000       100.0 %       64,000       100.0 %      (2,000 )     (3.0 )%

Current Focus and Recent Developments

During the third quarter of 2012, we held our annual International Convention in Salt Lake City, Utah and officially introduced our global marketing strategy and new corporate branding to thousands of Associates. This strategy focuses on personalizing USANA's product and incentive offerings to its customer base around the world, which is symbolized in our new corporate branding. As an example, we are preparing for the launch of our MyHealthPak™ product in our Asia Pacific markets. MyHealthPak is a fully customized supplement regimen and can include virtually any of our Essentials and Optimizers. This product is currently only available to our customers in the United States and Canada. Additionally, we have developed two proprietary online health assessment applications for our Associates and Preferred Customers called True Health Assessment and True Health Companion. These applications are designed for use on iPads and other platforms through the web and are meant to provide users with a customized lifestyle plan and personalized nutrition program, as well as a way to monitor progress on their programs.


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Our global marketing strategy, we believe, will support our short- and long-term growth objectives, which include: (i) growing our business in Greater China,
(ii) returning our North American markets to growth, and (iii) international expansion.

Our efforts in Greater China during the first nine months of 2012 have included further educating our Associates on the USANA products that we introduced in China during 2011, and on our China compensation plan. Additionally, in the first quarter of 2012 we opened a new branch office in Shenzhen, which is a key city for our business in southern China. During the fourth quarter of 2012, we will hold our Annual Customer Celebration in China, where new products and sales tools will be announced.

In North America/Europe, we continued to execute our growth strategy, which focuses on strengthening our partnership with Associates, introducing North America-specific incentives, and implementing our global marketing strategy of personalization. During the first nine months of 2012, we made progress on each component of this strategy. For example, we have held an increased number of meetings and events where members of our management team have worked closely with our Associate Leaders to grow our business. During the second quarter, we launched our new Lifetime Matching Bonus, which has been very well received by our Associates in all of our markets. We have also periodically offered a promotion specifically for our Associates in Mexico throughout the first nine months of 2012, which has helped drive results in that market and North America in general.

In terms of international expansion, we commenced operations in Thailand, France and Belgium at the end of the first quarter of 2012. In the first nine months of 2012, these markets contributed $2.4 million to net sales. Our initial experience with these markets is that they are heavily consumer focused. As such, we believe that it will take time for our existing Associate leaders in these markets to find and develop entrepreneurs to grow each respective market. Consequently, we believe that sales growth in each of these markets will occur at a slower rate than we initially anticipated.

Results of Operations

Summary of Financial Results

Net sales for the third quarter of 2012 increased 15.1%, to $165.2 million, compared with the third quarter of 2011. This net sales increase was driven by sales growth in each of our regions with the exception of North Asia, and also included the addition of Thailand, France, and Belgium. Price increases that were implemented earlier in the year in certain markets in the Asia Pacific region also contributed an estimated $5.2 million to net sales during the quarter. Further discussion on these and other factors contributing to our sales results during the quarter is provided below under our regional results.

Net earnings for the third quarter of 2012 increased 41.2%, to $17.5 million, compared with the third quarter of 2011. This increase was primarily the result of higher net sales, lower relative Associate incentives, and a lower effective tax rate, partially offset by lower gross profit margins and higher relative selling, general and administrative expenses.


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Quarters Ended October 1, 2011 and September 29, 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
                          October 1, 2011      September 29, 2012         year       change

North America/Europe     $   59,028    41.1 % $     62,490     37.8 % $      3,462       5.9 %

Asia Pacific:
Southeast Asia Pacific       30,117    21.0 %       35,709     21.6 %        5,592      18.6 %
Greater China                47,012    32.8 %       59,722     36.2 %       12,710      27.0 %
North Asia                    7,344     5.1 %        7,254      4.4 %          (90 )    (1.2 )%
Asia Pacific Total           84,473    58.9 %      102,685     62.2 %       18,212      21.6 %

                         $  143,501   100.0 % $    165,175    100.0 % $     21,674      15.1 %

North America/Europe: The increase in net sales in this region was primarily due to (i) increased sales volume per Associate, due mainly to a growing number of Associate leaders within our active Associate base who are actively selling our products and building sales organizations, and (ii) an increase in net sales at our annual International Convention of nearly $0.8 million. These increases were partially offset by the impact on product sales volume from a modest decrease in the number of active Associates and by currency fluctuations, which reduced net sales by approximately $0.7 million.

We believe that the sales increase in North America is due, in part, to our continued focus on strengthening our Associate sales force through additional events, trainings and interaction with management. Additionally, a promotion that we have periodically offered for our Associates in Mexico helped drive results in that market and North America in general during the quarter.

Asia Pacific: The increase in net sales in this region was driven by growth in Greater China and Southeast Asia Pacific, which was primarily the result of an increase in the number of active Associates and, to a lesser extent, price increases that were implemented in certain markets during the first quarter of 2012.

As with North America, we believe that our results in Greater China were driven, in part, by our efforts to strengthen our relationship with Associates in this region and, in particular, by our continued efforts to educate and train our Associates on our product offering and compensation plan in China. It is also noteworthy that our third quarter 2012 results for this region are presented against a lower-than-customary prior year comparable as a result of challenges we experienced in this region during the third quarter of 2011. We estimate that price increases added $4.3 million to net sales in Greater China for the quarter.

Growth in Southeast Asia Pacific continues to be driven primarily by the Philippines, where net sales increased $5.0 million, or 73.8%, year-over-year and the number of active Associates increased 73.3%. We estimate that price increases added $0.9 million to net sales in Southeast Asia Pacific for the quarter. Net sales also benefited $0.7 million from the inclusion of Thailand during the quarter.

Gross Profit

Gross profit margins declined 80 basis points to 81.6% when compared with the third quarter of 2011. Overall, this decrease can primarily be attributed to an increase in raw material costs and currency fluctuations. These items were partially offset by price increases that took place in several of our international markets toward the end of the first quarter of 2012 and an increasing percentage of sales from certain international markets where we have higher gross margins.


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Associate Incentives

Associate incentives decreased to 42.6% of net sales during the third quarter of 2012, compared with 46.1% for the third quarter of 2011. This decrease is due, primarily, to: (i) the price increases that were implemented earlier this year, and (ii) lower payout of Matching Bonus due to implementation of our Lifetime Matching Bonus. These improvements were partially offset by an increase in spending on contests and promotions.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased 110 basis points to 24.4% when compared with the third quarter of 2011.

In absolute terms, our selling, general and administrative expenses increased $7.0 million for the third quarter of 2012, compared with the third quarter of 2011. The most significant components of this increase in absolute terms were as follows:

† An increase in spending of approximately $2.6 million related to our annual International Convention where we celebrated our 20th Anniversary;

† An increase in wages and benefits of approximately $1.7 million to support our growth initiatives;

† New market costs of approximately $1.2 million; and

† An increase in credit card fees that vary with sales of approximately $0.5 million.

Income Taxes

Our effective income tax rate during the third quarter of 2012 was 28.2%, compared with 34.5% in the third quarter of 2011. This decrease in our effective tax rate was due to a favorable adjustment in our manufacturing deduction for the 2011 and 2012 tax years, which was recognized during the current year quarter following the completion of a formal study. We expect our effective tax rate to be approximately 33.5% for the fourth quarter of 2012, and just over 32% for fiscal year 2012.

Diluted Earnings Per Share

Diluted earnings per share increased 45.7% during the current year quarter when compared with the third quarter of 2011. This increase was due to higher net earnings and a lower number of diluted shares outstanding, which was the result of share repurchases over the last twelve months.


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Nine Months Ended October 1, 2011 and September 29, 2012



Net Sales



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



                                    Net Sales by Region
                                       (in thousands)                    Change
                                     Nine Months Ended                 from prior    Percent
                          October 1, 2011      September 29, 2012         year       change

North America/Europe     $  179,316    41.1 % $    183,586     38.2 % $      4,270       2.4 %

Asia Pacific:
Southeast Asia Pacific       82,036    18.8 %      102,232     21.3 %       20,196      24.6 %
Greater China               152,801    35.1 %      173,127     36.1 %       20,326      13.3 %
North Asia                   21,839     5.0 %       21,251      4.4 %         (588 )    (2.7 )%
Asia Pacific Total          256,676    58.9 %      296,610     61.8 %       39,934      15.6 %

                         $  435,992   100.0 % $    480,196    100.0 % $     44,204      10.1 %

North America/Europe: The increase in net sales in this region during the first nine months of 2012 was primarily due to (i) increased sales volume per Associate, (ii) the addition of France and Belgium to the region, which contributed $0.9 million to net sales, (iii) a short-term promotion that we offered with the introduction of our Lifetime Matching Bonus, which we estimate added $0.8 million to net sales, and (iv) an increase in net sales at our annual International Convention of nearly $0.8 million. These increases were partially offset by the impact on product sales volume from a decrease in the average number of active Associates throughout the first nine months of 2012 and by currency fluctuation, which reduced net sales by approximately $3.1 million.

Asia Pacific: The increase in net sales in this region during the first nine months of 2012 was driven by growth in Southeast Asia Pacific and Greater China, which was primarily the result of: (i) an increase in the average number of active Associates throughout the first nine months of 2012, (ii) the impact of price increases that took place in certain of these markets in the first quarter of 2012, (iii) a surge in sales ahead of these price increases, and (iv) the introduction of our Lifetime Matching Bonus program and the related short-term promotion that we offered. We estimate that price increases added $12.3 million, that the surge in sales ahead of price increases added $11.0 million, and that the short-term promotion added $3.8 million to net sales in this region during the first nine months of 2012. Net sales also benefited from the inclusion of Thailand in the current year. These increases were partially offset by the recognition of approximately $3.0 million of deferred revenue during the first quarter of 2011.

Gross Profit

Gross profit for the first nine months of 2012 decreased slightly to 82.2% of net sales compared with 82.3% in the prior year period. For the first nine months of 2012 we have experienced an overall reduction to gross profit margins from increasing raw material costs and also from currency fluctuation. These reductions to gross profit margins have been partially offset by price increases in several of our international markets during the first quarter of 2012 and from an increasing percentage of sales from certain international markets where we have higher gross margins.

Associate Incentives

Associate incentives decreased to 43.6% of net sales during the first nine months of 2012, compared with 45.6% for the first nine months of 2011. This decrease is due, primarily, to: (i) price increases that were implemented earlier this year, and (ii) lower payout of Matching Bonus due to implementation of our Lifetime Matching Bonus. These improvements were partially offset by an increase in spending on contests and promotions.


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Selling, General and Administrative Expenses

Selling, general and administrative expenses increased to 24.0% of net sales for the first nine months of 2012, compared with 23.6% for the same period in 2011.

In absolute terms, our selling, general and administrative expenses increased $12.1 million for the first nine months of 2012, compared with the same period in 2011. In absolute terms, this increase was due to spending related to our 20th Anniversary celebration mentioned above as well as the following:

† An increase in wages and benefits of approximately $3.3 million to support our growth initiatives;

† New market costs of approximately $3.0 million; and

† An increase in credit card and bank fees that vary with sales of approximately $1.2 million.

Income Taxes

Our effective income tax rate was 31.7% for the first nine months of 2012, compared with 34.5% for the same period in 2011. This decrease in our effective tax rate was due to a favorable adjustment in our manufacturing deduction for the 2011 and 2012 tax years, which was recognized during the current year quarter following the completion of a formal study, and one-time tax benefits recognized from restructuring USANA's Hong Kong and Singapore operations during the second quarter of 2012.

Diluted Earnings Per Share

Diluted earnings per share increased 33.5% during the first nine months of 2012 when compared to the first nine months of 2011. 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 over the last twelve months.

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 at this time.

Operating cash flow

We typically generate positive cash flow due to our strong operating margins. During the first nine months of 2012, we had a net cash flow from operating . . .

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