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RELV > SEC Filings for RELV > Form 10-Q on 14-May-2014All Recent SEC Filings

Show all filings for RELIV INTERNATIONAL INC

Form 10-Q for RELIV INTERNATIONAL INC


14-May-2014

Quarterly Report


Item No. 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q. The following discussion and analysis discusses the financial condition and results of our operations on a consolidated basis, unless otherwise indicated.

Overview

We are a developer, manufacturer and marketer of a proprietary line of nutritional supplements addressing basic nutrition, specific wellness needs, weight management and sports nutrition. We also offer a line of skin care products and an all-natural sweetener. We sell our products through an international network marketing system utilizing independent distributors. Sales in the United States represented approximately 73.9% of worldwide net sales for the three months ended March 31, 2014 and 80.1% of worldwide net sales for the three months ended March 31, 2013. Our international operations currently generate sales through distributor networks with facilities in Australia, Canada, Indonesia, Malaysia, Mexico, the Philippines, and the United Kingdom. We also operate on a limited basis in Ireland, France, Germany, Austria and the Netherlands from our United Kingdom distribution center, in New Zealand from our Australia office, and in Singapore from our Malaysia office.

We derive our revenues principally through product sales made by our global independent distributor base, which, as of March 31, 2014, consisted of approximately 52,620 distributors. Our sales can be affected by several factors, including our ability to attract new distributors and retain our existing distributor base, our ability to properly train and motivate our distributor base and our ability to develop new products and successfully maintain our current product line.

All of our sales to distributors outside the United States are made in the respective local currency; therefore, our earnings and cash flows are subject to fluctuations due to changes in foreign currency rates as compared to the U.S. dollar. As a result, exchange rate fluctuations may have an effect on sales and gross margins. U.S. generally accepted accounting practices require that our results from operations be converted to U.S. dollars for reporting purposes. Consequently, our reported earnings may be significantly affected by fluctuations in currency exchange rates, generally increasing with a weaker U.S. dollar and decreasing with a strengthening U.S. dollar. Products manufactured by us for sale to our foreign subsidiaries are transacted in U.S. dollars. From time to time, we enter into foreign exchange forward contracts to mitigate our foreign currency exchange risk.

Components of Net Sales and Expense

Product sales represent the actual product purchase price typically paid by our distributors, after giving effect to distributor allowances, which can range from 20% to 40% of suggested retail price, depending on the rank of a particular distributor. Handling and freight income represents the amounts billed to distributors for shipping costs. We record net sales and the related commission expense when the merchandise is shipped.

Our primary expenses include cost of products sold, distributor royalties and commissions and selling, general and administrative expenses.

Cost of products sold primarily consists of expenses related to raw materials, labor, quality control and overhead directly associated with production of our products and sales materials, as well as shipping costs relating to the shipment of products to distributors, and duties and taxes associated with product exports. Cost of products sold is impacted by the cost of the ingredients used in our products, the cost of shipping distributors' orders, along with our efficiency in managing the production of our products.

Distributor royalties and commissions are monthly payments made to distributors based on products sold in their downline organization. Based on our distributor agreements, these expenses have typically approximated 23% of sales at suggested retail. In the United States effective March 1, 2013, we instituted a retail price increase, offset by a reduced shipping charge. After the price change, wholesale pricing discounts on distributor orders are based on the retail value of the product. Distributor royalties and commissions are paid on an amount referred to as the business value ("BV"), which is generally equal to the retail price of each product prior to the price increase. Also, we include other sales leadership bonuses, such as Ambassador bonuses, within this caption. Overall, distributor royalties and commissions remain directly related to the level of our sales and should continue at comparable levels as a percentage of net sales going forward.

Selling, general and administrative expenses include the compensation and benefits paid to our employees, except for those in manufacturing, all other selling expenses, marketing, promotional expenses, travel and other corporate administrative expenses. These other corporate administrative expenses include professional fees, non-manufacturing depreciation and amortization, occupancy costs, communication costs and other similar operating expenses. Selling, general and administrative expenses can be affected by a number of factors, including staffing levels and the cost of providing competitive salaries and benefits; the amount we decide to invest in distributor training and motivational initiatives; and the cost of regulatory compliance.

Results of Operations

The following table sets forth selected results of our operations expressed as a percentage of net sales for the three-month periods ended March 31, 2014 and 2013. Our results of operations for the periods described below are not necessarily indicative of results of operations for future periods.

                                          Three months ended
                                               March 31,
                                          2014           2013

Net sales                                   100.0 %       100.0 %
Costs and expenses:
Cost of products sold                        20.0          20.7
Distributor royalties and commissions        36.0          37.1
Selling, general and administrative          45.2          39.9

Income/(loss) from operations                (1.2 )         2.3
Interest expense                             (0.2 )        (0.1 )
Interest and other income/(expense)           0.1           0.1

Income/(loss) before income taxes            (1.3 )         2.3
Provision/(benefit) for income taxes         (0.3 )         1.2

Net income/(loss)                            (1.0 )%        1.1 %

Net Sales. Overall net sales decreased by 23.3% in the three months ended March 31, 2014 compared to the same period in 2013. During the first quarter of 2014, sales in the United States decreased by 29.2%, and international sales increased by 0.7% over the prior-year period.

The following table summarizes net sales by geographic market for the three months ended March 31, 2014 and 2013.

                                         Three months ended March 31,
                                       2014                        2013                  Change from prior year
                                            % of Net                    % of Net
                               Amount        Sales         Amount        Sales           Amount              %
                                            (dollars in thousands)
United States                 $ 10,693           73.9 %   $ 15,109           80.1 %   $     (4,416 )         (29.2 )%
Australia/New Zealand              432            3.0          448            2.4              (16 )          (3.6 )
Canada                             290            2.0          554            2.9             (264 )         (47.7 )
Mexico                             224            1.5          278            1.5              (54 )         (19.4 )
Europe                           2,329           16.1        2,020           10.7              309            15.3
Asia                               497            3.5          448            2.4               49            10.9

Consolidated total            $ 14,465          100.0 %   $ 18,857          100.0 %   $     (4,392 )         (23.3 )%

The following table sets forth, as of March 31, 2014 and 2013, the number of our active distributors and Master Affiliates and above. The total number of active distributors includes Master Affiliates and above. We define an active distributor as one that enrolls as a distributor or renews his or her distributorship during the prior twelve months. Master Affiliates and above are distributors that have attained the highest level of discount and are eligible for royalties generated by Master Affiliate groups in their downline organization. The active distributor count for Europe includes our preferred customers in France. This program began in mid-2013 and the Europe active distributor count as of March 31, 2014 includes 2,120 preferred customers.

                                                  March 31, 2014                          March 31, 2013                             % Change
                                                                Master                                  Master                                  Master
                                            Active          Affiliates and          Active          Affiliates and         Active           Affiliates and
                                         Distributors           Above            Distributors           Above           Distributors            Above

United States                                   38,290                4,980             40,020                3,960              (4.3 )%               25.8 %
Australia/New Zealand                            1,440                  150              1,710                  180             (15.8 )               (16.7 )
Canada                                           1,280                  230              1,310                  170              (2.3 )                35.3
Mexico                                           1,170                  140              1,340                  100             (12.7 )                40.0
Europe                                           7,790                  820              7,090                  730               9.9                  12.3
Asia                                             2,650                  310              4,570                  460             (42.0 )               (32.6 )

Consolidated total                              52,620                6,630             56,040                5,600              (6.1 )%               18.4 %

United States

In the United States, net sales were down 29.2% in the first quarter of 2014 compared to the same period in 2013. Sales declined in the first quarter of 2014 as sales volume that would normally occur in the quarter was shifted to the fourth quarter of 2013 as the result of the promotion that lowered the sales volume needed to achieve Master Affiliate status in the United States. Under the Ignition Master Affiliate qualification promotion, new distributors could qualify as a Master Affiliate at 60% of the sales volume previously required. Existing Master Affiliates could also place their annual requalification order at the reduced sales volume level. This promotion was initially scheduled to end during the fourth quarter of 2013. Consequently, distributor activity related to the Ignition promotion resulted in the shifting and reduction in Master Affiliate requalification orders that would normally be received in January 2014 to the fourth quarter of 2013, accounting for much of the decline in sales in the United States during the first quarter of 2014. The reduced sales volume requirement was made a permanent update to our compensation plan beginning in January 2014. The winter weather in the eastern half of the United States also negatively impacted sales in the first quarter. For example, we were forced to cancel a national distributor conference scheduled for February 14th and 15th in Charlotte, NC due to a major winter storm - the first time in our 25-year history we were forced to cancel such an event. As a result of the weather, the excitement and training shared at these and other smaller events did not occur.

Also negatively impacting sales in the United States in the first quarter was a decline in distributor activity evidenced by a decrease in the number of new distributor enrollments and a decrease in the number of distributorships that qualified as new Master Affiliates during the quarter. During the first quarter of 2014, approximately 1,956 new distributors were enrolled, compared to 2,781 new distributor enrollments in the prior-year quarter, a decline of 29.7%. In the first quarter of 2014, approximately 236 distributors qualified as new Master Affiliates, compared to approximately 358 in the prior-year quarter, a decline of 34.1%. As a result, the net number of active distributors in the United States as of March 31, 2014 decreased by 4.3% to 38,290 as compared to the number of active distributors as of March 31, 2013. The net number of distributors at the level of Master Affiliate and above as of March 31, 2014 increased by 25.8% as compared to March 31, 2013. This increase was the result of the number of distributorships that qualified as Master Affiliates during the reduced volume promotion during the fourth quarter of 2013. Distributor retention declined slightly to 67.7% for the first three months of 2014 compared to a rate of 68.2% for all of 2013.

In the first quarter of 2014, we processed approximately 46,444 orders in the United States for products at an average order of $317 at suggested retail. In the same period of 2013, we processed approximately 54,317 product orders at an average order of $376 at suggested retail. The decline in the number of orders processed is attributable to the decline in distributor activity. The decrease in the average order size is attributable to the reduction in Master Affiliate requalification orders in the first quarter of 2014 normally placed during January each year.

We continue to focus our marketing efforts on our LunaRich®-based products. First quarter 2014 net sales in the United States were led by the flagship products in the LunaRich line, Reliv Now® and LunaRich X™, which made up 18.7% and 14.1% of U.S. net sales, respectively.

International Operations

During the three months ended March 31, 2014, net sales in our international operations increased in aggregate by 0.7% to $3.77 million compared to $3.75 million for the three months ended March 31, 2013. When sales are measured excluding the impact of currency fluctuation, sales increased in Europe, Asia, and Australia/New Zealand, but were offset by declines in Canada and Mexico during the first quarter of 2014. When net sales are converted using the 2013 exchange rate for both 2013 and 2014, international net sales increased by 0.6% for the first quarter of 2014 compared to the first quarter of the prior year. Regional sales results excluding the impact of currency fluctuation for the first quarter of 2014 compared to the first quarter of 2013 were as follows:
Australia/New Zealand net sales increased 8.7%, Canada net sales decreased 42.7%, Mexico net sales decreased 15.7%, Europe net sales increased 8.2%, and Asian sales increased 21.7%.

In Canada, sales were negatively impacted in the first quarter of 2014 , similar to the United States, as a result of the Ignition Master Affiliate promotion. Accordingly, excluding the impact of currency fluctuation, net sales declined by 42.7% in this quarter compared to the prior-year quarter.

In Europe, distributor activity and growth continued in the first quarter of 2014 and resulted in an 8.2% increase in net sales, excluding the impact of currency fluctuation. Total order count increased to 7,155 in the first quarter of 2014 compared to 5,268 in the same period last year, an increase of 35.8%. Other distributor statistics remained strong, with new distributor and preferred customer enrollments of 1,461 in the first quarter of 2014, compared to 1,344 in the same period in 2013.

In Asia, sales increased by 21.7%, excluding the impact of currency fluctuation, as the results of the changes made in 2013 to our business model in the region begin to have a positive impact. Across the region, we introduced initiatives to increase focus on retail sales by distributors.

In Australia/New Zealand, sales increased by 8.7%, excluding the impact of currency fluctuation, in the first quarter of 2014 compared to the prior-year quarter. In 2013, we implemented pricing and freight charge structure changes similar to the United States along with other initiatives to increase focus on retail sales by distributors, and these changes are beginning to have a positive impact on sales. When net sales are reported in U.S. dollars, sales in the region declined by 3.6% as the Australian dollar declined in value over the first quarter of 2014 compared to the prior-year quarter.

Cost of Products Sold. Cost of products sold as a percentage of net sales was 20.0% for the three-month period ended March 31, 2014, compared to 20.7% for the same period in 2013. Gross margins improved in the first quarter of 2014 as the result of the price increase implemented in the first quarter of 2013, along with improved LunaRich X product margins resulting from our acquisition of the lunasin technology license in July 2013.

Distributor Royalties and Commissions. Distributor royalties and commissions as a percentage of net sales was 36.0% for the three-month period ended March 31, 2014, compared to 37.1% in the same period in 2013. The decrease as a percentage of net sales is the result of the retail price increase and commission restructuring effective March 1, 2013 in the United States and later in 2013 for other markets. After the price change, wholesale discounts on distributor orders are based on the retail value of the product. Distributor royalties and commissions are paid on an amount referred to as the business value ("BV"), which is generally equal to the retail price of each product prior to the price increase.

Selling, General and Administrative Expenses. For the three months ended March 31, 2014, selling, general and administrative expenses ("SGA") decreased by $975,000, compared to the same period in 2013. SGA expenses as a percentage of net sales were 45.2% for the three-month period ended March 31, 2014, compared to 39.9% for the same period of 2013.

Sales and marketing expenses decreased by approximately $836,000 in the first quarter of 2014, compared to the prior-year quarter. The decreases consisted of a decrease in distributor bonuses and other expenses directly related to the level of sales of approximately $293,000, a decrease of $288,000 in conference and meeting expenses, a decrease in promotions expense of $137,000, and a decrease in advertising/public relations expenses of $97,000. The decrease in conference and meeting expenses was partially due to the cancellation of the national distributor conference in Charlotte discussed earlier. The decrease in promotions expense was due to an incentive trip in the first quarter of 2013 that was not repeated in 2014, and the decrease in advertising/public relations expense was the result of a first half of 2013 public relations campaign to bring greater awareness to the LunaRich product line in 2013.

Salaries, benefits, and incentive compensation decreased in the aggregate in the first quarter of 2014, compared to the prior-year quarter, as increases in salaries and benefit expenses of approximately $6,000 were offset by a decrease in incentive compensation expense of $84,000. Distribution and warehouse expenses decreased by $51,000 and other general and administrative expenses decreased by approximately $9,000 in the first quarter of 2014, compared to the prior-year quarter.

Interest Income. Interest income decreased to $36,000 during the first quarter of 2014 compared to $37,000 in the first quarter of 2013. The interest income is primarily interest earned on the note receivable due from a distributor that was entered into in March 2012.

Interest Expense. Interest expense increased to $24,000 during the first quarter of 2014 compared to $18,000 in the first quarter of 2013. The increase in interest expense is the result of an increase in the amount of debt compared to the prior year. Further information regarding our bank debt is described in Note 5 of the Condensed Consolidated Financial Statements.

Other Income/Expense. Other income/expense in the first quarter of 2014 was a net expense of $25,000, compared to a net expense of $27,000 in the first quarter of 2013. The net expense in the first quarter in each year is primarily the result of foreign currency exchange losses in certain of our subsidiaries.

Income Taxes. We recorded an income tax benefit of $32,000 for the first three months of 2014, resulting in an effective rate of 17.5%. In the same period in 2013, we recorded income tax expense of $233,000, which represented an effective rate of 54.5%. The effective rate of the benefit in 2014 was negatively impacted by our filing status in certain states. Our effective rate was higher in 2013 due to losses incurred in the Philippines in the quarter for which there is no tax benefit.

Net Income/(Loss). Our net loss for the three months ended March 31, 2014 was approximately $151,000 ($0.01 per share basic and diluted), compared to net income of approximately $195,000 ($0.02 per share basic and diluted) for the same period in 2013. Profitability decreased in the first quarter of 2014 as the result of the decreases in net sales in the United States and Canada as discussed above.

Financial Condition, Liquidity and Capital Resources

During the first three months of 2014, we used $1.36 million of net cash in operating activities, $306,000 was used in investing activities, and we used $110,000 in financing activities. This compares to $609,000 of net cash provided from operating activities, $307,000 used in investing activities, and $212,000 used in financing activities in the same period of 2013. Cash and cash equivalents decreased by $1.77 million to $4.88 million as of March 31, 2014 compared to December 31, 2013.

Significant changes in working capital items consisted of an increase in inventory of $564,000, an increase in prepaid expenses/other current assets of $482,000, an increase in accounts payable and accrued expenses of $179,000, and a decrease in income taxes payable of $200,000 in the first three months of 2014. The increase in inventory is the result of production in excess of sales demand, and the increase in prepaid expenses/other current assets represents the annual premium payments made in the first quarter on most of the corporate business insurance policies. The increase in accounts payable and accrued expenses is partially related to a financing arrangement for our annual corporate insurance policy renewals, coupled with various annual accruals and the increase in inventory. The decrease in income taxes payable is a function of the timing of estimated tax payments.

Investing activities during the first three months of 2014 consisted of a net investment of $54,000 for capital expenditures, payments received on a distributor note receivable of $22,000, and $274,000 for key-man life insurance. Financing activities during the first three months of 2014 consisted of principal payments of $110,000 on long-term borrowings.

Stockholders' equity decreased to $16.02 million at March 31, 2014 compared to $16.13 million at December 31, 2013. The decrease is due to our net loss during the first three months of 2014 of $151,000 offset by a favorable adjustment in the cumulative foreign currency translation adjustment of $33,000 due to the general weakening of the U.S. dollar. Our working capital balance was $5.94 million at March 31, 2014 compared to $6.51 million at December 31, 2013. The current ratio at March 31, 2014 was 1.94 compared to 1.98 at December 31, 2013.

In September 2012, we entered into a term loan with our primary lender ("Bank") in the principal amount of $2.90 million. The loan was renegotiated from a loan that originated with the Bank on November 30, 2010. The term of the loan was for a period of three years and two months with interest accruing on the outstanding principal balance at a floating interest rate based on the 30-day LIBOR plus 2.0%.

On February 28, 2014, we re-financed the 2012 term loan agreement (and its revolving line of credit agreement) with the Bank. The 2014 re-financed term loan is for a period of twenty-eight months with the same floating interest rate pricing as the 2012 term loan. The total loan amount of the new 2014 term loan is approximately $3.48 million and consists of the February 28, 2014 outstanding balances of the 2012 term loan and the revolving line of credit loan balance of $1.15 million. Upon the completion of the re-financing, the revolving line of credit loan balance was zero. The credit agreement has a maturity date of July 1, 2016. The terms of this new credit agreement are described in Note 5 of the Condensed Consolidated Financial Statements.

The new credit agreement includes a revolving credit facility for $5 million. The credit facility accrues interest on the outstanding principal balance at a floating interest rate based on 30-day LIBOR plus 1.85% and has the same maturity date as the 2014 term loan of July 1, 2016. After the new credit agreement was completed, there were no outstanding borrowings on the revolving credit facility, and there are no outstanding borrowings on the facility as of March 31, 2014.

The new credit agreement is secured by all our tangible and intangible assets and also by a mortgage on the real estate of our headquarters. These agreements also include loan covenants requiring us to maintain net tangible worth of not less than $11 million, and a fixed charge coverage ratio under which EBITDA adjusted for certain non-cash expenses shall exceed the fixed charges, including unfinanced capital expenditures, dividends and other distributions, cash taxes paid, and principal and interest due on all debt obligations, by a ratio of at least 1.15 to 1. As of March 31, 2014, we were in compliance with our loan covenants.

Management believes that our internally generated funds coupled with cash on hand and the bank loan facilities will be sufficient to meet working capital requirements for the remainder of 2014.

Critical Accounting Policies

A summary of our critical accounting policies and estimates is presented on pages 26-28 of our 2013 Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 25, 2014. Our critical accounting policies remain unchanged as of March 31, 2014.

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