Business context and reporting period
Natural Alternatives International, Inc. (NAI) filed this Form 10-K for the fiscal year ended June 30, 2017, with fiscal 2016 as the comparison. This is an annual filing, not a 2016 fourth-quarter report. NAI manufactures private-label nutritional supplements and sells and licenses beta-alanine products under its CarnoSyn and SR CarnoSyn brands.
Financial performance and position
| Metric | FY2017 | FY2016 |
|---|---|---|
| Net sales | $121.9 million | $114.2 million |
| Gross profit / margin | $26.2 million / 21.5% | $25.3 million / 22.1% |
| Operating income / margin | $9.7 million / 8.0% | $12.3 million / 10.7% |
| Net income / diluted EPS | $7.2 million / $1.09 | $9.5 million / $1.44 |
| Cash from operations | $14.1 million | $9.3 million |
| Capital expenditures | $5.4 million | $10.4 million |
| Cash and cash equivalents at year-end | $27.8 million | $19.7 million |
| Current assets / current liabilities | $51.7 million / $10.3 million | $55.9 million / $19.2 million |
Private-label manufacturing sales rose 3% to $95.0 million; patent and trademark segment sales increased 24% to $26.9 million, including $26.0 million of direct beta-alanine sales and $0.9 million of royalties. The company had no borrowings or long-term debt at year-end and had an undrawn $10 million revolving credit line, extended to February 2020. Cash flow improved partly through lower inventory and collections; accounts payable and accrued liabilities used $8.0 million of cash. Gross margin was approximately flat overall year over year in the reported rounded figures, while management attributed segment-level margin movements to mix, unit manufacturing costs, and lower supply-chain costs in beta-alanine.
Changes versus prior year
- Sales increased 7%, but net income declined 24%, operating income fell 21%, and diluted EPS decreased from $1.44 to $1.09.
- Manufacturing gross-margin contribution declined 3.3 percentage points, primarily due to sales mix and slightly higher per-unit manufacturing costs; beta-alanine segment contribution improved 2.7 points.
- SG&A rose 27% to $16.5 million, mainly reflecting increased patent litigation and compliance costs and compensation. Patent-related expenses were approximately $4.2 million versus $2.0 million.
- FY2016 included a one-time $1.6 million pretax gain on the sale of the former headquarters, contributing to lower other income in FY2017.
- Largest-customer concentration increased: Juice Plus+ represented about 50% of FY2017 sales, compared with 43% in FY2016. International sales decreased to $58.8 million from $63.6 million, while U.S. sales increased.
Outlook, commentary, risks, and unusual items
- On August 7, 2017, NAI signed a five-year exclusive manufacturing agreement with Juice Plus+ covering products in 24 markets. Shipments were expected to begin in the second quarter of FY2018; management estimated annualized sales to Juice Plus+ could rise by more than $25 million. The arrangement also includes a restricted award of 500,000 NAI shares, subject to forfeiture conditions, and a voting proxy while restrictions apply.
- Management anticipated positive net income in FY2018, expected customer concentration to remain consistent with FY2017, and forecast patent litigation and compliance expenses of approximately $2 million to $3 million in FY2018. These are expectations, not assurances.
- Management expected upward pressure on raw-material, labor, and transportation costs to continue in FY2018. The company depends on limited suppliers for some inputs; one supplier accounted for 12% of FY2017 raw-material purchases.
- Patent protection and enforcement remain material uncertainties. Fifteen instant-release CarnoSyn patents expired in August 2017, leaving two identified patents for that version, expiring in August 2023; SR CarnoSyn patents extend through 2026. Courts dismissed certain patent infringement claims with prejudice in 2017; NAI stated it would appeal, and related non-patent claims remained pending in some cases.
- Other key risks include customer concentration, changing customer orders, regulatory compliance and product liability, competition, beta-alanine supply and market adoption, foreign-exchange exposure, and the possibility that litigation costs or outcomes could adversely affect results. The company reported $26.1 million notional foreign-exchange contracts at June 30, 2017.
- NAI reported effective disclosure controls and management-assessed effective internal control over financial reporting; the auditor did not provide an internal-control attestation. The financial statements received an unqualified audit opinion.
Important facts for investors to verify
- Whether the Juice Plus+ agreement delivers the estimated incremental sales on schedule, and how the 500,000-share award affects dilution and voting.
- Whether sales remain highly dependent on Juice Plus+ and whether manufacturing sales recover in Asian and European markets.
- Actual FY2018 profitability, margins, raw-material costs, and patent-related legal expenses versus management’s expectations.
- Developments in appeals, remaining intellectual-property claims, patent validity, and the commercial uptake of SR CarnoSyn.
- Cash generation, working-capital movements, foreign-exchange hedge results, and the availability and covenant terms of the undrawn credit facility.