Business Context and Reporting Period
Company: Herbalife Ltd.
Filing Type: Form 10-Q (Unaudited)
Period Ended: September 30, 2009
Business Overview: Herbalife is a global network marketing company selling weight management, nutritional supplements, and personal care products through approximately 1.9 million independent distributors in 70 countries. In China, the company utilizes a retail store and employed sales force model due to local regulations.
Key Financial Metrics
| Metric | Three Months Ended Sep 30, 2009 | Nine Months Ended Sep 30, 2009 |
|---|---|---|
| Net Sales | $600.2 million | $1,693.7 million |
| Gross Profit | $468.4 million (78.0% margin) | $1,337.1 million (78.9% margin) |
| Operating Income | $77.8 million (13.0% margin) | $211.9 million (12.5% margin) |
| Net Income | $57.9 million | $147.7 million |
| Diluted EPS | $0.91 | $2.34 |
| Cash and Equivalents | $215.4 million (as of Sep 30, 2009) | |
| Operating Cash Flow (9mo) | $227.3 million | |
| Total Debt | $309.9 million ($12.4m current; $297.5m long-term) |
Material Changes vs. Prior Period
- Revenue: Net sales decreased 0.3% for the quarter and 8.3% for the nine-month period compared to 2008. The decline was primarily driven by unfavorable foreign currency fluctuations ($47.2 million impact for the quarter; $192.4 million for nine months). In local currency, sales increased 7.5% (quarter) and 2.2% (nine months).
- Profitability: Net income was flat for the quarter but decreased 21.2% for the nine-month period. Gross margin declined due to currency impacts and incremental costs related to importing goods into Venezuela at unfavorable parallel market rates.
- Geographic Performance:
- Asia Pacific (ex-China): Strong growth with net sales up 24.6% (quarter) and 14.0% (nine months), driven by Taiwan, South Korea, and Malaysia.
- Mexico: Significant decline of 25.4% (quarter) and 32.7% (nine months) due to a new Value Added Tax (VAT) on nutrition products and currency weakness.
- EMEA: Sales decreased 8.9% (quarter) and 17.7% (nine months) due to currency headwinds and volume declines in France and Spain.
- North America: Sales increased 3.7% (quarter) and 3.8% (nine months), aided by a 5% price increase in the U.S. and successful daily consumption business models.
- Debt: Total debt decreased from $351.6 million (Dec 31, 2008) to $309.9 million (Sep 30, 2009) due to principal payments on the revolving credit facility.
Guidance, Outlook, and Risks
- Outlook: Management expects fiscal year 2009 net sales in North America and China to increase year-over-year. Conversely, sales in Mexico and EMEA are expected to decrease due to VAT impacts and currency fluctuations. Selling, general, and administrative (SG&A) expenses are expected to increase slightly in absolute dollars due to China employee costs and depreciation, resulting in a higher SG&A percentage of net sales.
- Venezuela Currency Risk: The company faces significant restrictions on repatriating cash from Venezuela at the official exchange rate. In October 2009, the company exchanged 66 million bolivars for $13 million via a legal parallel market at a rate 61% less favorable than the official rate. This may result in material charges to operating profit in future periods.
- Legal Proceedings: The company is involved in litigation with former distributors alleging trade secret misappropriation. The court granted partial summary judgment for Herbalife in August 2009, but a trial regarding the "endless chain scheme" counterclaim remains pending. The company also faces ongoing tax audits in various jurisdictions.
- Share Repurchases: A new $300 million share repurchase program was authorized in April 2009. As of September 30, 2009, approximately $267.5 million remained available.
Investor Verification Checklist
- Venezuela Exposure: Verify the magnitude of potential charges related to the parallel market exchange rate and the timeline for repatriating remaining cash balances.
- Mexico VAT Impact: Assess the long-term effect of the new VAT on nutrition products and the success of the re-formulated product launch in October 2009.
- Currency Hedging: Review the effectiveness of foreign exchange hedging strategies given the significant negative impact of currency fluctuations on reported revenue.
- China Expansion: Monitor the progress of obtaining additional direct-selling licenses and the transition to the Nutrition Club model in China.
- Legal Reserves: Confirm the adequacy of reserves for ongoing litigation and international tax audits, particularly regarding the "endless chain scheme" allegations.