Nu Skin Enterprises, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Amounts are in U.S. dollars; financial figures below are in millions unless noted.
Business context
Nu Skin is a global direct-selling company of personal-care products and nutritional supplements. It reports seven geographic Nu Skin segments, Manufacturing and Grow Tech. Manufacturing revenue includes sales to external customers; Grow Tech is developing ingredient-sourcing technology.
Financial performance and liquidity
| Metric | Q2 2019 | Q2 2018 | H1 2019 | H1 2018 |
|---|---|---|---|---|
| Revenue | $623.5 | $704.2 | $1,247.1 | $1,320.4 |
| Operating income | $74.2 | $82.8 | $142.9 | $141.8 |
| Net income | $46.3 | $51.0 | $89.4 | $86.5 |
| Diluted EPS | $0.83 | $0.90 | $1.59 | $1.53 |
| Operating cash flow | Not separately stated | Not separately stated | $74.5 | $51.9 |
- Revenue declined 11% in Q2 and 6% in H1; constant-currency declines were 7% and 1%, respectively. Overall Sales Leaders fell 14% year over year while Customers increased 1%.
- Gross margin was 75.3% in Q2 (76.1% prior year) and 75.9% in H1 (76.2%). Manufacturing’s lower gross margin reduced consolidated margin by 2.5 and 2.3 percentage points, respectively. Core Nu Skin gross margin was 77.8% in Q2 and 78.2% in H1.
- Operating margin was approximately 11.9% in Q2 versus 11.8% a year earlier; H1 operating income increased slightly despite lower revenue. Lower G&A, including reduced labor and event costs, supported H1 earnings.
- H1 capital expenditures were $29.2; operating cash flow less capital expenditures was approximately $45.3. Cash and current investments totaled $368.4 at June 30, down from $398.3 at year-end. Working capital was $373.6.
- Balance-sheet debt was $408.5, including $59.5 current and $349.0 long-term. Credit-facility balances were $375.0 on the term loan and $37.0 on the revolver; variable interest was 4.15%. The company reported compliance with its leverage and interest-coverage covenants. Operating lease liabilities were also recognized following adoption of the new lease standard.
- The Q2 effective tax rate was 34.6%, versus 28.8% in Q2 2018; the H1 rate was 34.6%, versus 34.4%. Q2 net income declined 9% and diluted EPS declined 8%; H1 net income rose 3% and diluted EPS rose 4%.
Material changes and management commentary
- Mainland China revenue fell 24% reported and 19% constant currency in Q2. Management attributed weakness principally to restricted sales meetings, negative media scrutiny and reduced consumer sentiment. Approvals remained more restrictive than before the government’s 100-day review campaign; management anticipated these pressures could continue for the balance of 2019.
- China was the largest geographic headwind. Revenue also weakened in Americas/Pacific, South Korea, Southeast Asia and Hong Kong/Taiwan; Japan was up 2% in Q2. Manufacturing revenue rose 39% in Q2 and 52% in H1, while Grow Tech incurred a $4.6 million Q2 segment loss and management expected further losses in 2019.
- Foreign-exchange movements reduced revenue by 4% in Q2 and 5% in H1. Argentina’s hyperinflation and weakening peso affected Americas/Pacific; political tensions in Hong Kong also affected Q2 business.
- G&A fell to $149.4 in Q2 and $308.0 in H1, with lower labor, employee incentive and event costs. Management expected higher Q4 G&A due to the global Nu Skin LIVE! event in October.
- H1 operating cash flow improved year over year, reflecting lower sales-event spending and cost savings, partly offset by cash payments of accrued items, including severance. Cash use included debt repayment, capital spending and dividends.
Outlook, risks and contingencies
- The filing gives no explicit revenue or EPS forecast. Management estimated 2019 capital expenditures of $65–70 million, including about $20 million for a planned Mainland China manufacturing plant; total expected plant spending was $55–60 million over two to three years.
- Management believed cash, operating cash flow and available credit would meet short- and long-term needs. It anticipated continued quarterly dividends, subject to board discretion; a $0.37-per-share dividend was declared for September 2019. The company had $470.2 million remaining under its share-repurchase authorization.
- Key risks include continuing Chinese regulatory scrutiny, possible changes in direct-selling rules, fines, license impacts or business interruptions; foreign-exchange volatility; market competition; and uncertainty in Hong Kong and Argentina. The filing states that litigation and other proceedings were not then expected to have a material consolidated financial effect, but outcomes remain uncertain.
- At June 30, $343.9 million of cash and cash equivalents, including current investments, was held outside the U.S.; $176.5 million was denominated in Chinese RMB. Repatriation may be subject to procedural requirements and withholding taxes. The company had designated $60.0 million of China earnings as indefinitely reinvested.
- Adoption of lease accounting in 2019 added right-of-use assets and lease liabilities to the balance sheet; beginning retained earnings increased by $0.7 million. There was no restructuring activity in Q2; the 2018 restructuring program’s remaining accrued amounts were paid or adjusted in Q1 2019.
Important facts for investors to verify
- Whether Chinese meeting approvals, regulatory scrutiny and consumer sentiment improve, and the effect on Mainland China revenue and Sales Leader counts.
- Whether reported revenue and margins stabilize after separating foreign-exchange effects and the growing, lower-margin Manufacturing contribution.
- Whether cost savings and cash generation continue while planned capital spending, dividends and debt repayments are funded.
- How much overseas cash is practically accessible for U.S. needs, given RMB balances, local repatriation procedures and tax considerations.
- Developments in Chinese regulatory reviews, foreign tax examinations and other contingencies; the filing does not quantify a clear potential loss for these matters.