LifeVantage Corporation — Q1 FY2012 Form 10-Q
Reporting period: Three months ended September 30, 2011; comparable period is the three months ended September 30, 2010. The filing was signed November 14, 2011.
Business context
LifeVantage develops and sells nutraceutical and skin-care products, principally Protandim and TrueScience, mainly through independent distributors in a network-marketing channel. Sales were reported from the U.S., Japan, and Mexico. The company identifies reliance on distributor growth and a significant dependence on a single product among its business risks.
Financial results and liquidity
| Metric | Q1 FY2012 | Q1 FY2011 |
|---|---|---|
| Net sales | $20.08 million | $6.44 million |
| Gross profit / margin | $17.13 million / 85% | $5.42 million / 84% |
| Operating expenses | $13.70 million | $5.08 million |
| Operating income | $3.43 million | $0.34 million |
| Net income | $3.72 million | $0.72 million |
| Net income per share, basic / diluted | $0.04 / $0.02 | $0.01 / $(0.01) |
| Cash provided by operating activities | $3.34 million | $0.64 million |
- Sales rose $13.64 million, or approximately 212%, primarily from higher network-channel volume. U.S. sales increased $10.07 million, Japan $3.52 million, and Mexico $0.04 million.
- Sales and marketing expense rose to $10.54 million, chiefly reflecting higher distributor commissions. General and administrative expense increased to $2.84 million, including higher staffing, bonus accruals, stock compensation, and legal costs. Research and development expense was $0.23 million.
- Other income included a $0.80 million gain from changes in the fair value of derivative liabilities. Interest expense fell to $0.04 million from $1.46 million, primarily because convertible debentures had been converted in the prior year. The derivative gain is a valuation item, not operating cash generation.
- Cash and cash equivalents were $9.44 million at September 30, up from $6.37 million at June 30. Operating cash flow was $3.34 million; investing cash outflow was $0.37 million, mainly for equipment. Cash at quarter-end included substantial balances at financial institutions exceeding federally insured limits.
- Working capital was $0.50 million, compared with a $3.11 million deficit at June 30; the company notes that $6.85 million of short-term derivative warrant liabilities reduced reported working capital. Total liabilities were $33.31 million, including $26.11 million of derivative liabilities. The revolving credit balance, including accrued interest, was approximately $0.43 million, against a $0.46 million borrowing limit secured by auction-rate securities.
- Stockholders’ deficit was $16.20 million at September 30. Weighted-average diluted shares were 122.0 million, versus 89.7 million a year earlier.
Outlook, risks, and unusual items
- No formal revenue or earnings guidance is provided. Management expects gross margins to remain around the reported range and anticipates continued increases in sales and marketing expense as sales grow. It expects general and administrative costs to remain relatively stable, with periodic increases to support growth.
- Management intends to commit up to approximately 2% of net sales to research and development in future periods, depending on specific projects. It believes existing cash and future operating cash flow will support operations for at least 12 months, but cautions that lower-than-projected sales could require expense cuts or additional financing, which may be unavailable or dilutive.
- Disclosure controls and internal control over financial reporting were ineffective at September 30 due to material weaknesses involving accounting personnel and oversight/documentation. The company hired a senior controller and planned further remediation and testing through June 2012; management said the weaknesses had resulted in material audit adjustments to its 2011 financial statements.
- A post-quarter lawsuit filed October 14 by former distributor Backbone Worldwide and Burke Hedges alleges improper termination of a distributor agreement and defamation. Plaintiffs seek more than $5 million in compensatory and more than $3 million in punitive damages, plus fees and costs. The company disputes the allegations and intends to defend the case.
- The company signed a lease for approximately 20,805 square feet in Sandy, Utah, for 66 months. Initial monthly rent is $35,748.25 for the first 18 months, with scheduled escalations.
- Other risks emphasized include distributor recruitment and retention, regulation and potential FTC or third-party action, product and liability claims, dependence on third-party manufacturing, competition, international operations, and possible future financing and dilution.
Important facts for investors to verify
- Whether rapid sales growth can be sustained and translated into recurring operating cash flow, given distributor-channel dependence and rising sales-related expenses.
- The composition, valuation assumptions, and potential settlement or dilution effects of the $26.11 million in Level 3 derivative liabilities.
- Progress in remediating the disclosed material weaknesses and whether subsequent reporting remains reliable.
- The status and potential financial impact of the October 2011 lawsuit, which was filed after quarter-end.
- The filing reports 486,585 shares issued through option and warrant exercises in its equity statements, but Part II reports 485,585 unregistered shares issued upon warrant exercises; reconcile the share-count difference.
- The company’s ability to manage liquidity and the auction-rate securities, including the outstanding credit line and the agreement for repurchase of the remaining securities by June 30, 2012.