WW International, Inc. — Q1 2014 Form 10-Q
Reporting period: Three months ended March 29, 2014; comparisons are with the three months ended March 30, 2013. Amounts are in millions of dollars except per-share data and where noted.
Business context and results
Weight Watchers provides in-person meetings, online subscriptions and related products. Management attributed the quarter’s performance to lower starting member bases, weaker customer recruitment and a challenging competitive environment. The company launched its Simple Start plan, but it did not offset the revenue decline. Fiscal 2014 includes a 53rd week.
| Metric | Q1 2014 | Q1 2013 | Change |
|---|---|---|---|
| Revenue | $409.4 | $490.8 | -16.6% reported; -16.9% constant currency |
| Gross profit / margin | $222.9 / 54.5% | $283.6 / 57.8% | Profit -21.4%; margin -3.3 points |
| Operating income / margin | $51.1 / 12.5% | $103.1 / 21.0% | Income -50.5%; margin -8.5 points |
| Net income | $21.5 | $48.8 | -55.8% |
| Diluted EPS | $0.38 | $0.87 | -$0.49 |
| Operating cash flow | $80.9 | $115.2 | -$34.3 |
Revenue declines were concentrated in North America (20.6%) and the UK (13.8%); Continental Europe revenue rose 2.5% reported but fell 1.3% in constant currency. Service revenue decreased 14.8%, while product sales and other revenue fell 22.3%. Total paid weeks declined 13.9%; ending active Monthly Pass subscribers fell 12.6% to 1.5 million and active Online subscribers fell 14.5% to 2.2 million. Global attendance decreased 16.4% to 10.9 million.
Reported results included $3.7 million of restructuring charges and a $10.5 million pre-tax gain from the Brazil transaction. Excluding both items, management reported adjusted net income of $17.4 million and adjusted diluted EPS of $0.31; adjusted operating income was $54.7 million and adjusted operating margin 13.4%. These are non-GAAP measures.
Cash, liquidity and debt
- Cash and equivalents were $231.6 million at March 29, versus $174.6 million at December 28, 2013. Current assets were $368.0 million and current liabilities $399.0 million, a $31.0 million working-capital deficit.
- Operating cash flow was $80.9 million; investing activities used $17.9 million and financing activities used $6.1 million. Cash increased $57.1 million during the quarter.
- Total debt was $2.382 billion, down $6.0 million from year-end; $30.0 million was current. The $250 million revolving facility had no borrowings, $248.4 million of unused availability and $1.6 million of undrawn letters of credit.
- Debt was variable-rate. The company reported a 4.52:1.00 consolidated leverage ratio; a specified covenant applies if revolver borrowings exceed 20% of commitments. The filing states the term facilities have no required financial ratios. Ratings were B+ from S&P and B1 from Moody’s; resulting margin increases took effect February 21, 2014.
- The company suspended its quarterly dividend in October 2013. Management said operating cash flow and revolver availability should fund anticipated capital spending, debt service and working capital for the next 12 months.
Material changes, outlook and risks
- Operating income fell sharply despite lower marketing and SG&A spending, as revenue weakness reduced gross profit and increased expenses as a share of sales. Interest expense rose 12.0% to $25.3 million, primarily reflecting higher borrowing rates after the 2013 refinancing.
- Management began an organizational resizing, recording $3.7 million of first-quarter charges and anticipating approximately $6.5 million of additional charges during the remaining fiscal 2014 quarters. No formal revenue or earnings guidance is provided in the filing.
- On March 12, the company acquired an additional 45% of its Brazilian partnership, bringing ownership to 80% and control; preliminary purchase accounting included approximately $31.0 million of goodwill. The purchase price allocation was not complete. On April 16, after quarter-end, it acquired online fitness company Wello; terms are not stated in the filing text provided.
- A new forward-starting interest-rate swap became effective March 31, 2014, fixing the rate on an initial $1.5 billion notional amount at 2.38%, subject to scheduled step-downs. At quarter-end, accumulated derivative losses included $20.96 million before tax; the company expected about $18.97 million before tax to be reclassified to earnings within 12 months.
- Risks highlighted include competition and recruitment weakness, the appeal and execution of new services and initiatives, debt-service obligations and covenants, foreign-exchange and international risks, seasonality, technology and privacy risks, and legal matters. Two securities class actions filed in March 2014 seek unspecified damages; the company disputes the claims and intends to defend them.
Important facts for investors to verify
- Whether recruitment, active subscriber bases, attendance and paid weeks stabilize, particularly in North America and the UK.
- Whether management’s planned cost reductions and remaining restructuring charges improve operating margins without impairing growth.
- Debt covenants, leverage, variable-rate exposure and the effects of the new swap on interest expense and cash flow.
- Final valuation and accounting for the Brazil acquisition, and the terms and expected impact of the Wello acquisition.
- Progress and potential exposure in the securities class actions, and whether liquidity remains adequate as operating cash flow changes.