Nu Skin Enterprises, Inc. — Q1 2015 Form 10-Q
Reporting period: Three months ended March 31, 2015. Amounts are U.S. dollars; financial statement amounts are in millions unless otherwise noted. Nu Skin is a global direct-selling company focused on personal care and nutritional products.
Financial performance and liquidity
| Metric | Q1 2015 | Q1 2014 | Change |
|---|---|---|---|
| Revenue | $543.3 | $671.1 | Down 19% |
| Gross profit / gross margin | $438.3 / 80.7% | $564.4 / 84.1% | Margin down 3.4 points |
| Operating income / margin | $68.6 / 12.6% | $101.2 / 15.1% | Operating income down 32% |
| Net income | $36.3 | $54.9 | Down 34% |
| Diluted EPS | $0.60 | $0.90 | Down 33% |
| Operating cash flow | $74.2 | $(160.6) | Improved $234.8 |
Foreign exchange fluctuations reduced reported revenue by 7% year over year. Sales Leaders fell 15% and Actives fell 8% overall. Q1 2015 operating cash flow benefited from lower inventory, which declined $25.7 million from year-end; the prior-year quarter had substantial accrued-expense payments and inventory build-up.
At March 31, 2015, cash and cash equivalents were $304.7 million, and cash plus current investments totaled $316.3 million. Working capital was $413.4 million. Total debt on the balance sheet was $265.1 million ($83.9 million current and $181.2 million long-term), versus $247.3 million at December 31, 2014. Capital expenditures were $18.2 million in the quarter; management expected approximately $60 million more for the rest of 2015.
Material changes and business drivers
- Greater China: Revenue fell 33% to $187.4 million; Mainland China revenue fell 37% to $134.2 million. Management attributed continuing weakness to the disruption following the company’s voluntary suspension of business meetings and new-representative applications in early 2014 amid media and regulatory scrutiny. Those activities resumed in May 2014.
- Other regions: North Asia revenue declined 12% to $172.1 million, including declines in South Korea and Japan. Americas revenue was flat at $79.9 million; South Asia/Pacific declined 1% to $70.8 million; EMEA declined 27% to $33.2 million.
- Year-over-year comparisons were affected by prior-year limited-time TR90 offers, including approximately $15 million of Greater China sales, $13 million in South Korea, and $5 million in Japan in Q1 2014.
- Gross margin was pressured by currency effects and an $8.3 million reclassification of warehousing and shipping overhead from general and administrative expense to cost of sales. Prior periods were not revised because the reclassification was considered immaterial.
- Selling expense as a share of revenue improved to 43.1% from 46.7%, partly due to fewer incentive-trip qualifiers. General and administrative expense fell to $135.6 million from $150.1 million, but rose as a share of revenue to 25.0% from 22.4%.
Outlook, risks and unusual items
- Management expected new products to support revenue in the remainder of 2015 and in 2016. Planned launches included essential oils, ageLOC Youth, and ageLOC Me. The filing provides no specific numerical revenue or earnings guidance.
- Management expected the stronger U.S. dollar to continue affecting 2015 results. A Venezuelan exchange-mechanism change led the company to use the SIMADI rate and record a $10.2 million foreign-exchange loss in Q1 2015. Venezuela also has currency controls that restrict access to foreign currency and repatriation; cash held there was $2.4 million.
- Japan customs-duty assessments and disputed duties totaled approximately 4.3 billion yen ($35.8 million) at quarter-end. The company was pursuing the matter in Tokyo District Court and said an unfavorable outcome could require a non-cash expense for amounts not recovered.
- The company faces a securities class action and shareholder derivative litigation related to allegations about its China business; a motion to dismiss the class action was denied in February 2015. The company disputes the claims. In April 2015, the SEC initiated a non-public formal investigation focused in particular on a 2013 China charitable donation; the company said it would cooperate. Outcomes and potential financial effects are uncertain.
- Other exposures include tax examinations, product and direct-selling regulation, and a separate lawsuit seeking substantial compensatory and punitive damages. Management stated it believed other litigation outcomes were not likely to materially affect consolidated results, except where noted.
- A $7.8 million out-of-period adjustment reduced deferred tax assets and accumulated other comprehensive income, with no net-income impact; management considered it immaterial. The quarter also included a $10.2 million Venezuela foreign-exchange charge.
- The board declared a $0.35-per-share quarterly dividend in April, payable in June. Management anticipated continued quarterly dividends, subject to board discretion, and believed cash, operating cash flows, and credit lines would meet cash needs.
Important facts for investors to verify
- Whether China sales, distributor activity, and new-product launches recover, and whether regulatory scrutiny affects operations.
- How much of reported revenue and earnings weakness reflects currency movements, and the effect of further U.S.-dollar strength or Venezuelan currency changes.
- The status and potential financial consequences of the SEC investigation, securities and derivative actions, and Japan customs dispute.
- Debt balances, covenant compliance, cash availability across jurisdictions, and the sustainability of dividends and repurchases amid lower earnings.
- The comparability of gross margin after the $8.3 million expense reclassification and the impact of prior-year limited-time offers on reported trends.