NU SKIN ENTERPRISES, INC. quarterly report, Q3 FY2019

Nu Skin Enterprises, Inc. — Q3 2019 Form 10-Q

Reporting period: Quarter and nine months ended September 30, 2019. Unaudited results; amounts below are in U.S. dollars. Nu Skin sells personal care products and nutritional supplements through a global direct-selling business, with manufacturing and Grow Tech operations.

Financial performance

Metric	Q3 2019	Q3 2018	Nine months 2019	Nine months 2018
Revenue	$589.9M	$675.3M	$1,837.1M	$1,995.7M
Gross profit	$449.8M	$517.9M	$1,396.2M	$1,523.4M
Operating income	$69.9M	$80.7M	$212.7M	$222.4M
Net income	$44.1M	$53.1M	$133.4M	$139.6M
Diluted EPS	$0.79	$0.94	$2.39	$2.47
Operating cash flow	Not provided for quarter	Not provided for quarter	$128.0M	$113.9M

Q3 revenue fell 13% reported and 11% at constant currency; nine-month revenue fell 8% reported and 4% at constant currency. Management attributed weakness to Mainland China meeting restrictions, no major 2019 product launch, and currency effects.
Gross margin was 76.2% in Q3 (76.7% prior year) and 76.0% for nine months (76.3%). Core Nu Skin gross margin was 78.6% and 78.4%, respectively; the lower-margin Manufacturing business weighed on consolidated margin.
Selling expense was 39.3% of Q3 revenue and 39.6% for nine months, versus 40.2% in both comparable periods. General and administrative expense was $147.9M for Q3 and $456.0M for nine months; lower labor and event costs were partly offset by the smaller revenue base.
Effective tax rates rose to 32.1% for Q3 and 33.8% for nine months, from 27.9% and 32.0%, respectively, primarily reflecting prior-year tax benefits.

Financial position and liquidity

At September 30, 2019, cash and equivalents were $320.0M; cash plus current investments was $327.5M, down from $398.3M at December 31, 2018. Working capital was $370.7M, compared with $359.6M.
Nine-month operating cash flow of $128.0M exceeded $113.9M in 2018. Capital expenditures were $52.8M; cash flow less capital expenditures was approximately $75.2M.
Debt carrying value was $366.7M, comprising $25.0M current and $341.7M long-term. The term loan principal was $370.0M; the $350M revolving facility had no balance at September 30, versus $49.5M outstanding at year-end. The company reported compliance with debt covenants.
Operating lease liabilities totaled $118.2M, recognized following adoption of the lease standard in 2019. Total assets were $1,736.9M and stockholders’ equity was $845.8M.
The company paid $61.6M in dividends during the first nine months. The quarterly dividend was $0.37 per share; the board declared another $0.37 dividend in November. Only $0.8M of shares were repurchased during the nine months, with $470.2M remaining under authorization.

Material changes and business trends

Mainland China revenue declined 23% in Q3 and 15% for nine months. Sales Leaders fell 29% year over year, while Customers increased 51%; management cited restrictions on sales meetings and negative media scrutiny, alongside prior-year promotional comparisons.
Japan was the only major geographic segment with Q3 revenue growth: up 6% reported and 2% constant currency. Manufacturing revenue grew 18% in Q3 and 39% for nine months, with the nine-month comparison affected by the 2018 acquisition timing.
Total Sales Leaders decreased 16% year over year, while Customers increased 4%. Segment results were mixed: weakness in China, South Korea, EMEA and parts of the Americas offset growth in Japan and Manufacturing.
Grow Tech generated no Q3 revenue and recorded a $5.8M segment loss for the quarter, versus a $2.7M loss in 2018. Its nine-month loss increased to $14.0M from $6.0M.

Outlook, risks and unusual items

Management estimated 2019 capital expenditures of $65–70M. A planned Mainland China manufacturing plant was expected to cost $55–60M over two to three years, including approximately $20M in 2019; about $10M had been spent by September 30.
Management expected Q4 G&A expense to increase sequentially, including approximately $10M of incremental spending related to the October Nu Skin LIVE! event. Grow Tech spending in Q4 was projected to be generally consistent with Q3, and continued 2019 losses were expected. The filing provides no specific consolidated revenue or EPS guidance.
Management believed cash, operating cash flows and available credit would meet short- and long-term needs, while noting that reduced revenue could affect cash generation and that capital spending, repurchases or dividends could be adjusted if needed.
Key risks include Mainland China regulatory scrutiny and potential limits on sales activity or licenses; evolving direct-selling and network-marketing rules; negative publicity and product or earnings-claim issues; foreign exchange exposure; Argentina’s hyperinflation and currency weakness; and business disruption in Hong Kong. The company also disclosed ongoing litigation, investigations and tax examinations, but said it did not expect known contingencies to materially harm consolidated results.
Prior-year comparisons include a $13.6M non-cash gain on step acquisitions and a $7.2M debt-extinguishment charge. The 2019 period also reflects adoption of lease accounting, adding right-of-use assets and lease liabilities to the balance sheet.

Important facts for investors to verify

Whether Mainland China meeting restrictions and regulatory scrutiny ease, and whether Sales Leader trends stabilize as management expects.
Whether revenue, customer and Sales Leader performance improves across regions, particularly China, South Korea, EMEA and the Americas.
Whether currency movements, Argentina’s economic conditions and Hong Kong disruptions continue to affect reported results.
Whether Manufacturing growth and planned China capacity investment generate sufficient returns, and how Grow Tech losses develop.
Debt covenant headroom, cash accessibility outside the U.S., capital-spending execution, and the sustainability of dividends and any future repurchases.
Potential outcomes of regulatory, litigation and tax matters; management’s stated view on contingencies is not a guarantee of resolution.