Nature’s Sunshine Products, Inc. — Q3 2014 Form 10-Q
Business context and reporting period. The company manufactures and directly sells nutritional and personal-care products through independent distributors and managers. This unaudited filing covers the quarter and nine months ended September 30, 2014; financial amounts below are in millions unless stated otherwise.
Financial performance
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Revenue | $94.9 | $92.5 | $285.0 | $282.6 |
| Gross profit / margin | $71.6 / 75.4% | $68.8 / 74.4% | $215.2 / 75.5% | $211.9 / 75.0% |
| Operating income / margin | $2.6 / 2.7% | $6.7 / 7.3% | $15.6 / 5.5% | $21.5 / 7.6% |
| Net income | $1.0 | $4.9 | $13.9 | $15.8 |
| EPS, diluted | $0.06 | $0.29 | $0.82 | $0.97 |
| Operating cash flow | Not provided by quarter | Not provided by quarter | $13.5 | $22.0 |
Q3 revenue grew 2.6% year over year, or 3.2% excluding currency effects; nine-month revenue rose 0.8%, or 1.5% on that basis. For the nine months, capital expenditures were $20.0 million, making operating cash flow less capital expenditures approximately negative $6.4 million. Cash and cash equivalents were $70.5 million at September 30, 2014, versus $77.2 million at year-end 2013. Working capital was $79.5 million, compared with $80.0 million.
There was no debt outstanding at quarter-end. The company had a $25.0 million revolving credit facility, maturing September 2016, and reported compliance with its covenants. Of cash, $54.6 million was held in foreign subsidiaries and may face withholding taxes or other repatriation restrictions. Current assets were $139.5 million and current liabilities $60.0 million.
Material changes and management commentary
- Profitability weakened despite modest revenue growth. Q3 operating income fell 60.9% and net income fell 79.6%; nine-month operating income declined 27.3% and net income 11.9%.
- Q3 SG&A rose $5.3 million to $33.5 million, or 35.3% of sales versus 30.4%. Drivers included a $2.9 million Venezuela asset impairment, $0.8 million in restructuring, $0.6 million in higher health and benefit costs, and $0.4 million in China joint-venture start-up costs. Nine-month SG&A also included $0.8 million of Fosun-related professional fees and $1.1 million for an alternative-distribution opportunity that was not pursued.
- Synergy WorldWide grew 27.1% in Q3 and 21.9% for the nine months, led by South Korea. NSP Russia, Central and Eastern Europe revenue fell 19.4% in Q3 and 13.3% year to date. NSP Americas, Asia Pacific and Europe declined 4.3% and 5.8%, respectively.
- Volume incentives increased as a share of sales to 37.4% in Q3 and 37.2% year to date. Gross margin improved, supported by product mix, lower raw-material and distribution costs, partly offset by discounting.
- Foreign-exchange losses contributed to other expense. In Venezuela, the company remeasured at the SICAD 2 rate of 50 bolivars per U.S. dollar, recognized a $1.2 million Q3 foreign-exchange loss and impaired its remaining fixed assets by $2.9 million. In November, it decided to exit Venezuela and expected another $0.6–$0.8 million of exit costs in Q4 2014.
- The Fosun Pharma transaction closed in August: Fosun invested $46.2 million for approximately 15% of the company and a board seat; the parties formed an 80%-owned China joint venture. The company funded its $16.0 million share of the venture’s initial capitalization and paid a special $1.50-per-share dividend totaling $28.5 million. China launch timing depends on regulatory approvals.
- Cash dividends paid totaled $33.4 million in the first nine months, including the special dividend. The company repurchased $2.7 million of shares in Q3; $4.7 million remained under the repurchase authorization.
Outlook, risks and contingencies
- No specific revenue or earnings guidance is provided. Management said operating cash flow and available cash were expected to fund normal operations, dividends, repurchases, capital spending and potential business development.
- Management warned that Russia and Ukraine sales remain exposed to political unrest, possible sanctions and currency weakness. A prolonged downturn, weaker product demand, or unfavorable tax outcomes could impair liquidity.
- Foreign currency movements are a significant exposure: approximately 60.5% of nine-month sales and 57.4% of operating expenses were outside the United States. The company does not use derivatives to hedge foreign-exchange risk.
- The IRS was concluding an audit of 2009–2011 federal returns and had issued proposed adjustments under review. Accrued unrecognized tax positions were $8.9 million. The company also accrued $3.5 million for non-income tax contingencies; certain foreign litigation could involve payments of $0–$0.5 million, though no provision was recorded for those matters.
- Active distributors and customers fell to approximately 299,300 from 324,900 a year earlier; active managers declined to 16,100 from 16,900. Disclosure controls were reported effective, and no material change in internal control was identified.
Important facts for investors to verify
- Whether the Venezuela exit costs remain within management’s $0.6–$0.8 million estimate and whether the exit affects sales, cash repatriation or other assets.
- Whether Synergy’s South Korea-led growth can offset continuing declines in the NSP segments and distributor counts.
- The final outcome and potential financial impact of the IRS audit, proposed adjustments and other tax contingencies.
- China joint-venture regulatory approvals, launch timing and the venture’s ability to execute its planned retail and direct-selling channels.
- Cash generation relative to elevated capital spending, dividends and repurchases; the filing reports $20.0 million of nine-month capital expenditures, including $15.6 million for the Oracle ERP project expected to be completed by mid-2016.