Medifast, Inc. — Q3 2015 Form 10-Q
Business and period: Medifast sells weight-management products and services through Take Shape For Life, Medifast Direct, franchised Weight Control Centers and wholesale partners. This unaudited report covers the three and nine months ended September 30, 2015; product sales generated 97% of nine-month revenue. The company had exited its corporate-center model in 2014, with those results reported as discontinued operations.
Financial performance
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Revenue | $65.9 million | $69.0 million | $211.5 million | $223.0 million |
| Gross profit / margin | $49.2 million / 74.6% | $50.7 million / 73.5% | $156.1 million / 73.8% | $164.2 million / 73.7% |
| Operating income / margin | $8.0 million / 12.1% | $6.6 million / 9.5% | $23.2 million / 10.9% | $26.1 million / 11.7% |
| Continuing-operations income | $5.4 million | $5.3 million | $15.7 million | $18.4 million |
| Net income | $5.5 million | $4.9 million | $16.2 million | $16.5 million |
| Diluted EPS | $0.46 | $0.39 | $1.34 | $1.27 |
Cash flow and liquidity: Nine-month cash provided by operating activities was $27.3 million, including $30.8 million from continuing operations and $3.5 million used by discontinued operations. Investing activities used $1.5 million; financing activities used $11.3 million, primarily for $10.5 million of share repurchases. Cash rose to $39.0 million from $24.5 million at year-end 2014. Cash plus investment securities was $66.5 million. Working capital was $63.3 million; total assets were $114.4 million and stockholders’ equity was $86.8 million. The balance sheet reports $0.3 million in capital-lease obligations and no material conventional debt balance.
Changes and operating drivers
- Q3 revenue declined 4.5%; nine-month revenue declined 5.2%. Q3 operating income increased 21% as SG&A fell faster than revenue. Nine-month operating income declined 11%, and continuing-operations income fell 15%.
- Take Shape For Life revenue was flat at $49.9 million in Q3 but down 4% for the nine months. Active Health Coaches fell 3% year over year to 12,000 in Q3, while revenue per coach rose 3% to $4,145; active coaches increased by about 200 sequentially.
- Medifast Direct revenue declined 16% in Q3 and 14% year to date, with new-customer acquisition described as challenging. Franchise-center revenue fell 5% in Q3 but rose 16% year to date, reflecting prior transfers of corporate centers to franchisees. Wholesale revenue declined, including a sharp Q3 drop following termination of certain accounts for distribution-compliance issues.
- Q3 gross margin improved to 74.6%, which management attributed mainly to price increases and manufacturing and shipping efficiencies. SG&A was 62.5% of revenue in Q3 versus 64.0%; year to date it was 62.9% versus 62.0%.
Outlook, risks and unusual items
- Management anticipated a 2015 full-year effective tax rate of approximately 34%–35%. The filing provides no specific revenue or earnings guidance. The new Achieve Plan launched in early October; Q3 advertising spend was down 29.7% year over year, partly to align spending with that launch.
- Nine-month SG&A included $2.1 million of extraordinary legal expenses related to Schedule 13D filings. Management said nine-month continuing income would have been $17.0 million, or $1.41 per diluted share, excluding extraordinary legal expenses; this is a non-GAAP adjustment described by management.
- The discontinued corporate-center business contributed $0.1 million of Q3 income and $0.5 million for the first nine months. Remaining clinic-exit obligations were $1.6 million at September 30, after $3.5 million of payments and $1.4 million of favorable adjustments during the nine months.
- The company settled its long-running defamation and market-manipulation litigation in May 2015; obligations were satisfied and the case closed. In a separate franchise dispute, the court entered a $2.1 million default judgment against Team Wellness entities; litigation against the primary guarantor remained in active discovery. The company reported no outstanding franchisee guarantees at September 30.
- Management reported no material change to the risk factors in its 2014 Form 10-K and assessed disclosure controls as effective. It said a hypothetical immediate 10% adverse move in investment-market conditions would have an immaterial effect on portfolio fair value. Forward-looking results remain subject to risks discussed in the 10-K and future filings.
Important facts for investors to verify
- Whether the Q3 stabilization in Take Shape For Life and sequential coach gains continue, given the year-to-date revenue decline and lower year-over-year coach count.
- Whether Medifast Direct can improve customer acquisition and whether reduced advertising affects future sales.
- The sustainability of margin and expense improvements, and the impact of the $2.1 million in nine-month extraordinary legal expenses.
- Progress and recoveries in the Team Wellness litigation, and the timing and final cost of remaining discontinued-center obligations.
- Cash-flow presentation: the financial statements report $30.8 million of continuing-operations operating cash flow and $27.3 million total operating cash flow for the nine months; verify these figures against the complete filing and XBRL data.