Nu Skin Enterprises, Inc. — Q3 2012 Form 10-Q
Reporting period: Three and nine months ended September 30, 2012. Nu Skin is a global direct-selling company of personal care products and nutritional supplements. Figures below are in U.S. dollars; financial statement amounts are in millions except per-share data.
Financial performance
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Revenue | $526.2 | $428.4 | $1,581.4 | $1,248.7 |
| Gross profit | $439.4 | $357.8 | $1,323.3 | $1,006.2 |
| Operating income | $82.4 | $67.2 | $251.9 | $158.2 |
| Net income | $54.2 | $46.8 | $162.4 | $103.8 |
| Diluted EPS | $0.87 | $0.72 | $2.55 | $1.61 |
| Operating cash flow | Not separately stated | Not separately stated | $239.3 | $127.4 |
- Revenue increased 23% in Q3 and 27% year to date. Foreign exchange reduced revenue by approximately 3% and 2%, respectively.
- Gross margin was 83.5% in Q3, unchanged year over year; year-to-date gross margin was 83.7%, versus 80.6%. Excluding the 2011 Japan customs charge, prior-year nine-month gross margin was 83.2% (non-GAAP).
- Q3 selling expense was 44.8% of revenue, up from 43.0%; G&A was 23.1%, down from 24.8%. Management attributed higher selling expense ratios to launch-related commissions, incentive trips and special market incentives, and lower G&A ratios to revenue growing faster than overhead.
- Year-to-date net income and diluted EPS in 2011 included a $32.8 million pre-tax, non-cash Japan customs charge. Excluding that charge, 2011 nine-month net income was $124.3 million and diluted EPS was $1.93; these are non-GAAP comparisons.
Liquidity, cash flow and capital allocation
- At September 30, cash and cash equivalents were $321.9 million, with an additional $15.8 million in current investments. Working capital was $304.5 million. Management said available cash, operating cash flows and credit lines should meet short- and long-term needs.
- Nine-month operating cash flow was $239.3 million. Capital expenditures were $64.5 million; operating cash flow less capital expenditures was approximately $174.8 million.
- Total debt was approximately $211.7 million, including $28.9 million current and $182.8 million long term, compared with approximately $136.6 million at December 31, 2011. The company received $100.0 million in long-term debt proceeds during the period.
- Nu Skin repurchased 4.1 million shares for $179.6 million in the first nine months; $157.2 million remained authorized at quarter-end. Cash dividends paid during the period totaled $36.6 million; the quarterly dividend was $0.20 per share, and another $0.20 dividend was declared for payment in December.
Material changes and operating drivers
- Greater China revenue increased 64% in Q3 and 85% year to date, including strong growth in Mainland China, Hong Kong and Taiwan. South Asia/Pacific rose 47% and 56%; Americas rose 19% in both periods. North Asia was essentially flat, while Europe rose 9% in Q3 and 6% year to date.
- Growth reflected product interest, sales-force expansion and limited-time offers. Q3 revenue included limited-time-offer sales of $22.0 million in South Asia/Pacific and $20.8 million from Greater China offers in the prior quarter. Globally, executives increased 21% and actives 10% year over year.
- Other income was $1.2 million in Q3 and $1.5 million year to date, versus expense of $6.9 million and $7.4 million in the comparable 2011 periods, largely reflecting lower foreign-currency translation losses.
- The effective tax rate rose to 35.2% for Q3 and 35.9% year to date, compared with 22.4% and 31.1%. The 2011 Q3 rate benefited from a one-time $7.7 million tax benefit related to an IRS settlement.
Outlook, risks and contingencies
- No specific revenue or EPS guidance is provided. Management expects Q4 year-over-year comparisons to be affected by $88.4 million of limited-time-offer revenue in Q4 2011, and expected South Asia/Pacific growth to contract in Q4 after unusually strong offer-driven growth.
- Planned capital expenditures were approximately $35 million for the remainder of 2012 and $150 million in 2013, principally for facilities, market build-outs and technology. Management anticipated a modest negative currency impact on 2012 reported revenue.
- A Japan customs dispute covering assessments and contested duties was approximately 4.3 billion yen ($55.4 million). The company is challenging the assessments in Tokyo District Court and records related deposits or payments as a long-term receivable. An adverse outcome could result in a non-cash expense for the disputed amount.
- Separately, the company had recorded a $32.8 million expense in Q1 2011 after an adverse Tokyo District Court decision on an older Japan customs case and had appealed; it anticipated an appeal decision by the end of 2012.
- The FDA refused admission of U.S. Galvanic Spa facial-unit shipments, taking the position that the product may require medical-device clearance. Nu Skin suspended further imports and filed for clearance of an alternative unit in September 2012; the process could take six to nine months or longer. U.S. Galvanic Spa sales represented about 4% of Americas revenue and less than 1% of global revenue in 2012.
- Key risks include regulatory scrutiny of direct selling and product claims, particularly in Japan and Mainland China; distributor retention and compliance; foreign exchange; customs duties; and product supply and quality. Management reported disclosure controls effective and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether growth and distributor activity can persist after limited-time offers, especially given the difficult Q4 comparison.
- Progress and financial exposure in both Japan customs matters, including the $55.4 million disputed amount and the appeal of the earlier $32.8 million assessment.
- Timing and outcome of FDA clearance for the alternative facial spa unit and potential effect on U.S. sales.
- Execution and funding of planned capital spending, and the balance among debt, share repurchases and dividends.
- Whether higher tax rates, currency movements and market-specific regulatory risks affect future earnings and cash generation.