Nu Skin Enterprises, Inc. — 2011 Form 10-K Summary
Business context and reporting period
Nu Skin is a global direct-selling company selling Nu Skin personal-care products and Pharmanex nutritional supplements in 52 markets. This annual report covers the fiscal year ended December 31, 2011; it is not a standalone fourth-quarter filing. The company had approximately 855,000 active distributors, including 41,816 executive distributors. Mainland China operates under a regulated hybrid sales model.
Financial and operating performance
| Metric | 2011 | 2010 |
|---|---|---|
| Revenue | $1,744.0 million | $1,537.3 million |
| Gross profit / margin | $1,421.4 million / 81.5% | $1,264.8 million / 82.3% |
| Operating income / margin | $233.7 million / 13.4% | $217.1 million / 14.1% |
| Net income | $153.3 million | $136.1 million |
| Diluted EPS | $2.38 | $2.11 |
| Cash from operations | $224.3 million | $187.9 million |
| Cash and current investments at year-end | $290.7 million | $230.3 million |
| Year-end debt, current and long-term | $136.6 million | $160.9 million |
| Working capital | $288.9 million | $206.1 million |
Revenue increased 13%, with reported growth benefiting approximately 6% from foreign exchange. Pharmanex revenue rose to $770.2 million from $612.2 million; Nu Skin revenue increased to $964.1 million from $913.8 million. The fourth quarter generated $495.3 million of revenue, $75.6 million of operating income and $49.5 million of net income, compared with $401.2 million, $58.9 million and $37.3 million, respectively, in fourth-quarter 2010.
Reported 2011 gross margin and earnings include a $32.8 million non-cash Japan customs expense recorded in the first quarter. Excluding that item, management reported gross margin of 83.4%, net income of $173.8 million and diluted EPS of $2.69; these are non-GAAP measures. The effective tax rate was 32.4%, versus 34.5% in 2010, including a one-time $7.7 million tax benefit from the IRS settlement. Capital expenditures were $41.8 million. Investing cash outflow was $71.2 million and financing cash outflow was $107.0 million.
Material changes versus the prior year
- Greater China revenue increased 27% to $341.9 million, including 67% reported growth in Mainland China; South Asia/Pacific rose 29% to $236.2 million and South Korea revenue increased 30%.
- Japan revenue was essentially flat in reported dollars at $472.5 million, but declined 9% in local currency. Japan remained the largest market at about 27% of total revenue.
- Selling expenses rose to 43.1% of revenue from 42.1%, reflecting increased distributor incentives. General and administrative expenses fell to 25.0% of revenue from 26.1%.
- Active distributors increased 7% and executive distributors increased 17% globally. Subscription orders represented 56% of revenue.
- The company acquired substantially all LifeGen Technologies assets for approximately $11.7 million, adding anti-aging research data, patents and related intellectual property.
Outlook, commentary, risks and unusual items
- Management expected 2012 gross margin of approximately 83.5%, an effective tax rate of 35.5%–36%, and capital expenditures of approximately $100 million. Planned spending included innovation centers in Provo and Shanghai, expected to be completed in 2013.
- Management anticipated a slightly negative foreign-exchange impact on 2012 reported revenue and expected modest local-currency revenue declines in Japan. Thailand flooding could weigh on sales and distributor activity through the first half of 2012.
- Management planned to roll out ageLOC R2 and Galvanic Body Spa products in additional markets during 2012 and 2013. Limited fourth-quarter 2011 offerings generated more than $78 million for ageLOC R2 and more than $18 million for the Galvanic Body Spa and related products, making reported quarterly results partly dependent on launch timing.
- Japan customs disputes are material: the company appealed the $32.8 million assessment already expensed, and separately contested approximately $50.7 million of assessments and disputed duties at year-end. An adverse outcome in the latter matter could lead to a further non-cash expense; the company recorded related disputed deposits or payments as a long-term receivable.
- Craig and Harper litigation sought more than approximately $42 million in damages plus $200 million in punitive damages; the company said it would vigorously defend the claims. The filing states management believed other litigation outcomes, except as noted, were not likely to materially affect consolidated results.
- Key risks include distributor conduct and retention, heightened direct-selling scrutiny in Japan, China’s restrictive and evolving rules and licensing process, product and marketing-claim regulation, foreign-exchange exposure, supplier concentration, and potential classification of sales tools as medical devices. The FDA was reviewing the classification of a U.S. shipment of Galvanic Spa units.
- The board approved a quarterly dividend increase to $0.20 per share, payable in March 2012, subject to board discretion. Management said existing cash, operating cash flow and credit lines were expected to meet short- and long-term needs. The auditor gave an unqualified opinion on the financial statements and internal controls.
Important facts for investors to verify
- Review the Japan customs appeal status and recoverability of the approximately $50.7 million disputed amount, including any bond or deposit requirements.
- Assess how much growth came from foreign exchange and convention-related limited offerings, and whether distributor growth and product demand persist after launches.
- Track Japan’s local-currency sales and distributor trends, regulatory inquiries, and any changes to the China direct-selling licensing or operating model.
- Compare 2012 actual gross margin, tax rate, capital spending and currency effects with management’s stated expectations.
- Confirm whether the substantial planned construction outlays, dividends, repurchases and debt maturities remain supported by operating cash generation and liquidity.