Nu Skin Enterprises, Inc. (NUS) Q3 2012 Earnings Report, Transcript and Summary

Good afternoon, ladies and gentlemen, and welcome to the Third Quarter 2012 Nu Skin Enterprises Earnings Conference Call. My name is Chris and I’ll be your conference moderator for today. Presently, all participants are in a listen-only mode. Later, we will facilitate a question and answer session. [Operator Instructions] And at this time, I would now like to turn the conference over to your presenter for today, Mr. Scott Pond. Sir, you may proceed.

Thanks, Chris. We appreciate everyone joining this today. With us in the room are Truman Hunt, President and Chief Executive Officer; Ritch Wood, Chief Financial Officer; Dan Chard, President of Global Sales and Operations; and Joe Chang, Chief Scientific Officer. Just a reminder, during the call, comments may be made that include forward-looking statements. These statements involve risks and uncertainties and actual results may differ materially from those discussed or anticipated. We encourage you to refer to today’s earnings release and our SEC filings for a complete discussion of these risks. Also during this call certain financial numbers may be discussed that differ from comparable numbers obtained in our financial statements. We believe these non-GAAP financial numbers assist management and investors in evaluating and comparing period-to-period results in a more meaningful and consistent manner. And with that, I’ll turn the time over to Truman.

Thanks, Scott, and good morning, everyone. I’m sure that many of you are still dealing with the effects of the storm on the East Coast and we hope that you and your families are safe and well. As noted in our release this morning, it was another great quarter for Nu Skin, which will lead to another record year we’ll complete in just a couple of months. Today, we announced record third quarter revenue of $526 million, which is an increase of 23% over the prior year and 26% in constant currency. On the earnings front, we also came in well ahead of Street expectations with earnings at $0.87 which is a 21% improvement over the prior year. So with these healthy results, we’re increasing our annual guidance for the third time this year. Ritch is going to provide details on guidance in a few minutes. But we look to finish the year strong with now six years of consecutive growth and reaching a new milestone of $2.1 billion in annual revenue. Our results for the third quarter and our new forecast for the fourth quarter are particularly gratifying given that we are going up against difficult comparison from the second half of last year when we generated over $100 million in new product sales. So we’re very pleased with the current state and direction of the business. On November 14, we are going to be hosting our Annual Investor/Analyst Day in New York, which we hope you can join us for. We will update you on a number of fronts including providing our 2013 guidance, giving you an update on our product pipeline and of course providing additional details of our plans to sustain growth. So with that meeting just a couple of weeks away, I am going to keep my remarks fairly brief today. I do want to point out, however, that our Investor Day Meeting in November of last year, we presented a plan to generate approximately 5% to 7% revenue growth with an operating margin increase of about 30 basis points to 50 basis points and a 7% to 10% earnings growth rate. We are obviously going to finish the year well ahead of plan and we’ve been able to accomplish this by continuing to focus on the fundamentals of success within our direct selling channel. As we’ve discussed in the past, there are three ways to grow our business. First, we recruit more salespeople and customers; second, we retain more salespeople and customers; and third, we improve sales productivity. We have made significant progress on all three of these fronts over the past several years and during 2012. In third quarter, we grew in every region and our sales force became even more engaged and productive as a result of recent product launches. We’re pleased that this success is happening in both emerging as well as our mature markets. To sustain growth, we’re going to remain focused on two key areas, first, offering a compelling product portfolio, and second, providing a compelling business opportunity. So, in terms of our product portfolio and product direction, we’ve been really pleased with the response to our latest ageLOC products, R2 as well as the Body – ageLOC Body Spa. We’ve been working to refine our product launch process over the past few years and as we see increasing levels of participation in these launches, we believe that the revenue impact of future launches is going to continue to grow. As we’ve indicated in the past, we believe that the best is yet to come for the ageLOC platform, as we have what we believe are multiple blockbusters in the pipeline including our move into the weight management category in 2013. We’re optimistic about this product category and we’re sensing that our sales force is enthusiastic as well. We’re going to provide more detail about the configuration of our weight management system on the 14th. So, I want to touch quickly on just a few market highlights. Of course, we’re very pleased to see growth in Japan. You may recall when we put a new management team in place there two years ago, we really thought that 2011 could be a turnaround year. And the natural disasters in March of that year set the effort back by about a year. But given what we have already seen in the third quarter and given a very strong October so far, we’re confident in saying that the fourth quarter is going to be very strong. In fact, we expect Japan to grow about 15% on the strength of the ageLOC Body Spa launch in the fourth quarter. So needless to say we’re very pleased to see the work being done in Japan and with the strong second half that we’re projecting, Japan will show growth for the full year of 2012. We’re also pleased that South Korea is moving ahead and posted a solid performance in the third quarter. Greater China and South Asia obviously continue to post strong growth coming off tremendous limited time offers in the second quarter. And the U.S. continues to grow at a healthy rate, 15% during the third quarter, which we’re very pleased with. With this level of operating success, we’re generating higher levels of cash. We repurchased another $66 million of stock in the quarter, and year-to-date we’ve repurchased about 6% to 7% of our outstanding shares so far. So all-in-all, we’re encouraged by the growth we’re seeing in the business and we believe that we have the ammunition in place to continue to sustain growth in 2013 and beyond. So with that, I’ll turn the time over to Ritch.

Thank you, Truman, and thanks to each of you for joining us today on the call. Let me highlight one item as it’s related to our Q3 revenue. We had about $28 million in sales that was booked in Q3 for items that were part of our LTO of Q2, so sales that were picked up in Q3. Sales without this LTO carryover would have been up 20% in local currency for our global results and revenue. And then specifically Greater China would have been up 40% rather than 64%. I just highlight this so that you’ll know on an apples-to-apples basis this was simply one of the best quarters that we’ve ever reported with 20% revenue growth and very strong earnings growth as well. This morning, we raised our annual 2012 revenue guidance to $2.11 billion. That represents an expected growth rate of 21% in U.S. dollars over the prior year and includes a couple percent headwind from foreign currency. We are encouraged very much by the strong growth we continue to see and when providing initial 2012 guidance, one of the challenges was our difficult fourth quarter revenue comparison. You’ll recall that when we gave our guidance last year, we had projected that the fourth quarter comparing against the global convention and a revenue generation of $100 million with the pre-launch of our ageLOC Body Spa and R2 product that our initial guidance provided earlier this year was that revenue would be flat to slightly down as we compared to a 23% growth rate generated in the fourth quarter of 2011. But driven by strong growth in both our sales force and our customer base, we are now forecasting local currency revenue growth of 8% to 9% for the fourth quarter and we also increased our 2012 EPS guidance to a range of $3.33 to $3.37, making this the fifth consecutive year of generating EPS growth in excess of 20% when excluding non-operating items. In October, we experienced very strong interest and enthusiasm from our sales force surrounding our product launches around the world. For example in the U.S., we launched a new ageLOC version of our popular Tru Face Essence product. In Japan and South Korea, we introduced the ageLOC Body Spa; and then in Europe, we introduced the R2 product. The early results of – so far in this fourth quarter already give us strong confidence to raise our fourth quarter revenue expectation to those which we provided earlier today, revenue of $520 million to $530 million and earnings per share of $0.78 to $0.82. The company’s operating margin for the third quarter held strong at 15.7%, which is consistent with the prior year. Our selling expenses were up to 44.8% during the quarter and these selling expenses were up for three primary reasons. First and foremost, during the LTO phase of product launches, our sales growth rate increases. Therefore, sales leaders achieve a higher than average monthly sales volume during this period of time and the compensation plan pays out a higher commission percentage on this increased volume. That’s the primary item that is driving our selling expense a little bit higher. Secondly, the growth in our sales force has many more sales leaders achieving higher qualification benchmarks, for which we provide incentive trips and recognition. We believe these incentive trips increase the retention and success rates in our sales force, they provide energy and an overall improvement and benefit to our sales growth on a go-forward basis. And then finally, as some of you are aware, we have stretched targets in some of our markets which require significant revenue growth to achieve, and we’ve mentioned this as it relates particularly to South Asia and Greater China, and as we’ve begun to – as we continue to see very, very strong results in these two regions particularly, we’ve started to accrue against these achievements for these incentives that are out there. Overall, we continue to generate strong operating margins, however, because of the increase in our selling expense is offset by improved efficiencies in our general and administrative costs as a percentage of revenue. To this point, specifically our G&A expense for the third quarter as a percentage of revenue was 23.1% compared to 24.8% in the prior year. And that’s again due to our ability to leverage our revenue growth over a largely fixed overhead number. During the prior year, we had a large foreign currency loss that was in the third quarter of last year, causing us to report a $6.9 million expense in the other income expense line of our P&L. And this year, we recorded a small gain of approximately $1.2 million on the same line. Our tax rate for this quarter was 35.2% compared to 22.4% in the prior year, which included an IRS settlement benefit of approximately $7.7 million. For the fourth quarter, we expect the rate – our tax rate to be right around 36%. During the quarter, we paid $11.9 million of dividends. We repurchased, as Truman mentioned, $66.3 million of our outstanding shares and the Board approved share repurchase authorization sits at $157 million at the end of the third quarter. We are excited about our plans for 2013. We’re confident it will be another great year. We look forward to detailing these plans for our investors and analysts on November 14, and at that time we’ll give additional insight on our longer term growth plans as well. We look forward to that day and hope you’ll join us. So, with those comments we’ll now open up the call for questions.

Thank you. [Operator Instructions] And our first question comes from the line of John Faucher with JPMorgan. You may proceed. John Faucher – JPMorgan Securities: Thanks. Good morning, everyone.

Hi, John. John Faucher – JPMorgan Securities: Just a quick question on the Greater China executive distributor growth. So as you guys had indicated, we saw a sequential decrease coming out of the convention. Can you talk a little bit about sort of how you feel about that number, is this kind of what you saw, and then a little bit in terms of do you think that all the sort of extra execs for the convention – is that sort of shake out, for lack of a better term, done and will you grow off this base or will we still see sort of it move down a little bit as we head into the fourth quarter? Thanks.

Yeah, John, this is Truman. We obviously experienced a really strong executive growth rate in the second quarter which was the result primarily of the LTO launches in Greater China and South Asia. But if you kind of normalize that spike against last year and normalize it against the first quarter of this year, you will see that we’re still enjoying a good healthy growth rate in the executive count on a year-over-year basis and since Q1. So, we do think that that’s a convention and an LTO-related spike. Going into the fourth quarter, we wouldn’t expect that to really be an issue; moving forward sequentially, no. So, you’ll also see that our active basis has also shown strong sequential improvement though. After adding about 35,000 actives in Q2, we added another 18,000 actives in the third quarter, so we’re really pleased with that. John Faucher – JPMorgan Securities: Great. Thanks.

Our next question comes from the line of Olivia Tong with Bank of America Merrill Lynch. You may proceed. Olivia Tong – Merrill Lynch, Pierce, Fenner & Smith: Thanks a bunch. I want to talk a little bit about Japan, it’s clearly a pretty quite a while since you’ve grown that market. Can you talk a little bit about expectations not just in next quarter when you’ve got a pretty big launch, but in 2013 and going forward? Have you turned the tide now, do you feel like you’ve turned the tide, or is it still pretty early days to really call victory in a pretty tough market? Thank you.

Well. Olivia, it’s really too soon to declare victory in Japan, but we’re really happy with the work that our team’s done there and obviously to grow in the third quarter we’re very happy with. There has been a very strong response to the Body Spa launch here in the fourth quarter which is going to make the fourth quarter results very positive. The extent to which that spills over into 2013, we’ll be talking about at our November 14 meeting, when we give guidance for next year, but all-in-all the underlying metrics of the business look good. And we think that at least Japan isn’t going to hurt us from the top-line perspective in 2013 and we’re reasonably optimistic to think that we can grow the market. Olivia Tong – Merrill Lynch, Pierce, Fenner & Smith: Got it. And then on share repurchase, obviously a decent size pick-up this quarter, can you talk about what you’ve done this month so far? And then the cash is still much higher than you need and the debt is low, so why not be a little bit more aggressive on the share repurchase going forward?

Yeah, we continue to think share repurchase is a great use of our cash Olivia and we’ll continue to analyze based on how our stock’s trading and so forth as we go forward, how much cash we should be deploying in share repurchase. So, yeah, we continue to think it’s a great way. We’ve used our – about $180 million so far this year at an average price in the low 40s. So, we’ve been able to pull in a good number of shares and it’s mostly been with excess cash. So, we think that’s a good use of cash for shareholders and we’ll continue to use it as we see it appropriate, but we certainly have cash on our balance sheet and additional capacity. Olivia Tong – Merrill Lynch, Pierce, Fenner & Smith: Great. Thank you.

Our next question comes from the line of Scott Van Winkle with Canaccord Genuity. You may proceed. Scott Van Winkle – Canaccord Genuity: Hi. Thanks. Congrats on the great quarter guys – this quarter guys.

Thank you, Scott. Scott Van Winkle – Canaccord Genuity: And so a few questions, first, look at your fourth quarter guidance, what launches are in there, is it just Japan and Korea getting the launch of the Body Spa system?

Those are the two bigger ones in the fourth quarter Scott. And correct, that those are the two getting the Body Spa. We have Europe, who will launch – who has launched already the R2 product and then in the U.S., we ageLOCed a product that’s been very popular here called our Tru Face Essence Ultra product and that also had an LTO here in October. Scott Van Winkle – Canaccord Genuity: And how does it look for the next couple of quarters? I don’t want to steal the thunder of your Analyst Day in a couple of weeks, but are there more launches coming in Q1 and Q2, because I think originally you planned some of this for Q1 and you kind of pulled it forward?

Yeah, good point on that. We will roll out an exact schedule at our Analyst Day. So, you have a little bit more detail on it. But the actual rollout of the products then happens in the first half of next year. But the big thing next year is going to be our weight management launch in the third and fourth quarters, and it will surpass anything that we’ve done to date. Scott Van Winkle – Canaccord Genuity: Okay, okay. And then if you look at the Q4 guidance, the revenue growth relative to the EPS, are you assuming that selling expenses stay at this elevated level of 44% to 45%?

That’s right. I’ve continued to hold those higher based on some of the achievements and then the LTOs that we see happening here in October. Probably a little conservative in how we’re modeling that out hopefully. We’ll know if we’re conservative after the quarter, that’s the way it works, right. We always think we’re conservative going in, but I’ve kept that high based on our experience over the last few months. Scott Van Winkle – Canaccord Genuity: Okay. And then back to Japan on Q4, 15% growth is a big number, a great number, but what do you see – I mean what kind of visibility do you have on that right now? I mean do you have kind of – I don’t want – if it’s pre-order activity or indications from new distributor signups, et cetera, et cetera?

Yes, that’s right. We’ve – actually the LTO happened in October. So, we essentially have that data already in the numbers, which is what’s pushing that number higher, very good response to that. In addition in Japan, I would just highlight the executive number, and if you look at our sequential executive number moving from Q2 to Q3, going up by about 900 execs I believe if I remember right and strong activity as we’re coming into the fourth quarter. That’s the key for me on how we’re going to guide the numbers next year in Japan it’s really what’s happening with that executive number. And so far, we’re very encouraged by what we saw in both Q3 and early in Q4 and that will be the key to our success there next year. Scott Van Winkle – Canaccord Genuity: Okay. And last question, Ritch, share count in Q4, I assume it goes down a little bit more incrementally from Q3 even if you don’t buy back more stock between here and the end of the quarter, is that right?

Yeah. That is correct. A lot of the repurchases about $66 million that happened in Q3, happened mid-quarter and later as our stock price came down a little bit. So, the benefit of that kind of – we don’t get full benefit in Q3, but some of that will push into Q4. Scott Van Winkle – Canaccord Genuity: Great. Thank you very much.

You bet.

The next question comes from the line of Bill Schmitz with Deutsche Bank. You may proceed. Bill Schmitz – Deutsche Bank Securities: Hey, guys good morning.

Hi, Bill. Bill Schmitz – Deutsche Bank Securities: Hey, can you just talk about maybe like the postmortem on a lot of these allegations out there. I know we have done our independent stuff and really can’t find a lot of problems, but just kind of what you have done to sort of investigate some of the stuff that’s been speculated publicly? And then kind of what your conclusions have been, I know it’s a pretty broad question?

Yeah. It’s obviously been an interesting time for us Bill over the course of the last several months as we’ve faced the scrutiny that we have from certain sources including recently sources in other types of media. It just seems like everybody has an agenda these days and the short sellers certainly have their agenda and other media writers have their agenda, which seems to be more political than anything else. We are viewing this really as kind of a rite of passage I suppose. 20 years ago, we went through a high level of scrutiny from a regulatory perspective here in the U.S. with the SEC and several State Attorneys General, and came through that. We really faced similar scrutiny from the industry 10 years or so ago and we emerged within the industry as a leader and now we have the opportunity to face the scrutiny of the Street and hopefully come through this rite of passage successfully too, which we intend to do. We’re happy to answer the questions that we can. And our goal is to be as transparent as we possibly can with anyone who’s asking the questions honestly and objectively. It’s just that when questions are asked with an agenda and people don’t particularly care what the response is or what the truth is, it becomes a little bit harder to communicate the truth. But we’re being as responsive as we can when it’s been interesting to us as certain issues have been raised to find that in China in particular our management team has already been on top of those issues and addressed those issues. So, we think that our team there is doing a great job managing a high-growth environment and I think with the passage of time really is what we need right now to demonstrate to the Street that we have a viable and successful business there and we can continue to grow the market. Bill Schmitz – Deutsche Bank Securities, Inc: Got you. And then just on the U.S. FDA front, I think you guys have already sort of squashed some of the speculation on the clinical stuff with the Galvanic Body obviously, but how about on some of the labeling stuff, I know it looks like the FDA is getting a little bit more aggressive?

Yeah, it does seem that the FDA has picked up their scrutiny on cosmetic claims in particular, which has been interesting to us and so we’re doing everything we can to make sure that we’re operating within appropriate frameworks there. I will say because you’ll see in our Q that we’ll file here today that we continue to disagree with the FDA’s position on the Facial Spa, the ageLOC Facial Spa. But in case we lose that battle, we have gone ahead and filed a 510(k) registration application on an alternative version of the Facial Spa. So, a slightly different unit that we’ve put into the process of registering as a medical device in the event we lose the battle on the current form of the Galvanic Spa. So, that’s essentially our contingency plan with respect to that product for 2013. Bill Schmitz – Deutsche Bank Securities: Got you and then what level of leverage are you guys comfortable with? I mean because it seems like the States – I mean what’s the benefit of staying a public company given the growth year you have, your balance sheet and also the prospects going forward?

Well, it’s just our reality, Bill. We’re a public company and as a public company, we’re going to do our best to fight all of the public battles. And we – to the extent we ask ourselves this question, should we really get serious about going private? It’s just a delicate issue that has to be handled with a great deal of care. And right now, honestly, we’re just focused on growing the business and putting numbers up and letting the Street worry about the rest. I mean it’s largely out of our ability to control or even influence to a great degree. So, we’re going to keep executing the business and to the extent we suffer value contraction in the process, that will sort itself out over time. Bill Schmitz – Deutsche Bank Securities: Got you, great. Thanks guys very much.

You bet. Thank you, Bill.

And our last question comes from the line of Mark Astrachan with Stifel, Nicolaus. You may proceed. Mark Astrachan – Stifel, Nicolaus & Co: Yeah, thanks and good morning everybody.

Hi Mark. Mark Astrachan – Stifel, Nicolaus & Co: If you could give the breakout of segment sales in terms of just the Galvanic Body, Face, R2, LifePak, et cetera, that would be helpful?

Yeah. Let me just pull those up. I would just highlight first of all that our top selling product continues to be our LifePak products. So, we sometimes overlook that, but the product that’s been selling since the early 1990s continues to grow, it was at about $70 million for this last quarter. Our Galvanic Face Spa continues to be a strong product at about $65 million; R2 included some of the LTO volumes, still in Q3 was $75 million and the rest of the products sell very well. Our ageLOC brand accounts for almost 40% of total sales today. Mark Astrachan – Stifel, Nicolaus & Co: Okay, great. And then on the margin expectations, just sort of broadly, I know you’ll talk more about 2013 in the next few weeks. But broadly it seems like the selling expense number is going up a bit relative to where it’s been. I guess is this sort of the new reality and obviously you get the tradeoff at the top line, but is this cost going to continue at sort of that rate as we try to think about modeling the business out? And then also in gross margin that number has been moving up and didn’t all that much this quarter or I guess didn’t this quarter. So maybe if you could give us a bit of thoughts on that in terms of mix and how that sort of plays out going forward.

You bet. Yeah, a couple of quick thoughts Mark and then we’ll give more detail again on November 14, but first of all as it relates to gross margin being in the 83.5% to 84% range is really good for our business and where we expect to be. These are high margins. We’ve got some FX pressure against us this year on a year-over-year comparison, but still holding out really strong in that 83.5%. So, I don’t anticipate it’s going to be able to go much higher than this. We should be able to level out and just kind hold in the 83.5%. You know what, I hope our selling expenses stay up; I mean a selling expense of 45% means that we’re growing our business at 20%. So, this is a great place for us to invest. It’s a result of strong revenue growth, that’s the great thing about selling expense is it’s variable. And as revenue grows, then our selling expense might be a little bit higher, but we’re happy to see those expenses go up. Our distributors are certainly excited about that. Our sales leaders are energized by the increase in their commission. And so – although we haven’t forecasted 20% plus growth into our long-term models, we wouldn’t be sad about that one bit and that would be the result of a higher selling expense going forward. So, we’ll give more detail on that obviously as we come into the Investor Day, but the nice thing is it’s offset by our leverage on the G&A line so we’re able to hold our margins really strong overall. Mark Astrachan – Stifel, Nicolaus & Co: Okay, great. And then just lastly CapEx in the quarter, is the expectation for the year still $100 million and when do you think you’re going to have that new facility in China I think outside of Shanghai up and running?

Yeah. $100 million for the year, that’s right and by end of next year the facility in China should be pretty much complete. Mark Astrachan – Stifel, Nicolaus & Co: Okay. And what was the CapEx in the 3Q?

I think it was $32 million, was it? Chris, Nelson do you know?

Yeah.

Yeah, right around $30 million – $32 million I think. Mark Astrachan – Stifel, Nicolaus & Co: Thank you.

You bet. Thank you.

Thanks for joining us on the call everyone. We know it’s a very busy day as the Street swings back into action here after the past couple of days. We’re happy again to report a very strong quarter and look forward to sharing our optimism for the future on November 14. Thanks very much.

Ladies and gentlemen, that concludes today’s conference. Thank you so much for your participation. You may now disconnect. Have a great day.