NOTE A – ORGANIZATION, CONSOLIDATION, AND BASIS OF PRESENTATION
USANA Health Sciences, Inc. develops and manufactures high-quality, science-based nutritional and personal care products that are sold internationally through a network marketing system, which is a form of direct selling. The Condensed Consolidated Financial Statements (the “Financial Statements”) include the accounts and operations of USANA Health Sciences, Inc. and its wholly-owned subsidiaries (collectively, the “Company” or “USANA”) in two geographic regions: (1) Asia Pacific, and (2) Americas and Europe. Asia Pacific is further divided into three sub-regions: (i) Greater China, (ii) Southeast Asia Pacific, and (iii) North Asia. All intercompany accounts and transactions have been eliminated in consolidation. The countries included in these regions and sub-regions are as follows:
(1)Asia Pacific -
(i)Greater China - Hong Kong, Taiwan, and China. The Company’s business in China is conducted by BabyCare Holdings, Ltd., the Company’s wholly-owned subsidiary.
(ii)Southeast Asia Pacific – Australia, New Zealand, Singapore, Malaysia, the Philippines, Thailand and Indonesia.
(iii)North Asia – Japan and South Korea.
(2)Americas and Europe – United States, Canada, Mexico, Colombia, the United Kingdom, France, Germany, Spain, Italy, Romania, Belgium, and the Netherlands.
The condensed consolidated balance sheet as of December 28, 2019, derived from audited consolidated financial statements, and the unaudited interim condensed consolidated financial information of the Company have been prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X promulgated by the SEC. Accordingly, certain information and footnote disclosures that are normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted pursuant to such rules and regulations. The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates. In the opinion of the Company’s management, the accompanying interim condensed consolidated financial information contains all adjustments, consisting only of normal recurring adjustments that are necessary to state fairly the Company’s financial position as of March 28, 2020 and results of operations for the three months ended March 28, 2020 and March 30, 2019.
The interim Financial Statements should be read in conjunction with the audited consolidated financial statements and notes thereto that are included in the Company’s Annual Report on Form 10-K for the year ended December 28, 2019. The results of operations for the three months ended March 28, 2020, are not necessarily indicative of the results that may be expected for the fiscal year ending January 2, 2021.
The Company considered the current and expected future economic and market conditions surrounding the global pandemic involving the novel strain of coronavirus known as COVID-19 to assess whether a triggering event had occurred that would result in a potential impairment of goodwill, indefinite-lived intangible assets, and long-lived assets. Based on this assessment, the Company concluded that a triggering event has not occurred which would require further impairment testing to be performed. The Company’s operations were not materially affected by COVID-19 for the three months ended March 28, 2020. While the Company did not incur significant disruptions to its operations during the first quarter of 2020 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties and is closely monitoring the impact of the pandemic on all aspects of its business.
NOTE A – ORGANIZATION, CONSOLIDATION, AND BASIS OF PRESENTATION – CONTINUED
Recent Accounting Pronouncements
Adopted accounting pronouncements
In August 2018, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement.” ASU 2018-13 modifies the disclosure requirements for fair value measurements. The modifications removed the following disclosure requirements: (i) the amount of, and reasons for, transfers between Level 1 and Level 2 of the fair value hierarchy; (ii) the policy for timing of transfers between levels; and (iii) the valuation processes for Level 3 fair value measurements. This ASU added the following disclosure requirements: (i) the changes in unrealized gains and losses for the period included in other comprehensive income (“OCI”) for recurring Level 3 fair value measurements held at the end of the reporting period; and (ii) the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The amendments in this Update are effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. The amendments on changes in unrealized gains and losses,the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements, and the narrative description of measurement uncertainty should be applied prospectively for only the most recent interim or annual period presented in the initial fiscal year of adoption. All other amendments should be applied retrospectively to all periods presented upon their effective date. The Company adopted ASU 2018-13 during the quarter ended March 28, 2020 and the adoption of the standard did not have an impact on its condensed consolidated financial statements.
In August 2018, the FASB issued ASU 2018-15, “Intangibles - Goodwill and Other-Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract.” ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The capitalized implementation costs of a hosting arrangement that is a service contract will be expensed over the term of the hosting arrangement. For public business entities, the amendments in this ASU are effective for annual and interim periods beginning after December 15, 2019. Early adoption is permitted, including adoption in any interim period. The amendments can be applied either retrospectively or prospectively to all implementation costs incurred after the adoption date. The Company adopted ASU 2018-15 during the quarter ended March 28, 2020 and the adoption of the standard did not have an impact on its condensed consolidated financial statements.
No other new accounting pronouncement issued or effective during the quarter had, or is expected to have, a material impact on the Company’s condensed consolidated financial statements.
NOTE B – FAIR VALUE MEASURES
The Company measures at fair value certain of its financial and non-financial assets and liabilities by using a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, essentially an exit price, based on the highest and best use of the asset or liability. The levels of the fair value hierarchy are:
Level 1 inputs are quoted market prices in active markets for identical assets or liabilities that are accessible at the measurement date.
Level 2 inputs are from other than quoted market prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.
Level 3 inputs are unobservable and are used to measure fair value in situations where there is little, if any, market activity for the asset or liability at the measurement date.
NOTE D – REVENUE AND CONTRACT LIABILITIES
Revenue is recognized when, or as, control of a promised product or service transfers to a customer, in an amount that reflects the consideration to which the Company expects to be entitled in exchange for transferring those products or services. A majority of the Company’s sales are for products sold at a point in time and shipped to customers, for which control is transferred as goods are delivered to the third party carrier for shipment. The Company receives payment, primarily via credit card, for the sale of products at the time customers place orders and payment is required prior to shipment. Contract liabilities, which are recorded within the “Other current liabilities” line item in the condensed consolidated balance sheets, primarily relate to deferred revenue for product sales for customer payments received in advance of shipment, for outstanding material rights under the initial order program, and for services where control is transferred over time as services are delivered.
Other revenue includes fees, which are paid by the customer at the beginning of the service period, for access to online customer service applications and annual account renewal fees for Associates, for which control is transferred over time as services are delivered and are recognized as revenue on a straight-line basis over the term of the respective contracts. Other revenue for the three months ended March 28, 2020 and March 30, 2019 was $643 and $466, respectively.
Disaggregation of revenue by geographic region and major product line is included in Segment Information in Note I.
The following table provides information about contract liabilities from contracts with customers, including significant changes in the contract liabilities balances during the period.
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|
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|
|
|
|
|
|
|
|
|
|
|
|
|
March 28,
|
|
December 28,
|
|
|
2020
|
|
2019
|
Contract liabilities at beginning of period
|
|
$
|
13,852
|
|
$
|
15,055
|
Increase due to deferral of revenue at period end
|
|
|
13,361
|
|
|
13,852
|
Decrease due to beginning contract liabilities recognized as revenue
|
|
|
(13,132)
|
|
|
(15,055)
|
Contract liabilities at end of period
|
|
$
|
14,081
|
|
$
|
13,852
|
NOTE E – LINE OF CREDIT
The Company has a $75,000 line of credit (“Credit Agreement”) with Bank of America (“Bank”). Interest is computed at the Bank’s Prime Rate or a LIBOR-plus “Eurodollar” rate, adjusted by features specified in the Credit Agreement. The collateral for this line of credit is the pledge of the capital stock of certain subsidiaries of the Company, pursuant to a separate pledge agreement with the Bank. On February 19, 2016, the Company entered into an Amended and Restated Credit Agreement with the Bank, which extended the term of the Credit Agreement to April 27, 2021 and increased the Company’s consolidated rolling four-quarter adjusted EBITDA covenant to $100,000 or greater and its ratio of consolidated funded debt to adjusted EBITDA of equal to or less than 2.0 to 1.0 at the end of each quarter.
On July 15, 2019, the Company entered into a Third Amendment to the Amended and Restated Credit Agreement (the “Third Amendment”). The Third Amendment established a procedure for the Company to request an increase in the line of credit by an amount not to exceed $125,000 (up to $200,000 in the aggregate). The Company may make a maximum of three such requests in increments of at least $25,000 to the Bank. The Bank, at its election, will notify the Company whether or not it agrees to increase the line of credit and, if so, whether by an amount equal to or less than the amount requested by the Company. The line of credit will be automatically reduced to $100,000, as of September 30, 2020.
The adjusted EBITDA under the Credit Agreement is modified for certain non-cash expenses. Any existing bank guarantees are considered a reduction of the overall availability of credit and part of the covenant calculation under the Credit Agreement. This provision resulted in a $9,234 and $8,924 reduction in the available borrowing limit as of March 28, 2020 and December 28, 2019, respectively, due to existing normal course of business guarantees in certain markets.
There was no outstanding debt on this line of credit at March 28, 2020 or at December 28, 2019. The Company will be required to pay any balance on this line of credit in full at the time of maturity in April 2021 unless the Credit Agreement is replaced or its terms are renegotiated. Due to the uncertainty surrounding COVID-19 and to ensure the availability of additional liquidity under the Credit Agreement, subsequent to March 28, 2020, the Company drew on the line of credit for $60,000.
NOTE F – CONTINGENCIES
The Company is involved in various lawsuits, claims, and other legal matters from time to time that arise in the ordinary course of conducting business, including matters involving its products, intellectual property, supplier relationships, distributors, competitor relationships, employees and other matters. The Company records a liability when a particular contingency is probable and estimable. The Company faces contingencies that are reasonably possible to occur; however, they cannot currently be estimated. While complete assurance cannot be given to the outcome of these proceedings, management does not currently believe that any of these matters, individually or in the aggregate, will have a material adverse effect on the Company’s financial condition, liquidity or results of operations.
On February 7, 2017, the Company disclosed in a Current Report on Form 8-K filed with the SEC that it was conducting a voluntary internal investigation regarding its BabyCare operations in China. In connection with this investigation, the Company expects to continue to incur costs in conducting the review and investigation, in responding to requests for information in connection with any government investigations and in defending any potential civil or governmental proceedings that may be instituted against it or any of its current or former officers or directors. In 2017, the Company voluntarily contacted the SEC and the United States Department of Justice to advise both agencies that an internal investigation was underway. The Company has provided information to both agencies throughout the internal investigation. The Company’s internal investigation is substantially complete, however the Company continues to cooperate with the SEC and the United States Department of Justice to seek a final resolution of the matter. The Company cannot predict the duration, scope, or result of the investigation. One or more governmental actions could be instituted in respect of the matters that are the subject of the internal investigation, and such actions, if brought, may result in judgments, settlements, fines, penalties, injunctions, cease and desist orders, criminal penalties, or other relief.
NOTE G – DERIVATIVE FINANCIAL INSTRUMENTS
The Company’s risk management strategy includes the select use of derivative instruments to reduce the effects of volatility in foreign currency exchange exposure on operating results and cash flows. In accordance with the Company’s risk management policies, the Company does not hold or issue derivative instruments for trading or speculative purposes. The Company recognizes all derivative instruments as either assets or liabilities in the balance sheet at their respective fair values. When the Company becomes a party to a derivative instrument and intends to apply hedge accounting, the Company formally documents the hedge relationship and the risk management objective for undertaking the hedge, the nature of risk being hedged, and the hedged transaction, which includes designating the instrument for financial reporting purposes as a fair value hedge, a cash flow hedge, or a net investment hedge. The Company also documents how the hedging instrument’s effectiveness in offsetting the hedged risk will be assessed prospectively and retrospectively, and a description of the method used to measure ineffectiveness.
The Company periodically uses derivative instruments to hedge the foreign currency exposure of its net investment in foreign subsidiaries into U.S. dollars. Initially, the Company records derivative assets on a gross basis in its condensed consolidated balance sheets. Subsequently the fair value of derivatives is measured for each reporting period. The effective portion of gains and losses attributable to these net investment hedges is recorded to foreign currency translation adjustment (“FCTA”) within accumulated other comprehensive income (loss) (“AOCI”) to offset the change in the carrying value of the net investment being hedged, and will subsequently be reclassified to net earnings in the period in which the investment in the subsidiary is either sold or substantially liquidated.
During the three months ended March 28, 2020 and March 30, 2019, the Company entered into a European option designated as a net investment hedge with a notional amount of $90,000 and $110,000, respectively. For the three months ended March 28, 2020 and March 30, 2019, the Company had an unrealized gain of $850 and an unrealized loss of $986, respectively, recorded to FCTA within OCI.
As of March 28, 2020, the Company assessed hedge effectiveness under the forward rate method, determining the hedging instrument was highly effective.
Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is designed to provide a reader of our Unaudited Condensed Consolidated Financial Statements and Notes thereto that are contained in this report, with a narrative from the perspective of management regarding the results of operations of USANA Health Sciences, Inc. and subsidiaries (“USANA,” the “Company,” “we,” “us,” or “our”). The following discussion and analysis of our financial condition and results of operations is presented in six sections:
Overview
Trends Affecting Our Business – COVID-19
Customers
Non-GAAP Financial Measures
Results of Operations
Liquidity and Capital Resources
This MD&A should be read in conjunction with the Unaudited Condensed Consolidated Financial Statements and Notes thereto that are contained in this quarterly report, as well as Part II, Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations of our Annual Report on Form 10-K for the year ended December 28, 2019, and our other filings, including the Current Reports on Form 8-K, that have been filed with the SEC through the date of this report.
Overview
We develop and manufacture high-quality, science-based nutritional and personal care products that are distributed internationally through a network marketing system, which is a form of direct selling. We use this distribution method because we believe it is more conducive to meeting our vision as a company, which is to improve the overall health and nutrition of individuals and families around the world. Our customer base is primarily comprised of two types of customers: “Associates” and “Preferred Customers,” referred to together as “active Customers.” Our Associates also sell our products to retail customers. Associates share in our company vision by acting as independent distributors of our products in addition to purchasing our products for their personal use. Preferred Customers purchase our products strictly for personal use and are not permitted to resell or to distribute the products. We only count as active Customers those Associates and Preferred Customers who have purchased from us at any time during the most recent three-month period. As of March 28, 2020, we had approximately 573,000 active Customers worldwide.
We have ongoing operations in the following markets, which are grouped and presented in two geographic regions as follows:
(1)Asia Pacific -
(i)Greater China - Hong Kong, Taiwan, and China. Our business in China is conducted by BabyCare Holdings, Ltd., our wholly-owned subsidiary.
(ii)Southeast Asia Pacific – Australia, New Zealand, Singapore, Malaysia, the Philippines, Thailand and Indonesia.
(iii)North Asia – Japan and South Korea.
(2)Americas and Europe – United States, Canada, Mexico, Colombia, the United Kingdom, France, Germany, Spain, Italy, Romania, Belgium, and the Netherlands.
The following tables summarize the approximate percentage of total product revenue that has been contributed by our major product lines and our top-selling products for the current and prior-year periods as indicated:
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|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
March 28,
|
|
March 30,
|
|
|
2020
|
|
2019
|
Product Line
|
|
|
|
|
USANA® Nutritionals
|
|
|
|
|
Optimizers
|
|
68%
|
|
65%
|
Essentials/CellSentials*
|
|
18%
|
|
19%
|
USANA Foods
|
|
8%
|
|
8%
|
Personal care and Skincare
|
|
5%
|
|
7%
|
All Other
|
|
1%
|
|
1%
|
Key Product
|
|
|
|
|
BiOmega-3™
|
|
12%
|
|
15%
|
USANA® Essentials/CellSentials
|
|
12%
|
|
12%
|
Proflavanol®
|
|
11%
|
|
11%
|
*Represents a product line consisting of multiple products, as opposed to the actual Essentials / CellSentials product.
Because we have operations in multiple markets, with sales and expenses being generated and incurred in multiple currencies, our reported U.S. dollar sales and earnings can be significantly affected by fluctuations in currency exchange rates. In general, our operating results are affected positively by a weakening of the U.S. dollar and negatively by a strengthening of the U.S. dollar. During the three months ended March 28, 2020, net sales outside of the United States represented 90.5% of consolidated net sales. In our net sales discussions that follow, we approximate the impact of currency fluctuations on net sales by translating current year sales at the average exchange rates in effect during the comparable periods of the prior year.
Trends Affecting Our Business – COVID-19
On March 11, 2020, the World Health Organization designated COVID-19 as a global pandemic. COVID-19, which is believed to have originated in Wuhan City, China, has spread and significantly impacted various countries around the world, including the United States and the other markets in which USANA sells products and has operations. Various policies and initiatives have been implemented around the world to reduce the spread of COVID-19, including work-from-home requirements or requests, shelter-in-place requirements, social distancing requirements, travel restrictions or bans in and to certain countries, the closure of retail stores, restaurants and other business establishments and the cancellation of major sporting and entertainment events. Local, state and national governments continue to emphasize the importance of overall health, wellness and nutrition during this pandemic and have allowed, and requested, that manufacturers of nutritional supplements and health food products, such as USANA, remain open to meet the needs of the general public. Consequently, as of the date of this report, we can report that (i) our manufacturing facilities in the U.S. and China remain fully operational, (ii) we continue to sell and distribute products in each of our markets throughout the world, and (iii) we have not experienced any meaningful disruption to our world-wide supply chain, though it is possible that disruptions could occur if the COVID-19 pandemic continues to impact markets around the world for a prolonged period of time.
The health and safety of our employees and customers around the world remains our top priority. We are also committed to being socially responsible as a corporate leader in each of our markets and doing our part to reduce the spread of COVID-19. As such, we modified our business operations in each of our markets during the first quarter pursuant to applicable guidelines from government and health officials. During the quarter, we implemented a work-from-home plan for all non-manufacturing and non-distribution employees. Although our manufacturing and distribution employees continue to work on site, they are following additional health and safety guidelines. While we have historically maintained high standards for safety and sanitation in manufacturing, we have raised those standards with additional measures, including body temperature monitoring, social distancing, and mandatory use of face masks. Also, where possible, we have adjusted shift schedules, time and attendance policies, and sick-leave policies to promote safety and flexibility. In nearly all of our markets, we have also temporarily closed product will-call centers and are instead offering curbside delivery and subsidized shipping to customers. Finally, we have a risk management team in place monitoring the rapidly evolving COVID-19 situation and recommending risk mitigation actions where necessary.
Our Associate sales force has also modified their business operations as a result of COVID-19. While many of our Associates have transitioned over the last several years to doing business online through social media, person-to-person and face-to-face selling remains an important part of our business and of direct selling in general. Consequently, as a result of the social distancing and stay-at-home orders put in place across all of our markets, our Associates have also been required to modify their business practices to conduct the entirety of their business virtually. We are doing what we can to assist our Associates in their efforts, including providing increased sales, technology and systems support in each of our markets.
While the overall impact of the COVID-19 pandemic on our consolidated results of operations for the three months ended March 28, 2020 was not material, the social distancing, shelter-at-home and other efforts to reduce the spread of COVID-19 began to negatively affect our momentum and operating results late in the first quarter. To promote the safety and health of our customers, employees and the general public, we chose to cancel several significant in-person Associate events and incentive trips during the first quarter and we have also cancelled certain upcoming events and converted others to virtual events. While the overall impact that the COVID-19 pandemic, and the measures taken to restrain the spread of the virus, will have on our operating results remains uncertain, we expect it to negatively affect our results in the second quarter and throughout the remainder of the year, and the negative impact may continue well beyond the containment of the outbreak. The extent of the disruption to our business in each of our markets going forward will depend on a host of factors, many of which are outside of our control. We will, however, actively continue working to safeguard against additional disruptions to our business, particularly through strategic efforts to sure up (i) raw material procurement, manufacturing and distribution; (ii) product sales and operating cash flows; (iii) liquidity and capital resources; and (iv) Associate and employee engagement and activity.
While we expect to continue to fund our business with cash flow from operations and believe that we have sufficient liquidity to satisfy our cash needs, we cannot assure you that this will be the case due to the uncertainty surrounding the COVID-19 pandemic. Consequently, the impact from the COVID-19 pandemic on our business, financial condition or longer-term financial or operational results remains uncertain. However, we continue to evaluate and take action, as necessary, to preserve adequate liquidity and ensure that our business can continue to operate at full strength during these uncertain times. For instance, we are taking action to align spending with sales performance and defer non-essential capital investments amid the COVID-19 pandemic. To further enhance our financial flexibility, we also (i) drew $60.0 million on our line of credit subsequent to March 28, 2020 to ensure availability of additional liquidity under our credit facility, and (ii) have temporarily suspended our share repurchase program. Based on the actions we have taken and our assumptions regarding the impact of COVID-19, we believe that our current financial resources and cash flows from operations are sufficient to fund our liquidity requirements.
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act was signed into law. The CARES Act provides a substantial stimulus and assistance package intended to address the impact of the COVID-19 pandemic, including tax relief and government loans, grants and investments. The CARES Act did not have a material impact on our consolidated financial statements for the three months ended March 28, 2020. We continue to monitor any effects that may result from the CARES Act.
Customers
Because we sell our products to a customer base of independent Associates and Preferred Customers, we increase our sales by increasing the number of our active Customers, the amount they spend on average, or both. Our primary focus continues to be increasing the number of active Customers. We believe this focus is consistent with our vision of improving the overall health and nutrition of individuals and families around the world. Sales to Associates account for approximately 58% of product sales during the three months ended March 28, 2020; the remainder of our sales are to Preferred Customers. Increases or decreases in product sales are typically the result of variations in the volume of product sold relating to fluctuations in the number of active Customers purchasing our products. The number of active Associates and Preferred Customers is, therefore, used by management as a key non-financial indicator to evaluate our operational performance.
We believe that our ability to attract and retain active Customers is positively influenced by a number of factors, including our high-quality product offerings and the general public’s heightened awareness and understanding of the connection between diet and long-term health. Additionally, we believe that our Associate compensation plan and the general public’s growing desire for a secondary source of income and small business ownership are key to our ability to attract and retain Associates. We periodically make changes to our Compensation Plan in an effort to ensure that it is among the most competitive plans in the industry, to encourage behavior that we believe leads to a successful business for our Associates, and to ensure that our plan provides us with leverage to grow sales and earnings. Additionally, the initiatives we are executing under our customer experience, social media, and social sharing strategies are designed to promote active Customer growth.
To further support our Associates in building their businesses, we traditionally sponsor meetings and events throughout the year, which offer information about our products and our network marketing system. We also provide low cost sales tools, including online sales, business management, and training tools, which are intended to support our Associates in building and maintaining a successful home-based business. Although we provide training and sales tools, we ultimately rely on our Associates to sell our products, attract new active Customers to purchase our products, and educate and train new Associates. We sponsor meetings designed to assist Associates in their business development and to provide a forum for interaction with our Associate leaders and members of our management team. As noted above in this report, during the first quarter we chose to either cancel several of these types of meetings and other Associate events, or change them to virtual events, as a result of COVID-19. Additionally, upcoming Associate meetings and events of this nature have either been cancelled or changed to virtual events.
The tables below summarize the changes in our active Customer base by geographic region, rounded to the nearest thousand as of the dates indicated.
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|
|
|
|
|
|
|
|
|
|
|
|
Total Active Customers by Region
|
|
|
|
|
|
As of
|
|
As of
|
|
Change from
|
|
Percent
|
|
March 28, 2020
|
|
March 30, 2019
|
|
Prior Year
|
|
Change
|
Asia Pacific:
|
|
|
|
|
|
|
|
|
|
|
|
Greater China
|
277,000
|
|
48.3%
|
|
304,000
|
|
51.9%
|
|
(27,000)
|
|
(8.9%)
|
Southeast Asia Pacific
|
115,000
|
|
20.1%
|
|
111,000
|
|
18.9%
|
|
4,000
|
|
3.6%
|
North Asia
|
57,000
|
|
10.0%
|
|
44,000
|
|
7.5%
|
|
13,000
|
|
29.5%
|
Asia Pacific Total
|
449,000
|
|
78.4%
|
|
459,000
|
|
78.3%
|
|
(10,000)
|
|
(2.2%)
|
Americas and Europe
|
124,000
|
|
21.6%
|
|
127,000
|
|
21.7%
|
|
(3,000)
|
|
(2.4%)
|
|
573,000
|
|
100.0%
|
|
586,000
|
|
100.0%
|
|
(13,000)
|
|
(2.2%)
|
Non-GAAP Financial Measures
We believe that presentation of certain non-GAAP financial information is meaningful and useful in understanding the activities and business metrics of our operations. We believe that these non-GAAP financial measures reflect an additional way of viewing aspects of our business that, when viewed with our GAAP results, provide a more complete understanding of factors and trends affecting our business. We provide non-GAAP financial information for informational purposes only. Readers should consider the information in addition but not instead of or superior to, our consolidated financial statements prepared in accordance with GAAP. This non-GAAP financial information may be determined or calculated differently by other companies, limiting the usefulness of those measures for comparative purposes.
In this report, we use “constant currency” net sales, “local currency” net sales, and other currency-related financial information terms that are non-GAAP financial measures to discuss our financial results in a way we believe is helpful in understanding the impact of fluctuations in foreign-currency exchange rates and facilitating period-to-period comparisons of our results of operations and thus providing investors an additional perspective on trends and underlying business results. Changes in our reported revenue and profits in this report include the impacts of changes in foreign currency exchange rates. As additional information to the reader, we provide constant currency assessments in the tables and the narrative information in this MD&A to remove or quantify the impact of the fluctuation in foreign exchange rates and utilize constant currency results in our analysis of performance. Our constant currency financial results are calculated by translating the current period’s financial results at the same average exchange rates in effect during the applicable prior-year period and then comparing this amount to the prior-year period’s financial results. The GAAP reconciliations of these non-GAAP measures are contained in the tables within Results of Operations.
Results of Operations
Summary of Financial Results
Net sales for the first quarter of 2020 decreased 2.3% to $266.6 million, a decrease of $6.4 million, compared with the prior-year quarter. This decrease was due primarily to the unfavorable impact of a strengthening U.S. dollar, which impacted net sales by $6.6 million during the quarter. Measures taken to contain the spread of COVID-19 in each of our markets around the world also began to negatively impact net sales later in the first quarter and are expected to further impact net sales in the second quarter and throughout the remainder of 2020.
Net earnings for the first quarter of 2020 were $26.6 million, an increase of 9.8% compared with $24.2 million during the prior-year period. The increase in net earnings was mainly the result of lower relative operating expenses, partially offset by lower gross margins.
Quarters Ended March 28, 2020 and March 30, 2019
Net Sales
The following table summarizes the changes in our net sales by geographic region for the fiscal quarters ended as of the dates indicated:
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|
|
Net Sales by Region
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|
|
|
|
|
|
|
|
|
|
|
(in thousands)
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|
|
Quarter Ended
|
|
|
|
|
|
|
|
|
|
|
|
March 28, 2020
|
|
March 30, 2019
|
|
Change
from
prior year
|
|
Percent
change
|
|
Currency
impact
on sales
|
|
Percent
change
excluding
currency
impact
|
Asia Pacific
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Greater China
|
$
|
131,432
|
|
49.3%
|
|
$
|
144,153
|
|
52.8%
|
|
$
|
(12,721)
|
|
(8.8%)
|
|
$
|
(3,708)
|
|
(6.3%)
|
Southeast Asia Pacific
|
|
56,922
|
|
21.4%
|
|
|
54,515
|
|
20.0%
|
|
|
2,407
|
|
4.4%
|
|
|
(1,126)
|
|
6.5%
|
North Asia
|
|
27,251
|
|
10.2%
|
|
|
22,228
|
|
8.1%
|
|
|
5,023
|
|
22.6%
|
|
|
(1,538)
|
|
29.5%
|
Asia Pacific Total
|
|
215,605
|
|
80.9%
|
|
|
220,896
|
|
80.9%
|
|
|
(5,291)
|
|
(2.4%)
|
|
|
(6,372)
|
|
0.5%
|
Americas and Europe
|
|
51,014
|
|
19.1%
|
|
|
52,094
|
|
19.1%
|
|
|
(1,080)
|
|
(2.1%)
|
|
|
(271)
|
|
(1.6%)
|
|
$
|
266,619
|
|
100.0%
|
|
$
|
272,990
|
|
100.0%
|
|
$
|
(6,371)
|
|
(2.3%)
|
|
$
|
(6,643)
|
|
0.1%
|
Asia Pacific: The decrease in constant currency net sales in Greater China was largely the result of a sales decline in Mainland China, where local currency net sales decreased 6.3% due to a 10.0% decrease in active Customers. The increase in constant currency net sales in Southeast Asia Pacific was driven primarily by Malaysia which had local currency net sales growth of 40.5% due to a 24.0% increase in active Customers. The increase in constant currency net sales in North Asia was driven by South Korea which had local currency net sales growth of 31.2% due to a 31.0% increase in active Customers.
Americas and Europe: Constant currency net sales in this region declined 1.6% due to a 2.4% decrease in active Customers. This decrease is largely due to a decline in active Customers and sales in Mexico.
Gross Profit
Gross profit decreased 50 basis points to 82.7% of net sales, down from 83.2% in the prior-year quarter. This decrease can be attributed to (i) more favorable inventory pricing in the prior-year quarter, and (ii) higher manufacturing costs in the current-year quarter.
Associate Incentives
Associate incentives decreased 140 basis points to 43.5% of net sales for the first quarter of 2020, compared with 44.9% in the prior-year quarter. The relative decrease can be attributed to price adjustments as well as lower relative sales in markets where Associate incentives run at a higher rate compared to other markets.
Selling, General and Administrative Expenses
In absolute terms, our selling, general and administrative expenses decreased $4.1 million. The decrease can be attributed to (i) decrease in variable expenses tied to Associate events that were cancelled or postponed due to COVID-19, (ii) lower advertising expense, and (iii) lower employee related costs.
Income Taxes
Income taxes were 32.2% of earnings in the first quarter of 2020 compared to 33.4% of earnings in the prior-year quarter. The lower effective tax rate for the first quarter of 2020 compared with the prior year quarter is due to increased earnings before income taxes in the U.S., which allows for greater foreign tax credit utilization.
Diluted Earnings per Share
Diluted EPS increased 21.8% in the first quarter of 2020 compared with the prior-year quarter. This increase can be attributed to both higher net earnings and a lower diluted share count.
Liquidity and Capital Resources
We have historically met our working capital and capital expenditure requirements by using both net cash flow from operations and by drawing on our line of credit. Our principal source of liquidity is our operating cash flow. Although we are required to maintain cash deposits with banks in certain of our markets, there are currently no material restrictions on our ability to transfer and remit funds among our international markets. In China, however, our compliance with Chinese accounting and tax regulations promulgated by the State Administration of Foreign Exchange (“SAFE”) results in transfer and remittance of our profits and dividends from China to the United States on a delayed basis. If SAFE or other Chinese regulators introduce new regulations, or change existing regulations which allow foreign investors to remit profits and dividends earned in China to other countries, our ability to remit profits or pay dividends from China to the United States may be limited in the future.
We believe we have sufficient liquidity to satisfy our cash needs and expect to continue to fund our business with cash flow from operations. We continue, however, to evaluate and take action, as necessary, to preserve adequate liquidity and ensure that our business can continue to operate during these uncertain times. Consequently, we are actively monitoring spending and taking action, when necessary, to align spending with sales performance. We also plan to defer non-essential capital investments amid the COVID-19 pandemic. To further enhance our financial flexibility, we (i) drew $60.0 million on our line of credit subsequent to March 28, 2020 to ensure availability of additional liquidity under our credit facility, and (ii) have temporarily suspended our share repurchase program.
Cash and Cash Equivalents
Cash and cash equivalents decreased to $194.1 million at March 28, 2020, from $234.8 million at December 28, 2019. The decrease is primarily due to cash paid for share repurchases of $57.0 million. This decrease was partially offset by $30.8 million cash provided by operating activities. Of the $194.1 million cash and cash equivalents at March 28, 2020, $12.2 million was held in the United States. Of the remaining $181.9 million held by our international subsidiaries, $143.5 million was held in China. Of the $234.8 million cash and cash equivalents at December 28, 2019, $85.3 million was held in the United States. Of the remaining $149.5 million held by our international subsidiaries, $114.9 million was held in China.
Cash Flows Provided by Operations
We have historically generated positive cash flow due to our strong operating margins. Net cash flow from operating activities totaled $30.8 million in the first three months of 2020, which was up $25.3 million from $5.5 million in the first three months of 2019. The increase in cash flows from operating activities was mainly driven by larger payments in the first three months of 2019 for accrued employee compensation costs, accrued Associate incentives, and inventory purchases.
Line of Credit
Information with respect to our line of credit may be found in Note E to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this report.
Share Repurchase
Information with respect to share repurchases may be found in Note H to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this report and Part II, Item 2 of this report, under the heading “Purchases of Equity Securities by the Issuer and Affiliated Purchasers”.
Off-Balance Sheet Arrangements
None.
Summary
We believe our current cash balances, future cash provided by operations, and amounts available under our line of credit will be sufficient to cover our operating and capital needs in the ordinary course of business for the foreseeable future. If we experience an adverse operating environment or unanticipated and unusual capital expenditure requirements, additional financing may be required. No assurance can be given, however, that additional financing, if required, would be available to us at all or on favorable terms. We might also require or seek additional financing for the purpose of expanding into new markets, growing our existing markets, or for other reasons. Such financing may include the use of additional debt or the sale of additional equity securities. Any financing which involves the sale of equity securities or instruments that are convertible into equity securities could result in immediate and possibly significant dilution to our existing shareholders.
Critical Accounting Policies
There were no changes during the quarter to our critical accounting policies as disclosed in our Form 10-K for the year ended December 28, 2019 (the “2019 Form 10-K”). Our significant accounting policies are disclosed in Note A to our Consolidated Financial Statements filed with our 2019 Form 10-K.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We have no material changes to the disclosures on this matter made in our Annual Report on Form 10-K for the year ended December 28, 2019.
Item 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to ensure that information that is required to be disclosed in our Exchange Act reports is recorded, processed, summarized, and reported within the time periods that are specified in the SEC’s rules and forms and that such information is accumulated and communicated to management, including our Principal Executive Officer and Principal Financial Officer, as appropriate, to allow timely decisions regarding any required disclosure. In designing and evaluating these disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.
As of the end of the period covered by this report, our Chief Executive Officer (Principal Executive Officer) and Chief Financial Officer (Principal Financial and Accounting Officer) evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a- 15(e) under the Exchange Act). Based on this evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of March 28, 2020.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting during the fiscal quarter ended March 28, 2020 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.