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USANA HEALTH SCIENCES INC - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion and analysis of USANA's financial condition and results of operations is presented in six sections: † Overview † Customers † Current Focus and Recent Developments † Results of Operations † Liquidity and Capital Resources † Forward-Looking Statements and Certain Risks This discussion and analysis 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 Management's Discussion and Analysis of Financial Condition and Results of Operations that are included in our Annual Report on Form 10-K for the year ended December 28, 2013, and our other filings, including Current Reports on Form 8-K, that have been filed with the Securities and Exchange Commission ("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 have chosen this distribution method as we believe it is more conducive to meeting our vision as a company, which is improving the overall health and nutrition of individuals and families around the world. Our customer base comprises two types of customers: "Associates" and "Preferred 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 their personal use and are not permitted to resell or to distribute the products. As of September 27, 2014, we had approximately 291,000 active Associates and approximately 77,000 active Preferred Customers worldwide. For purposes of this report, 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. We have ongoing operations in the following markets, which are grouped and presented as follows: † Americas and Europe - United States, Canada, Mexico, Colombia(1), the United Kingdom, France, Belgium, and the Netherlands † Asia Pacific † Southeast Asia Pacific - Australia, New Zealand, Singapore, Malaysia, the Philippines, and Thailand † Greater China - Hong Kong, Taiwan, and China(2) † North Asia - Japan and South Korea -------------------------------------------------------------------------------- (1) We commenced operations in Colombia in the third quarter of 2013. (2) Our business in China is that of BabyCare, our wholly-owned subsidiary. Our primary product lines consist of USANA† Nutritionals, USANA Foods, and Sensé - beautiful science† (Sensé), which is our line of personal care products. The USANA Nutritionals product line is further categorized into two separate classifications: Essentials and Optimizers. 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: 16 -------------------------------------------------------------------------------- Table of Contents Nine Months Ended September 28, September 27, 2013 2014 Product Line USANA® Nutritionals Essentials 27 % 25 % Optimizers 53 % 54 % USANA Foods 12 % 13 % Sensé - beautiful science® 6 % 7 % All Other 2 % 1 % Key Product USANA® Essentials 18 % 16 % Proflavanol® 12 % 13 % We believe that our ability to attract and retain Associates and Preferred Customers to sell and consume our products is positively influenced by a number of factors, some of which include: the general public's heightened awareness and understanding of the connection between diet and long-term health, and the growing desire for a secondary source of income and small business ownership. We believe that our high-quality products and our financially rewarding Associate Compensation Plan are the key components to attracting and retaining Associates. We strive to ensure that our products are formulated with the latest science in nutrition research and to keep our product lines relatively compact, which we believe simplifies the selling and buying process for our Associates and Preferred Customers. We also periodically make changes to our Compensation Plan in an effort to ensure that our plan is among the most rewarding 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. To further support our Associates in building their businesses, we sponsor meetings and events throughout the year, which offer information about our products and our network marketing system. These meetings are 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. We also provide low cost sales tools, including online sales, business management, and training tools, which we believe are an integral part of building and maintaining a successful home-based business for our Associates. Although we provide training and sales tools, we ultimately rely on our Associates to sell our products, attract new customers to purchase our products, and educate and train new Associates. 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, net sales and gross profit are affected positively by a weakening of the U.S. dollar and negatively by a strengthening of the U.S. dollar. Associate incentives and selling, general and administrative expenses, however, are affected negatively by a weakening of the U.S. dollar and positively by a strengthening of the U.S. dollar. During the nine months ended September 27, 2014, net sales outside of the United States represented 80.7% 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. Customers Because we sell our products exclusively to a customer base of independent Associates and Preferred Customers, to increase net sales we must either increase the number of, or the productivity of, our Associates and Preferred Customers. Increasing the productivity of our Associates and Preferred Customers has not been our primary focus. Rather, we seek to increase the number of Associates and Preferred Customers who use our products. We believe this focus is more consistent with our vision of improving the overall health and nutrition of individuals and families around the world. Sales to Associates account for the majority of our product sales, representing 17 -------------------------------------------------------------------------------- Table of Contents approximately 91% of product sales during the nine months ended September 27, 2014. 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 Associates and Preferred Customers purchasing our products. The number of active Associates and Preferred Customers is, therefore, used by management as a key non-financial measure. The tables below summarize the changes in our active customer base by geographic region. These numbers have been rounded to the nearest thousand as of the dates indicated. Active Associates By Region As of As of Change from Percent September 28, 2013 September 27, 2014 Prior Year Change Americas and Europe 82,000 33.5 % 82,000 28.2 % - 0.0 % Asia Pacific: Southeast Asia Pacific 60,000 24.4 % 70,000 24.1 % 10,000 16.7 % Greater China 94,000 38.4 % 129,000 44.3 % 35,000 37.2 % North Asia 9,000 3.7 % 10,000 3.4 % 1,000 11.1 % Asia Pacific Total 163,000 66.5 % 209,000 71.8 % 46,000 28.2 % 245,000 100.0 % 291,000 100.0 % 46,000 18.8 % Preferred Customers By Region As of As of Change from Percent September 28, 2013 September 27, 2014 Prior Year Change Americas and Europe 58,000 81.7 % 57,000 74.0 % (1,000 ) (1.7 )% Asia Pacific: Southeast Asia Pacific 8,000 11.3 % 11,000 14.3 % 3,000 37.5 % Greater China 3,000 4.2 % 3,000 3.9 % - 0.0 % North Asia 2,000 2.8 % 6,000 7.8 % 4,000 200.0 % Asia Pacific Total 13,000 18.3 % 20,000 26.0 % 7,000 53.8 % 71,000 100.0 % 77,000 100.0 % 6,000 8.5 % Current Focus and Recent Developments As a company, USANA seeks to improve the overall health and nutrition of individuals and families around the world. Consequently, our primary objective is to increase the number of Associates and Preferred Customers who use our products. In August 2014, we held our 2014 International Convention, where we made several improvements to our business, which were designed to improve our customers' experience with USANA. For example, we launched an all new digital marketing suite for our world-wide Associate base. The suite provides our Associates with new tools, consisting of a back office Hub, personal websites, and advanced communication and marketing tools, all of which significantly enhance our Associates' ability to manage, promote and build their USANA business in today's demanding ebusiness environment. These new tools were designed to simplify conducting a USANA business, enhance communications and provide an online atmosphere that is personal to the Associate and highly engaging for the customer. In August of 2013, we announced and implemented several strategic changes to our business, which we refer to as the "2013 strategic changes" throughout this report. These changes were aimed at promoting customer loyalty, enjoyment and success with USANA. The 2013 strategic changes included: (i) simplification of our pricing structure, which included an overall 10% price reduction, 18 -------------------------------------------------------------------------------- Table of Contents while maintaining a price discount on products ordered through our monthly Auto Order program (collectively "price discounts"), (ii) a new reward based on the amount of a customer's initial product order to then be credited on their subsequent two Auto Orders, and (iii) increased payout under and simplification of our Compensation Plan. We increased the payout under our Compensation Plan in several ways, including: (i) paying higher compensation to newer Associates, (ii) increasing compensation for Associates who grow their business through our Auto Order program, and (iii) simplifying the commission qualification requirements under the plan, resulting in a greater number of Associates earning compensation. Additionally, we simplified our rank advancement system to make it easier for Associates to advance in our business, and we added new recognition benefits for Associate leaders. During the third quarter, our overall active customer counts increased by 16.5% on a year-over year basis, while net sales increased by 10.5%. Net sales growth trailed customer growth during the quarter primarily as a result of the price discounts associated with the 2013 strategic changes. In September 2014, we reached the one-year anniversary of the 2013 strategic changes and we anticipate, going forward, that overall customer growth and net sales growth will be more closely aligned. Moving forward we will continue to promote the benefits of the 2013 strategic changes to our customer base, but will also begin offering market-specific promotions, which are designed to generate additional customer growth around the world. Results of Operations Summary of Financial Results Net sales for the third quarter of 2014 increased 10.5% to $191.9 million, an increase of $18.3 million, compared with the third quarter of 2013. This increase was driven by overall Associate growth of 18.8%, which was generated by our Asia Pacific region. In general, year-over-year changes in sales in the markets within our regions were the result of corresponding changes in the number of our active Associates and Preferred Customers in these markets. Also affecting the year-over-year change in net sales was the recognition of $3.1 million in unearned revenue in Hong Kong during the current year quarter, without which consolidated net sales would have increased by 8.7%. We experienced a change in the trend of our aging of unearned revenue in Hong Kong resulting from worldwide policy changes implemented in 2013. As a result of this change in trend, during the quarter ended September 27, 2014, we concluded that it was remote that product orders older than two years would be picked up by the customer. Accordingly, deferred revenue of $3.1 million was recognized in the current quarter. Net earnings for the third quarter of 2014 increased 16.4% to $19.5 million, an increase of $2.7 million, compared with the third quarter of 2013. This increase was the result of an increase in net sales combined with lower relative Associate incentives expense, as discussed further below. Notably, the recognition of deferred revenue discussed above benefited net earnings by $1.4 million. 19 -------------------------------------------------------------------------------- Table of Contents Quarters Ended September 28, 2013 and September 27, 2014 Net Sales The following table summarizes the changes in our net sales by geographic region for the quarters ended as of the dates indicated: Net Sales by Region (in thousands) Quarter Ended Change from Percent September 28, 2013 September 27, 2014 Prior Year Change Americas and Europe $ 66,294 38.2 % $ 61,723 32.2 % $ (4,571 ) (6.9 )% Asia Pacific: Southeast Asia Pacific 40,230 23.2 % 44,488 23.2 % 4,258 10.6 % Greater China 59,768 34.4 % 77,206 40.2 % 17,438 29.2 % North Asia 7,399 4.2 % 8,527 4.4 % 1,128 15.2 % Asia Pacific Total 107,397 61.8 % 130,221 67.8 % 22,824 21.3 % $ 173,691 100.0 % $ 191,944 100.0 % $ 18,253 10.5 % Americas and Europe: The decline in net sales in this region was due to a decrease in net sales in the United States and, to a lesser extent, changes in currency exchange rates, which reduced net sales by $0.9 million. Net sales in the United States decreased $4.9 million, or 12.5%, due to a decrease in the number of active Associates and Preferred Customers of 9.3% and 10.5%, respectively, combined with pressure from the price discounts associated with the 2013 strategic changes. The decreases in the United States were partially offset by growth in Mexico, where local currency sales increased 11.0% due to continued growth in the number of active Associates and Preferred Customers. Asia Pacific: The increase in net sales in this region was driven by double-digit growth in Associates and net sales in each of the Greater China, Southeast Asia Pacific, and North Asia regions. The net sales increase in Greater China was the result of a 69.1% increase in net sales in Mainland China, which was partially offset by a sales decrease in Hong Kong despite the recognition of $3.1 million of unearned revenue discussed above. The changes in net sales in Mainland China and Hong Kong were reflective of changes in the number of active Associates in each of these markets during the quarter. The net sales increase in Southeast Asia Pacific was driven by local currency sales growth in most markets within this region and an increase in the number of active Associates in nearly every market within the region. Net sales growth in this region, however, trailed customer growth as a result of the price discounts associated with the 2013 strategic changes. The strongest growth in this region came from the Philippines, where net sales increased 31.8% and the number of active Associates increased by 28.0%. While the number of active Associates in Singapore increased by 16.7% during the quarter, net sales decreased by 7.9%. This sales decrease resulted from a year-over-year decrease in sales of our Asia Pacific MyHealthPak, which is sourced from Singapore, as we passed the one year anniversary of when this item started picking up in sales. Gross Profit Gross profit for the third quarter of 2014 was 82.0% of net sales, and was essentially flat, on a relative basis, compared to the prior year quarter. Year-over-year gross profit benefited from favorable changes in product and market mix as well as the recognition of $3.1 million in previously unearned revenue in Hong Kong discussed above. These benefits were largely offset by unfavorable currency fluctuations and production inefficiencies. 20 -------------------------------------------------------------------------------- Table of Contents Associate Incentives Associate incentives decreased to 43.0% of net sales for the third quarter of 2014, from 44.0% for the third quarter of 2013. This decrease was the result of a one-time payout of $4.5 million in the third quarter of 2013 associated with the 2013 strategic changes and by annual price changes. Selling, General and Administrative Expenses Relative to net sales, our selling, general and administrative expense was flat when compared with the third quarter of 2013. In absolute terms, our selling, general and administrative expense increased by $4.4 million. This increase was primarily driven by higher wages and benefits expense and other costs associated with supporting a higher sales base. Diluted Earnings Per Share Diluted earnings per share increased 26.7% in the third quarter of 2014 when compared with the prior year quarter. This increase was the result of higher net earnings, as discussed above, combined with a lower number of diluted shares outstanding resulting from share repurchases over the last twelve months. Without the recognition of $3.1 million of previously unearned revenue in Hong Kong discussed above, diluted earnings per share would have increased 17.2%. Nine Months Ended September 28, 2013 and September 27, 2014 Net Sales The following table summarizes the changes in our net sales by geographic region for the periods ended as of the dates indicated: Net Sales by Region (in thousands) Nine Months Ended Change from Percent September 28, 2013 September 27, 2014 Prior Year Change Americas and Europe $ 197,215 37.1 % $ 189,199 33.6 % $ (8,016 ) (4.1 )% Asia Pacific: Southeast Asia Pacific 113,014 21.2 % 127,625 22.7 % 14,611 12.9 % Greater China 200,141 37.6 % 222,144 39.5 % 22,003 11.0 % North Asia 21,539 4.1 % 23,633 4.2 % 2,094 9.7 % Asia Pacific Total 334,694 62.9 % 373,402 66.4 % 38,708 11.6 % $ 531,909 100.0 % $ 562,601 100.0 % $ 30,692 5.8 % Americas and Europe: The decline in net sales in this region was due to a decrease in net sales in the United States and to changes in currency exchange rates, which reduced net sales by $4.2 million. Net sales in the United States decreased $12.4 million, or 10.5%, due to pressure from price discounts, combined with a decrease in the average number of active Associates and Preferred Customers. The decrease in the United States, however, was partially offset by net sales growth in other markets within the region. Most notably, local currency sales increased 7.3% in Canada and 12.6% in Mexico due to continued growth in the number of active Associates and Preferred Customers in these markets. Additionally, sales in our newest market Colombia, which commenced operations in the third quarter of 2013, increased by $1.1 million for the nine month period. Asia Pacific: The increase in net sales in this region was primarily the result of an increase in the average number of active Associates. 21 -------------------------------------------------------------------------------- Table of Contents The increase in Southeast Asia Pacific was driven by sales growth in every market within this region despite a $4.8 million reduction from changes in currency exchange rates. The strongest growth in this region came from the Philippines and Singapore, where net sales increased 23.0% and 21.1%, respectively. Sales in Singapore benefited from a year-over-year increase in sales of our MyHealthPak product to our Associates in other Asia Pacific markets. Sales in Australia and New Zealand during the first nine months of 2014 increased 4.6% despite a $1.7 million reduction from changes in currency exchange rates. On a local currency basis, net sales in this market increased 9.0%. The increase in net sales in Greater China included a 110.2% increase in net sales in mainland China, offset in great part by a large decrease in Hong Kong despite the recognition of $3.1 million of previously unearned revenue discussed above. Notably, the decrease in Hong Kong includes an estimated $7.0 million in incremental sales generated ahead of a worldwide policy that we implemented during the second quarter of 2013 (restricting Associate purchases to in-market purchases only), which makes for a difficult year-over-year comparable. The increase in net sales in North Asia resulted from a 19.5% increase in net sales in South Korea, which was driven by an increase in the number of active Associates in that market. Gross Profit Gross profit declined to 81.6% of net sales for the first nine months of 2014, compared with 82.4% in the prior year period. This decline can be attributed to unfavorable currency fluctuations, price discounts, and an increase in relative freight costs. This decrease was partially offset by annual price changes and favorable changes in product and market mix. Associate Incentives Associate incentives increased to 43.1% of net sales for the first nine months of 2014, from 42.1% in the prior year period. This increase was the result of the 2013 strategic changes, partially offset by annual pricing changes. Selling, General and Administrative Expenses Relative to net sales, our selling, general and administrative expense was flat when compared with the first nine months of 2013 due to leverage gained on a higher sales base. In absolute terms, our selling, general and administrative expense increased by $6.8 million. This increase was primarily driven by higher wages and benefits expense and other costs associated with supporting a higher sales base. Income Taxes Our effective income tax rate during the first nine months of 2014 was 33.8%, compared with 33.0% in same period of 2013. This increase was primarily the result of a reduction in our United States manufacturing deduction benefit due to increased sales in China where products are manufactured locally, and a reduction in tax benefits from lower tax rate jurisdictions, where sales decreased. The increase in our effective tax rate was partially offset by a lower state tax expense. Net Earnings and Diluted Earnings Per Share Net earnings for the first nine months of 2014 decreased 5.8% when compared with the first nine months of 2013. This decrease was due to a combination of higher relative Associate incentives expense and lower gross profit as discussed above. Partially offsetting this decrease was the $1.4 million benefit from the recognition of deferred revenue. Diluted earnings per share decreased 4.8% in the first nine months of 2014 when compared with the prior year period due to reduced net earnings. This decrease was offset slightly by a lower number of diluted shares outstanding resulting from share repurchases over the last twelve months. Without the recognition of deferred revenue, diluted earnings per share would have declined 7.2% 22 -------------------------------------------------------------------------------- Table of Contents 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 some of our markets, there are currently no material restrictions on our ability to transfer and remit funds among our international markets. The hypothetical repatriation of $13.2 million that relates to earnings considered indefinitely reinvested in certain of our markets at September 27, 2014, would result in a tax liability to the Company of approximately $1.7 million. We have historically generated positive cash flow due to our strong operating margins. Net cash flow from operating activities totaled $67.4 million in the first nine months of 2014, compared with $64.6 million in the first nine months of 2013. Items positively affecting cash flow from operations on a year-over-year basis include: (i) a reduction in inventory in the current year, compared with use of cash in the prior year to build up inventory for various reasons, including the launch of a new market, and (ii) timing of tax payments associated with higher benefits derived from exercise of equity awards in the prior year period. These items were partially offset by (i) a larger increase in other liabilities in the prior year period due to higher accruals, (ii) a decrease in accounts payable in the current year period, compared with an increase in the prior year period, and (iii) lower net earnings in the current year period. Although we generated strong cash flow from operating activities in the first nine months of 2014, cash and cash equivalents decreased to $87.7 million at September 27, 2014, from $137.3 million at December 29, 2013. This decrease in cash and cash equivalents was primarily due to share repurchases as discussed below, and purchases of property, plant, and equipment related mostly to the construction of our new China production facility also discussed below. Of the $87.7 million cash and cash equivalents held at September 27, 2014, $14.2 million was held in the United States and $73.5 million was held by international subsidiaries. Of the $137.3 million held at December 28, 2013, $65.8 million was held in the United States and $71.5 million was held by international subsidiaries. Net working capital decreased to $57.0 million at September 27, 2014, from $133.2 million at December 28, 2013. We are building a state-of-the-art manufacturing and production facility in China, which we anticipate will become operational during the latter half of 2015. We anticipate that this project will require a total investment of approximately $40 million, of which approximately $24 million will be incurred in 2014. During the first nine months of 2014, we incurred $12.9 million on this project of which $5.9 million was for land use rights. We have extended non-revolving credit to the supplier of our nutrition bars to allow this supplier to acquire the necessary equipment to manufacture our bars. Notes receivable from this supplier as of September 27, 2014, were $7.4 million and are included as non-current other assets on the balance sheet. We are in the process of evaluating options to potentially modify some of the terms of the credit agreement with this supplier as there has been a delay in the completion of the project. As a result of the delays, we performed an impairment test on the recoverability of this note receivable and concluded that there was no impairment as of September 27, 2014, however, if assumptions change in the future, impairment could result. We will evaluate this note receivable for impairment on an ongoing basis. Line of credit We have a long-standing relationship with Bank of America. We currently maintain a $75.0 million credit facility pursuant to a credit agreement with the bank, which expires in April 2016. Bank guarantees are considered a reduction of the overall availability of credit. As of September 27, 2014, such normal course of business bank guarantees reduced our available borrowing limit by $4.7 million. During the quarter, we utilized our credit facility and as of September 27, 2014 we had a balance of $10.0 million outstanding. The agreement for this credit facility contains restrictive covenants, which require us to maintain a consolidated rolling four-quarter adjusted earnings before interest, taxes, depreciation and amortization ("adjusted EBITDA") equal to or greater than $60.0 million, and a ratio of consolidated funded debt to adjusted EBITDA of 2.0 to 1.0 at the end of each quarter. The adjusted EBITDA under this agreement is modified for certain non-cash expenses. As of September 27, 2014, we were in compliance with these covenants. Management is not aware of any issues currently impacting Bank of America's ability to honor their commitment to extend credit under this facility. 23 -------------------------------------------------------------------------------- Table of Contents Share repurchase We have a share repurchase plan that has been ongoing since the fourth quarter of 2000. The objective of this plan is to return value to our shareholders. Our Board of Directors has periodically approved additional dollar amounts for share repurchases under that plan. Share repurchases are made from time-to-time, in the open market, through block trades or otherwise, and are based on market conditions, the level of our cash balances, general business opportunities, and other factors. During the second quarter of 2014, our Board of Directors authorized an increase in the amount available for repurchase under this plan to a total of $200 million. During the nine months ended September 27, 2014, we repurchased and retired 1,755,001 shares of common stock for a total investment of $125.7 million, at an average market price of $71.6 per share. Additionally, subsequent to the quarter ended September 27, 2014, and through November 3, 2014, we repurchased and retired 171,924 shares of common stock for a total investment of $13.2 million, at an average market price of $76.59 per share pursuant to a preset trading plan meeting the requirements of Rule 10b5-1 under the Securities Exchange Act of 1934 as amended. As of November 3, 2014, there was $61.2 million remaining under the current share repurchase authorization and there is currently no expiration date on the remaining approved repurchase amount and no requirement for future share repurchases. Summary We believe that 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 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. Forward-Looking Statements and Certain Risks The statements contained in this report that are not purely historical are considered to be "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 and Section 21E of the Securities Exchange Act of 1934. These statements represent our expectations, hopes, beliefs, anticipations, commitments, intentions, and strategies regarding the future. They may be identified by the use of words or phrases such as "believes," "expects," "anticipates," "should," "plans," "estimates," and "potential," among others. Forward-looking statements include, but are not limited to, statements contained in Management's Discussion and Analysis of Financial Condition and Results of Operations regarding our financial performance, revenue, and expense levels in the future and the sufficiency of our existing assets to fund our future operations and capital spending needs. Readers are cautioned that actual results could differ materially from the anticipated results or other expectations that are expressed in these forward-looking statements for the reasons that are detailed in our most recent Annual Report on Form 10-K. The fact that some of these risk factors may be the same or similar to those in our past SEC reports means only that the risks are present in multiple periods. We believe that many of the risks detailed here and in our other SEC filings are part of doing business in the industry in which we operate and will likely be present in all periods reported. The fact that certain risks are common in the industry does not lessen their significance. The forward-looking statements contained in this report are made as of the date of this report, and we assume no obligation to update them or to update the reasons why our actual results could differ from those that we have projected. Among others, risks and uncertainties that may affect our business, financial condition, performance, development, and results of operations include: † Our ability to attract and maintain a sufficient number of Associates; † Our dependence upon a network marketing system to distribute our products and the activities of our independent Associates; † The integration of BabyCare's operations and expansion of our business in China through BabyCare; † Unanticipated effects of changes to our Compensation Plan; 24 -------------------------------------------------------------------------------- Table of Contents † Our planned expansion into international markets, including delays in commencement of sales or product offerings in any new market, delays in compliance with local marketing or other regulatory requirements, or changes in target markets; † General economic conditions, both domestically and internationally; † Potential political events, natural disasters, or other events that may negatively affect economic conditions; † Potential effects of adverse publicity regarding the Company, nutritional supplements, or the network marketing industry; † Reliance on key management personnel; † Extensive government regulation of the Company's products, manufacturing, and network marketing system; † Potential inability to sustain or manage growth, including the failure to continue to develop new products; † An increase in the amount of Associate incentives; † Our reliance on the use of information technology; † The effects of competition from new and established network and direct selling organizations in our key markets; † The adverse effect of the loss of a high-level sponsoring Associate, together with a group of leading Associates, in that person's downline; † The loss of product market share or Associates to competitors; † Potential adverse effects of customs, duties, taxation, and transfer pricing regulations, including regulations governing distinctions between and Company responsibilities to employees and independent contractors; † The fluctuation in the value of foreign currencies against the U.S. dollar; † Our reliance on outside suppliers for raw materials and certain manufactured items; † Shortages of raw materials that we use in certain of our products; † Significant price increases of our key raw materials; † Product liability claims and other risks that may arise with our manufacturing activity; † Intellectual property risks; † Liability claims that may arise with our "Athlete Guarantee" program; † Continued compliance with debt covenants; † Disruptions to shipping channels that are used to distribute our products to international warehouses; † The introduction of new laws or changes to existing laws, both domestically and internationally; or † The outcome of regulatory and litigation matters. |