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Executives

Sarika Sahni - Investor Relations

David P. Kirchhoff - President, Chief Executive Officer, Director

Ann M. Sardini - Chief Financial Officer

Analysts

Michael Binetti - UBS

Robert Craig - Stifel Nicolaus

Analyst for Greg Badishkanian - Citigroup

Chris Ferrara - Merrill Lynch

Karen Howland - Barclays Capital

Brian Carson - Atlantic Investments

Weight Watchers International, Inc. (WTW) Q3 2008 Earnings Call November 4, 2008 5:00 PM ET

Operator

Ladies and gentlemen, welcome to the Weight Watchers International third quarter 2008 earnings teleconference call. (Operator Instructions) At this time, I would like to turn the call over to Sarika Sahni of Weight Watchers International. Please go ahead.

Sarika Sahni

Thank you and thank you to everyone for joining us today for Weight Watchers International’s third quarter earnings conference call. With us on the call are David Kirchhoff, President and Chief Executive Officer; and Ann Sardini, Chief Financial Officer. At about 4:00 p.m. Eastern Time today the company issued a press release reporting its financial results for the third quarter of fiscal 2008. The purpose of this call is to provide investors with some further details regarding the company’s financial results, as well as to provide a general update on the company’s progress. The press release is available at www.weightwatchersinternational.com.

Before we begin, let me remind everybody that this call will contain forward-looking statements. Investors should be aware that any forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those discussed here today. These risk factors are explained in detail in the company’s filings with the Securities and Exchange Commission. The company does not undertake any obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

I would now like to turn the call over to Mr. Kirchhoff. Please go ahead, David.

David P. Kirchhoff

Good afternoon and thank you for joining us as we review Weight Watchers International’s performance for the third quarter of 2008. In the third quarter, we delivered a solid increase in earnings versus prior, even though as expected our attendance volumes remain soft, as we were now completing several years without a meaningful program innovation in North America and the U.K. However, we are now facing what appears to be a deepening economic recession, which is putting increasing stress on consumers.

While we are not seeing any significant change in retention patterns across our businesses, we do see signs that some consumers are delaying the start of their weight loss efforts. As a result, we have incorporated into our own internal planning the assumption that this global recession will place headwinds on our meeting recruitments for the rest of 2008 and throughout 2009.

During the third quarter, [NACO] faced increasingly difficult conditions and this was reflected in its attendance results which worsened somewhat as we proceeded through the quarter. On the other hand, the U.K. remained relatively more stable despite its economy slipping into recession, continental Europe continued to perform at levels consistent with what we have seen throughout this year, and Weightwatchers.com had another strong quarter, as a vibrant July and August more than compensated for a September that was comping against an exceptionally strong September 2007.

Total company Q3 revenues grew by 4.5% with meeting fees up 4.3%, Internet revenues up 24%, and product sales and other revenues down 2.8%. Foreign currency had less impact on our total company results in Q3 versus what we have seen in prior quarters. Excluding foreign currency adjustments, total revenues were up 4%.

Global paid weeks for our meetings and Weight Watchers online offerings were up a combined 13%. Global paid weeks in our meetings were up 7.3% while global attendances were down 5.7%. Continued growth in meetings paid weeks was largely driven by the adoption of monthly pass in the U.K., Germany, France, and Australia.

For the Weight Watchers.com business unit, Internet revenues were up 24%, which was somewhat slower than the growth rate we saw in Q2 but still very strong. End of period Weight Watchers online active subscribers were up 24% versus the prior year.

Including the impacts of the recent adverse U.K. VAT ruling, as well as our China joint venture, Q3 2008 EPS was $0.67, an increase of 8% or $0.05 over Q3 2007. Excluding the impact of the U.K. VAT ruling, and our investment in the China JV, EPS was $0.70, an increase of 13% over the comparable period in 2007.

I will now briefly review our results in our major geographies and business units. First, our North America meetings business -- total third quarter [NACO] revenues were $187 million, a decrease of 1% versus the same period last year. Q3 paid weeks were slightly positive at 1% versus prior, while Q3 attendances were down 6.3%. Without the benefit of prior period acquisitions, [NACO] paid weeks were effectively flat while attendances were down 8.5% versus prior, leading to a decline in in-meeting product sales.

Volumes in the first two months of the third quarter were largely consistent with the trends we have been seeing in the second quarter. However, the deterioration of consumer confidence, driven by worsening news in September, resulted in further softening of our enrolment trends. This lower enrolment trend has been persistent throughout October and was a clear step-down from the levels we’ve seen in prior periods.

As we said before, we believe that our enrolment levels have been challenged throughout 2008 due to a lack of meaningful program news. But we believe the weakening economy is also contributing to overall weakness in the weight management business.

Simply stated, when consumers are facing a sudden crisis over their savings, livelihood, and standard of living, the natural inclination is to comfort eat, not to lose weight. From an historical perspective, we saw similar behavior in the aftermath of 9/11 and Hurricane Katrina. The impact those two events had on our business lasted about six and three weeks respectively, but we think this current crisis will last longer.

Of course, we will continue to call attention to the fact that the decision to invest in a healthier life is not a luxury but a necessity. One example of leveraging this message was our lose for good promotional campaign that we announced on our last earnings call. For six weeks in September and October, we encouraged our members to contribute food to their local food community banks in levels that matched their own weight loss, the idea was to help your own health while helping a neighbor in need. It was our first time organizing this grassroots effort and we were thrilled with the results.

During the six weeks of the promotion, our members lost over 4 million pounds. We conducted over 2,000 food drives across the country and our members personally donated and brought to our meetings over 1.5 million pounds of food.

In addition, we did a variant of a matching program by contributing $1 million to [a few] hunger-fighting organizations. The local PR coverage alone from lose for good has been beyond what we have seen from any initiative over the past 10 years and while not a near-term enrolment driver, it clearly benefits our brand equity.

While enrolments were soft, we have not seen any further degradation of monthly pass or pay as you go retention beyond the levels we discussed on our second quarter call. We remain cautious about future retention as further deterioration of consumer credit could increase credit card default rates, although we have seen no evidence of this so far.

We expect the Q4 attendance in paid week year-over-year growth rates to be similar to those of Q3.

Now on to the international business units -- as is our usual practice, all of the growth statistics I am discussing will be provided on a constant-currency basis. For the third quarter, excluding the effects of the U.K. VAT ruling, U.K. revenues were up 11%, driven by the continuing benefit of the monthly pass plan. Paid weeks were up a strong 22% while attendances were down 3%. This attendance trend is very similar to the Easter holiday adjusted trend we saw in Q2.

On balance, the U.K. business has seemed to be somewhat more resilient than the U.S. business, even though both countries are experiencing similar economic challenges. Based on our observed results through October, we expect similar attendance in paid week trends in Q4.

Continental Europe results were also on a similar trend compared to what we had seen in Q2. Revenues were up 8%, driven by monthly pass penetration in Germany and France, as well as continued rapid growth in Belgium.

Overall CE paid weeks were up a very strong 28%, compared to 16% growth in Q2. Attendances were a little softer at minus 4.9% versus the Easter adjusted minus 3% we saw in Q2.

France and Belgium continue to be sources of volume strength in Continental Europe, while Germany remains the greatest challenge. Now armed with the results of a comprehensive business analysis and market research effort, the new German team is beginning the hard work of returning the business to its prior strength as we move through 2009.

Continental Europe has seen many of the economic issues that had been plaguing the U.S. and U.K. and we expect attendance trends to worsen somewhat at minus 7% for Q4. However, monthly pass will provide continuing revenue benefit to this region and we are forecasting paid weeks growth rates between 20% and 25% for the fourth quarter.

Moving on to Weight Watchers.com, as I referenced earlier, we had a very strong July and August, fueled by continued investment in continuity TV advertising. However in September this year, we were comping against a very strong September 2007 which benefited from last year’s monthly pass meeting advertising. That monthly pass advertising heavily featured Weight Watchers’ e-tools which had the effect of further driving awareness of Weight Watchers online, leading to exceptional growth that month last year. Despite the relative September softness, the overall Weight Watchers.com business remained very strong for the quarter versus the prior year period, with Internet revenue growth of 24%, Weight Watchers online paid weeks growth of 27%, and end-of-period access subscriber growth of 24%.

Throughout the second half of 2008, we have had a very busy product development schedule. This summer we launched our first smartphone browser compatible versions of Weight Watchers online for the iPhone, BlackBerry, and Windows Mobile. In the fourth quarter, we plan to beta launch a major upgrade to our online community with the introduction of Facebook-like social networking functionality. We believe that the combination of these new features, plus other product improvements planned for 2009 and beyond will provide us new ways to keep our subscribers motivated and to improve usage and satisfaction with our Internet products. Importantly, these improvements will benefit both our online and monthly pass subscribers.

For the fourth quarter, we expect online paid weeks growth of 15% to 20%, capping off an outstanding year for our Internet business.

Now I would like to turn the discussion over to Ann Sardini, who will elaborate further on our Q3 performance.

Ann M. Sardini

Thanks, David and good afternoon, everyone. Our reported third quarter revenues of $353.6 million, an increase of 4.5% versus last year. Excluding $1.8 million of charges related to a ruling this year which increased our value-added tax, or VAT, on [inaudible] revenues, our revenues increased 5%. The currency translation impact on revenue in the quarter added 50 basis points to the revenue increase.

In addition to the impact of the U.K. VAT, the quarter also included $1.7 million of operating expenses associated with our joint venture in China. As you will recall, we have partnered with [inaudible], which owns 49% of the venture. Therefore, 49% of the China operating expenses after tax are reversed in the minority interest line below net income.

Reported net income in the quarter was $52.7 million, or $0.67 per fully diluted share. However, excluding these non-comparable items, EPS was $0.70. This compares to $0.62 in the prior year, an increase of $0.08, or 12.9%.

In our review of operations that follows, I will omit the impact of both the VAT ruling and the China joint venture except as specifically noted.

Beginning with the meeting business, global meeting revenues, a combination of meeting fees and in-meeting product sales, were $273.6 million, a 3.2% increase versus third quarter last year. The average meeting fee per attendee rose 11.5% on the strength of monthly [inaudible] for national markets and a 5.7% decline in global attendance in the quarter reducing that impact to 5% growth in total meeting fees. Additionally, while product sales per meeting attendee increased by 2.4%, total in-meeting product sales declined by 3.4% on lower attendance.

Weight Watchers.com reported $47.7 million of revenue in the third quarter, an increase of 23.6% from $38.6 million last year. Weight Watchers.com paid weeks grew 26.5%. Across the total company, paid weeks rose 12.7% to $30.9 million.

In the North America meeting business, attendance was declined by 6.3% to $8.1 million. Excluding the impact of acquisitions, attendances were 8.5% behind prior. NACO’s third quarter meeting revenues, including in-meeting product sales, were $173.9 million, a decline of $2.8 million or 1.6% versus last year, driven by a 10.2% decline in in-meeting product sales. The negative change in product mix away from higher-priced, one-time purchases, including starter kits, electronics, and cookbooks, drove the decline, caused primarily by weak enrolment and likely exacerbated by economic conditions.

NACO’s meeting fees were flat to prior on paid weeks growth of 1%. The deceleration in paid weeks growth in NACO is the result of stabilization in the monthly [cash] installed base.

In the international meeting business, third quarter meeting revenues including in-meeting product sales were $99 million, up 12% on a reported basis and 9.9%, or $8.7 million, in constant currency. International meeting fees were robust, up 13.7% in local currencies, directly attributable to monthly pass, as illustrated by paid weeks growth of 23.5%.

Monthly pass is now in the U.K. and two of our Continental European countries. International in-meeting product sales rose 2% on a local currency basis, sensitive to the 4.8% decline in attendance but still posting 7.2% growth on a per attendee basis.

In the U.K., total meeting revenues in local currency increased 10% on a comparable to prior year basis. On a reported basis, meeting revenues of $37.6 million were up 4.8%, negatively impacted by a ruling that increased VAT on our meeting fees. In this monthly pass market, paid weeks rose 22.2% to $3.4 million and meeting fees excluding that negative adjustment rose 14.3%. This despite a 3% decline in attendance, attesting to the acceptance of monthly pass in the market.

In Continental Europe, which now has two monthly pass countries, meeting revenues rose 10.9% in local currency versus the same period last year. Paid weeks reached $2.7 million, while attendances were $2 million, 4.9% down from the prior year period.

In Germany, monthly pass reached its first anniversary with ongoing momentum and in France, monthly pass, which launched in Q2 of this year, is ramping nicely.

In-meeting product sales of $15.2 million in Continental Europe represent a 2.5% gain over prior year in constant currency.

Our other revenues, which include franchise commissions, licensing, and revenues from our publications, were $23.1 million and grew 3.9% over the past year. Licensing revenues in the third quarter were strong, up 10.6% to $16.2 million, with particular strength from our dairy product licenses in the U.S.

Franchise commissions were $3.3 million in the quarter, down 12.3%, but if you exclude the impact of acquisitions made after the third quarter 2007, commissions on the remaining franchises declined 5.2% versus prior year.

Our consolidated company gross margin in the third quarter is 65.4%, down 30 basis points from 55.7% in last year’s third quarter. Margin compression was driven by the meeting business, where we incurred ramp-up costs for monthly pass in Europe and where we experienced pressure in the products business and higher raw materials and transport costs. Weight Watchers.com margins [inaudible] in this highly scalable business, which carries a structurally higher gross margin.

Third quarter 2008 marketing spend of $39.6 million was virtually flat with prior year in constant dollars. Q3 marketing as a percent of revenue was slightly lower than last year at 11.2% versus 11.6% in 2007.

G&A expenses in the third quarter 2008 were $45.3 million, excluding $1.3 million of expenses associated with the China project, an increase of 7.4% above the prior year.

Foreign currency exchange is responsible for 1.1% of the increase.

IT remains the significant driver of the year-over-year increase, a result of ongoing efforts to our systems infrastructure. Expense growth in this area added approximately 5% to G&A expense in this year’s third quarter, and reflects the combined impact of increased depreciations for new systems brought online and higher maintenance related to new systems already put into service.

As a percentage of revenues, G&A excluding China expenses increased slightly to 12.8% versus 12.5% in the prior year quarter. On a comparable to prior year basis, the company’s consolidated operating income margin was 31.4%, a slight decrease versus 31.6% in the year earlier quarter. Including the impact of VAT and China expenses, the operating income margin of 30.6% in the third quarter of 2008.

Interest expense in the third quarter was $21.3 million, down $7 million, or 24.6% versus third quarter 2007. Our average debt outstanding in the third quarter 2008 was $1.64 billion, $111.3 million below the third quarter 2007 levels.

In addition to the positive impact of debt pay down, we benefited from the 128 basis points reduction in our average effective interest rate, down from 6.38 in the third quarter last year to 5.10 in this year’s third quarter. This resulted from a combination of lower market rates and a step-down in [spill-over] LIBOR, which took effect during the first quarter of this year.

Our consolidated cash flow and balance sheet, as I will address briefly, are consistent with expectations. In the quarter, the company continued to generate robust cash. Cash from operating activities excluding interest was $78.5 million. Accordingly, after capital expenditures, $69 million was available to service our capital structure. With our available cash, we made interest payments of $21.2 million, and paid our quarterly dividend of $13.7 million. Also during the quarter, we repurchased 1.6 million of our shares for approximately $62.5 million.

Fluctuations in the balance sheet between third quarter ’08 and year-end ’07 primarily reflects the seasonality of the business. Current assets were higher than December, as expected, a combination of higher cash balance and prepaid taxes. The acquisition of three small franchises in the first half of 2008 resulted in a $33.9 million increase in franchise rights acquired. Current liabilities reflects $96.3 million of our debt moving into the current categories, due next year.

Deferred revenue rose $23.9 million versus year-end 2007, consistent with seasonality and the ramp-up of monthly pass.

And now I will turn it back to David.

David P. Kirchhoff

Thank you, Ann. As we complete 2008 and get ready for 2009, we have little doubt that economic conditions have deteriorated and have done so in a way that will fundamentally affect consumer behavior. Consumers around the world and in the U.S. in particular will likely adopt, at least in the near-term, a more [inaudible] lifestyle and will be more discerning in the spending choices they make. However, we also believe that Weight Watchers has the right offering for the consumer of today and tomorrow and represents a compelling value.

All of our research suggests that consumers are continuing to seek long-term solutions to Weight Watch issues through lifestyle related changes. We believe that Weight Watchers has a central role to serve in helping consumers get there, as we are the only major weight loss company focused on lifestyle change through education and behavior modifications delivered in a supportive environment.

We believe that our marketing programs have worked hard to help firm and shape our differentiated position as a weight management company and we enter 2009 with a firm brand platform from which to build.

The challenge for us now is to give the consumer a very tangible reason to join immediately, rather than some indeterminate time in the future. We believe the best way to create this kind of call to action is with tangible product innovations and service news.

Next month we will be launching a new program in all of our major markets except the Continental European countries. We will be marketing our program under a new program name in each of our various markets. It will be the first in a series of innovations and offerings to reach our markets over the next few years. This new program was developed by observing the habits of our most successful members as well as understanding why our less successful members were struggling.

For competitive reasons, I will not be going into any details to describe exactly how the new program works other than to say it builds on the best elements from both the points and the core food plans in a unique and compelling way.

I can share with you the consumer response to the new program in our test areas have been very encouraging. The benefits of the new program are resonating with newer members as well as former members who might believe they know everything there is to know about the points program.

We will now be giving all those members who have used the points program since it was first launched in 1996 compelling reasons to come back to us.

So as we plan for 2009, we know that demand for our services and products will be impacted by competing forces. On the positive, for the first time in four years, we will be launching a compelling new program, historically an event that has been important to driving growth in our business.

On the negative, we will be launching into a difficult and potentially deep recession. In addition, the recent strengthening of the dollar, if it holds, will have the effect of reducing the revenues and profits generated by our international business units.

We are in the process of finalizing our 2009 full-year operating plans and appropriately are taking a hard look across all of our cost centers. As is our normal course of action, we will be providing full-year guidance for 2009 when we announce Q4 results in February.

With regard to our China venture, I am happy to report that we have now opened our first two centers in Shanghai and are pleased with what we are seeing. We will be opening additional centers as we move through 2009.

With respect to 2008 full-year guidance, including the impact of the U.K. VAT ruling and the China joint venture, we are providing a new range of $2.75 to $2.78 per fully diluted share. This new range, which narrows our previous range of $2.75 to $2.86, includes about $0.03 of negative impacts on our fourth quarter results from the recent decline in the value of the Euro, British Pound, and Australian Dollar.

As a final note, I would like to take this opportunity to welcome our new President of NACO, Steve McCormick. Steve comes to us having most recently been President of Odwalla, a subsidiary of the Coca-Cola Company. I have been thoroughly impressed by Steve, both as a leader and as an operator. His deep experience in operations and general management will bring valuable leadership to the NACO organization. His experience in healthy products is an added plus.

At this time, we would like to answer any questions you may have.

Question-and-Answer Session

Operator

(Operator Instructions) The first question is from Michael Binetti from UBS.

Michael Binetti - UBS

Thanks and congrats on a nice quarter. Maybe just a quick question on the fourth quarter guidance -- would you mind telling -- I guess I’m curious if you guys, if there is hedging of the currencies that we should think about that you just mentioned, David.

Ann M. Sardini

No, there isn't.

Michael Binetti - UBS

And then does that bake in any kind of an impact from -- I think what you guys called a soft launch of the new guide in December, [for attendance purposes]?

David P. Kirchhoff

I think that we do usually see a little bit of positive benefit from the soft launch, recognizing that there won’t be any really marketing activities at all prior to Christmas. Sometimes we see a little bit of lift but I think what I would point out is that the enrolment levels are so low in the month of December traditionally that even if there is a little bit of a lift on a percentage basis, it tends to be fairly immaterial on an attendance basis.

Michael Binetti - UBS

And just one quick follow-up -- I understand you guys are reticent to talk about the details of the new guide for competitive reasons. It seems like -- I mean, there’s a lot of noise for those of us trying to figure out the fourth quarter and ’09. How do you think about the realistic [inaudible] outcomes for attendance on a -- if you tested but you haven’t given us a lot of details about the particulars [inaudible] and given the current environment.

David P. Kirchhoff

You clipped in a little bit on and off but I think I understood the gist of your question, which is given that we haven’t described the innovation we’re launching in January of 2009, how do you think about it with respect to our performance in 2009, is that right?

Michael Binetti - UBS

Actually, I was just saying how do you think about the realistic bands of outcome for attendance with the product that you’ve tested but not yet given us really any details about in the current economic environment.

David P. Kirchhoff

Okay, I got it. And you know, that’s kind of the trick as we think about, starting to think about 2009 and obviously we are going to be providing a lot more details when we provide guidance in February, and the reason, just for context, the reason we traditionally provide guidance in February is because January has such a significant impact on volumes for the business. We’ve just always done it that way.

Now that said, if we look at historical program innovations, we would suggest that an innovation of sort of this size and scope would historically be good for about maybe say 5% to 10% of plus on attendance growth rates.

Now, what’s a little bit unknown is exactly how the interplay between that innovation is going to be with the economy, specifically that we are going to be dealing with as we go into January. And so that is going to be what is on our mind but as you can sort of tell, those things are going to be potentially working against each other a little bit, and that’s kind of our thought process on that right now.

Operator

Your next question comes from the line of Robert Craig from Stifel Nicolaus.

Robert Craig - Stifel Nicolaus

Good afternoon, everybody. I just wanted to follow-up I think on the first question that was asked. I mean, you had mentioned that in September, you saw some further softness and that persisted in October and yet your thinking is that your attendance rates and even paid weeks should be relatively similar quarter to quarter, 3Q versus 4Q. And I guess I was wondering why wouldn’t that fall off, if indeed those -- the activity in those two months happened to go down?

David P. Kirchhoff

Well, it’s not going to fall off for a few reasons. First off, I think that a lot of Q4, if you think about it, with so many of the enrolments that impact Q4 have already been sort of baked, if you will, from enrolment activity in September and October that drive attendances into Q4.

You know, as I mentioned a little bit earlier, we do think that there is the possibility for some lift in December with the new program launch. And due to the vagaries of our calendar timing, we are going to have the benefit of a couple of extra days at the end of this year that we didn’t have last year. That will give a little bit of lift on top of that for Q4 attendances. That’s the so-called 53rd week that we referenced in the last two calls, so if you put all those things together, that’s how we come out with that forecast.

Robert Craig - Stifel Nicolaus

Okay. And I was wondering, are you expecting any benefit versus what you had earlier budgeted for in terms of marketing cost to support the new innovations with what we are certainly hearing from some companies softening and ad rates. And I know you guys do a lot of forward purchasing there, but any guidance on what marketing spend as a percent of revenue will likely look like?

David P. Kirchhoff

Well, I guess first off in terms of ad rates, you know the ad rates, your point is well taken, which is we participate heavily in the up-front market in our advertising purchasing and so our rates for the winter diet season have been locked for some time and by all accounts from what we are hearing from our media agency, those rates, at least for January, seem to be holding.

Now what exactly happens with media rates as we go through the course of 2009 is anybody’s guess, and I think that there’s just obviously a lot of speculation and you may know better than we do but we are certainly not assuming a precipitous drop in advertising dollars per GRP.

In terms of providing specific guidance in terms of marketing spend versus last year, without getting into all the details of guidance, which we will go into more detail in February, I guess what I would say is that we think that we can adequately support the innovation going into January without any kind of a material change in terms of just total media [rates].

Robert Craig - Stifel Nicolaus

Okay. Could you give penetration rates by geography of monthly pass?

David P. Kirchhoff

You know, we have not provided the specifics of monthly pass penetration by geographies. I guess what I could tell you is this, is that we have a couple of countries -- the countries are actually fairly well-clustered around each other in terms of just penetration of monthly pass across markets. We think that there’s some markets -- we referenced the U.K. in our last call, of having a penetration rate that’s a little bit lower than what we are seeing in some of our other markets, including the U.S., and that we saw that as an opportunity. And I think that we are already seeing some lift there.

So I don’t know that there’s a massive difference. The U.K. is still certainly a leading country in terms of overall penetration. I think also at least as importantly, what we are seeing in some of our overseas markets is a very high propensity to attend -- in other words, the people who are monthly pass subscribers are showing a very high likelihood of attending meetings at rates that are at least as high as the U.S. and we think that’s an important part of member success.

So I guess in summary as we look at our monthly pass metrics from country to country and compare it to the U.S., we have been pretty pleased about the consistency that we have seen.

Robert Craig - Stifel Nicolaus

Okay. One more question and then I’ll move on -- where do you stand on the Applebee’s license agreement and could you potentially discuss the pipeline in the licensing area?

David P. Kirchhoff

We have not provided any additional news on the Applebee’s contract, other than to say that we love them as a partner and we think they are doing some great things.

In terms of the licensing pipeline, we have a couple of things that recently have been announced. We recently announced a licensing agreement on popcorn, which may not sound like a big thing but popcorn is a remarkably popular snack for anybody who is sort of living the healthy lifestyle. We now have a license with [Schreiber] foods, which is pushing out Weight Watchers branded cheeses, and we have been very encouraged by the initial results of that. That’s part of what Ann referenced in her remarks on product sales about dairy products doing well.

And finally we recently announced a licensing agreement with a company called [Green Corps]. It’s interesting -- Green Corps is a large food company based out of the U.K. and if you know anything about the U.K. grocery business, you would know that they have a very high penetration of chilled prepared entrees, which has historically not been a big staple within the U.S. market and arguably the U.S. has lagged a little bit there.

We are partnering with Green Corps to come out with a line of Weight Watchers licensed chilled foods which we look forward to starting to get into the market as we go into 2009, and it’s a licensing launch that we are very excited about.

Robert Craig - Stifel Nicolaus

Great, I appreciate it, David. Thank you.

Operator

Your next question comes from the line of Greg Badishkanian from Citigroup.

Analyst for Greg Badishkanian - Citigroup

This is actually [Alvin] stepping in for Greg. Just a question on your -- you know, there’s a tough consumer environment that is affecting results. I mean, do you have any promotions or initiatives in the pipeline that will help you create demand in the coming year?

David P. Kirchhoff

I think the biggest thing that we have in the face of a difficult consumer environment is a program that we believe is going to deliver long-term lifestyle benefits, and I think this is an important point because the decision to invest in a weight management program becomes much more interesting when you believe it can be sustainable and can really help you tackle some real problems that have prevented you from having long-term success.

So in that respect, having a new program that really hits some important benefits to be revealed in the near future I think is the best weapon against the difficult economy and that is where we are placing our bets.

Now of course as we talk about our programs as we go through -- and our offerings as we go through 2009, we are going to continue to emphasize the value of our approach, the fact that with Weight Watchers you can consume and eat regular everyday food that you can get at your grocery store, that there’s ways to live a healthy lifestyle and absolutely stay within a budget and that if you think about it, Weight Watchers offers a program that really allows people to both adopt a healthy lifestyle but do it in a very economical, value-rich way. And so that is mostly where we would place our bets. The specifics around particular promotions and things like that, you know, we are going to evolve as we go through the year but we think that the most important value, part of the value equation for us to hit is around the new programs and the messaging around that.

Analyst for Greg Badishkanian - Citigroup

Great, and then in terms of your thoughts on how you are positioned from a pricing perspective on the pay-as-you-go plan or monthly plans, any updated thoughts on pricing?

David P. Kirchhoff

You know, given the environment, we felt pretty strongly that we didn’t want to have to sort of grow price increases on top of our consumers that were already dealing with a lot of tough times and we just felt that the right thing to do was to hold prices where they were, and that has been our stance so far. We haven’t made any other announcements in terms of pricing, where that might go in the future. But our feeling is right this red-hot second, with the consumer being hit the way that they are, that the right thing to do is to try hold our prices where they are.

Analyst for Greg Badishkanian - Citigroup

Okay, and then do you have an update on sort of the economics of the monthly pass, maybe dollars per enrolment cycles versus the pay-as-you-go? And any changes to that?

David P. Kirchhoff

The only thing that would have changed that would have been a sudden shift of retention, and we referenced a couple of calls ago, or I think last call, we referenced that we saw a little bit of softening as we were getting into sort of May/June. But we haven’t seen any softening since and so the retention on monthly pass has actually been holding up quite nicely so far, and so based on that, the economics of monthly pass that we have been sharing with you guys in the past hasn’t really changed materially.

Analyst for Greg Badishkanian - Citigroup

Great. Thank you.

Operator

Your next question comes from the line of Chris Ferrara from Merrill Lynch.

Chris Ferrara - Merrill Lynch

I just wanted to ask, you know, I know you are a guy who appreciates data and research and I’m trying to understand -- I guess what kind of a look back in your numbers do you have to the ‘90/91 timeframe, or any slowdown for that matter, just to help you with, you know, any kind of an instruction book as to what you might see with respect to enrolment trends? I know this environment might be a little different than the past ones, but I guess anything would be helpful.

David P. Kirchhoff

Of course we’ve looked at that and to a certain extent, I mean, I think part of the problem if you look at our business versus say a traditional retail business, in a traditional retail business, you know, there’s -- the ability to kind of match sales within specific categories and things like that to really try to cue into how changes in consumer confidence and other macroeconomic data might impact specific changes in terms of business performance is a luxury that we don’t have.

There tends to be a lot of other sort of significant exogenous factors that drive changes in our business, such as a low-carb competitor or packaged foods or a hot new program that we have, and so we find ourselves in a situation where we -- for example, as I referenced in the past, you look at the 2000 recession, 2001/2002, and that might suggest that -- and if you looked at our growth rates, it looks fantastic. We’re doing great, but we also had a hot program.

If you go back to ‘91/92, you know, we might look at business trends but there was also a lot of competitive and sort of unusual competitive activity and we were trying to also do some things in playing with the business model, so it’s very hard to distinguish between the specific effect that a recession has on our business because there’s usually a lot of other big changes happening at the same time, which has made it a little bit difficult for us to anticipate, prior to getting a few months under our belt with this current recession, exactly the impact that it might have on our business.

Chris Ferrara - Merrill Lynch

That’s helpful. I guess, and this may be a silly question, but do current enrolment trends mean anything ahead of a big program launch? For that matter, I guess it gives you a little bit of a hint of what’s going on but those trends probably become moot pretty quickly after you launch a new program. Is that the right way to think about it?

David P. Kirchhoff

Well, I think the way I would think about it is kind of the way I was trying to express it in my prepared remarks, which is that all things being equal, if we did not have the economic conditions we had, so if you go back to what we were talking say early this year when we were talking about the fact that we believe that our business was a little bit down in sort of the low-single-digits on attendances because we were in that fourth year of not having a program, and then we saw kind of a stepped impact, first with the gas price surge in May and then leading into the events of September and October, that that was pushing the attendance rates down.

So if you look at that, you might say well, without the economy being the way it is, and now I’m just going to speculate a little bit, but this is a little bit of the way we look at it, without the economy being the way it is, the launch of a new program we would argue would probably have had the potential to push our attendances back into sort of that plus 5% to 10% range, certainly versus prior.

Now, with the economy pulling it back down in the opposite direction, if the economy is pulling it down potentially minus 5% to minus 10% in the other direction, it’s a little bit -- that’s kind of how we are trying to anticipate it and it’s a little bit difficult for us to anticipate exactly how the economy is going to play out with our business going into 2009 because it’s a bit of an unknown, other than to say that we certainly haven’t seen anything. And you research this stuff probably even more than we do but we certainly haven’t seen anything that suggests that the consumer is going to have an easier time in 2009 than they have had in 2008.

Chris Ferrara - Merrill Lynch

That’s helpful, and just one final one -- I know you referenced some early returns from consumers on the new program. Can you just describe to what extent any consumers or [leaders] have seen the new program and just sort of talk a little bit about any kind of statistically significant tests you guys have run to get an idea of just how successful it is? I mean, I know you are not going to describe the program -- maybe just giving us a better view of what kind of tests you looked at and what kind of lens you are looking at would help.

David P. Kirchhoff

We look at it -- I can’t get into specific research results but I can tell you that we have looked at both consumers doing the programming and getting their feedback in terms of what was working and what wasn’t, and that response was very positive in pilot tests that we’ve been running.

We’ve looked at consumer response to sort of rough advertising stimuli in terms of how we would present the benefits of the new program and that’s been very compelling.

And finally, of course, we are starting to get some feedback from our staff that’s seeing it in some of our markets for the first time, and that’s also been very positive. So all the indications we are getting across the board by talking to employees, by talking to customers using the program, as well as by talking to consumers where we are presenting the idea of the program, has been universally positive.

We don’t have a specific consumer test, for example, like [base use] or something like that, where we have run it through our concept test and we can say within X percentage of precision that it’s going to have exactly Y amount of lift, because those types of models tend not to work as well in terms of forecasting our business.

It’s more just the cumulative effect of the research suggests that this is -- it’s a good program, and frankly I think it’s a good program because it wasn’t designed to be a marketing gimmick. It wasn’t designed to be something to give us something to advertise; rather, it really was designed to focus on addressing fundamental opportunities to help members have more successful weight loss, and that was kind of the starting principle when we were building it and we held to our guns on that and really stayed focused with that as our critical success measure, the belief of which is that if we could actually deliver a better experience, you know, we would have the opportunity to market it in all sorts of different ways and I think that we believe that that’s going to pay off for us in the future.

The other point I’ll continue to point out about innovation is that good innovations take time to build. I go back to the most successful innovation we ever had was a huge platform shift nonetheless but it was points, and points was delivering organic growth from 1998 through 2002, and the reason it -- as opposed to just getting a single huge step function increase of trials, the reason it was working well was because it had very good word of mouth. And good programs over time what they will do is as members are having more success, they are telling more members. I always come back to the fact that the majority of the people who come to us are coming on the recommendation of a friend or family member, so that as people have success with a new program, we believe that there’s an opportunity to continue building on this over time.

I will also point out that this isn't a one-shot deal, that we are working on a pipeline of innovations, both program and service related that over time and over the coming one, two, three years and beyond, we are going to look to sort of systematically innovate and improve the Weight Watchers offering, and that the cumulative effect of all of those things on top of each other is going to significantly improve member efficacy and member appeal, and that is going to be the thing that really drives long-term growth in our business.

Chris Ferrara - Merrill Lynch

Got it. Thanks, that’s really helpful, and just one last one, sort of a follow-up -- is it a fair statement that you can’t really compare what you’ve done with respect to testing this new program to any testing you did prior to points launch or prior to core launch, stuff like that -- is that right?

David P. Kirchhoff

No, not really because they are sort of apples and oranges and furthermore, if I were to compare the scope of this innovation to past innovations, the one that is probably the closest in terms of shear size and scope I would argue is probably the turnaround program, which introduced a core food plan.

The thing with the turnaround program is that the way we marketed it, we never really put a full core press in driving awareness of the new program and we weren’t single-minded in our advertising, and I think that was a real learning for us and so I would argue we never really kind of got the boost out of that program that it had the potential to deliver. Suffice it to say that that’s not going to be the case as we go into this January.

Chris Ferrara - Merrill Lynch

Thanks so much. I appreciate the time.

Operator

(Operator Instructions) The next question is from Karen Howland from Barclays Capital.

Karen Howland - Barclays Capital

Thanks very much. Just following up on that last comment you were making, I was looking at the growth you had in core ex -- after core was launched, excluding any acquisitions and it was nowhere near that attendance growth of that 5% to 10% area. How far back do you actually have to go to, as far as program innovations and program launches to get to see some place where you saw that 5% to 10% growth that you are expecting in a -- in a more stable environment?

David P. Kirchhoff

Well, I mean points is the most obvious version, which is -- was massive organic growth for three to four years, compounding. If you go beyond points or beyond the launch of points, the winning points actually which got into I think that was 2002, if memory serves, winning points was not a very impactful or significant innovation but it was well-marketed and it did drive some actually pretty good volume in terms of attendances. Now, how much of that was just a continuation on the points trend, I don’t know. I think that the issue again with turnaround is that if you launch a new program but don’t really tell anybody about it in a significant way, we shouldn’t have been surprised to not see the attendances show up and so I think that I continue to view the turnaround launches as a lost opportunity, and I felt that way for many years, which is why I felt so strongly with the launch of this particular program that we really be single-minded in our advertising and our focus around really just simply driving awareness of the new program.

Now, the thing that I’ll also always come back to, it’s a little bit different but I think that it is analogous and instructive, which is every time -- if I take the example of Weight Watchers online, which is simply kind of an innovation in itself, which is a new way of doing Weight Watchers in a different environment, every time we turn on advertising with Weight Watchers online, we are seeing a response in terms of sign-up rates.

My point with that is when we are providing news of something new and the benefits of that news are clearer, what we are seeing over and over again in the case of online is that consumers are very responsive to that message, so therefore we have every reason to be optimistic that as we launch a new program that has good benefits, and as we market behind it, it’s going to be beneficial in terms of driving enrolments.

Karen Howland - Barclays Capital

Thank you for that, and thinking about the Internet, I noticed that sequentially the number of members fell off a little bit. Obviously the growth year over year is still quite strong but it fell off a little bit more even than it did between the second and third quarter last year. I was just wondering if you were seeing any change as far as the duration people are signing up for, the number of new people who are joining online, or any change in that program?

David P. Kirchhoff

No, not in terms of -- not in terms of that. What we are seeing really was a unanticipated effect in our advertising last September, and I’ll try to do a better job of describing it, which is we had -- we tried an advertisement spot last September that really focused on creating awareness of the monthly pass offering. If you looked at that advertisement, it really heavily featured e-tools because it was sort of now you can get the best of meetings plus the online stuff in e-tools and it really spent most of the time talking about e-tools. So what we saw when we launched that spot, even before we had launched any of our advertising spots for Weight Watchers online, this was like the last week of August in 2007, was that the online business started to surge.

And so effectively what we were running was two different advertising campaigns at one point in September, both of which were driving interest in Weight Watchers online. And as a result, our sign-up volume in September was almost at surreally high growth rates, and so effectively what we had to deal with in Q3 was that September this year, which if I compare it to 2006 was a very strong month, but it was having to comp against a sort of an exceptional unusual sort of one-time September 2007, all of which has the effect of allowing us not to maintain that same growth rate that we were seeing, and that there’s effectively, now there’s a little bit of a trail-on effect as we go into the fourth quarter in terms of paid weeks.

Karen Howland - Barclays Capital

Okay. And so given that the fourth quarter again, even a more difficult comparison, would expect the paid weeks to perhaps the growth to slow a little bit from the current rate [with that]?

David P. Kirchhoff

And that was the guidance we gave of 15% to 20%.

Karen Howland - Barclays Capital

And can you give an update as far as the opportunity in China, timing as far as the rollout goes, when you expect to actually get some sort of a financial contribution flowing through?

David P. Kirchhoff

I think that the way I would look at it -- it’s a great question. The way I would look at China, and we’ll be providing more details about this as we get into 2009, but as you can currently see, China was absolutely sort of in early start-up investment mode in 2008. I would expect that as we look for opportunities to open up new centers at a somewhat more aggressive pace in 2009.

From a modeling point of view, I would think of China as continuing to be in investment mode and so then specifically, you know, whether it hits break-even in 2010 and exactly when that happens, we can get into that in future discussions. But I think I would -- for modeling reasons, I would think of 2009 as a continuation of the investment mode and we’ll be providing a little bit more guidance around that. But generally I would assume obviously to make an obvious point, I guess, particularly since we did not make much of an investment in Q1 and Q2, I would certainly assume a higher level of investment in 2009 than I had in 2008.

Karen Howland - Barclays Capital

And the reaction in China has been positive, presumably?

David P. Kirchhoff

Yes, we have paying customers that are --

Karen Howland - Barclays Capital

Always a good sign.

David P. Kirchhoff

Always a good sign. We have two beautiful centers. We have successfully trained leaders who have gone through the program who are running those meetings. We are thrilled with them. We’ve got a fantastic management team that is a Chinese management team that’s on the ground in Shanghai. They are doing a great job for us. If they are listening to the call, we love them to death. But overall we have been very happy with the results and I think most importantly what we have been most happy with is the fact that the people who are coming to us are losing weight. And my view has always been if we can have an offering where people are having success and they are happy about it, that’s a business we can grow and I think that’s what we see in China right now.

Karen Howland - Barclays Capital

Thank you very much.

Operator

Your next question is from Michael Binetti from UBS.

Michael Binetti - UBS

Thanks for taking a second question here. David, it sounds like you -- I’ve got to read back through the transcript but it sounds like you may have just mentioned that your gut was that the current macro environment could be as much as a five to 10 point drag on attendances in North America?

David P. Kirchhoff

I was speaking a little bit hypothetically but you know, that may not be a million miles off.

Michael Binetti - UBS

Okay. I’m assuming you have an ongoing market test of the new innovation and I’m curious what kind of impact you saw from the test group as you move from August into September and October when we really saw the consumer seize up with all the different macro effects that seemed like they would weigh on a consumer of yours, like the gas prices going up and unemployment starting to accelerate.

David P. Kirchhoff

Well, let me describe the testing a little bit more -- the testing was really getting people both current or I should say lapsed and people that have never been with us before, getting them actually using the program and really focusing on whether or not the program was delivering against our expectations and seemed to be doing an even better job than the existing program was doing, and that was the feedback that we are getting.

It’s hard to know -- it’s difficult to use that as a data set for predicting what consumer response is going to be given the economy because I think it’s also important to consider that once people are in Weight Watchers, what we are seeing because retention is holding up, like once they are actually in Weight Watchers, we are holding on to them and they are doing just fine and retention is holding up. I think our challenge is on recruitment, so the specific pilot test we are running wouldn’t necessarily be illustrative of that. I think what is potentially a little bit more illustrative is that when sharing with people again advertising stimuli around the benefits of the new program, that they have been very responsive to that.

Now, translating that into an exact forecast on future volume benefits in the new program is a little bit difficult to get from here to there mathematically, other than to say that it feels like we have something very real.

Michael Binetti - UBS

Thank you.

Operator

Thank you. The next question is from [Brian Carson] from Atlantic Investments.

Brian Carson - Atlantic Investments

Thanks very much for taking my call. I believe that you had the comment that in the fourth quarter, there would be a $0.03 drag from foreign exchange. Was that correct?

David P. Kirchhoff

That’s correct.

Brian Carson - Atlantic Investments

And assuming that the current levels of foreign exchange hold, is that sort of what you are anticipating in the fourth quarter?

David P. Kirchhoff

Yeah, that’s -- I’m sorry, that’s what we meant in our prepared remarks, was that assuming that the current foreign exchange rates hold roughly where they are now, that that would create a $0.03 EPS impact in the fourth quarter.

Brian Carson - Atlantic Investments

Okay, and then -- I just hope that you might be able to help me. It seems like if I then assume that some -- again next year that the foreign exchange rates hold, that it might have something like a -- maybe a modestly bigger impact than the first half but for the total year, sort of three quarters at $0.03, something like a $0.12 impact on 2009 -- would that be fair?

David P. Kirchhoff

Well, we are not getting into the specific breakdowns around guidance but I think that the point is that if the foreign currency exchange had a significant impact on us on 4Q this year, and those exchange rates were to continue as we are going through Q1, 2, and 3 next year, we would certainly expect that to have an impact on both top and bottom line in terms of our overseas operations.

Brian Carson - Atlantic Investments

Okay, and then just a question on competition -- in an environment where consumers seem to be drawn more towards strong brands, do you see that you have an opportunity to pull consumers away from other sort of commercial weight loss programs? And how would that compare versus I don’t know, consumers maybe making the decision to sort of diet on their own?

David P. Kirchhoff

You know, I think that we -- we obviously are interested in both sides of the consumers. I mean, we are actually, if you think about it, we are interested in three types of consumers -- we are interested in one type, which is people that have used Weight Watchers in the past, you know, when they left us, we left on great terms but we now, with the new program, we have an opportunity to get them back into the fold and that is a very big installed base of consumers, and we think that’s an important opportunity for us in 2009.

If we then move beyond and think of other competitors, obviously if we compared ourselves versus prepared meals and things like that, we think that if you look at our value proposition and the fact that you can eat every day food at your grocery store and don’t have to -- not having to buy premium branded or premium priced products at the grocery store is a competitive advantage, but frankly if I think of people who have never been to Weight Watchers in the past, I think that the biggest opportunity is those folks who would otherwise try to lose weight on their own continuing to make the point to them that when they come to us, they have three times more success than when they try to do it on their own. We continue to view the self-help dieter, the go-on-your-own dieter as a very important opportunity for us as we look for ways to grow our business in the future.

And I think if I get back to your parts question, sort of maybe even more explicitly, I think if you think about 2009, since we already have $0.03 in Q4, it probably wouldn’t be crazy to think of potentially $0.08 to $0.10 in 2009, incremental impact versus what we are seeing in ’08.

Brian Carson - Atlantic Investments

Okay, that would be --

David P. Kirchhoff

If current rates hold, and who knows, but that’s maybe not a bad way of modeling it.

Brian Carson - Atlantic Investments

Okay. Thanks very much.

Operator

Thank you. This concludes the question-and-answer session. I would like to turn the meeting back over to Mr. Kirchhoff.

David P. Kirchhoff

Thank you for joining us today and I look forward to speaking with you at our next earnings release.

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Source: Weight Watchers Q3 2008 Earnings Call Transcript
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