Ladies and gentlemen welcome to the Weight Watchers International’s third quarter 2009 teleconference call. (Operator Instructions) At this time I would like to turn the call over to Ms. Sarika Sahni of Weight Watchers International. Please go ahead.
Thank you and thank you to everyone joining us today for Weight Watcher International’s third quarter 2009 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 pm ET today the company issued a press release reporting its financial results for the third quarter 2009.
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 everyone 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.
Good afternoon and thank you for joining us as we review Weight Watchers International's performance for the third quarter of fiscal year 2009.
While there is no doubt that the economy continues to impact our business around the world, Q3 showed evidence of stabilization to modest improvement in most lines of business. While some of this stabilization may be a reflection on an improved economic environment, our analysis suggests that the majority of improvement was the result of a number of actions taken by our businesses.
Specifically, we continue to see the positive benefit of promotional activity and reversing or at least ameliorating enrollment trends in our meetings business. We also continue to see modest improvement in underlying retention. Finally, monthly pass penetration was strong across the board particularly in NACO.
For Q3 2009 total company revenues declined by 8% versus the prior year period. Unfavorable foreign currency translation accounted for $11.5 million or approximately 40% of the decline in revenues. On a constant currency basis Q3 revenues were down 4.7% versus the prior year period in 2008. The top line results reflect an improvement in the trends we saw in Q2 2009 in which revenues versus prior were down 13% on an as-reported basis and 7% on a constant currency basis after adjusting Q2 2008 revenues for the unfavorable U.K. VAT ruling.
As was the case in Q2 2009, NACO accounted for virtually all of the company’s currency adjusted revenue shortfall in the third quarter. On an as-reported basis, global meeting fees were down 10%, in-meeting product sales were down 10%, other revenues were down 4% and internet revenues were up 4%. On a constant currency basis meeting fees were down 7%, in-meeting product sales were down 5%, other revenues were down 1% and internet revenues were up 7%.
From a volume perspective, total global paid weeks for our combined meetings and online businesses were flat to prior. Global paid weeks in our meetings were down 4% versus the prior year quarter while global attendances were down 7.4%. These trends represented a modest improvement over the trends we saw in the holiday timing-adjusted results in Q2 which in turn were an improvement on the results we saw in Q1.
Global paid weeks for Weight Watchers online were up 9% for Q3 of 2009 versus the prior year period. Again, an improvement over the trends we saw in Q2. Q3 operating income declined by 6% compared to the prior year period. Gross margins were essentially flat year-over-year at 54.9% and total gross profit declined 8.5% as a result of lower revenue.
Q3 marketing and G&A expenses were 10% and 12% lower than the prior year period respectively. As a percentage of revenues marketing and G&A were 11% and 12.6% respectively, a modest improvement versus Q3 2008 for both despite the overall decline in revenue. On an as-reported basis, Q3 2009 EPS was $0.68 compared with $0.67 in Q3 2008. Excluding $0.03 of negative foreign exchange impact, Q3 EPS would have been $0.71, up 6% versus the prior year period.
I will now briefly review our results in our major geographies and business units. First, our North American meetings business. For Q3 2009 total NACO revenues were $165 million, a decrease of 12% versus the same period last year. NACO meeting fees declined 13% while in-meeting product sales declined 5% versus the comparable 2008 period. Both paid weeks and attendances were down 11% in Q3 2009 versus Q3 2008. This was a slight improvement over the trend we experienced in Q2.
Similar to the environment we have been seeing all year consumer discretionary spending throughout Q3 remained under pressure. While consumer sentiment about the economy seems to be improving, underlying issues impacting spending were made. As noted earlier, the impact of the economy has been primarily on member recruitment efforts. However, we continue to see strengthening in retention patterns despite pressures on credit card holders.
In early September we launched in NACO our first NACO promotion other than free registration. This particular promotion was a buy-one, get one free, BOGO, promotion in which new enrollees who purchase monthly pass would be credited their second month free. This promotion had an immediate positive effect on our enrollment trends resulting in effectively a 10-15 percentage point improvement on the trend line during the 7-week promotion period.
As we expected, we also saw a significant increase in the proportion of new enrollments who were signing up for monthly pass. Prior to the promotion paid weeks and meetings were trending at 10-12% behind prior year. By the end of Q3 paid weeks were trending at roughly 6-7% behind the prior year. This was the result of; one, improved enrollment trends. Two, a significant shift in monthly pass presentation.
Therefore, the most important learning from this effort was a confirmation that a more robust offering of promotion and value messages could have a meaningful impact on our volume trends in NACO. This was similar to what we have observed in our international markets. The most significant challenge of this specific BOGO promotion was the depth of the discount. Assuming average retention of eight months per monthly pass subscriber, getting a free month amounts to effectively a 12.5% discount.
This in turn suggests this particular promotion is effectively breakeven on a revenue and contribution basis. As we noted on the last earnings call, the BOGO promotion would have a negative financial impact in Q3 and Q4 of this year due to the timing of revenue recognition. As a result, the BOGO unfavorably impacted our Q3 operating income by approximately $1.5 million and we predict another $3.5 million of negative impact in Q4 for a total of $5 million in 2009. This translates into roughly $0.04 per share for fiscal 2009. Of course, we will recoup this in 2010 when we will have the benefit of all of the incremental volume without having to take any additional revenue dilution associated with the discount.
While we were conducting the BOGO promotion this fall we were also taking a major market research effort to study other promotional messages that could have a positive impact on volumes. That work is now done and we have identified a variety of other new promotions that should drive volume as effectively as the BOGO but without nearly as steep a discount. We plan to launch one such promotion for the winter campaign in January 2010.
NACO and meeting product sales per attendance were up a robust 7% despite the pressures of the economy. However, due to lower attendances, total NACO product sales fell 5% in Q3 2009 versus the same period in 2008. Though this again was a significant improvement on the trend we saw in Q2 of this year.
Benefiting from the fall promotion we expect continued modest improvement in NACO volume trends for the fourth quarter. Please keep in mind that the as-reported Q4 comparisons across all metrics in our business excluding WeightWatchers.com will be negatively affected by the fact that last year’s fourth quarter contained an additional week. After adjusting for the extra week in last year’s fourth quarter, we are forecasting paid week declines of 3% and we expect attendances to be roughly 10% below prior year.
On an as-reported basis including the extra week in last year’s fourth quarter we are forecasting paid week and attendance declines of approximately 10% in mid to high teens below prior year respectively. One other note about NACO’s Q3 results. I am very pleased to announce the result of our second annual Lose for Good Campaign. By way of reminder, Lose for Good is a program in which we ask our members to contribute food to local food banks as they lose weight while we simultaneously make contributions to two charities focused on childhood hunger and nutrition.
We far exceeded the results of last year’s campaign. During the seven week campaign our members lost 4 million pounds, our service providers volunteered to run 3,300 food drives across the country, a 50% increase and our members donated over 2 million pounds of food, a 33% increase. At the same time, we will be contributing a combined $1 million again to Share our Strength and Action Against Hunger.
Suffice it to say it is incredibly gratifying to see our members improving their health while helping people in their community. It is even more gratifying to see their generosity in this difficult economy. Now onto the international business units.
Overall the international meeting business results showed improvements in trends in Q3 versus what we experienced in the first half of this year. Revenues were up 2% on a currency adjusted basis. Paid weeks were up 11% while attendances were down slightly at minus 1% versus the prior year period.
For the U.K., our most heavily penetrated major market, third quarter revenues were up 15% on a constant currency basis with strength in meeting fees, in meeting products and licensing revenues. Paid weeks were up a robust 17% and attendances were up 6% versus the prior year period. This compares very favorably with the paid week and attendance trend of plus 7 and minus 4% that we observed in Q2.
The U.K. business has not been immune from the effects of a difficult consumer environment. In the volume trends we have experienced during major marketing campaign weeks have remained challenging. However, the U.K. team has very effectively used efficient promotions combined with continuity marketing during times when our marketing activities otherwise would have been quiet.
As a result, the U.K. experienced significant growth through June, July and August, creating a sizeable increase in their customer base going into the fall marketing campaign. We lost some of that ground during September but we are beginning to see improvements in the trends again as we return to continuity advertising during the typically quiet late October, early November period. Importantly the U.K. was able to use promotions which did not materially dilute average meeting fees.
Suffice it to say the results of this strategy have been encouraging not just for the U.K. but also as a potential model for other major markets including NACO. After adjusting for the extra week in last year’s fourth quarter we are forecasting Q4 U.K. attendance growth in the low single digits and paid weeks growth in the high single digits. On an as-reported basis we are forecasting a U.K. attendance decline in the mid single digits and paid weeks flat with the prior year.
While not as strong as the U.K., we saw some improvement in volume trends in continental Europe in the third quarter. Overall, CE currency adjusted revenues were down 10% versus prior year. Meeting fees in CE were effectively flat while in-meeting product sales were up 28%. This drop in in-meeting product sales and product sales per attendance reflected the planned rundown of inventory in preparation for the upcoming new program in this market.
From a volume perspective, attendance has declined 11%, a modest improvement from the trend in Q2. Paid weeks grew 5% versus the prior year period. The management teams in Europe have been busy on a variety of fronts with particular emphasis in preparing a major new program that will be soft launched over the next few weeks in
advance of the January campaign.
This new program, named Pro Point, represents a significant change from the existing program in either CE or the rest of the world. While it is still based on the principle of counting points it represents a complete upgrade and shift in the program including a new point’s formula. In combination with a host of other features, it represents a significant improvement in our program on the dimensions of health, [society], science and flexibility into a single, easy to use program. Response from our meeting leaders has been outstanding and consumer testing has also been very strong.
After adjusting for the extra week in last year’s fourth quarter we are expecting Q4 CE attendance declines in the mid single digits and paid week increases in the low single digits. On an as-reported basis we are expecting attendance declines in the low double digits and paid weeks declines in the low single digits.
Moving on to Weightwatchers.com, after facing somewhat tough comps in Q2, the WeightWatchers.com business saw some strengthening in its growth trends in the third quarter. Internet revenues were up 4% on an as-reported basis and up 7% on a currency adjusted basis. Paid weeks were up 9% and end of period active subscribers were up 9%.
Trends in the U.S. Weight Watchers Online business improved with the 450 basis point increase in signup volume growth in the third quarter of 2009 versus prior as compared to the second quarter of 2009 versus prior. After passing a period of tough comparables in July, growth rates in August and September returned to higher levels. Like NACO, WeightWatchers.com in the U.S. also offered a free month promotion in September.
The effect was not as significant as the impact we observed in NACO. Now having the benefit of the earlier mentioned promotion market research, we believe there are much more impactful and efficient promotional offers that can provide higher levels of boost to this growth vehicle. As has been the case during Q2, we saw continued improvements in retention for Weight Watchers Online in the U.S.
We launched an iPhone application for our online and monthly pass subscribers in late September. Early feedback has been fantastic. In the first five weeks since launch we have had nearly 200,000 downloads.
The international portion of Weight Watchers Online continues to experience robust growth particularly in the U.K. and Australia. This growth was driven by a combination of effective promotion and marketing campaign integration. For the fourth quarter we are forecasting overall paid week’s growth consistent with Q3 results.
Finally, licensing. While we don’t always allocate significant time in our remarks to discuss our licensing business, I think periodic updates are appropriate and useful. Overall, licensing revenues in the third quarter were down 5.6% on as-reported basis versus the same period last year and down 1.3% on a currency adjusted basis.
Virtually all of the shortfall in licensing revenues was in NACO which was directly impacted by two historically significant deals. In one case we did restructure a contract with a major licensing partner, Applebee’s, and reduced minimum payments. In another case we have seen a significant falloff in revenues from a license partner who recently had an ownership change. Without the impact of these two contracts our licensing business in both the U.S. and globally would have been up 8% on a currency adjusted basis for the third quarter.
In our international licensing business we have seen mixed results. Our U.K. licensing business continues to flourish while our German license range has seen difficult conditions. We will be seeking opportunities to export the capabilities and learning’s from successful markets like the U.S. and U.K. to other markets in our international portfolio.
There is no doubt that this economy has created tougher trading conditions in the grocery business. However, as we continue to push in the development of products that are truly differentiated in a weight management and healthy lifestyle perspective we believe that our brand will continue to thrive and grow well into the future.
Interestingly, increases competitive conditions in grocery have now created a new opportunity for us. We now have a new and vibrant business in providing endorsements for high quality products that carry other company brands. Notable recent examples include General Mills with Progresso Soup and Green Giant side dishes. We are also in active discussions about endorsement arrangements with numerous other major [CPC] companies. The value of our brand and the value of our endorsement are very real and they have demonstrated impact with consumers.
Now I would like to turn the discussion over to Ann who will elaborate further on our Q3 performance.
Thank you David. Good afternoon everyone. First, to recap on an as-reported basis our third quarter 2009 results summarize as follows: Consolidated company revenues of $324.5 million decreased by 8%. Operating income of $101.2 million decreased by 6.1%. Net income was virtually flat to prior, down 0.2% and EPS was up $0.01 to $0.68 versus $0.67 last year.
Foreign currency conversion skewed our operating results when compared to prior year. Extracting the currency impact, our revenues were down 4.7% rather than 8% and our operating income was down 2.7% rather than 6.1% as reported. While the revenue decline was volume related, the global paid week compared to prior year and global attendance widening of 7.4%, as David outlined our third quarter operating performance was an improvement in trends from our second quarter 2009 results.
Net income on a constant currency basis rose 4.5% driven by lower interest expense which was down $4.6 million primarily a combination of lower interest rates and lower debt outstanding. EPS in the quarter excluding the currency impact was $0.71, up 6% from $0.67 in the year-ago quarter.
In my operations overview that follows I will discuss our performance on a currency neutral basis. Our operating income was $101.2 million in the quarter, down 2.7% on a currency adjusted basis versus prior year. Our operating income margin expanded versus prior year, up 60 basis points to 31.2%.
The impact of cost savings initiatives and lower marketing spend more than offset gross margin compression in the meeting business that resulted from lower volumes and price promotions. G&A and marketing were both down as a percentage of revenues.
Now summarizing some of the operational trends that David discussed. In the meeting business, paid weeks declined 3.8% globally in the quarter versus prior. Internationally, paid weeks were strong, up 10.6% reflecting increasing monthly pass penetration in our international markets. NACO meeting paid weeks decreased by 10.6% in the full quarter but the trend improved as the quarter progressed.
Attendance patterns were similarly split. Global attendance declined 7.4% in the quarter with international attendance performing better, down 1.4% on the strength of the U.K. versus a decline of 11.1% in NACO attendance. Global meeting revenues, that is the combination of meeting fees and in-meeting product sales, were $244.4 million in the quarter, a 6.7% decline in constant dollars. Global meeting fees were $191.5 million, a decrease of 7.1% on a constant currency adjusted basis from the prior year period. Global meeting fees per attendee increased by 0.3% in constant dollars.
The promotional pricing for our U.S. monthly pass product, the BOGO, had the impact of reducing meeting fees per attendee which were down 2.2% versus prior in the U.S. This offset the impact of 7% higher average fee per attendee internationally which was driven by increasing acceptance of monthly pass in the international markets.
Third quarter global in-meeting product sales were $52.9 million down 5% in constant currency in total but up 2.6% on a per-attendee basis. The increase was driven by NACO in-meeting product sales per attendee which increased 6.9% on the strength of new product introductions and promotions. Internationally, product sales per attendee declined 3.6% in constant currency driven down by continental Europe’s inventory depletion in advance of its upcoming program innovation launch. Elsewhere internationally product sales per attendee were strong growing 12.8% and partially offsetting the 19.2% decline in continental Europe.
Moving to WeightWatchers.com, third quarter revenues in this business were $49.7 million increased 6.7% over prior year on a constant currency basis on the strength of the international market. Paid weeks grew 8.8% and end of period active online subscribers also increased by 9.3% versus Q3 2008 to 825,000.
Now turning to a review of the performance of our other revenues which include licensing, franchise commissions and revenues from our publications. Other revenues of $22.1 million performed nearly at the prior-year levels, down 0.7% in constant dollars. Franchise commission which totaled $2.9 million in the quarter were down 12.4% reflecting the impact of the weakened U.S. economy.
Our licensing revenue of $16 million in constant currency generally performed well in the quarter. NACO’s underlying growth was 8.1% and international licensing was up 8% versus prior year with the U.K. maintaining strong performance. Licensing in total was down 1.3% versus prior year.
Our consolidated reported gross margin in the third quarter was 54.9%, 20 basis points lower than last year’s third quarter. The effectively flat performance this year was negatively impacted by a combination of lower attendance per meeting and promotional activity but was largely offset by the positive impact of our operational cost savings initiatives and gross margin accretion in WeightWatchers.com.
Q3 marketing expense was $35.8 million, a 10.4% decrease in current dollars from the prior year levels. In constant currency third quarter marketing spend of $36.7 million was 8.1% lower than the prior year level, partially as a result of advertising rate efficiencies. In addition, in continental Europe we shifted marketing from third quarter to fourth quarter in further support of our program innovation.
Marketing as a percent of revenues was 10.9% this year as compared to 11.3% last year. Q3 G&A expenses were $40.9 million, a 12.2% decrease in current dollars from the prior year level. In constant currency G&A expenses decreased by 9.6% from prior year levels and were 70 basis points lower than last year as a percent of revenues at 12.5%.
We gained operating leverage as a result of benefits from our restructuring earlier this year and other cost saving efforts that took hold in the second quarter. As noted on prior calls, 100% of our China joint venture is consolidated into our operating income and our partner [inaudible] grew to 49% share of the operating loss is reflected as non-controlling interest in the line item before net income. The operating loss of the venture was $2.1 million in the quarter, namely a combination of G&A and marketing, as compared to $1.8 million in the third quarter last year.
In summary, our consolidated operating income margin was 31.2% in the quarter as compared to 30.6%, a 60 basis point increase in OI margin was a result of lower marketing and G&A as a percentage of revenues.
Interest expense in the third quarter 2009 was $16.7 million down $4.66 million or 21.9% from Q3 2008 levels. As a result of lower market rates our effective interest rate declined 90 basis points to 4.19% from 5.10% in the third quarter last year.
Our required debt pay down in 2009 is $162.5 million. In the first nine months of this year we have reduced our debt by $172.9 million [sic].
In terms of cash flow we generated $96.3 million in cash from operations in the third quarter before interest payments. After capital expenditures of $5.7 million we had $90.6 million of free cash available to service our capital structure. We made interest payments of $16.3 million, paid our quarterly dividend of $13.5 million and reduced our debt by $55.6 million. Currently we are focusing on using our cash for debt pay down.
We ended the third quarter with $1.475 billion of debt versus $1.648 billion at the end of fiscal 2008. Other than the debt pay down of $172.9 million, fluctuations in the third quarter 2009 balance sheet as compared to the year end 2008 balance sheet primarily reflecting normal seasonality of the business.
Just a final note for those of you who are modeling our business on a quarterly basis. As you look at Q4 keep in mind this year’s Q4 is a normal, 13 week quarter starting on October 4, 2009 and ending on January 2, 2010. This will compare to last year’s quarter which had 14 weeks starting one week earlier on September 28, 2008 and ending on January 3, 2009. The extra week in 2008 which was from September 28 to October 4th added approximately 1.1 million attendances and $21.3 million of revenue in 2008 Q4.
Additionally, as mentioned on our last call the BOGO promotion we ran in NACO and WeightWatchers.com U.S. will dilute Q4 earnings per share by between $0.03 and $0.04.
Now I will turn it back to David.
Thank you Ann. Throughout this year we have taken important steps to address the short-term challenges of this difficult economy. Promotional and value messaging which has allowed us to positively impact near-term enrollment activity as well as to leverage the inherent cost effectiveness of our program versus commercial competitors; increasing retention by more effectively addressing member concerns during call center inquiries and having a more consumer friendly credit card approach, reducing G&A by streamlining processes and aggressively negotiating with vendors, improving alignment of responsibilities in our field management organization.
For example, NACO recently realigned responsibilities between territory managers and trainers in a way that allows us to increase the amount of training time and increase the number of coaching’s provided to each service provider; in other words leaders and [receptionists]. These initiatives, among others, are allowing us to become more efficient and more streamlined while improving service, quality of training and brand positioning.
At the same time we have continued to make significant progress in our longer-term efforts to transform our core meetings business. Today I would like to provide some more specific highlights on our efforts to bring a modern retail experience to our business.
Center 2010. Center 2010 is our effort to complete revamp the look and feel of our centers. The objective of this effort is to; one, improve the functionality of the center in servicing the needs of our members. Two, significantly upgrade the modernity and freshness of our brand; three, create an environment that encourages people walking by the come in, learn more and ultimately enroll.
In July we opened up four pilot centers; two in Atlanta and two in New York. We undertook a quantitative survey to understand member reaction to the new design and the results have already exceeded expectations. We saw significant double digit improvement across key brand equity measures, top two box on a five point scale, including “is a modern, up to date brand” which increased by 19%.
The scores assessing the center itself increased by an even greater degree. That said, we believe we can make these new designs work even harder and the NACO team is now in the process of making further design revisions to address all of the areas for opportunity identified in our research and analysis. The plan is to then further enhance our pilot centers before we begin rollout strategies starting in 2010.
Real Estate. As we have noted on earlier calls and presentations we believe that our location network is far from optimized. Given the impact this difficult economy is having on commercial real estate we are proactively seeking to lower our real estate costs in good existing locations and move to locations with better visibility, foot traffic and convenience.
Working with a well respected, third party analytics firm we are now completing a comprehensive analysis of our full meetings network. We will then transition from this analytical effort into a comprehensive initiative to upgrade the quality of our location network over the next three years. We expect to begin signing new leases in the first half of 2010.
Drop-in Hours. Most of our centers are only open when a meeting is happening and are otherwise closed. This means that members who miss their meeting do not have an opportunity to come in for a quick weigh in. It also means that consumers interested in learning more can only visit the center when it is at its most busy.
As of the fourth quarter this year all of our centers will have at least some times designated as drop-in hours in which people can come to the center to learn more, buy products or simply have a weigh in. The value of this new feature is improved convenience and an environment that is more conducive to enrolling new prospective customers.
We believe that our retail presence can and will work harder for us. By combining better locations with more modern stores and more convenient hours will significantly increase our brand appeal, improve convenience to our members and more effectively [audio breaks loudly].
Historically, Weight Watchers has relied exclusively on word of mouth to attract new enrollment and has not sought to use its more than 825 fixed retail locations to acquire customers. Other retailers such as Starbucks leverage their retail stores to bring in new customers and spend very little on marketing. We believe the right answer for Weight Watchers is somewhere in the middle. By finding the right balance we have an opportunity to substantially increase trial and repeat enrollment while simultaneously shifting consumer perception of the brand, its relevance and its convenience.
With respect to 2009 EPS guidance we are now narrowing the range to $2.58 to $2.63 per fully diluted share before restructuring charges associated with our previously announced initiatives. At this time, operator we would like to take questions.
(Operator Instructions) The first question comes from the line of Jerry Herman – Stifel Nicolaus.
Jerry Herman – Stifel Nicolaus
Let’s start with promotions if we can. I appreciate the feedback on that. You were good enough to quantify the impact of the promotional activity. Is there a way to quantify the volume impact? That is part A of the question. Part B is, you reference the possibility of doing some of that next year in the next diet season. Should we assume you are likely to do that throughout 2010 in the key diet seasons?
The answer to your first question is as I mentioned during my remarks what we saw from a volume perspective, I mentioned two different metrics. One I mentioned is during the 7 weeks in which we are running a promotion we estimate that we saw about a 10-15% improvement on the enrollment trend line. So that was sort of an immediate like-for-like response to the promotional offer. That was the first metric we mentioned. The second metric we mentioned was we started paid week in the beginning of the quarter as running at roughly Minus 10% to minus 12% and we ended the quarter at minus 6% to minus 7% and most of that, if not all of that, was a result of the promotion. So that is the direct impact it had on volumes.
To answer your second question, we ran the BOGO knowing it was going to be a significant promotion and it felt like the right promotion for us to run during a typically slow season. We knew it had a relatively high hurdle rate in terms of overcoming the discount in terms of the amount of lift it would have to provide but we really wanted to get a sense for it because we hadn’t historically done promotions other than free registration. We really wanted to get a sense for how this new kind of promotion could potentially impact our business as well as how we would execute it through the field because it was something different than what our service providers were used to. So it was a significant learning effort for us.
While we were doing it, as I mentioned during the remarks, we were doing some pretty comprehensive market research in which we were testing 50-100 different potential promotional messages to understand which ones could potentially provide the most response to our business in terms of intent to purchase while also understanding the economic impact of each. So we absolutely planned on running new promotions with perhaps new promotion language that you may not have seen before as we get into 2010, it would be our expectation we could do that identifying promotion that would have hopefully, and should have, similar effect on volume that we saw with the BOGO promotion but without nearly as much revenue dilution. So that work is still going in terms of planning at the calendar for 2010. We do see that as a growth lever as we go into next year.
Jerry Herman – Stifel Nicolaus
With regard to the U.K. you mentioned promo and continuity type activity. Could you maybe just give a little more detail on that?
When I say continuity marketing what I mean is historically Weight Watchers would have a winter marketing campaign in which they might be on air say for most of the weeks of let’s say January and February. Then we might go dark. In other words, we don’t have any significant above the line marketing, TV, print, whatever, in the period beginning in March going into Easter. Then we might run the spring campaign which may go from Easter five or six weeks depending on the country. Then we would be effectively dark again throughout the course of the summer. Then in September again we would go back on air for say four, six or seven weeks depending on the country. Then we would go dark again throughout the rest of October, a chunk of October and November and then December.
We define continuity marketing as running marketing during traditionally sort of slow times. For example, running marketing in June and July, either print, daytime TV or whatever the case may be. When I say continuity marketing that is what I mean.
So in the particular case of the U.K. what they were doing was they were running advertising during those summer months and they were combining it with some effective promotions that the depth of the discount was not that significant but the consumer response to the language being used was significant. In other words they were promotions that didn’t cost us a lot of money but they drove a very good response rate and that allowed the continuity marketing effectively to work.
So that is basically what the U.K. did. The obviously follow-up question to that is for us to contemplate how that could create opportunities to pursue similar strategies in other countries. That is something currently under evaluation.
Jerry Herman – Stifel Nicolaus
With regard to licensing, I know it is a small piece of revenue but profitable. Can you talk about the pipeline of opportunity there and then maybe the impact on North America with regard to Applebee’s and the change in ownership. Are those more permanent changes at this point?
I think first off in the case of Applebee’s, it is a really one of a kind license. It is not a grocery business obviously. It is a restaurant chain. In the North American business it is the only one of its type. In their case, I don’t want to go into all the details in terms of what drove the decision for both of us other than to say it was a unique set of circumstances that would not apply to our other licenses.
In the case of change of ownership these things happen at times and then there ends up being a difference in terms of how product starts are executed through and everything else. Again it was a significant enough shift in terms of how that particular license was being operated that we saw it impacting in terms of the results of the grocery level. So again, as I mentioned during my remarks, if you pull out those two fairly unique circumstances NACO actually had a fairly solid Q3 in terms of driving licensing growth.
When I talked in the concluding remarks in licensing which I talked about, there is an interesting effect if you take categories that are incredibly competitive that are under significant pressure, such as food, what we have seen is that we could absolutely provide benefit and add value to somebody else’s brand. In this case Progresso, by General Mills, and doing the same thing now for Green Giant. So what is interesting is you can actually have categories in which you have quite a bit of heavy competition in the existence of a Weight Watchers endorsement can actually make the difference in terms of creating differentiation.
That is an example of where we are now seeing growth opportunities and as I mentioned we are in active discussions on a number of specific opportunities. What I also don’t want to lose sight of is there is a tremendous amount of white space. There is a lot of categories out there, a lot of eating occasions that really haven’t been tapped into in terms of weight management and healthy weight loss opportunities. We see similar opportunities internationally as well. The international licensing business is effectively the same size as the U.S. licensing business. If I look at the U.K., their grocery trade has been under terrific competitive pressure with each other yet we have still been doing incredibly well partially because we have a terrific range of products that are differentiated and are continuing to perform well and I think there are a lot of tactics and approach that have been taken in the U.K. by way of example and there is no reason why they can’t be replicated more fully in other countries that have maybe lagged its performance somewhat.
So while we do recognize that in some respects, particularly in this economy, the grocery trade has been undergoing changes, we see our brand and our approach and our differentiation is holding up even through tough times and further than that it has been interesting that particularly on the competitive front we have seen it open up new growth opportunities that we hadn’t even contemplated before.
The next question comes from the line of Olivia Tong – Bank of America/Merrill Lynch.
Olivia Tong – Bank of America/Merrill Lynch
I want to talk a little bit about NACO. It sounds like the BOGO promotion is working as you had expected and maybe a little bit better. So with the declines accelerating as the quarter progressed. I am kind of wondering if you have a full quarter of it in Q4 as opposed to just September in Q3 you would expect attendance to decline by the same amount on an organic basis in Q4 as you did in Q3? It sounded like it got a lot better as the quarter progressed.
I think the way I would suggest more tracking volumes if you are trying to understand the impact of that promotion is to focus on paid weeks, not attendances. What you have, attendances can get increasingly confusing to follow because attendances are a function of the installed base of monthly pass subscribers. So depending on what the average tenure is of different people within the monthly pass base at any given point in time that can have an influence on the attendance patterns.
If you want to look at something that is most directly tracking behind the enrollment patterns it is going to be paid weeks because that is simply going to be a much more direct reflection of the relative size of the membership base, if you will. So that is why if you look at NACO exactly to your point, the BOGO promotion did work well in terms of driving incremental volume and enrollments and also in terms of increased in monthly pass penetration which is why we were guiding to low single digits per paid weeks in Q4 which would be a significant improvement on what we had seen in Q3.
So in that sense we are absolutely expecting volume improvement in the fourth quarter in NACO.
Olivia Tong – Bank of America/Merrill Lynch
The other thing, it sounds like you have the promotion going on in NACO. It looks like you are doing a little more promo in the U.K. as well. What does this mean in terms of the marketing expense that hits the SG&A line going forward?
What is interesting about the work that is being done in the U.K. this year is that they have been able to affect a lot of changes and improvements they have made without substantially shifting their total marketing expense. I attribute that to them doing, among other things, a really good job of media planning and optimizing around media vehicles. What I would also say is we tried continuity in the past in other markets, in other words marketing during seasonally low periods or dark marketing periods, and they haven’t historically worked well. I think what we recognize is that continuity marketing really is most effective when combined with a strong promotion.
So in other words the marketing is applied against it is marketing that can easily pay for itself on a constant enrollment basis. So what I don’t want to do is spend too much time forecasting what we are going to be doing in 2010 because historically that is a conversation we reserve when we are discussing our Q4 results next year. I don’t have any reason on the basis of the work we are doing with promotion or anything else to believe there is going to be any substantial change in terms of the economics around marketing as a percentage of revenue.
The next question comes from the line of Analyst for Gregory Badishkanian – Citi.
Analyst for Gregory Badishkanian – Citi
I think on the last call you talked about completing some up front network ad buy in September. Did that happen and how did those rates compare to last year? Also, what about outside the U.S. for ad size?
As you probably from reading the newspapers most people have completed the negotiations around the up front. What I would suggest is the types of trends that are generally being portrayed about the industry apply to Weight Watchers as well. I think at this point I don’t want to talk about the specifics of the shift we are seeing in terms of media dollars but I think what you are generally seeing in terms of the upfront purchase negotiations that have been completed is there has been some improvement in terms of cost per GRP. So rates have gone down somewhat.
Analyst for Gregory Badishkanian – Citi
Regarding the new retail format, I think you mentioned you saw some double digit increases in pilot locations. Did you see changes to the other metrics like retention or maybe penetration of those markets?
Actually what I referenced was we saw double digit increases in terms of brand equity measures. I didn’t speak to volume trends. I think the problem, when you only have four pilots it has been our experience that you really need to be really careful in terms of trying to interpret volume trends. Our objective with these pilots is to particularly understand functionality for our existing members as well as overall impressions with respect to the brand. What I would say is the kinds of shifts we were getting in people’s perceptions of the brand in terms of particularly do they think Weight Watchers as a whole as a modern and contemporary brand. The top two box scores increased by 19%. I cannot imagine a single other thing we would do in marketing that would have a similar impact.
So I think everything we have seen in terms of member reactions to the new designs has been absolutely fantastic and I am particularly heartened by the fact that those designs aren’t even nearly as good as they are going to be by the time the team is done with them. There is a lot of other opportunities we are currently going after. Ultimately we have an opportunity when we are in locations that are getting good food traffic that have stores that draw people in, that encourage people to come in and ask questions, learn more and get more comfortable and that we believe is going to represent a significant shift in terms of our ability to enroll people. In terms of your question in terms of measuring retention it is way too small a sample size and it is way too short a period of time to come to a conclusion on that right now.
Analyst for Gregory Badishkanian – Citi
Would you expect any significant incremental cost for this in 2010 as you roll this out further?
What I would ask is that as we continue to get more specific learning’s and as we go into 2010 and as we start to come to the investment community with more specific plans for what a rollout might look like then I would use that as an opportunity to talk about the specifics around the capital required and everything else. Suffice it to say we believe in pursuing such a program it would be capital that would very easily return on its own investment in terms of long-term growth contribution to the business.
The next question comes from the line of Ken Goldman – JP Morgan.
Ken Goldman – JP Morgan
I know you can’t give guidance yet on 2010 but you may have addressed some of these. I had to hop off for a second. Looking ahead in general, you get a little bit of a tailwind from currency. You get the $0.04 benefit from the BOGO. Your comps are easier next year. You are doing a store realignment. Your marketing plan will be better aligned with the economic realities, which was something you weren’t unfortunately be able to do last year necessarily. What am I missing in a sense that I am looking ahead to 2010 and thinking boy there are some nice tailwinds you will have going into that year and if all things go as planned, which they never do of course, it could be a fairly solid year?
I guess the best way to answer your question is of course I am incredibly bullish on the long-term growth prospects of the business. So I share your enthusiasm. What I would say is this. A lot of the initiatives I was talking about, for example the real estate, store upgrades, open hours and things like that, as you probably heard me describe think of that it is going to at minimum take us about three years to turn over our real estate portfolio. So that is not something we get all the benefits from in the first half of 2010. We look at that as kind of a long-term transformation of kind of our core meetings business, or at least the retail aspect of it.
There are certainly a lot of other things we have been working on that we haven’t been talking about that we also think are going to accrue significant benefit to sort of our core operating. That is all designed to really put the core business on the kind of long-term same store growth trend as it deserves to be in.
In terms of near-term opportunities and some of the things we described certainly there are levers we are eager to pull as we go into 2010 but again I would like to continue to be circumspect. Among other things, I don’t know exactly what is going to happen with the economy in 2010. I think there is reason to believe that the consumer psychology if nothing else are going to be better but at the same time spending dynamics it is difficult to see how consumer spending dynamics are going to shift given what is happening with unemployment, issues with credit card holdings and everything else. I think it still pays for us to be circumspect about how we think about next year. So in other words to continue sort of a posture of planning conservatively while thinking more aggressively about long-term growth.
The next question comes from the line of Michael Binetti – UBS.
Michael Binetti – UBS
I just wanted to see if you could talk a little bit about the cost savings initiatives you talked about in the script. In particular I want to make sure I understand the changes you referenced related to the training functions for the leaders in the meetings business. I think you actually reduced the actual number of your employees that train your meeting leaders but I think you mentioned the training time of leaders would actually increase. Increase. I just want to see if you can help me make sure that I understand how the training of leaders is changing. Then I have a follow-up.
Absolutely. What we basically did was we increased the number of territories. We historically had two roles. We had trainers and we had territory managers. What we did was we effectively increased the number of trainers and reduced their span of control. Then what we typically would have is a situation in which trainer and TM at the same time would go in and give the same coaching for the same leader. So in other words there was duplication of effort. So what we did was we basically said we want our trainers focused on providing classroom training for our service providers which would be sessions such as basic leader skills and things like that. Training of our territory managers to make them more effective at providing the coaching and providing coaching for our service providers.
So when we work through all the math what it effectively allowed us to do was to increase the number of coaching’s we provided and then we are also doing a number of things in addition to having more coaching is going to both improve the quality of the training provided as well as other types of trainings. We will be providing online trainings and other things like that which are going to further supplement. So interestingly enough just by being smarter about how we did things we are going to actually have what we believe is going to be a much stronger training outcome in 2010 than we have ever had before.
Michael Binetti – UBS
Let me ask a quick follow-up. I was wondering if you could talk about trends in the at-work business and whether you saw that business slow or accelerate in the quarter?
In general at-work has been under a little bit of pressure as well during this year just because employers, certainly we have seen it in lots of different places and I’m sure you have seen it in lots of different companies in your own universe, that major companies have not been shy about looking for opportunities to cut back on expense. So on the margin we have seen a little bit of pressure in the at-work business. Not any worse than what we have seen in the traditional business.
I think what is interesting is that one of the things that is becoming more and more clear is the healthcare debate is continuing to heat up obviously. There is increasing frustration by a lot of people that more has to be done in terms of reducing long-term health costs and what that is beginning to do is shine a much brighter light on the impact of obesity and lifestyle habits on healthcare costs. That is particularly realized by large, self-employed companies that provide large self-employed insurance plans. I would expect that companies probably will look to adopt more aggressive stances in terms of providing benefits around wellness and lifestyle as we go into next year. At the same time the NACO team has been working very hard to do some improvement and realignment with at-work selling capability.
We now have a terrifically talented woman who is running network selling for us and she is working to find ways and identify ways for us to be much more effective in outbound selling which we believe is going to create an opportunity to make at-work a significant nearing growth opportunity as we go into next year. Finally, one thing we have seen really benefit the at-work business similar to our traditional business is just being very smart about offering meaningful promotions for us to get that last 1-2 people necessary for us to get an at-work meeting set as well as providing incentives for people to re-up at-work meetings. We are getting some great learning’s about that. So I feel very good as we go into next year we are actually going to have a very good tactical plan that is going to allow us to drive growth in our at-work business.
Thank you. There are no more questions. I would like to return the meeting over to management.
Thank you for joining us today. I look forward to speaking with you again at our next quarterly earnings release. Thanks.
Thank you. The conference has now ended. Please disconnect your lines at this time. Thank you for your participation.
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