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USANAHealth Sciences, Inc. (NYSE:USNA)

Q3 2007Earnings Call

October 17, 2007, 11:00 a.m. ET

Executives

DaveWentz – President

GilFuller – Executive Vice President and CFO

RileyTimmer - Investor Relations

Analysts

SimeonGutman - Goldman Sachs

Bill Leach- Neuberger Berman

Tim Ramey -D.A. Davidson

RommelDionisio - Wedbush Morgan

Mimi Noel -Sidoti & Company

StevenMartin - Slater Capital Management

David Block- Block Capital

Amy Vinson- Avondale Partners

CraigLeighton - Lord Abbett

Operator

Welcome to the USANA Health Sciences thirdquarter earnings conference call.  I wouldnow like to turn the conference over to Riley Timmer. Please go ahead, sir.

Riley Timmer

Thank you, Mary.  Good morning everyone.  We appreciate you joining us this morning toreview our third quarter results.  As areminder, today's conference call is being broadcast live via webcast and canbe accessed directly from our website, at www.usanahealthsciences.com.  Shortly following this call, a replay will beavailable on our website.

Before we begin and as a reminder, duringthe course of this conference call, management will make forward-lookingstatements regarding future events or the future financial performance of ourcompany.  Those statements involve risksand uncertainties that could cause actual results to differ, perhaps materially,from the results projected in such forward-looking statements.  We caution you that these statements should beconsidered in conjunction with the disclosures, including specific risk factorsand financial data contained in our most recent filings with the SEC.  Also, during the course of this call,management will discuss non-GAAP information.  We provide non-GAAP measures to assistinvestors in understanding our operating performance.

I will now turn the call over to GilFuller, Executive Vice President and CFO.

Gil Fuller

Thanks, Riley, and goodmorning everyone.  I am pleased thismorning to be joined by Dave Wentz, our President, who you will hear fromshortly.  This morning, I plan to updateyou on the financial results we achieved in the third quarter, talk about ourguidance for the fourth quarter of 2007, and give you our initial forecast for2008.

Before I go into myprepared remarks on our financial results, I will touch briefly on the recentengagement of our new independent auditor, PricewaterhouseCoopers; and thefiling of our amended Form 10-Q for the second quarter.  As most of you are aware, on September 5, weengaged PWC, one of the Big Four accounting firms as our independent auditors.  Immediately following the engagement, PWCbegan their review of our second quarter financial statements.

We were then pleased tofile, on October 10, our amended Form 10-Q, which included the necessaryauditor review and reflected no changes to our previously reported net sales,net income, earnings per share, or any balance sheet line item for the secondquarter.  We now look forward to movingahead and focusing the majority of our efforts on growing and expanding ourbusiness.

Another item that Iwould like to clarify is the sale of our third-party contract manufacturingbusiness in August.  I believe it isimportant to point out that we classified the sale of that business as a discontinuedoperation as reported in our Form 10-Q for the second quarter; and we haveadjusted our historical financial periods accordingly.  As a reminder, our third-party contractmanufacturing business generated about $8 million to $10 million in annualrevenue, which is no longer included in our historical net sales, but isincluded as part of discontinued operations.  We do, however, continue to manufacture andproduce our Sensé skin and personal care products at our facility in Draper, Utah.

Another recentdevelopment was the favorable ruling received just yesterday afternoon fromNASDAQ regarding the previously announced deficiency notice we received, whenour 10-Q for the second quarter was filed without the required independentreview.  The company requested a hearingregarding this deficiency, and the hearing was held on September 20.  The company was advised by letter yesterdaythat the panel had determined that the company had regained compliance with thecontinued listing requirements of the NASDAQ stock market.  According to the letter received from theOffice of Chief Counsel for NASDAQ in support of this decision, the panel notedthat the company's audit committee had undertaken and completed aninvestigation of the allegations made by distractors and found no merit tothose allegations.

In addition, thecompany's new auditor had undertaken a thorough acceptance process beforetaking on the company as a new client and was able to complete its reviewprocess for the June 30 Form 10-Q more quickly than expected.

Finally, the panelconcluded that nothing revealed at the hearing raised additional doubts for thepanel about the integrity of management, the company's business or itsregulatory compliance process.  Obviously,we are very pleased with this result and that our listing on NASDAQ willcontinue.

Also by way of note, wehave no new specific information concerning the SEC informal inquiry.  However, we are in regular communication withthe SEC and we will continue to cooperate fully, if further information isrequested.

And now to the results. Net sales in the third quarter were$106.2 million, an increase of 15.5% compared with $92 million reported in thethird quarter of 2006.  Net sales in thethird quarter were in line with our guidance of $105 million to $107 million.  The strengthening of foreign currencies added$3 million in the third quarter on a year-over-year comparison.  Excluding this impact from currencyfluctuations, sales would have increased by 12.1%.

Net sales growth thisquarter was primarily driven by a 24.1% increase in the number of active Associatesand a 4% increase in the number of preferred customers, compared with the thirdquarter of last year.  Our monthly Autoshiprate in the third quarter represented 52% of our total product sales.  This number is up 200 basis points from lastquarter.

Earnings per share fromcontaining operations were $0.70 in the third quarter and exceeded the high endof our guidance range of $0.65 to $0.67.  This is an increase of 25% compared with $0.56per share from the continuing operations reported in the third quarter of 2006.

Our effective tax ratein the third quarter was 31.4%, which is significantly lower than the 37% taxrate we were expecting.  This reduced taxrate increased earnings per share by approximately $0.05 in the third quarter.

Let us now go through anumber of other items on the earnings statement that had a material impact onour earnings per share during the quarter. First, there was just over $700,000 of legal, PR and other professionalservices or direct expenses related to USANA's defending against falseallegations that many of you are aware have been made against our company.  The impact of these expenses on earnings pershare is at least $0.03.

Next, and as Imentioned above, the lower than anticipated effective tax rate increasedearnings per share by $0.05 in the quarter.

And finally, due tocapital expenditures related to our facilities expansion on several of ourmarkets and the aggressive share buybacks, we have accumulated some debt.  Accordingly, we reported $270,000 in otherexpense, primarily due to interest expense, compared with $65,000 in otherincome reported in the third quarter of 2006.  This $335,000 unfavorable swing reduced EPS byabout $0.02.

Let us now go throughthe major line items on the third quarter statement of earnings.  Our gross margins in the third quarter of 2007improved as a percentage of net sales to 79.3%, compared with 78% in the thirdquarter of 2006.  This 130-basis-pointimprovement can be attributed to the sale of our third-party contractmanufacturing business, a reduced impact from success from home magazine salesfrom one year ago, and improved production and procurement efficiencies,including lower freight costs.

Looking ahead to thefourth quarter, we believe that our consolidated gross profit margin will beapproximately the same relative percent of sales as the third quarter of thisyear.  Associate incentive expense in thethird quarter of 2007 was 40.5% of sales compared with 40.2% in the thirdquarter of last year.  We expect that Associateincentive expense will approximate 40% of sales in the fourth quarter of 2007.

Selling, general andadministrative expenses increased relative to net sales to 21.7% during thethird quarter of 2007, compared with 19.4% in the third quarter of the prioryear.  The year-over-year increase inSG&A was due primarily to the following factors: an increase in spending tosupport growing sales and an increased customer base, which included theexpansion of several of our international offices; wage related increasesincluding a strategic initiative to add bench strength in certain areas of ourstaffing; increased expenses relating to our athletic sponsorships particularlyour agreement with the Women's Tennis Association; and higher relative expensesrelating to FAS 123(NYSE:R).

In addition, and as Imentioned earlier, it is important that I point out to you this morning thatduring the third quarter, we incurred about $700,000 of legal and otherprofessional services expenses related to false allegations.

We believe that we aremaking good progress on these matters and are encouraged by what we currentlysee and how we understand it.  We believeSG&A expense in the fourth quarter of 2007 as a percent of our net saleswill be flat compared to the third quarter of 2007.

Now in regards to thebalance sheet, cash at the end of the third quarter was $11.7 million, comparedwith $27 million at year-end 2006.  Inventoriesat the end of the third quarter were $21 million, compared with $22.5 millionat year-end 2006.  Additionally, we endedthe third quarter of 2007 with a balance of $34.6 million on our line ofcredit.

Okay, now to update youon our share buyback program.  During thethird quarter, we purchased an additional 180,000 shares in the open market foran investment of $6.6 million.  Year todate, we have purchased approximately 1.9 million shares for a total investmentof about $80 million.  Currently, we haveabout $50.3 million available under our share repurchase authorization.

Now before I turn thetime over to Dave, I will comment on our future guidance.  Yesterday in our press release, we providedfourth quarter guidance and our initial look at full year 2008.  Based on our current business trends, webelieve that net sales for the fourth quarter of 2007 will be between $108million and $110 million, a growth rate of 10% to 12% compared with the prioryear fourth quarter.

Earnings per share areexpected to range between $0.66 and $0.68 for the fourth quarter of 2007.  Accordingly for the full year 2007, excludingrevenues now from discontinued third-party contract manufacturing businesses,our sales are expected to be between $422 million and $424 million, with earningsper share between $2.66 and $2.68.

Additionally with ourfirst look at full year 2008, we believe that both net sales and earnings pershare will grow by about 10% to 13% compared with the full year 2007. Theseearnings per share estimates assume an effective tax rate of approximately 36%for the fourth quarter of 2007 and for the full year 2008.

We are confident thatour business model remains very strong and the most effective and transparentin the industry.  We stand committed tooffering the finest nutritional products and home-based business opportunitiesin the industry. We will continue to do all that we can to keep our Associatesactive and engaged in their USANA business.

With that, I will nowturn the time over to Dave to comment on our operating activities.

Dave Wentz

Thank you, Gil.  Well, we achieved another strong quarter forboth sales and earnings per share.  Thethird quarter was highlighted by a successful international convention, whichwas held here in Salt Lake City.  We hadrecord attendance once again at this year's convention and our new product andsales tool launches included the following: our reformulation of our BiOmega fishoil supplement, which now eliminates the fishy aftertaste with a lemon taste;the addition of Creme Masque to our Sensé Skin Care line;.we updated our numberone selling sales tool, the Health & Freedom newspaper; and we launchedMyHealthPak.  It is an exciting newproduct concept, which I will talk about in more detail later.

Now let us look at ourresults on a regional level.  Net salesin North America, our most mature region, increased by 10.1%compared with the third quarter of 2006.  Each of our markets in this region increasedon a year-over-year basis.  Mexico led the way and was up again this quarter,increasing 19.3% over last year; and the US sales were up 7.7% over the third quarter oflast year; while sales in Canada were up 13.4% in the quarter.  The number of active Associates in North America increased by 16.7% to 105,000 compared with90,000 in the third quarter of 2006.

While there is not muchseasonality in our business, the third quarter of each year is historically oursoftest quarter for sales.  This is dueto many of our Associate leaders taking vacations during the summer months inthe northern hemisphere, which takes their focus off building the business.  We also typically see a slowdown leading up toour annual international convention, which is due to the anticipation of newproduct launches that are introduced there.

On a consecutivequarter basis, sales were softer in the US than we had anticipated.  We believe this softness is related to ourinternational convention sales coming in lower than what we expected.  At this year's convention, our major productlaunch was something I have been looking forward to rolling out for a number ofyears.  This is a fully customizablesupplement pack, which we call MyHealthPak.  Our customers in the US and Canada now havethe ability to create their own personalized selection of USANA's line ofnutritional supplements in daily AM and PM packs, making it convenient to getthe nutrition they need every day.

The reaction toMyHealthPak was very positive.  However,we found that many of our associates did not purchase this product at the conventionbut appear to be waiting for their monthly supplies of supplements to beconsumed before they make their initial order.  Now that we are down the learning curve awaywith this new product concept, we will begin our marketing push on thisproduct, which we believe will increase the sales of MyHealthPak.

Big picture-wise, we donot want to lose sight of the fact that MyHealthPak has tremendous long-termpotential.  We are optimistic thisproduct will help increase consistent consumption and will be a strongrecruiting tool for our associates.  MyHealthPak is a great way to introduce a newprospect to USANA.  Remember, thisproduct is uniquely customized to your specific needs.

Turning now to our AsiaPacific region, net sales in this region for the third quarter increased by25.7% over the third quarter of last year.  Excluding Malaysia, our mature Asia Pacific markets were up 10.1%.  The year-over-year increase in this regioncan be attributed to strong growth in Hong Kong, Australia, New Zealand, and the addition of the Malaysia market.  Thenumber of active Associates in the Asia Pacific region increased 36.4% to75,000 compared with 55,000 in the third quarter of last year.

As was mentioned in thepress release, the number of Associates in the Malaysia market reached a total of 12,000 in the thirdquarter.  We have been pleased with ourfirst three quarters of operations in Malaysia, which opened in early January of this year.  We have had significant interest from a numberof our large international Associate leaders.

Our global seamless compensationplan allows leaders from other markets to build organizations in a new marketsuch as Malaysia.  Thismarket is geographically close to a large number of existing markets and theability to work in both English and Chinese has opened this market up to manyof our leaders.

On a side note, we arevery excited about our relationship with the WTA.  We currently have seven of the top ten playerstaking our supplements, which is quite an accomplishment when you think aboutthe fact that the majority of these players were afraid to take supplementsprior.  So the fact that we are up toseven of the top ten is quite an amazing feat and we are excited about thefuture of that relationship.

Before I conclude mycomments, I want to give you some context around the 2008 guidance that wasannounced in our press release yesterday.  Our focus for 2008 will be on our existing 13markets.  We believe these markets holdsignificant growth opportunities for our business, so we are not planning toopen a new market during 2008.

USANA was founded onscience based, health products and we will continue to look for innovative waysto deliver and consume our products while holding to our core values.

With that, I will nowturn the call over to the operator to facilitate the Q&A.

Questions and Answers

Operator

Our first questioncomes from Simeon Gutman with Goldman Sachs.  Please go ahead.

Simeon Gutman - Goldman Sachs

Hi guys.  First for Gil, with respect to the additionalexpenses that you guys were incurring with regard to the bench strengthenhancements.  How proactive are thoseinvestments?  Or is it partially aresponse to some of the variability of sales that you saw in some regions?

Gil Fuller

Well, I think it isprimarily a function of we have been operating so lean that we have felt likethat to continue the growth track that we have been on, that we clearly neededto bring in some additional help.  So itwas a function of recognizing that we needed to bring on people to help uscontinue to push.  We are very pleasedwith where we are in that process. We are not completely done with that yet butvery pleased with the progress thus far.

Simeon Gutman - Goldman Sachs

So incrementally, therecould be some more investments on top of sort of the new base that you haveimplemented, I guess, beginning in the third quarter?

Gil Fuller

Yes, I think that is anaccurate statement.  That is one reasonin our guidance going forward that we have felt that it was wise of us to saythat our SG&A expense would be steady as opposed to showing leverage goingforward.  Because we think we still havesome additional things that we need to accomplish there.  Otherwise you would probably see some leveragein there. So once we get that new base established, then we hopefully can getback to some leverage in the future.

Simeon Gutman - Goldman Sachs

Got it.  And then just to follow up on the HealthPak.  I was going to ask how it has resonated withassociates and customers, and I guess you have partially answered it.  But is it just they are not taking it up thatquickly or they had a current supply and therefore they are waiting till theircurrent supply of their existing HealthPak was finished until they bought thenew one?  Or is there a lot of educationinvolved and have you not gotten to even the first learning yet there?

Dave Wentz

I think it is acombination of both.  Definitely, therewere not any new products introduced.  Itis just a new packing system for existing products.  So if they had bottles of the old products athome, to buy more on top of that above and beyond what they buy each month wasto kind of put the other bottles on the shelf for a while; and that did notmake a lot of sense, I think, for them.

And plus it is alearning curve. This is a whole new way of looking at supplementation in such acustomizable way.  Many people aregetting comfortable with our, the website is beautiful and allows them to dragand drop pills into their own customized pack.  They are starting to learn how that all worksand how to make that work in their business.

The excitement was hugeat the convention.  But they realizedthere was no urgency to buy.  It is justsomething that becomes a monthly purchase.  I think we will have them consuming moreproducts because they will not have to go through the time to open differentbottles and sort pills.  It is all rightthere for them and it is wonderful for travel.  I have been using it for a few months now andthe convenience with travel just is amazing.

Simeon Gutman - Goldman Sachs

What is the learningcurve?  Is it a month?  Is it at two months?  Or are you guys looking out maybe by sixmonths, and at that point you will have your Associate base shifted over?

Dave Wentz

Well, those who willshift, I mean this is a customizable product.  So it is priced higher than the bulk typeproducts that come in packs.  So we willhave those who feel the customization is worth the money shift over and thosewho want to go for the bulk or the economy, so to speak, will stay with thebottles.  So we should get a naturalselection over time.  But being one ofthe few companies that can customize like this, we think it will be a uniqueselling feature as they go out prospecting.

Gil Fuller

(Voice Overlap) Sorry.  Simeon, let me just throw in one otheraccount. Remember that right now the product is primarily offered in the United States.

Simeon Gutman - Goldman Sachs

Right.

Gil Fuller

The Canadians can buyit on a not for resale basis.  But reallyat this point, it is primarily U.S. opportunity for us.

Simeon Gutman - Goldman Sachs

I do not know if youshared it, but what is the assumption for the conversion rate, at least among U.S. distributors?  I mean, 50% or is it something higher thanthat?

Dave Wentz

I do not think anywherenear 50%.

Simeon Gutman - Goldman Sachs

Okay.

Gil Fuller

We have not officiallycommented on that, Simeon.  I think, theway I have looked at it, it is going to be a transition as opposed to astampede to this kind of thing.  I thinkthat we are going to see a steady progress as we continue to, as they, (VoiceOverlap)

Dave Wentz

Similar to what we sawwhen we announced the HealthPak as we moved from bottles to packs in the firstplace.  This is taking packs to the nextlevel.  We had a slow transition frombottles to packs as they realized the convenience factor.

Simeon Gutman - Goldman Sachs

Got it.  Just one more, if I could, Gil or Dave.  How did the top line progress throughout thequarter?  Was it a steady build or was itactually just steady growth throughout the quarter?

Gil Fuller

It was pretty steady.  We always see some softness as Dave mentionedin his comments about summer time in the northern hemisphere.  We always see that every year.  And also just prior to convention, people backoff a bit just to see what is coming at convention.

But basically it wassteady throughout the quarter with a little pick up after convention and a nicestrong finish.  But I would characterizeit basically as just a steady quarter and a very typical third quarter for us.

Simeon Gutman - Goldman Sachs

Okay. Thanks a lot.

Operator

Thank you. Our nextquestion comes from Bill Leach with Neuberger Berman.  Please go ahead.

Bill Leach - Neuberger Berman

Gil, I have a fewquestions.  Can you tell me what theoption charge was in the quarter and how that compares to last year?  And what your estimate is for the full year?

Gil Fuller

Yes.  Let us see. The option charge for the quarter was $1.55 million.

Bill Leach - Neuberger Berman

That is pre-tax?

Gil Fuller

That is pre-tax.  And it was $1.3 million the quarter before, ayear ago quarter, I should say.

Bill Leach - Neuberger Berman

And what is yourestimate for the full year?

Gil Fuller

Let us see if I havegot that here.  It is about $5.1 millionor so.  I am sorry, $6, about $6 million.

Bill Leach - Neuberger Berman

$6 million?

Gil Fuller

Uh-huh.

Bill Leach - Neuberger Berman

And would you see thatholding steady in 2008?

Gil Fuller

Yes, I would.  It may creep up.  It depends on a number of things, how manyoptions of course that the Board grants and what happens to the share price.  Some of this calculation is a bit esoteric, asyou know anyway.  Remember, it is anon-cash expense item.

Bill Leach - Neuberger Berman

Yes. That is why Iwanted to add it back.

Gil Fuller

Yes, I think if you addthat back, then you get the truer picture of cash, of cash flow.

Bill Leach - Neuberger Berman

And then the legal feesyou mentioned works out to about $0.03 a share after tax.  Should we view that as a non-recurring itemmore or less?  Or are you just operatingat a new level of legal fees going forward?

Gil Fuller

Well, what we haveincluded in our forecast, since we do not know when there is going to be an endto this thing --there will be, we just do not know when—that we have basicallysaid it will be steady going forward for now.  We do not have any better insight than that atthis juncture.

Bill Leach - Neuberger Berman

So it is going tocontinue to cost you $0.03 per quarter?

Gil Fuller

It is going to besomething in that order would be my guess.  I do not know what we could say beyond that atthis point, Bill, that is our guess.  Hopefully,at some point this will come to conclusion.  If we could get the class-action suitdismissed or something, that would certainly be helpful.  But at this point, I think that is a matter ofprudence says that is how we should think about it.

Bill Leach - Neuberger Berman

Okay.  My last question, what is your counter using foryour guidance? Or you assuming a continued reduction in shares or just steadystate with where you are now?

Gil Fuller

We in our numbers thatgenerate our guidance, we are showing very modest share buyback.  That is perhaps a bit conservative.  We certainly have, as I mentioned in myprepared remarks, we have just over 50 million of authorization there.  We certainly have strong cash flow.  So that maybe a conservative element in what wehave said by way of guidance depending on how many shares.

Bill Leach - Neuberger Berman

When you look at themidpoint of your fourth-quarter guidance, it is about I guess a 10% gain.  It looks like you are going to have at least10% of your shares outstanding. So are you being conservative?

Gil Fuller

Well you know, we will,may be conservative.  But you try to dothe best you can in looking at these numbers without overstating things.  But it could be conservative. I certainly hopeit is conservative even as it plays out.

Bill Leach - Neuberger Berman

Okay.  Thanks a lot.

Operator

Your next questioncomes from Theresa MacPherson with D.A. Davidson.  Please go ahead.

Tim Ramey - D.A. Davidson

Hey, it is actually TimRamey sitting at her desk.  My questionrelates to the share repurchase as well.  Gil, is there any kind of negative covenant orpledge on the shareholder's equity account? Do you have to maintain positive shareholder's equity or some minimumlevel of shareholder's equity?

Gil Fuller

No, there is nothing onour loan document that says that.

Tim Ramey - D.A. Davidson

Okay. Would the Boardbe willing to let the shareholder's equity account go negative to buy sharerepurchase or has that ever been discussed?

Gil Fuller

Well, I am thinkingthat that probably would be viewed very cautiously to go negative.  Remember we generate in the order of, when youadd back 123(R), roughly $20 million of cash flow a quarter.  So I do not think there is any reason; if wegot an opportunity, if there is a spike down on the stock, I think anything ispossible.  But as a general practicalmatter, we probably would not look to do that.  But the cash flow is such that we willcertainly be opportunistic, I would guess.

Tim Ramey - D.A. Davidson

Great.  And the other question is on the WTA Association. I thought that was interesting for Daveto say seven of the top ten players were using the products.  How are you going to be able to get that wordout or leverage that?

Dave Wentz

Well, we are focusing alot of our time and effort with our field talking about the credibility thatthis brings; because these athletes were scared to take supplements.  It was not until USANA came along that theydecided to trust the supplement world.  Andso that lends a lot of credibility as our Associates are out talking about themessage as they are approaching other athletes.  As we get these athletes that people look upto, it makes them confident in taking the product themselves.  So we are just using the WTA to show thecredibility of the product and give more confidence to our field as they talkto people.

Gil Fuller

Tim, one other sideinteresting aspect, to me anyway, is that the WTA sought us out, which is Ithink is a compliment backing up what Dave says about the quality of ourproducts and reputation of our products.

Dave Wentz

They realize thatputting players on the court is how they make money.  When they are injured or unhealthy, they arelosing money.  And so they have reallymade an investment in the health of their players, realizing that that investmentwill lead to the success of their association, which I think is veryforward-looking and very smart thing to do.

Tim Ramey - D.A. Davidson

Great.  And one more quick one on the Autoship numbergoing up.  I guess I had in my head thatit would probably never go up that as you became more international, thosenumbers would, the mix would change and you probably would not.  Why would it go up, what happened to make itgo up?

Gil Fuller

Tim, one of the thingsthat we try to do sometimes more successful than others is create incentivesfor people to be on Autoship.  Justlooking at it by country here, it looks like we had the U.S. go up a couple hundred basis points in thequarter versus on a consecutive basis for the second quarter.  That was what drove, since it is the biggestmarket that we have, that was the thing that seemed to drive our overall numberup nicely.  So we are always looking forways to give folks a reason to have their products on Autoship.  It helps compliance.  It is a great, that is healthy, likely to keeptaking their products.  Also of course, itis a great cash flow thing for us and also gives us some visibility as to whatis coming.

Tim Ramey - D.A. Davidson

Terrific, thanks.

Operator

Your next questioncomes from Rommel Dionisio with Wedbush Morgan.  Please go ahead.

Rommel Dionisio - Wedbush Morgan

Good morning, I havetwo questions.  First just one of yoursmaller markets, but just with regards to Singapore, there is a 20% decline in the average active Associates. I know you guys have talked about howsome of those folks have shifted their attention to Malaysia.  Doesthat continue to be the case there?  Isthere some other factor going on in Singapore?

Dave Wentz

Yes, they definitelychase the excitement.  Malaysia is the exciting thing and they realize it is alarger market.  And so Singapore, a lot of Singaporeans have focused almost allof their attention on Malaysia, which is part of the reason that Malaysia is doing so incredibly in its first ninemonths.  So yes, as Malaysia develops its own leaders, the leaders will beable to go back to their markets and spend more time.  But they need to make sure they have theleadership developed in the country before they leave.  Otherwise they will have to go back and rebuildthat leadership.  So I think they arebeing smart by making sure they get Malaysia to a certain level before they move back orfocus back on their existing market.

Rommel Dionisio - Wedbush Morgan

Okay.  Well, they are certainly doing a good job in Malaysia so far.  Justmy second question on a bigger picture. Your guidance for next year, you are looking for 10% to 13% sales andearnings growth.  I mean, this year youhad legal expenses, plus you are going to deploy cash to either buy back sharesor pay down debt next year.  I mean whenI read that, I see flat margins.  Isthere something I am missing in terms of additional expenses that you expect toincur next year?  Or are we just being alittle conservative here with regards to margin assumptions for next year?

Dave Wentz

I think we have definitelyreached a point where we need to do step-up investments.  We have been running very lean.  We were very restricted in our existingbuilding.  Now that we have the abilityto bring out some more resources that we have needed but have held off onbringing aboard, I think we will be able to prepare for the long-term future alot better.  And so we have someinvestments that we need to make.  Webelieve the future.  A lot of thatdepends on technology and so we want to make some more investments intechnology to make sure that we set the example and are one of the premiercompanies with technology to help our Associates be as efficient as possiblenow and in the future.

Rommel Dionisio - Wedbush Morgan

Fair enough. Thanksvery much, Dave.

Operator

Your next questioncomes from Mimi Noel with Sidoti & Company.  Please go ahead.

Mimi Noel - Sidoti & Company

Hi, thank you.  Gil, can you tell me the year-to-date legaland PR expenses pre-tax?

Gil Fuller

Well, related to, Ipresume, Mimi, that you are asking—(Voice Overlap)

Mimi Noel - Sidoti & Company

Oh yes.

Gil Fuller

Those related to allthe distraction?

Mimi Noel - Sidoti & Company

Correct.

Gil Fuller

About $2 millionyear-to-date.  We have been running about$1 million a quarter.  It was a littlemore than $1 million in the first quarter where this happened, our secondquarter, but the first quarter this really happened.  And then just a little under that in the mostrecent quarter, the one we just completed.

Mimi Noel - Sidoti & Company

Okay, okay.  And then also, maybe this is a better questionfor Dave. But I understand the seasonality of the business and the impact ofconvention.  But this is the first time Ihave seen, looks like seven out of your ten major regions generated sequentialsales declines.  Can you provide a littlecommentary on that?

Dave Wentz

Well, we have always, Q2to Q3 is always a tough one.  In thepast, we have just barely had Q3 beat Q2.  We did amazing in Q2.  Q2 was huge.  We did too well in Q2, if you want to look atit that way.

Mimi Noel - Sidoti & Company

All right.

Dave Wentz

I mean we could haveput fewer promotions in Q2 and more of them in Q3 and made it shift. So, (VoiceOverlap)

Mimi Noel - Sidoti & Company

In a sense there mighthave been a borrowing effect, second quarter from September?

Dave Wentz

Borrowing effect as inour Associates--

Mimi Noel - Sidoti & Company

Sales activity.

Dave Wentz

Sales activity,yes.  We did a lot in the second quarter,had an amazing second quarter, jumped big time.  Because of that, they have to take a break andsummer is the time they like to take a break.  So kids are out of school and it is a goodtime to vacation when you have that freedom of lifestyle.  So Q3 is always a tough one.

Gil Fuller

Mimi, let me just throwin two thoughts.  Remember this was oursecond best quarter ever that we just had in sales.  Secondly, just looking at 2006, going from 2Qto Q3 in 2006 in North America, wewere down slightly.  So it is a verycommon thing, as Dave says, that third quarter is always tough.

Mimi Noel - Sidoti & Company

Okay.  Can you give me a couple of points why I mightexpect productivity from your distributors to improve on a go forward?  I have also never seen such a disconnectbetween sales growth and consolidated associate growth.

Dave Wentz

I feel we always have adifference in timing or a delay between the two.  I think the Associate growth is an indicatorof what the future is.  And so we are definitelygoing to invest to make our Associates more efficient going forward. We need tokeep focusing them on bringing new customers to the company.  I am very excited about what our Associategrowth has been in the last little bit and we are going to continue to pushthat.

Gil Fuller

Mimi, again as just asideline on that thought.  If you look atour newest market, Malaysia, just to illustrate the point that Dave made.  And you take the active number of distributorsand divide it into quarterly sales, you get a certain number, like $400 orsomething per quarter per active distributor. Whereas the overall company is closer to 600.  So it takes a while for these new markets tomature and it takes a while for new distributors to get up to speed where theyare really embracing the whole product line.

Mimi Noel - Sidoti & Company

So it might be a shortrun drag on productivity as it matures more efficiency and the productivitygoes back up?

Gil Fuller

That is what we want tosee happen.

Mimi Noel - Sidoti & Company

Great. That is veryhelpful. Thanks, Gil. Thanks, Dave.

Operator

Your next questioncomes from Steven Martin with Slater Capital Management.  Please go ahead.

Steven Martin - Slater Capital Management

Hi guys.  I got on a couple minutes late.  You were already talking about the legalstuff.  Have you learned anything andwhat is the status of your lawsuit against Minkow and the Discovery?  Anything about his backing or his position orI do not know what else?

Second question is canyou comment on the status of your bank loan and some of the language in thatamended second quarter Q about the possibility, potential possibility of it beingin breach?

Dave Wentz

Well, legal-wise, I donot know exactly without Jim Bramble here to guide me.  I am not aware of what I am allowed to sayabout it.  But from a personalstandpoint, I am very excited about the progress we have made so far with theMinkow lawsuit.  We are starting to getsome information and we are excited about where it could take us.  But I do not know what detail I can go into.

Gil Fuller

Steve, I would justchime in here.  We are finding someinteresting things.  But it is probablywise that we do not say too much at this point.  A lot of what is going on right now isprocedural.  Where our deposition isgoing to take place, arguing whether it will be Utah, California, all this kind of thing is going on. But we aremaking progress and we feel good about the progress we are making.

With regards to thebank line, let me comment on that.  Outof an abundance of caution in that second quarter, we did file our financialstatement with the bank loan shown as short-term debt, even though the term ofthe agreement was the loan was not payable until 2011.  Because the Q that we filed, we knew was not acomplete Q, because we did not have a review by an accounting firm based on thetiming of the resignation of our old firm, and so we went ahead that way.

As a matter-of-fact,just yesterday, we got a note back.  Bythe way, we had kept Bank of America informed all along about what was goingon.  The day our prior accountantresigned, we called them and just kept them informed all along.  They never mentioned the word default to us,never.  But we felt that that was thewise way to go.  But just to be clear, werecently asked them about just giving us a statement regarding that particularissue, that the fact that that one Q originally was filed without a review andnow has been filed, whether or not that constituted any kind of default; and readingthis one sentence from the letter that I got yesterday from Bank of Americathat the bank does not consider that reporting failure to have resulted in adefault.  So that one is behind us andover and done.

Steven Martin - Slater Capital Management

So that means you willtake that language out in this current Q?

Gil Fuller

That is correct. And ifyou notice in the current Q, the debt is now classified as long-term.

Steven Martin - Slater Capital Management

Good, thanks a lot.

Gil Fuller

I am sorry, I said,(Voice Overlap)

Steven Martin - Slater Capital Management

Oh, one other—

Gil Fuller

(Voice Overlap)  The press release, Steve, I am sorry.

Steven Martin - Slater Capital Management

Right, I do not havethe Q yet.  Dave, you and your familyhave been buyers of the stock of late.  Canyou comment on to the extent you are willing to, your intention?

Dave Wentz

We saw it as a greatinvestment and so we looked at the opportunity of a good time to buy.

Steven Martin - Slater Capital Management

All right, thank youvery much.

Operator

Next question comesfrom David Block with Block Capital.  Please go ahead.

David Block - Block Capital

I was wondering if allthe negative media that has come out in the last several quarters will at allimpact your ability to get a direct selling license in any of the markets thatyou guys might be prospecting?  And thenI guess separately, are there more hoops that you have to jump through in lightof all the allegations?  Thanks.

Dave Wentz

No, this has not causedany issue.  We are not pursuing anylicenses in any other countries at the moment.  But the countries that we are researching,this would not cause any issue whatsoever in getting those licenses.  So that is not hindering us.  It is purely a strategy to make sure that wecontinue to focus on our existing markets and make sure Malaysia develops and matures before we move onto anyother possibilities.

Gil Fuller

As far as other hoopsgo, Dave, we got one of the top four, perhaps the top accounting firm in theworld now engaged with us.  We haveovercome that little glitch with NASDAQ.  We are hopeful that the SEC informal inquirywill go away soon.  The lawsuits may takea little time to work through.  Those arehard to judge.  But I think one by one weare getting these things behind us in a very successful way thus far.  So we are quite optimistic about it, Dave.

David Block - Block Capital

Okay. Thank you.

Operator

Your next questioncomes from Amy Vinson with Avondale Partners. Please go ahead.

Amy Vinson - Avondale Partners

Hi guys.  Just a couple of quick questions.  Could you give us an update on what you areexpecting capex to look like for fiscal '08?

Gil Fuller

Let us first talk alittle bit about fiscal '07.  Throughnine months, we spent about $19 million and we are thinking that that will beon the order of, I do not know, 22 to 24; depending on when we complete acouple of projects that are underway.  Sothat is what we are thinking of for '07.  In '08, we will be finishing up the tail endof our project here in Salt Lake.  We willalso be completing one fairly large one in Australia.  I amguessing that next year it will be in the order of $15 million.

Just to put that incontext, our typical capex is somewhere around $6 million to $8 million a year,something of that sort.

Amy Vinson - Avondale Partners

Okay.  And quickly, if you are not opening anymarkets in '08, can you just give us an idea how we should think of China over the next couple of years?

Dave Wentz

For us, China is a wait and see, with the laws the way theyare and currently they are throwing more laws and getting stricter.  We see that as a very difficult environment tobe successful.  We are waiting to see ifsome of the other companies crack the code and come up with a way to besuccessful there.  We have not seen a lotof success from our competitors.  We donot want to jump into that situation that has not been successful for others.  So we are going to have things going slowly inthe sidelines, keeping an eye on it and watch it till we believe it is apotentially successful market for us and then we will pursue with great speed.

Amy Vinson - Avondale Partners

Okay. Thanks guys.

Operator

Thank you.  Our next question comes from Craig Leightonwith Lord Abbett. Please go ahead.

Craig Leighton - Lord Abbett

Just a few questions.  I know a lot have already been asked.  But on the new market situation, I guess, ifwe do not have anything in 2008, would you expect a new market in 2009 whetherit would be China or another?

Dave Wentz

That will depend on theenvironment.  We do not know at thistime.  We need to make sure we aregrowing our existing markets before we look to open any new.  And so we need to make sure we are strong.  As that time comes around, we will have anythat we are prepared to sitting in the wings; and if we want to, we willlaunch.  If we feel we need to focus moreon existing markets, then we will hold off.

Craig Leighton - Lord Abbett

Just out of curiosity,how many markets are being researched right now?

Dave Wentz

We have a few beingresearched.

Craig Leighton - Lord Abbett

Okay, a handful. Andthen just switching gears here, on the MyHealthPak, I am wondering if you planto give an update on a quarterly basis or whatever about the number of Associateson MyHealthPak?  Sort of like Autoship.  Would you provide an ongoing continuousprogression there?

Dave Wentz

No, I do not think thatwe would ever focus on the products.  Imean that is just a compilation of all of our optimizers and nutritionals.  So if we see a shift toward nutritionals as asegment then I believe MyHealthPak will probably be a big part of that.  But I do not see us breaking down as weintroduce each new product.

Craig Leighton - Lord Abbett

Okay, I just thoughtbecause there is, I guess, a price differential, it may be helpful.  But nonetheless that is fine.  And then just in terms of Associate incentivecosts for 2008, I am just wondering what you might forecast?  Or if you have any particular promotions thatyou are starting to think about to keep the momentum going?

Dave Wentz

We look to see Associateincentive stay flat with where it is. We are going to. we feel we are at theright ratio, very competitive in the industry and the right ratio for our Associates. So we do not see that moving in eitherdirection.  But we will continue toinvest in other things that help our Associates become more efficient.

Craig Leighton - Lord Abbett

When you say flat, youmean as a proportion of (Voice Overlap)

Gil Fuller

Relative to sales.

Dave Wentz

Yes, a flat percentage.

Craig Leighton - Lord Abbett

Okay, fair enough.  Are there any particular promotions that youfound successful in 2007 that you may reproduce?  It seemed like through the year-to-date period,your sales certainly have been very sensitive to the promotional activity.

Dave Wentz

Yes, we have becomesomewhat sensitive to promotions.  We aregoing to work to smooth out that curve and that is going to be the focus for2008 is to make things less promotion focused and just create that steadysustainable growth.

Craig Leighton - Lord Abbett

Great.  Just lastly, when does the window open forshare repurchase?

Gil Fuller

This Friday.

Craig Leighton - Lord Abbett

Great. Thanks guys.

Operator

Thank you.  Your next question is a follow-up from MimiNoel, Sidoti & Company.  Please goahead.

Mimi Noel - Sidoti & Company

Yes.  Building on Craig's last question, if you arein a position to comment; you were very active in the second quarter, and thenrelatively speaking threw the brakes on in the third quarter.  Can you talk a little bit about the rationale?

Gil Fuller

In the third quarter,remember we had a Form 10-Q that was filed without a review and so we weredeficient in that way, and we felt uncomfortable, and we did not have anaccountant.

Mimi Noel - Sidoti & Company

Sure.

Gil Fuller

So there were a numberof issues there that were going on.  Wefelt like it was better to be quieter.

Mimi Noel - Sidoti & Company

So you were not pushingthe envelope on any debt covenants or any restrictions along those lines?

Gil Fuller

That is true.  It is also a function of our judgment ontiming, cash flows.  We had big capitalprojects that are going on and so forth. Just a judgment call.

Mimi Noel - Sidoti & Company

Okay. That is all I have.Thank you.

Operator

We do have anotherfollow-up coming from the line of Craig Leighton with Lord Abbett.  Please go ahead.

Craig Leighton - Lord Abbett

Sorry, just a realquick question.  If you have the cashfrom operations and I guess you gave us capex, but just the cash from ops forthe quarter, I did not quite get that.

Gil Fuller

Yes.  For the quarter, the cash from ops for thequarter came in at about $12 million.

Craig Leighton - Lord Abbett

Okay.

Gil Fuller

Capex for the quarterwas about $4.8 million.  And for the year,after nine months, about $19 million.

Craig Leighton - Lord Abbett

Okay, terrific.  I appreciate the time.  Thank you.

Operator

Thank you.  And management, there are no furtherquestions.  I will turn it back to youfor closing comments.

Gil Fuller

Thank you for yourquestions.  We continue to remainconfident in the future outlook for USANA and the investment opportunity weprovide. If you do have any remaining questions, please feel free to contact usat investor.relations@us.usana.com, or call Riley Timmer, Executive Director ofFinance at 801-954-7922.  We appreciateyour interest in USANA and thank you for joining us on the call this morning.

Operator

Thank you.  Ladies and gentlemen, that will concludetoday's teleconference. We do thank you again for your participation and atthis time you may disconnect.

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Source: USANA Health Sciences Q3 2007 Earnings Call Transcript

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