Medifast Inc. Q4 2007 Earnings Call Transcript

Apr. 7.08 | About: Medifast, Inc. (MED)

Medifast Inc. (NYSE:MED)

Q4 2007 Earnings Call

March 13, 2008 11:00 am ET

Executives

Brendan Connors - VP of Finance

Michael McDevitt - CEO and CFO

Analysts

Laura Richardson – BB&T

Scott Van Winkle – Canaccord Adams

Harris Berenholz – Carpe Diem Advisors

Operator

Greetings and welcome to the Medifast Incorporated Fourth Quarter 2007 Earnings Conference Call. [Operator Instructions] It is now my pleasure to introduce your host Mr. Brendan Connors, Vice President of Finance for Medifast Incorporated.

Brendan Connors

Good morning, I am Brendan Connors; I am Medifast’s VP of Finance. I am joined today by Michael McDevitt our CEO and CFO. I would like to welcome you to Medifast’s Fourth Quarter and Year End Conference Call for the period ended December 31, 2007. Before we begin I would like to read the following statement.

This release contains forward looking statements within the meaning of the Section 27(a) of the Securities Act of 1933 as amended Section 21(e) of the Securities Exchange Act of 1934 as amended in the Private Securities Litigation Reform Act of 1995. These forward looking statements generally can be identified by use of phrases or terminology such as intend, while the similar words or the negative of such terminology.

Similar descriptions that manifest objective strategies, plans, goals or targets contained herein are also considered forward looking statements. Medifast believes this release should be read in conjunction with all of its filings with the United States Securities and Exchange Commission and cautioned that these forward looking statements are subject to certain events, risks, uncertainties and other factors.

Some of these factors include, among others Medifast’s inability to track and retain independent associates and members. Stability and pricing in print, TV and direct mail marketing initiatives affecting the costs to acquire customers. Increasing competition, litigation, regulatory changes and its planned growth in new domestic and international markets and new channels of distribution.

Although Medifast believes that the expectations, statements and assumptions reflected in these forward looking statements are reasonable it cautions readers to always consider all these risk factors and end it on a cautionary statements carefully in evaluating each forward looking statement in this release, as well as those set forth in its latest annual report on Form 10-K and quarterly report on Form 10-Q and other filings filed with the United States Securities and Exchange Commission including its current reports on Form 8-K. All these forward looking statements contained herein speak only as of the date of this release. Now I’d like to go over the financial results.

The three months ended December 31, 2007, Medifast reported revenue of $19.8 million versus $15.3 million for the same period in 2006, representing an increase of 29%. The direct marketing sales channel accounted for 52% of total revenue, Take Shape for Life 38%, doctors 4% and clinics 6%. As compared to the fourth quarter of 2006 the direct marketing sales channel revenues increased by 6%, Take Shape for Life sales which are fueled by person to person recruiting and support increased by 32% year over year.

The company’s clinic division, which began operating under the Medifast Weight Control Center name in late 2006 increased sales by 32% as compared to the first quarter of 2006 and sales to doctors decreased by 10%. The company has selling, general and administrative expenses of $13.5 million in the fourth quarter of 2007 which was an increase of $2.4 million from the prior year. The largest increases in SG&A expense were attributed to increased advertising, increased take shape life commission expense that directly relates to sales as well as additional salaries.

Advertising expense for Q4 of 2007 was approximately $3.3 million compared to $2.6 million for the same period last year, an increase of $700,000. The fourth quarter, the company ran advertising tests on television, print and online media highlight our celebrities at the beginning stages of their weight loss program. Because of its proven effectiveness the company invested in a new campaign the first quarter of 2008 which showcases the women’s significant weight loss on the Medifast program.

Take Shape Life commission expenses which is directly related to sales growth increased by $900,000 as compared to the fourth quarter of 2006. Salaries and benefits increased by approximately $300,000 as compared with the fourth quarter of 2006. As the company hired additional expertise in critical areas in order to assist in future growth. Salaries are attributed to investing of internal abilities to include capabilities of the company moving forward.

These internal teams are associated with the building of several areas including the additional major enhancements of the company’s website, ERP system, call center, nutrition and R&D. The company believes that the enhancements to these critical business functions will significantly improve its customer attention strategies while positively impacting the lifetime value of consumers in providing clearer future revenue expectations from reoccurring customers.

The fourth quarter of 2007 the company reported net income of $601,000 or $0.05 per basic share, $0.04 per diluted share compared to $252,000 or $0.02 per basic share, $0.02 per diluted share for the fourth quarter of 2006. Fourth quarter of 2007 represented the company’s 33rd consecutive quarter of profitability. The year ended December 31, 2007 Medifast had revenue of $83.8 million representing a 13% increase compared to $74.1 million reported the year ended December 31, 2006.

The company had selling, general and administrative expenses of $56.6 million for the year ended December 31, 2007, which was an increase of $8.1 million from $48.5 million in 2006. As already discussed the majority of the impact resulted from increased advertising spend, increased Take Shape for Life commission’s expense, sales growth and additional personnel expense. The company reported net income of $3.8 million for the year ended December 31, 2007 or $0.30 per basic share, $0.28 per diluted share versus $5.2 million or $0.41 per basic share, $0.38 per diluted share in 2006.

The company’s balance sheet remains strong with stockholders equity of $32.4 million and working capital of $10.4 million at December 31, 2007 compared to $27.9 million and $9.6 million at December 31, 2006 respectively. Now I would like to turn the call over to Medifast’s CEO Michael McDevitt.

Michael McDevitt

The year of 2007 was one focused on building the infrastructure platform that would allow the business to both generate and properly scale its vertically integrated structure with expected future growth while placing the multi-distribution channel structure into a momentous swing for the beginning of weight loss season for the upcoming year of 2008. With the execution of the strategic plan for 2007 there were several highlights that I feel are very visible, especially the year over year revenue growth of 13%.

There were many positive initiatives that will not be fully witnessed until the upcoming year such as the investment and the creation of new and improved products and product lines that were not for sale until early 2008. It is the combination of these two types of initiatives along with the many other achieved throughout 2007 that have placed the company into a strong profitable growth pattern in the fourth quarter of 2007 which we believe will carry into the upcoming year and beyond.

In the fourth quarter of 2007 the company continued to experience the positive revenue growth momentum that was previewed on the third quarter call. While continuing to invest in the needs of the business to both to continue to enhance the trending which we were experiencing throughout the business while improving and refining the effectiveness of our advertising platform. Due to the seasonality experience in the weight loss business during the fourth quarter the company placed a major emphasis on enhancing its re-marketing capabilities.

Over the past years the Medifast current and former customer list has continued to growth. Therefore, focusing on the retention of current and the reactivation of former customers has become an increasing opportunity and a major focal point. The proven efficiencies in these retouch campaigns and proving the age old saying, “It is cheaper to keep a customer than acquire a customer,” causes these initiatives to represent only a small portion of the overall ad spend but a larger one of revenue drivers.

In addition to the retouch campaigns that were utilized in the fourth quarter the company continued to show improvement in advertising efficiency. Throughout the year we significantly improved our capabilities to reach the desired consumer and tract the effectiveness of each dollar spent which has placed the company in an opportune position at the close of 2007. Being very well prepared for increases and direct response profitability as the gun goes off for the weight loss season in January of 2008.

Throughout the year of 2007 the company made significant strategic investments in the business revenue drivers as well as its internal capabilities to best capitalize on and retain future growth. We have spent significant time and materials investing in the future growth capabilities of the Medifast business. This included building internal technical and personnel abilities, strategic alliances with industry leaders and large investments in future advertising campaigns.

We have also invested into several new programs targeted at potentially increasing lifetime value of consumers and driving new revenue. These programs included a newly in-house call center, launch of the consumer ownership program and enhanced customer web platform for ordering and improved version of the My Medifast community and successful launch of several new products and product lines to include new replacements and supplement offerings.

We believe the near future impact of all these investments will push the complete Medifast business into a momentous shift of increasing the Medifast brand awareness leading to strong revenue growth and the multiple distribution channels of Medifast in 2008 and beyond. Our direct sales model Take Shape for Life which represents over 30% of our total income is a position led network of health coaches that provide client support as well as an opportunity for clients to become health coach themselves and become compensated for supporting the additional clients that they introduce and support on the program.

In this model we have found that there is roughly a three month education period from the time and individual becomes a health coach until they begin to produce noticeable revenues. On the third quarter call we spoke on the recruiting rates of health coaches in the months directly following the national convention in July. Being up significantly from the same time of that month’s prior year. We are pleased to say that this increase in recruiting was directly shown in the fourth quarter revenue growth in Take Shape for Life which was up over 30% from the fourth quarter of the prior year.

I believe the recruiting rates to be a very strong indicator of the future revenue growth in this business and throughout 2007 Take Shape for Life experienced 54% year over year growth in health coach recruiting with the majority of that occurring in the later half of the year. Current trending shows this recruiting growth should continue throughout the upcoming year which we believe place Take Shape for Life in a tremendous position to witness strong revenue growth potential in 2008.

To help ensure this trend continues the company will continue to launch many new tools and services to help coach field throughout the year 2008. These additional tools will focus largely on the technology and recognition aspects of the business to include a newly updated website and shopping cart experience for the client and updates back office software platform to assist in the health coach’s management of the business and multiple event and incentive launches to promote the building of health coaches and client acquisition.

We must give thanks to our TSFL leaders for the continued commitment and increasing level of leadership and communication as their business continues to grow in supporting thousands of individuals successfully lose weight and regain their health. Medifast weight control centers which represent approximately 6% of the Medifast overall revenues closed the year operating in 10 locations in Dallas and Orlando. In the year 2007 this division of the company experienced revenue growth of 37% versus the prior year.

This was done with a mixture of improvement in advertising efficiency and a heavy focus on improving the daily operations of the business. The average monthly revenue per clinic also witnessed significant growth in 2007 up over 64% compared to 2006. The estimated $40 billion weight loss and healthy living industry the brick and mortar clinic model has always made up a significant portion of overall sales. Medifast has created its highest level of consumer support through its medically supervised clinic model with the creation of the Medifast weight control centers.

The recent growth in this clinic division has proven that the model is in high demand from a select portion of the weight loss consumers. Therefore, throughout the fourth quarter the company invested in the beginning stages of expansion of this model and to several new locations in existing cities as well as expansion to a new major market. This investment allowed for Medifast Weight Control Centers in the first quarter of 2008 to open three new centers in the Houston market with a fourth to be opened by the close of the first quarter.

Also, on February 18, 2008, the company announced it sold the rights to open four franchisee clinics in the greater Baltimore metropolitan area. The company believes the clinic model will be a major driver of revenues and profits for the Medifast business as it’s continues to expand. Several of the larger clinic operators in the United States has recently shown signs of the financial concerns which has led to the closing of many clinic locations. We believe this is largely due to operational issues per business model and not a reflection on the economic outlook for a clinic model as a whole which we believe has been proven and confirmed through our recent trending in Medifast Weight Control Centers.

We feel that our newly offered Medifast Weight Control Center franchisee model represents a tremendous opportunity for those individuals who have been in the clinic industry, understand its operations and are currently, or feel they may soon be looking for a new weight loss clinic business opportunity and wish to partner with a growing business model that is backed by tremendous amount of history and credibility in the weight loss industry.

Throughout the year of 2007 the company has significantly and proven its ability to understand and improve our key performance metrics. The launch of the enterprise resource planning system gave us the ability to better track our advertising success rates while also better track the success of our consumers once on the program. We were able to take this increased knowledge and awareness and focus on improving the building blocks of the major drivers of the company’s revenue to include the future direct response advertising campaigns, the development of the direct sales team, the expansion of the Medical Clinic model and overall infrastructure enhancements to better support these initiatives.

We have done this through many venues to include bringing on celebrity talent, partner with the industries top direct response production and execution teams, creating the needed infrastructure build out such as auto-ship and an in-house call center, improving recruiting and retention capabilities and investing in clinical studies to include the Johns Hopkins two year diabetes study which was recently published in Diabetes Educator.

We believe that all these initiatives have assisted in increasing the overall consumer awareness of the Medifast brand. These initiatives have successfully created an umbrella of branded support to all of our distribution channels, all of which are experiencing positive trending moving into the weight loss season of January 2008. We believe that the most exciting aspect of our business strategy is the diversified opportunity, our extensive business platform presents.

We are experiencing growth in all aspects of our business and are continuously improving marketing efforts impact all channels of our business. Our platform is a sustainable model that is less impacted by the many fads of the weight loss industry as our clinically proven products and programs continue to yield more effective results with doctor recommended weight loss of two to five pounds per week. Medifast is a safe and simple solution that is growing in popularity for both weight loss as well as long term weight maintenance.

Our extensive choices and consumer support and highly effective programs set Medifast apart from our competition. I believe that a major strength of our diversified business model proves to be beneficial to a powerful subject matter when you discuss a topic that has been on the minds of the American public which is the anticipation of an economic down turn in consumer spending. Our business is by no means recession proof. However, I feel our diverse structure puts us in a very strong position for growth even with an economic down turn.

First, look at our direct sales division of Take Shape for Life. History has shown that direct selling due to potential to earn incremental income benefits an economic down turn. Should inflation or unemployment become more of a significant issue for the consumer the potential to earn incremental income through distribution of a product that appeals to the consumer can offset the potential negative impact on consumer spending.

Also, the Medifast direct business is one that offers a meal replacement product, a food, at an average cost of $8 per day. The purchase and home delivery process of the Medifast meals can require what can be perceived as a large up front cash outlay for two weeks or a month supply at a time as opposed to day by day grocery shopping. However, this simply requires a different mindset on the spending habits, not a larger food expense. The total spend on food with Medifast is less than what most consumer spend on food in the normal day.

I believe that proper marketing can help consumers see that Medifast is not a discretionary purpose but a replacement cost of a daily need. It is due to the strength of our business model our strong medical and clinical history, the many strategic initiative that we have made throughout 2007, the knowledge we have acquired in improving effectiveness of our advertising spend and the positive trending we are witnessing thus far in the first quarter of 2008 that we are estimating full year revenue growth of 8% to 10% and diluted earnings per share growth of 30% to 35% for the year ended December 31, 2008.

We have acquired a tremendous amount of knowledge and experience and have begun apply these tools to our business in a very effective manner that we believe will allow us to acquire consumers cheaper, keep customers longer and continue to grow the Medifast brand, a proven and medically backed healthy weight loss company for the future. Now I would like to open the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question is from the line of Laura Richardson with BB&T.

Laura Richardson – BB&T

My big question for you guys is, the guidance for 2008 seems so different from what you reported in the fourth quarter, the revenue growth is a lot slower and the expense growth also a lot less. Can you explain to me the thinking behind that, why you were thinking you are going to be in the first quarter growing revenue 8% to 10% coming off this great recruiting you just had in Take Shape for Life as one example?

Michael McDevitt

What I’ll do it I’ll paint a picture of what growth we are expecting, the many different distribution channels of Medifast.

Laura Richardson – BB&T

By quarter if it’s different, that would be helpful.

Michael McDevitt

I’ll speak annually out of the gates and we can dive into quarters if you still have additional questions. What we are expecting in the businesses of both Take Shape for Life and Medifast Weight Control Centers, there is roughly 20% to 25% growth year over year. The reason that the overall growth rate is less than that is because these two businesses, although 20% to 25% is substantially higher than the overall 8% to 10% it’s because of the weighted average of their total sales in the business. Take Shape for Life representing 30%, Medifast Weight Control Centers representing roughly 6%.

We look at almost doubling the number of clinics corporately owned inside of the Medifast Weight Control Centers throughout the year. However, these are going to breaking into new markets and they are going to be done throughout the year so you are not going to get the full effects of the benefit. Therefore, as an unknown for us breaking into new markets we are being conservative in the growth rates of Medifast Weight Control Centers to see what that effectiveness of advertising will be in these new markets.

The Medifast direct response business, which is the largest piece of our revenue as we mentioned before we are anticipating an advertising spend that is equal to that was spent this past year, roughly $18.5 to $19 million. Where we are expecting the profit growth to come from largely is the more effective spend on advertising. The metric that we are using most frequently in house to track the effectiveness of our advertising is a revenue to spend number in 2007 that revenue to spend number was 2.5 to 1.

We are anticipating that revenue to spend number increasing to a 2.6 to 1 in 2008 which is a minimal increase in revenue to spend but what that does for the bottom line is roughly $2 million in additional revenue with no additional expenses associated to that expect for the variable expense of cost of goods. If you see a 20% to 25% growth in TSFL and Medifast Weight Control Centers and that $2 million increase in revenue for the direct response on no additional spend that’s how we are coming up with the forecast of 8% to 10% for revenue growth as well as 30% to 35% for bottom line growth.

Laura Richardson – BB&T

It’s all from that advertising?

Michael McDevitt

Yes, it’s a mixture of both the growth of those two other division plus that advertising piece. If you are able to acquired $2 million in revenue with almost no advertising and growth associated to it then what that does for the bottom line is very powerful.

Laura Richardson – BB&T

Why would you not want to increase the ad spend?

Michael McDevitt

Of course if we prove the advertising has been effective we can increase that throughout the year which will require us to update guidance. However, what we saw last year we want to make sure come out of the gates spending wisely and continue to ramp that up only if and when it has proven successful.

Laura Richardson – BB&T

The bottom line guidance, I assume you are expecting proportionate increase in commissions for that Take Shape for Life sales growth and what’s the margin differential between that and direct?

Michael McDevitt

I’m sorry, what was the question.

Laura Richardson – BB&T

On Take Shape for Life, there are commissions; Brendan mentioned that in his SG&A comments.

Michael McDevitt

The commission expense for Take Shape for Life is completely variable. It pays out roughly about 41% to 42% of the total sales inside that division. The margin for that business of Take Shape for Life and the Medifast direct response are equal as long as the cost to acquire and the revenue to spend maintains around that $200 to $225 cost to acquire and that 2.5 to 1 return to spend.

Laura Richardson – BB&T

I still don’t see how this adds up to only 8% to 10% revenue growth off of 29% in the fourth quarter?

Michael McDevitt

I believe if you back into the numbers I think the Take Shape for Life ended the year at roughly about a $27 million year. If you take that on a 20% growth rate, if you take the Medifast direct business which ended the year roughly $45 million in sales and get that to the $46 to $47 number and then the Medifast Weight Control Centers which ended the year roughly around $4.5 to $5 million and knock that up to the 20% revenue growth and keep the doctors business flat which is 5% of sales I believe that comes in to about that $92 million figure for the year which is about that 10% growth rate.

Laura Richardson – BB&T

In terms of the infrastructure, do you think there is anything that needs to be added in 2008?

Michael McDevitt

If you look at capital infrastructure build up for 2007 it was roughly $5 million with the increase in clinics that we are looking to do roughly 10 over the course of the year as well as some additional IT enhancements on the websites you are probably going to see about a 40% decrease in CapEx over the course of the year looking to coming in at the total about $3 million or $3.5 million over 2008. Nowhere near as much, however we are of course going to continue to invest in the business to make it scalable for the growth rates expected.

Laura Richardson – BB&T

How about the people side of infrastructure?

Michael McDevitt

The people side we are happy with where we currently sit, we invested heavily in the top management over the last year and we are starting to see the benefit of those individuals this current year. We are very excited about that number staying roughly flat. When you get into areas of distribution which are, since we operation is integrated that’s a variable expense based upon revenue rates but that is a very small percentage of our overall payroll. Factory employees are included in cost of goods.

Laura Richardson – BB&T

What do you expect the inventory growth to be?

Michael McDevitt

Inventory growth should be stable at what it is in the first quarter. We ramped up in the fourth quarter to prepare ourselves for revenue increases potential that could always occur. We avoid what occurred back in 2006 with that PR hit inside people. That number should be maintaining but actually if anything decreasing throughout the year due to just in time inventory enhancement with our ERP system.

Laura Richardson – BB&T

Inventory could grow less than sales?

Michael McDevitt

Inventory should grow less than sales, yes.

Laura Richardson – BB&T

Roughly how much would you say?

Michael McDevitt

I would say maintain that number that it’s currently at right now as a fixed figure for inventory regardless of what sales is. What we want to do is maintain about a three month supply of product.

Operator

Our next question comes from the line of Scott Van Winkle with Canaccord Adams.

Scott Van Winkle – Canaccord Adams

I want to dive into that direct revenue assumption for next year as well. What’s happened to the lifetime value of a customer? Is it still running over $600?

Michael McDevitt

When I speak to lifetime value I’ll speak on the different models. Inside direct response business I believe we roughly stated it was around $500 in the past and that’s about maintaining. We are seeing that number slightly, maybe turn on the positive side increase with the new auto-ship program but we are still working all the kinks out of the auto-ship program as well as the additional support pieces.

Inside the Take Shape for Life business that lifetime value is well over $700, probably around $725 due to the additional support. What we are really looking to focus on in 2008 is there are two very distinct customers in the Medifast direct response business. Those consumers who simply order one time and opt in for no support whatsoever. Their lifetime value is around the $250 figure. Then there are those consumers who do opt in for the support we offer, whether it be our nutrition team, or my Medifast, any of the above and their lifetime value is roughly $725.

That’s how we come up with the $500, its right in the middle of those two different numbers and the goal is, of course, to allow consumers to understand the different support opportunities we have to allow them to be successful long term.

Scott Van Winkle – Canaccord Adams

What are you seeing in the first quarter, if you said this I apologize, what are you seeing in the first quarter on your ad spend for the direct business, was it slow in January and then building throughout the quarter or how is that playing out thus far?

Michael McDevitt

It’s playing about stable throughout the course of the first quarter. We’ve done a twist in our trending as far as where we put that money. Back in 2007 you saw roughly about a 40% web, 40% print, 20% TV. We are now moving more of our spend to the web to capture those consumers at that point of sale. What we are expecting the first quarter is going to be about 50% web, 35% print, only about 10% TV and about 5% direct response mailing.

Scott Van Winkle – Canaccord Adams

Full spending probably similar to what we saw last year in the first quarter?

Michael McDevitt

I’d say a little bit higher than what we saw in the first quarter last year. Last year we spent roughly $4.3 in the first quarter, I’m look to spend about $5 million in the first quarter this year. What we spend our money on the majority last year was in Q2 and Q3 and some of that money about $1.5 to $2 million was unaffected advertising. That’s where we think the real benefit is going to come in in the second and third quarter this year continuing to spend that money in an effective manner from what we’ve learned over the past year.

Scott Van Winkle – Canaccord Adams

I think you said you are looking for a cost to acquire somewhere in the $225 range, did I get that correct?

Michael McDevitt

I believe so, yes. What we are looking to see is now that we are spending a focus on retouching customers a little portion of our spend is going on to retouching customers which is not a benefit from a cost acquire its more reactivation. That cost to acquire number which was $200 over the course of 2007 might creep up a bit in 2008 just because we are going after acquiring less new customers and looking at lifetime value a little bit more.

Scott Van Winkle – Canaccord Adams

If you’ve got a $500 lifetime value of a direct customer contribution margin somewhere below your gross margin call it 70 before your spend you are getting about $350 per customer on a $200 to $225 spend does that sound right?

Michael McDevitt

That’s about right, less the expenses of cost of goods, of course and the additional SG&A associated with that but it’s a very profitable model.

Scott Van Winkle – Canaccord Adams

That’s the incremental, at this level today with your G&A spend I wondered, do you need to be a little faster on the growth to get that incremental margin to drive a whole profitability higher, not that your level of profitability is negative I’m coming back to the question Laura was getting to is it doesn’t seem aggressive.

Michael McDevitt

It is probably more conservative, I believe, as you listen to the talks of some of the competition they are having issues right now with their marketing spend. We are not seeing those exact same issues, our closing rate on the website is maintaining what it was all throughout last year as well as I think our cost to acquire revenue spend is very positive out of the gates in 2008. We know that we got a bit too aggressive in the second and third quarter of last year which really cost us some earnings per share and I think that this year the goal is, of course, to get our business both scalable and to prove that model before we look at launching the advertising expenses.

I agree that we do have opportunity being only an $18 to $20 million spend we are far from reaching a point of saturation in the market. We want to make sure that American consumers are opting in to listen to what it is we have to put out there. I believe that we do have tremendous potential for growth moving forward out of the gates in 2008 we wanted to make sure we were able to prove that spending before we actually move forward with it.

Operator

[Operator Instructions] Our next question comes from the line of Harris Berenholz from Carpe Diem Advisors.

Harris Berenholz – Carpe Diem Advisors

I had a question on the gross margin, you made a point in the release of talking about the fourth quarter decline in the gross margin and you attributed it to inventory write downs.

Michael McDevitt

Not as much a write down as a reevaluation of the inventory value.

Harris Berenholz – Carpe Diem Advisors

What does that mean, reevaluation?

Michael McDevitt

Throughout the year 2007 if you recall we purchased new manufacturing equipment. That new manufacturing equipment, which our equipment had not been updated for the past 15 years caused us to, a very positive thing, gain significant efficiencies in our cost of goods sold. We redid the inventory reevaluation at year end because of a lower cost of goods you have to re-price your inventory value which of course lowered the overall inventory value making cost of goods increase.

Moving forward what that’s going to do is provide us a more aggressive and more positive cost of goods figure moving from what was 75% gross margin to probably about 75.5% to 76% gross margin in 2008. It was a very short one time hit. We always do inventory reevaluation but having not bought new equipment in that period of time we were not aware of what that was going to do to the total cost of goods figure.

Harris Berenholz – Carpe Diem Advisors

Was that the total explanation for the slippage in the gross margin in the fourth quarter that reevaluation or were there other factors?

Michael McDevitt

There were not other factors associated with that. There was minimal inventory write downs, nothing different than on every annual basis.

Harris Berenholz – Carpe Diem Advisors

I’m looking at your annual numbers, your gross margin last year was 74.3% versus 75.3% the year before. If you get the 74.3% back to 76% even the 75.3% you are talking about $0.05, $0.06, $0.07 a share incremental earnings from all the leverage you’ll get from the SG&A spending, is that a fair statement?

Michael McDevitt

That is a very fair statement. We were conservative in the overall forecasting for cost of goods mainly due to the expense that could be increasing in fuel. Shipping is the number that is included in our cost of goods figure and with more consumers opting to go with that larger purchase price of over $200 on auto-ship where consumers are seeing free shipping which is not a revenue source for us. We were conservative in the cost of goods forecasting throughout this year. I think we’ll see a benefit from the new machines; however we want to make sure that’s not offset by the increase in fuel prices.

Harris Berenholz – Carpe Diem Advisors

The general consensus of this is like you are being super conservative. I sit back here and look at the numbers as much as you are talking about 30% to 35% growth which on its own is dramatic and positive just wonderful. It is conceivable to be more than that. That’s my conclusion.

Michael McDevitt

We believe we have very bright future in front of us in 2008.

Operator

[Operator Instructions] It appears we have no further questions at this time.

Michael McDevitt

Thank you very much; we appreciate you taking the time to hear us share our vision for the company. We are excited about where we are today and the opportunities for the future. We thank you for your continued support and look forward to speaking to you when we announce our first quarter numbers in May of 2008.

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