Medifast, Inc. (NYSE:MED) Q4 2017 Earnings Conference Call March 6, 2018 4:30 PM ET
Katie Turner - ICR
Dan Chard - CEO
Tim Robinson - CFO
Linda Bolton Weiser - DA Davidson
Frank Camma - Sidoti
Doug Lane - Lane Research
Good day and welcome to the Medifast Fourth Quarter 2017 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded.
I would now like to turn the conference over to Katie Turner with ICR. Please go ahead.
Good afternoon. And welcome to Medifast fourth quarter and full year 2017 earnings conference call. On the call with me today are Daniel Chard, Chief Executive Officer, and Timothy Robinson, Chief Financial Officer.
By now, everyone should have access to the earnings release for the period ending December 31, 2017 that went out this afternoon at approximately 4:05 PM Eastern Time. If you've not received the release, it is available on the Investor Relations portion of Medifast website at www.medifastnow.com. This call is being webcast and the replay will be available on the company's website.
Before we begin, we would like to remind everyone that prepared remarks contain forward-looking statements and management may make additional forward-looking statements in response to your questions. The words believes, expects, anticipate and other similar expressions generally identifies forward-looking statements. These statements do not guarantee future performance and therefore undue reliance should not be placed on them.
Actual results could differ materially from those projected in any forward-looking statements. Medifast assumes no obligation to update any forward-looking projection that maybe made in today's release or on the call. All the forward-looking statements contained herein speak only as of the date of today's call.
And with that I would like to turn the call over to Medifast CEO Dan Chard.
Thank you, Katie. Good afternoon everyone. We're pleased to share our fourth quarter and full year financial results with you today. I'll provide a brief overview of our financial and operational business performance. Tim will then review our financial results in more detail and share our 2018 first quarter and annual guidance. Tim and I will then be available to answer your questions.
2017 proved to be very good year for the company, our coach community and our shareholders. As anticipated we started slow in the first quarter and subsequently saw sequential growth in every quarter during 2017. We remained very focused throughout the year OPTAVIA Coach model which builds considerable momentum moving into 2018. I'm very proud of our corporate team and our field leaders. Together we've created a powerful focus, transformational message around optimal health and wellbeing that is resonated across the OPTAVIA community. This has helped fuel excitement, energy and enthusiasm with tangible results demonstrated by the growth in our financial results.
Both revenue and profitability exceeded our expectations in 2017. Revenue for the full year increased approximately 10% to $301.6 million above our most recent revenue guidance of $295 million to $298 million for the year. Additionally, we were able to overcome what is historically been a seasonal slowdown that occurs in our business in the fourth quarter by posting a sequential quarter-over-quarter improvement. We also continue to see improved operational efficiencies across the organization as we've aligned our internal teams and focused our resources beyond our key growth initiatives.
Gross margin expanded 60 basis points to 75.5% and we experienced 270-basis point improvement in SG&A cost as a percent of revenue that drove annual diluted earnings per share of $2.29 ahead of our most recent guidance of $2.15 to $2.18 diluted earnings per share. We're very pleased with our finish to 2017. We were experiencing solid business momentum and remain confident that we're very well positioned for future growth as we continue to focus on our mission to offer the world lifelong transformation, one healthy habit at a time.
In the fourth quarter revenue through our OPTAVIA Coach Model posted the largest quarter in the Company's history. We ended the fourth quarter with 15,000 active earning OPTAVIA Coaches. This outstanding accomplishment is a reflection of the strength of our OPTAVIA field leadership and a partnership we enjoy with our OPTAVIA Coach community. Together, we successfully introduced our powerful new brand narrative to align the company and coach community behind a shared vision. Our focus initiatives to deliver on that vision leverage two key insights. First, people are more successful in their health transformation when they have support. We offer the support to personalize consultation on our OPTAVIA Coaches as well through the integration of each client into our OPTAVIA community. The second insight is equally powerful, which is the people are more successful in the health transformation when they learn and incorporate healthy habits into their lives. We offer this to each client through the Habits of Health System that is integral to our offer.
This year, we also completed the launch of our new OPTAVIA product line and we successfully implemented the new technology platform with enhanced business tools to help coaches around their business and provide us with the capability to support the international expansion plans, we announced last week. Focusing on our Q4 operating results in more detail. OPTAVIA reported this ninth consecutive quarter-over-quarter quarterly revenue growth up to 32%. Sequentially, this was a significant increase from the nearly 18% revenue growth we reported for OPTAVIA in the third quarter of 2017. Additionally, we continue to generate increased coach productivity in the fourth quarter resulting from higher new client acquisition and higher average order value year-over-year.
Just a couple of weeks ago, we had the pleasure of hosting our first OPTAVIA Coach event at our new corporate office in Downtown Baltimore, Maryland. This event brought together many of our most talented and successful new business coaches from our OPTAVIA community. These business coaches were with us for three days of meetings and training sessions to enable them to become stronger leaders and mentors for other new OPTAVIA coaches and clients. Last week, we also announced our plans to expand our business into the Asia Pacific markets of Hong Kong and Singapore with our OPTAVIA brand. This announcement came after more than a year of testing our business model and products with the target demographics. Many people in Hong Kong and Singapore are facing similar health challenges to those we experience here in the United States and we believe our approach to health and wellness will help a new community of people transform their lives.
We plan to introduce the same clinically studied plans and similar fuelings [ph] to those offered in the United States including the popular Optimal Weight 5 & 1 Plan. OPTAVIA products will be available to residents of Hong Kong and Singapore exclusively through the OPTAVIA coach community and overtime the product portfolio will expand to incorporate new fuelings [ph] that reflect local taste preferences. To support our 2019 expansion plans, we plan to invest $3 million to $5 million in market preparation and development in 2018. We're funding our international expansion in part using a portion of our tax savings related to the recent US tax reform. Tim will touch on this in more detail in his comments, a successful international expansion for us, talented leadership in the United States and abroad with necessary experience to execute our strategy. I'm very pleased to share that Nick Johnson joined Medifast at the beginning of 2018 as Market President of OPTAVIA in the United States. Nick relocated from Europe to join Medifast after holding several leadership positions at Nu Skin Enterprises. Most recently as Vice President of Sales and Marketing with responsibilities for 26 markets in Europe and Middle East and Africa. Additionally, we also welcomed Clovis Lau [ph] at the beginning of 2018. Who will serve as the Market Vice President of Business Development for Asia Pacific? Clovis is temporarily residing with us at Baltimore focused on pre-market preparations. He will eventually return to Asia to lead our local business development efforts in Hong Kong and Singapore. Clovis has considerable management experience with several US and Chinese based direct selling companies including those in the focus in the areas of e-commerce and we're very fortunate to have him joining our team.
Now let me move to Medifast Direct. We're pleased to see that this business unit stabilized over 2017 allowing the significant growth in OPTAVIA to flow through. We believe, we can ultimately leverage this platform to support the growth of our coach business. Our testing in 2017 supports our thesis, that digitally acquired clients aligned with an OPTAVIA Coach have similar long-term benefits as clients acquired directly by a coach. This supports our recent emphasis to move our direct response and OPTAVIA units to an integrated business model for the benefit of our coach community and clients. We believe that this alignment will help to enhance our long-term success and will facilitate the expansion into new markets overtime.
Before I turn the time over to Tim, I want to take a moment to thank our management team, our employees and our coaches for their dedication and hard work throughout 2017. We made significant strides during the year towards aligning our long-term strategies and goals and established a solid foundation to grow from in the future. We're very pleased with our 2017 operational and financial achievements and very excited about the future opportunities ahead of us.
With that I'd like to turn call over to our CFO, Tim Robinson.
Thank you Dan and good afternoon, everyone. In the fourth quarter revenue was $78 million exceeded our expectations. OPTAVIA encountered for approximately 88% of the revenue. Medifast Direct accounted for 8.4%. Franchise Medifast Weight Control Centers accounted for 3.3%. And Medifast Wholesale accounted for 0.3% of net revenue.
Revenue in OPTAVIA increased 32.4% to $68.6 million from $51.8 million in the fourth quarter of the prior year. As Dan mentioned, we ended the quarter with a record 15,000 active OPTAVIA coaches compared to 12,500 in the same period last year, and 14,200 in the third quarter of 2017. Average revenue per active earning coach for the quarter increased to 9.7% $4,562 as compared to $4,158 in the fourth quarter of last year. OPTAVIA branded products represented 62% of OPTAVIA revenues and 54% of our total company revenues in the quarter.
Our Medifast Direct revenue decreased just 2.9% to $6.6 million as compared to $6.8 million in the fourth quarter of 2016. The revenue trajectory in this business unit has stabilized substantially compared to the 28% decline in the fourth quarter of 2016. Total Medifast Direct advertising in the quarter decreased $100,000 from $1.6 million in the fourth quarter of 2016. Revenue in the Franchise Medifast Weight Control Centers decreased to $2.6 million from $3.6 million in the same period last year. The decrease in revenue was a result of fewer franchise centers in operation during the period combined with the decline in activity within the centers, any decrease in resellers.
We ended the quarter with 16 franchise centers and 18 reseller location in operation, compared to 37% franchise centers in 19 reseller locations at the end of the same period last year. We were pleased to work closely as one of our largest franchisees during 2017. To begin integrating his franchise business with the OPTAVIA Coach model in 2017. This transition represents a very positive change for all parties allowing existing and future clients to access the exclusive OPTAVIA products and coaching experience going forward.
Medifast Wholesale revenue which is mostly comprised of revenue from healthcare providers was consistent with the prior period at $200,000. As discussed on the last call, this business model as integrated into the OPTAVIA Coach Model at the end of the year. Gross profit for the fourth quarter of 2017 increased 25.6% to $59.1 million compared to $47.1 million in the prior year period. Gross profit margin as a percentage of net revenue increased 40 basis points to 75.8% versus 75.4% in the fourth quarter of 2016. This increase in gross margin percentage was a result of continued favorability in shipping cost and more active product forecasting in the quarter.
Selling, general and administrative expenses in the fourth quarter of 2017 were $49.6 million or 63.6% of revenues versus $40.5 million or 64.8% of revenues in the fourth quarter last year. The increase in SG&A was primarily a result of higher OPTAVIA commission expenses resulting from growth and success of our OPTAVIA coaches. Net income in the fourth quarter of 2017 was $7.3 million or $0.60 per diluted share based on approximately 12.1 million shares outstanding. Fourth quarter 2016 net income was $4.1 million or $0.34 per diluted share based on approximately 12 million shares outstanding.
Our effective tax rate was 25.4% compared to 38.2% in the fourth quarter of 2016. This decrease in the rate discrete change in accounting for tax associated with share-based compensation which vested in the fourth quarter along with the impact of the Tax Cuts and Jobs Act. Our balance sheet remains very strong with stockholders equity at $108.6 million and working capital of $88.1 million as of December 31, 2017.
Cash, cash equivalents and investment securities as of December 31, 2017 increased $22 million to $98.8 million compared to $76.8 million at December 31, 2016. During the December 2017 board meeting, our Board of Directors declared 50% increase in our cash dividend over the previous quarter's dividend. The quarterly cash dividend at $0.48 per share was payable on February 8. Our management team and Board of Directors remain committed to enhancing value for all the shareholders.
Now turning to our guidance, we expect first quarter revenue to be in the range of $88.5 million to $91.5 million and earnings diluted share to be in the range of $0.84 to $0.87 per diluted share. For the full year 2018 we expect revenue in the range of $350 million to $360 million and earnings per diluted share in the range of $3.15 to $3.25 per diluted share. Our fiscal year 2018 guidance assumes a 22% to 23% effective tax rate. To record the uses of tax savings, we expect to reinvest the majority of our $6 million estimated savings to support the acceleration of our international growth.
As Dan referenced earlier, we're expanding into the Asia Pacific markets at Hong Kong and Singapore in the first half of 2019 and we plan to spend $3 million to $5 million during 2018 in preparation development of this expansion in 2019. I'd also like to comment briefly on our reportable business units. The vast majority of our revenues at now generated by OPTAVIA business and our future growth primarily depends on the growth of our OPTAVIA coaches worldwide. Internally, we've restructured our personnel to eliminating business segment distinction and we've begun the shift clients for our Medifast Direct over to the OPTAVIA coaches to experience the support of the OPTAVIA Coach throughout their health journey. As a result, beginning in the first quarter of 2018 the Company will no longer report separate financial information for the four business segments that existed historically. This change in our financial reporting structure is a testament to our success in transforming and restructuring the business and reflects in how the business is managed today.
Well that concludes our operational and financial overview. We appreciate your interest in Medifast and Dan and I are now available to take your questions. Operator?
[Operator Instructions] and our first question will come from Linda Bolton Weiser of DA Davidson.
Linda Bolton Weiser
I guess one question I have is, I guess if I have my numbers right you're guiding to sales growth of 16% to 19% for the full year 2018 and yet 25% to 30% in the first quarter. So are you just kind of trying to be conservative for the year or is there something specific that you see in the trajectory that would make the growth decelerate as leader in 2018.
Hi Linda, this is Tim. I think that first of all the first quarter is right in front of us, right. A little clear insight into what the quarter looks like. Truthfully, it's a bit of an easy compare to last year, last year's first quarter was a bit soft. So I think we see the full year is very strong but an easy compare against the first quarter of last year.
I think the other thing I would say, Linda the thing about 2017 and our big focus was overcoming [indiscernible] fourth quarter back half seasonality particularly the fourth quarter and as you can now see from the announcements we're successful in doing that. 2018, is a - an important year for us obviously because we've just announced our international expansion plan. So we'll be focused on building energy around the international pre-market and because this is the first time we've done this with our OPTAVIA community. We want to make sure that we're effective in doing that and as we move through the quarters. We'll have our first training here coming up in April will have a better idea of how that's moving along but that's really going to be the focus and it's kind of little bit, I mean the focus in our plans that we had anticipate everything will go well there, but that's really the focus of this 2018 year.
Linda Bolton Weiser
Okay and then, with regard to the international. As you continue to expand globally in the future years, can we expect that there would be an incremental investment amount each year as you rollout in more markets or now that there's $3 million to $5 million is embedded in the cost structure. It's sort of embedded and there wouldn't necessarily be big increases going forward. Is there any way you can just give some color maybe when bigger markets are entered, would that mean a little bit more upfront cost and can you also describe exactly what this cost is, is this like IT cost or is this just other types of marketing or what is the cost related to?
I mean I think as we've said it before, a lot of the cost in some of the investment is been taking place over the last several years partly by through putting, the right IT infrastructure together. Also some of the testing that's been done over the last year and half. The investment that we're talking about now is starting to put in place the personnel infrastructure and so and also it's starting to spend the year ready to create the support for that team there. So it's going to be a little bit different depending on which market we go into and which one we announce. We think that these are, we are announcing two markets at the same time so I think we're, we'll see how what the cadence looks like going forward. But I think that it's probably reflect of probably the annual investments that we'll giving you regular updates on what that investment looks like for other markets as we move forward.
Linda Bolton Weiser
Okay. And just some going back to just the domestic business, I know that you've made some changes to the business just to kind of spur growth in OPTAVIA the full launch has been very important of course, but what is accounting for just the acceleration just in the US business. Can you name maybe three things that you've done. I know you've made it easier to onboard, new health coaches. Are there other things that you can point to that is resulting in this acceleration of growth?
Sure. I think let's point to the business strategy we've talked about over the last 18 months. The first was to establish a regular business rhythm to make sure that we have the right kinds of activity in every quarter to help support our business and how to be very predictable so that, in the case of our OPTAVIA coaches they know what to do and how to do it because they've done it before. The second is, we've really started to focus on our coach model by - for example using our technology to support them in new ways. We have reduced some of the distractions of our Med Direct model by advertising less so I think that's create a fewer distractions and have allowed our coaches to move forward with more confidence. Certainly launching the new brand of OPTAVIA with a very clear positioning and communication and having the brand be very much on trend related to having the absence of anything artificial is also been to our benefit, so I think it's really those four things.
Linda Bolton Weiser
Okay and then, kind of ask you. It's interesting the way that you've said that you would be shifting your Medifast Direct customers in the coach network, my understanding was that required quite a bit of testing and experimenting to figure out how you would assign somebody who comes in through e-commerce to a health coach. So have you figured you that all out and is that kind of working smoothly and how much do you expect to get in terms of growth just from that channel?
I think what we've done at this point is, qualified that it will be an important part of our future strategy. We have for the most part done this within our current technology platform. There are still a few pieces that are coming together to allow us to do that seamlessly. We anticipate largely because of the importance of e-commerce in particular mobile platforms in Asia that will become a more important part of our business going forward, but very much a complementary part of our coach model, not at all a separate channel but really more using technology to help enhance what our coaches already do so well.
Linda Bolton Weiser
Okay, thanks very much.
And the next question comes from Frank Camma of Sidoti.
I was wondering, have you seen a difference in the productivity of newer coaches and if I define those coaches less than a year versus coaches that have been in the system. Because you're little unusual and the fact that you have a lot of coaches that have been there for quite a long time. Just wondering, if there's a diversion have you seen that, that would be interesting to look at. That's first question.
Yes, I mean it's a good question. I think overtime what we've seen this goes back to couple years now where we've made a total change to the coach sign up process. We also made a change in training. We've seen coaches ramp up, than our productivity much quicker than they have in the past. I think that is kind of a mentor coach helping their new coach acquire their first few clients. We used to see people come in and if I go back 2013, 2014, 2015 you'd see people come in not have much activity in the first month or two. So what we're seeing is the new coaches are having the productivity pretty early on and that is helping our overall productivity especially in times when you have high level of growth. At one point that would have been a headwind and now a more of a tailwind.
Has there been any significant changes in your commission policy that may have helped that? I was just curious like since last year over the last year or so, have you changed any of that?
No the commissions structure has really remained unchanged since I want to say 2014. I think Dan mentioned kind of getting into repeatable business driven. I think it has a lot more to do with that, is timings, communications and how we talk about the business that kind of we're in a rhythm now we're seeing that happening on a regular basis and I think it's kind of overall kind of making it easier to become a coach. So as I mentioned for the changes we made in the on boarding process a couple years ago, it seem to have really had a measurable impact.
How about geographically like in the summer time you showed how you have strength? I think it was on the West Coast, but you didn't really have much strength in the Northeast. I might - I might have that wrong, but have you seen any changes in geography at all?
No I think geography has already a function of where our new coach leaders choose to focus, so we continue to have consistent strength on the upper West Coast in California, but also in the Midwest and one of the East Coast. Let's say we're spread out, I mean we do have a few really hot pockets. But I think overall we're starting to see our message expand in parts of the country where it hasn't yet been seen, so I think we know we're pleased as we continue to see more activity, more broadly across the country.
Okay, my last question is just on the inventory. Did you have - because in the past when you've seen obviously you had a pretty nice spike here in sales? Did you have any issues with delivering a popular items or items stock counts with that? Can you talk about that?
Unfortunately really no, we had the issue in the fourth quarter of 2016. We recovered from in the first quarter and we had a very good, I think a very good year in 2017 from planning perspective. You can see our inventory year end is - backed up a bit. And that was intentional and we saw the growth happening in the fourth quarter. We had to move some things forward in preparation for 2018, but we're very comfortable with that inventory balance. So we're in pretty good shape there.
Okay, great. Thanks guys.
The next question comes from Doug Lane of Lane Research.
Dan, can you talk a little bit about I know it's a year away, but how are you mechanically looking to open Hong Kong and Singapore? Is that going to be through your leadership, your leading health coaches in the US? Are you going to start with people on the ground, in that market? I mean how should we look at that transpiring over the next 12 months?
I think the first important point is that, we plan to create a compensation structure that will work across markets, which means that there is the ability for our current leadership inside the United States to participate by building the organizations beyond the US border. I think mechanically typically the way this work is that they'll focus on populations in the United States who have stronger connections into the target markets in this case, Hong Kong and Singapore and as those connections build in the US that will be the preparation for the actual physical openings to those markets in Southeast Asia and Greater China next year.
So is there going to be another driver or growth in the US to carry, if you will of being able to go to the heads the top of the pack here and that will give you leading opportunity to new business in Hong Kong and Singapore, so could that be an additional driver in growth as we go into the back half of the year.
Yes could be, as I mentioned earlier because these are our the first experiences of our current coach community moving internationally that's part of what we're working through and - kind of the training incentive programs to make it all not only not disruptive to our current build, but as you're pointing out a creative and kind of energy building as we move in closer to next year.
Right. Okay and just shifting gears here. Tim on the SG&A line which was down sharply as a percent of sales. Obviously the large chunk of that is the OPTAVIA commissions which I would guess move pretty much in line with OPTAVIA revenues, so the non-OPTAVIA SG&A is just really hasn't moved much in the last couple of years on a quarterly basis either side of $20 million. So I mean, I guess what's the insight and what's going into the non-OPTAVIA commission SG&A, is it because advertising's coming down with less direct advertising. Maybe just a little bit of color of the moving pieces there so I could look into 2018 and try to figure out is that going to be steady state, are we going to start to see some infrastructure build in that line item?
Sure. The OPTAVIA commissions are half of our SG&A, so you're right about that, that is very, very variable expense. I think as we've focused the business on our coach to model, we've become more efficient internally as well, so we're no longer organized internally based on channels and we actually have fewer employees at this stage so that's been helping us as far as overall cost go. From a technology perspective even though we've been investing in new technologies and it's not been very much and we have CapEx most of these are cloud-based solutions. There are displacing systems that actually cost more to operate, but - actually become more efficient in our IT spend at this stage. We'll still have to invest in additional things going forward, but largely what we've done so far is replace prior systems and we're still going to add more functionality in the future, so today it's been somewhat helpful. So when you look at the breakdown of our overall SG&A. our large items are relatively flat, whether that be rent expense and insurance expense and things like that the big variable is the commissions and the advertising expense.
Okay, thank you.
And this concludes our question-and-answer session. I would like to turn the conference back over to management for any closing remarks.
Thank you very much and thank you for your interest in Medifast and participation in today's call. We look forward to speaking with you again when we report our first quarter 2018 financial guidance. Have a nice evening.
Conference is now concluded. Thank you for attending today's presentation. You may now disconnect.