Nature's Sunshine Products - 10-Q quarterly report FY

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

NATURE’S SUNSHINE PRODUCTS, INC.

(Exact name of Registrant as specified in its charter)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý  No  o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).    Yes  ý  No  o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    

Yes  o  No  ý

The number of shares of Common Stock, no par value, outstanding on November 18, 2005 was 15,276,029 shares.

When we refer in this Form 10-Q to the “Company,” “we,” “our,” and “us,” we mean Nature’s Sunshine Products, Inc., a Utah corporation, together with our subsidiaries.

EXPLANATORY NOTE

STATEMENT REGARDING REVIEW OF FINANCIAL STATEMENTS

As we previously disclosed in our Current Report on Form 8-K dated November 10, 2005, we are currently reviewing selected financial information with respect to certain of our foreign operations.  Accordingly, our independent auditor has not reviewed the accompanying unaudited consolidated financial statements for the three and nine month periods ended September 30, 2005 in accordance with Rule 10-01(d) of Regulation S-X promulgated by the Securities and Exchange Commission (the “SEC”).  We believe the accompanying unaudited consolidated financial statements are a fair presentation of the Company’s financial position.  Upon the completion of the review by our independent auditor, we intend to file an amendment to this report to reflect the review of our independent auditor and will reflect material changes, if any, resulting from our review of selected financial information with respect to certain of our foreign operations and the review by our independent auditor.  Completion of a review of the unaudited consolidated financial statements and the filing of the amendment will make this report current, although it will not be deemed timely for purposes of the rules governing eligibility to use registration statements on Forms S-2 and S-3.

In addition, on November 16, 2005, we received a notice from the Listing Qualifications Department of The NASDAQ Stock Market stating that, due to the delayed filing of our Quarterly Report on Form 10-Q for the period ended September 30, 2005, we are not currently in compliance with the requirements of Marketplace Rule 4310(c)(14).  The Rule requires us to file with NASDAQ copies of all reports required to be filed with the SEC on or before the date they are required to be filed with the SEC.  The NASDAQ Stock Market notified us that our securities could be delisted from The NASDAQ Stock Market at the opening of business on November 28, 2005, unless we request a hearing appealing the possible delisting with The NASDAQ Stock Market’s Listings Qualifications Panel (the “Panel”) in accordance with the Marketplace Rules 4800 Series.  Such a request for an appeal to the Panel will stay the delisting of our securities pending the Panel’s decision pursuant to Marketplace Rule 4805.  We intend to appeal the possible delisting to the Panel.  We believe we have strong arguments against delisting. 

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NATURE’S SUNSHINE PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Amounts in Thousands, Except Per-Share Information)

(Unaudited)

(1)                                 BASIS OF PRESENTATION AND ACCOUNTING POLICIES

The unaudited, condensed consolidated financial statements of Nature’s Sunshine Products, Inc. and subsidiaries (together, the “Company”) included herein have been prepared pursuant to the rules and regulations of the United States Securities and Exchange Commission (“SEC”).  Certain information and footnote disclosures normally required in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations, although the Company believes the following disclosures are adequate to make the information presented not misleading.

These unaudited, condensed consolidated financial statements reflect all adjustments, which in the opinion of management are necessary to present fairly the Company’s financial position as of September 30, 2005, and the results of its operations and its cash flows for the periods presented.  All of the adjustments which have been made in these condensed consolidated financial statements are of a normal recurring nature.  Operating results for the three and nine months ended September 30, 2005 are not necessarily indicative of the results that may be expected for the year ending December 31, 2005.

Certain reclassifications have been made in the quarter and nine months ended September 30, 2004 consolidated financial statements to conform to the current year presentation.  During the three and nine months ended September 30, 2004, we reclassified to Sales Revenue $904 and $2,619, respectively, of membership fees that were previously recorded as a decrease to selling, general and administrative expenses.

These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2004.

(2)                                 RECENT ACCOUNTING PRONOUNCEMENTS

In April 2005, the SEC issued Staff Accounting Bulletin No. 107 (SAB No. 107), delaying the required implementation of SFAS No. 123R.  Under SAB No. 107, SFAS No. 123R was to become effective as of the beginning of the first annual reporting period that began after June 15, 2005.

The Financial Accounting Standards Board (FASB) issued SFAS No. 123R, Share-Based Payment. SFAS No. 123R requires us to recognize the cost of employee services received in exchange for our equity instruments. Currently, in accordance with APB Opinion 25, we record the intrinsic value of stock-based compensation as expense. Accordingly, no compensation expense is currently recognized for fixed

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stock option plans as the exercise price equals the stock price on the date of grant. Under SFAS No. 123R, we will be required to measure compensation expense over the stock options’ vesting period based on the stock options’ fair value at the date the options are granted. SFAS No. 123R allows for the use of the Black-Scholes or a lattice option-pricing model to value such options. We have determined that we will use the Black-Scholes option-pricing model to calculate the fair value of our options. As allowed by SFAS No. 123R, we can elect either Modified Prospective Application, which applies SFAS No. 123R to new awards and modified awards after the effective date, and to any unvested awards as service is rendered on or after the effective date, or Modified Retrospective Application, which can apply SFAS No. 123R to either all prior years for which SFAS No. 123 was effective or only to prior interim periods in the year of adoption. We are currently evaluating which method of application will be used. Note 9 of the Notes to Consolidated Financial Statements illustrates the effects on net income and earnings per share if we had adopted SFAS No. 123,Accounting for Stock-Based Compensation,using the Black-Scholes option-pricing model. Management does not believe the adoption will have a material effect on the Company’s results of operations, financial condition or liquidity.

In December 2004, the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4,” which requires that abnormal amounts of idle facility expense, freight, handling costs and wasted material (spoilage) be recognized as current-period charges. In addition, the statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 is effective for fiscal years beginning after June 15, 2005. The Company will adopt this statement as required, and management does not believe the adoption will have a material effect on the Company’s results of operations, financial condition or liquidity.

(3)                                 INVENTORIES

Inventories consist of the following:

(4)                                 DEFINITE-LIVED INTANGIBLE ASSETS

The composition of the Company’s definite-lived intangible assets is as follows:

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As of September 30, 2005, the Company determined that none of its intangible assets are impaired. Amortization expense for intangible assets for the nine months ended September 30, 2005 and 2004, was $224 and $262, respectively.  Estimated amortization expense for the remainder of 2005 and the five succeeding fiscal years is as follows:

(5)                                 NET INCOME PER COMMON SHARE

Basic net income per common share or “Basic EPS” is computed by dividing net income by the weighted-average number of common shares outstanding during the period.  Diluted net income per common share “Diluted EPS” reflects the potential dilution that could occur if stock options or other contracts to issue common stock were exercised or converted into common stock.  The computation of Diluted EPS does not assume exercise or conversion of common stock equivalents that would have an anti-dilutive effect on net income per common share.  For periods in which the Company incurs losses, Diluted EPS does not assume the exercise or conversion of common stock equivalents.

As of September 30, 2005, the Company had a total of 570 common stock options outstanding.  These options were granted at fair market value and have a weighted-average exercise price of $9.91 per share.

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During the third quarter, the Company recorded a $11.3 million increase to treasury stock upon the completion of a Dutch Auction tender offer by repurchasing 513,006 shares of outstanding stock. The Dutch Auction tender was open to all shareholders of the Company including employees.  Employees were required to tender outstanding shares and be at risk consistent with all shareholders; therefore, no compensation cost was recorded for shares repurchased from employees.

(7)                                 OPERATING LINE OF CREDIT

The Company has an operating line of credit with an interest rate equal to LIBOR plus 1.5 percent, which provides for borrowings of up to $15,000.  Borrowings under this line of credit may be used to repurchase shares of the Company’s outstanding common stock under Board-authorized repurchase programs, as well as to fund working capital, capital expenditures, and related costs.  As of September 30, 2005, the Company did not have a common stock repurchase program in place.  The outstanding borrowings under this line of credit at September 30, 2005 totaled $9,000.  The line of credit is unsecured and matures July 1, 2006.  The line of credit contains various terms and conditions, including affirmative and negative financial covenants. As of September 30, 2005, the Company was in compliance with these covenants.

(8)                                 ACCUMULATED OTHER COMPREHENSIVE LOSS

The composition of accumulated other comprehensive loss, net of tax, is as follows:

(9)                                 STOCK-BASED COMPENSATION

The Company accounts for stock-based compensation plans for employees and directors under Accounting Principles Board Opinion No. 25, under which no compensation cost has been recognized in the accompanying condensed consolidated statements of income and comprehensive income for the three and nine months ended September 30, 2005 and 2004.  Had compensation cost been determined consistent with SFAS No. 123, “Accounting for Stock-Based Compensation”, as amended by SFAS No. 148, the Company’s net income and net income per share would have been reduced to the following pro forma amounts:

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(10)                          SEGMENT INFORMATION

The Company has three operating segments.  These operating segments are components of the Company for which separate information is available that is evaluated regularly by management in deciding how to allocate resources and assess performance.  The Company evaluates performance based on operating income, among other things.

The Company’s three operating segments include a United States segment and an international segment that operate under the Nature’s Sunshine Products name, as well as a third operating segment that operates under the Synergy Worldwide name.  The segments have similar business characteristics and each offers similar products through similar methods of distribution.  Inter-segment sales, eliminated in

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Item 2.           MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the interim financial information included in this Form 10-Q as well as the consolidated financial statements, the notes thereto, and management’s discussion and analysis included in our Annual Report on Form 10-K for the year ended December 31, 2004.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations and other sections of this Form 10-Q may contain forward-looking statements.  Such forward-looking statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.  Such statements may relate but not be limited to projections of revenues, income or loss, capital expenditures, plans for growth and future operations, financing needs, product liability claims and availability of insurance, as well as assumptions relating to the foregoing.  Forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified.  When used in “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, and elsewhere in this Form 10-Q the words “estimates”, “expects”, “anticipates”, “projects”, “plans”, “intends” and variations of such words and similar expressions are intended to identify forward-looking statements that involve risks and uncertainties.  Future events and actual results could differ materially from those set forth in, contemplated by, or underlying the forward-looking statements.  For factors which could affect such results, see the description of our business contained in our Annual Report on Form 10-K for the fiscal year ended December 31, 2004.

CRITICAL ACCOUNTING POLICIES

Revenue Recognition

We recognize sales revenue when products are shipped and title passes to our independent distributors. For most product sales, the sales price is received in the form of cash or credit card payment, which accompanies or precedes the shipment of the orders. As products are shipped, persuasive evidence of an arrangement exists, delivery has occurred, the price to the buyer is fixed, and collectibility is reasonably assured. A reserve for product returns, which reduces revenue, is accrued based on historical experience. From time to time, our United States operation extends short-term credit associated with product promotions. For certain of our international operations, we offer credit terms consistent with industry standards within the country of operation. Amounts received for unshipped merchandise are not recognized as revenue but rather they are recorded as customer deposits and are included in accrued liabilities.

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September 30, 2005, was approximately 665,000 compared to approximately 666,000 as of December 31, 2004. 

Net sales revenue in our United States operation for the three months ended September 30, 2005, was $37.3 million, an increase of approximately 10.5 percent, compared to the same period in the prior year. For the nine months ended September 30, 2005, United States net sales revenue totaled $111.3 million, a 5.0 percent increase over the same period in the prior year.  Net sales revenue in the United States continue to show improvement primarily as the result of increased marketing efforts associated with the Company’s “Habit of Health” Program.  The number of Managers in our United States operation as of September 30, 2005 was approximately 6,830, compared to approximately 5,980 as of December 31, 2004.   The number of Distributors in our United States operation as of September 30, 2005, was approximately 227,000 compared to approximately 223,000 as of December 31, 2004. 

Our international operations reported net sales revenue of $29.9 million for the three months ended September 30, 2005, an increase of approximately 13.4 percent compared to the same period in the prior year. For the first nine months, international net sales revenue totaled $88.8 million, a 15.9 percent increase over the same period of the prior year. Third quarter performances were particularly strong in the Russian Federation, Japan and Mexico.  The increase in net sales revenue reflects the continued increase in Distributors and Managers in the Company’s international operations.  The number of Managers in our international operations as of September 30, 2005 was approximately 11,920, compared to approximately 9,730 as of December 31, 2004.   The number of Distributors in our international operations at September 30, 2005 was approximately 326,000 compared to approximately 303,000 as of December 31, 2004. 

Net sales revenue in Synergy Worldwide was $20.4 million for the three months ended September 30, 2005, compared to $24.3 million for the same period of the prior year. For the first nine months, Synergy Worldwide net sales revenue totaled $61.1 million, a 1.6 percent increase over the prior year. Synergy Worldwide has international operations in Japan, Thailand, Taiwan, Australia, South Korea, and Singapore.  Operating losses totaled $1.0 million for the third quarter of 2005 compared to operating income of $1.9 million for the same period of the prior year.  Operating losses totaled $1.7 million for the nine months ended September 30, 2005 compared to operating income of $2.9 million for the same period of the prior year.  The decrease in operating income was primarily the result of costs associated with the launch of “on-the-ground” distribution operations in Japan as well as operating losses of $0.4 million in Thailand due to decreases in net sales revenue.  The Company expects these losses to decrease during the remainder of 2005.  The number of Managers in our Synergy Worldwide operation as of September 30, 2005 was approximately 2,848 compared to approximately 2,666 as of December 31, 2004.   The number of Distributors in our Synergy Worldwide operation at September 30, 2005, was approximately 112,000 compared to approximately 139,000 as of December 31, 2004.

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The Company has an unsecured operating line of credit with an interest rate equal to LIBOR plus 1.5 percent, which provides for borrowings of up to $15.0 million.  Borrowings under this line of credit may be used to repurchase common shares of the Company’s outstanding stock under Board-authorized repurchase programs as well as to fund working capital, capital expenditures, and related costs. Outstanding borrowings under this line of credit at September 30, 2005 totaled $9.0 million.  The line of credit is unsecured and matures July 1, 2006. The line of credit contains various terms and conditions, including affirmative and negative financial covenants. As of September 30, 2005, the Company was in compliance with these covenants.

On August 5, 2005, the Company commenced a Dutch auction tender offer for up to 500,000 shares of its common stock, at a price not greater than $22.25 nor less than $21.00 per share.  The tender offer expired at midnight on September 1, 2005.  During the third quarter the Company, pursuant to the tender offer, repurchased 513,057 shares at $21.75 per share.  The tender offer was funded with available cash and borrowings under the Company’s $15 million unsecured line of credit.  The Company does not expect the tender offer to affect its capital expenditures.

We believe that working capital requirements can be met for the foreseeable future through our available cash and cash equivalents, cash generated from operating activities, and borrowings from our operating line of credit; however, a prolonged economic downturn or a decrease in the demand for our products could adversely affect our long-term liquidity.  In the event of a significant decrease in cash provided by operating activities, it might be necessary for us to obtain additional external sources of funding. 

Item 3.           QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We conduct our business in several countries and intend to continue to expand our foreign operations.  Net sales revenue, operating income and net income are affected by fluctuations in currency exchange rates, interest rates and other uncertainties inherent in doing business and selling product in more than one currency.  In addition, our operations are exposed to risks associated with changes in social, political and economic conditions inherent in foreign operations, including changes in the laws and policies that govern foreign investment in countries where we have operations as well as, to a lesser extent, changes in United States laws and regulations relating to foreign trade and investment.

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interest rates.  An increase in the effective interest rate of 1.0 percent would increase interest expense by $10,000 for every $1.0 million that the Company had outstanding on its line of credit for a full year.

Item 4.    DISCLOSURE CONTROLS AND PROCEDURES

(a)   Evaluation of disclosure controls and procedures.  Our management, under the supervision and with the participation of the Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our controls and procedures related to our reporting and disclosure obligations as of September 30, 2005, which is the end of the period covered by this Quarterly Report on Form 10-Q.  Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that these disclosure controls and procedures are effective to provide that (a) material information relating to us, including our consolidated subsidiaries, is made known to these officers by other employees of us and our consolidated subsidiaries, particularly material information related to the period for which this periodic report is being prepared; and (b) this information is recorded, processed, summarized, evaluated and reported, as applicable, within the time periods specified in the rules and forms of the Securities and Exchange Commission.  However, as we previously disclosed in our Current Report on Form 8-K dated November 10, 2005, we are currently reviewing selected financial information with respect to certain of our foreign operations.  Accordingly, our independent auditor has not reviewed the accompanying unaudited consolidated financial statements for the three and nine month periods ended September 30, 2005 in accordance with Rule 10-01(d) of Regulation S-X promulgated by the Securities and Exchange Commission.  Upon the completion of the review by the our independent auditor, we intend to file an amendment to this report to reflect the review of our independent auditor in accordance with Rule 10-01(d) of Regulation S-X and will reflect material changes, if any, including any impact on the effectiveness of our disclosure controls procedures, resulting from our review of selected financial information with respect to certain of our foreign operations and the review by our independent auditor.

(b)   Changes in internal controls over financial reporting.  There were no changes that occurred during the fiscal quarter covered by this Quarterly Report on Form 10-Q that have materially affected, or are reasonable likely to materially affect, our internal controls over financial reporting.

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PART II  OTHER INFORMATION

Item 1.    LEGAL PROCEEDINGS

We are a defendant in various lawsuits which are incidental to our business.  After consultation with legal counsel, we believe that the ultimate disposition of these matters will not have a material adverse effect upon our consolidated results of operations, financial position, or liquidity.

Item 2.    UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Issuances of Unregistered Securities

On August 18, 2005, we issued an aggregate of 372 shares of our common stock to certain Managers in consideration for their services.  In undertaking the issuance, we relied upon an exemption from registration under Section 4(2) of the Securities Act of 1933, as amended.

Purchases of Equity Securities

(1)                                  On August 4, 2005, our Board of Directors authorized the repurchase of up to 500,000 shares of our common stock, and the repurchase of additional shares up to two percent of our outstanding shares, through a Dutch Auction tender offer, which commenced on August 5, 2005 and expired on September 1, 2005.  Pursuant to the Dutch Auction tender offer, we repurchased 513,006 shares at a price of $21.75 per share.

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Item 5.    OTHER INFORMATION

(a)                                  Notice of Delisting or Failure to Satisfy a Continued Listing Rule or Standard Transfer of Listing

On November 21, 2005, we issued a press release announcing that, due to the delayed filing of our Quarterly Report on Form 10-Q for the period ended September 30, 2005, we are not currently in compliance with the requirements of Marketplace Rule 4310(c)(14).  The NASDAQ Stock Market notified us that our securities could be delisted from The NASDAQ Stock Market at the opening of business on November 28, 2005, unless we request a hearing appealing the possible delisting with The NASDAQ Stock Market’s Listings Qualifications Panel (the “Panel”) in accordance with the Marketplace Rules 4800 Series.  Such a request for an appeal to the Panel will stay the delisting of our securities pending the Panel’s decision pursuant to Marketplace Rule 4805.  We intend to appeal the possible delisting to the Panel.  We believe we have strong arguments against delisting.  A copy of the press release is filed as Exhibit 99.1 to this Quarterly Report on Form 10-Q.

Item 6.    EXHIBITS

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