UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 ----------------- FORM 10-Q (Mark One) |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000 OR | | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ______________ TO ______________ Commission file number 001-12421 Nu Skin Enterprises, Inc. (Exact Name of Registrant as Specified in Its Charter) Delaware 87-0565309 (State or Other Jurisdiction (I.R.S. Employer of Incorporation or Organization) Identification No.) 75 West Center Street, Provo, Utah 84601 (Address of Principal Executive Offices) (Zip Code) (801) 345-6100 (Registrant's telephone number, including area code) 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 X No _____ As of October 31, 2000, 31,480,273 shares of the Company's Class A Common Stock, $.001 par value per share, and 53,408,951 shares of the Company's Class B Common Stock, $.001 par value per share, were outstanding.
NU SKIN ENTERPRISES, INC. 2000 FORM 10-Q QUARTERLY REPORT - THIRD QUARTER TABLE OF CONTENTS Page Part I. Financial Information Item 1. Financial Statements: Consolidated Balance Sheets............................................... 2 Consolidated Statements of Income......................................... 3 Consolidated Statements of Cash Flows..................................... 4 Notes to Consolidated Financial Statements ............................... 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.......................................10 Item 3. Quantitative and Qualitative Disclosures about Market Risk.........17 Part II. Other Information Item 1. Legal Proceedings..................................................18 Item 2. Changes in Securities..............................................18 Item 3. Defaults upon Senior Securities....................................18 Item 4. Submission of Matters to a Vote of Security Holders................18 Item 5. Other Information..................................................18 Item 6. Exhibits and Reports on Form 8-K...................................18 Signatures..................................................................19 Nu Skin, Pharmanex, Big Planet, Nu Skin 180 and LifePak are trademarks of Nu Skin Enterprises, Inc. or its subsidiaries. 1
PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS Nu Skin Enterprises, Inc. Consolidated Balance Sheets (in thousands, except share amounts) - -------------------------------------------------------------------------------- <TABLE> <CAPTION> (Unaudited) September 30, December 31, 2000 1999 ------------ ------------ <S> <C> <C> ASSETS Current assets Cash and cash equivalents $ 49,899 $ 110,162 Accounts receivable 21,134 18,160 Related parties receivable 13,487 16,424 Inventories, net 89,494 85,751 Prepaid expenses and other 60,424 52,388 ------------ ------------ 234,438 282,885 Property and equipment, net 57,729 57,948 Other assets, net 297,082 302,382 ------------ ------------ Total assets $ 589,249 $ 643,215 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities Accounts payable $ 15,038 $ 22,685 Accrued expenses 87,203 114,691 Related parties payable 11,389 15,059 Current portion of long-term debt (Note 10) -- 55,889 ------------ ------------ 113,630 208,324 Long-term debt, less current portion 87,143 89,419 Other liabilities 38,549 36,093 ------------ ------------ Total liabilities 239,322 333,836 ------------ ------------ Stockholders' equity Preferred stock - 25,000,000 shares authorized, $.001 par value, no shares issued and outstanding -- -- Class A common stock - 500,000,000 shares authorized, $.001 par value, 31,321,701 and 32,002,158 shares issued and outstanding 31 32 Class B common stock - 100,000,000 shares authorized, $.001 par value, 53,578,780 and 54,606,905 shares issued and outstanding 54 55 Additional paid-in capital 108,200 119,652 Retained earnings 290,253 244,758 Deferred compensation (2,404) (6,898) Accumulated other comprehensive income (46,207) (48,220) ----------- ------------ 349,927 309,379 ----------- ------------ Total liabilities and stockholders' equity $ 589,249 $ 643,215 =========== ============ </TABLE> The accompanying notes are an integral part of these consolidated financial statements. 2
Nu Skin Enterprises, Inc. Consolidated Statements of Income (Unaudited) (in thousands, except per share amounts) - -------------------------------------------------------------------------------- <TABLE> <CAPTION> Three Three Nine Nine Months Ended Months Ended Months Ended Months Ended Sept. 30, Sept. 30, Sept. 30, Sept. 30, 2000 1999 2000 1999 ---------- ---------- ---------- ---------- <S> <C> <C> <C> <C> Revenue $ 215,567 $ 220,088 $ 656,151 $ 665,125 Cost of sales 36,839 37,557 109,735 114,593 ---------- ---------- ---------- ---------- Gross profit 178,728 182,531 546,416 550,532 ---------- ---------- ---------- ---------- Operating expenses Distributor incentives 83,773 85,495 255,036 254,784 Selling, general and administrative 71,080 66,648 220,616 185,873 ---------- ---------- ---------- ---------- Total operating expenses 154,853 152,143 475,652 440,657 ---------- ---------- ---------- ---------- Operating income 23,875 30,388 70,764 109,875 Other income (expense), net (500) (5,192) 321 (1,348) ---------- ---------- ---------- ---------- Income before provision for income taxes 23,375 25,196 71,085 108,527 Provision for income taxes 8,415 4,070 25,590 34,558 ---------- ---------- ---------- ---------- Net income $ 14,960 $ 21,126 $ 45,495 $ 73,969 ========== ========== ========== ========== Net income per share (Note 4): Basic $ .18 $ .24 $ .53 $ .85 Diluted $ .18 $ .24 $ .53 $ .84 Weighted average common shares outstanding: Basic 85,077 86,927 85,603 87,177 Diluted 85,409 87,951 86,017 88,285 </TABLE> The accompanying notes are an integral part of these consolidated financial statements. 3
Nu Skin Enterprises, Inc. Consolidated Statements of Cash Flows (Unaudited) (in thousands) - -------------------------------------------------------------------------------- <TABLE> <CAPTION> Nine Nine Months Ended Months Ended Sept. 30, Sept. 30, 2000 1999 ------------ ------------- <S> <C> <C> Cash flows from operating activities: Net income $ 45,495 $ 73,969 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 23,009 21,844 Amortization of deferred compensation 4,494 2,762 Changes in operating assets and liabilities: Accounts receivable (2,974) (3,185) Related parties receivable 2,937 (3,411) Inventories, net (3,743) (184) Prepaid expenses and other (8,036) (19,773) Other assets, net (6,874) (12,227) Accounts payable (7,647) (895) Accrued expenses (25,032) (47,734) Related parties payable (3,670) 198 ------------ ------------- Net cash provided by operating activities 17,959 11,364 ------------ ------------- Cash flows from investing activities: Purchase of property and equipment (13,117) (22,620) Payments for lease deposits (24) (1,886) Receipt of refundable lease deposits 743 752 Purchase of Big Planet, net of cash acquired -- (13,571) ------------ ------------- Net cash used in investing activities (12,398) (37,325) ------------ ------------- Cash flows from financing activities: Exercise of distributor and employee stock options 90 2,529 Termination of Nu Skin USA license fee -- (10,000) Payment to stockholders under the NSI Acquisition -- (25,000) Payments on long-term debt (55,678) (14,545) Repurchase of shares of common stock (11,544) (19,612) ------------ -------------- Net cash used in financing activities (67,132) (66,628) ------------ -------------- Effect of exchange rate changes on cash 1,308 11,912 ------------ ------------- Net decrease in cash and cash equivalents (60,263) (80,677) Cash and cash equivalents, beginning of period 110,162 188,827 ------------ ------------ Cash and cash equivalents, end of period $ 49,899 $ 108,150 ============ ============ </TABLE> The accompanying notes are an integral part of these consolidated financial statements. 4
Nu Skin Enterprises, Inc. Notes to Consolidated Financial Statements - -------------------------------------------------------------------------------- 1. THE COMPANY Nu Skin Enterprises, Inc. (the "Company") is a leading, global direct selling company that develops and distributes premium-quality, innovative personal care products and nutritional supplements and technology and telecommunication products and services. The Company distributes products throughout the world. The Company's operations are divided into three segments: North Asia, which consists of Japan and South Korea; Southeast Asia, which consists of Australia, Hong Kong (including Macau), New Zealand, the PRC (China), the Philippines, Taiwan and Thailand; and Other Markets, which consists of the Company's markets in Europe, South America and North America (the Company's subsidiaries operating in these countries are collectively referred to as the "Subsidiaries"). The Company was incorporated on September 4, 1996 as a holding company. The Company completed the acquisition (the "NSI Acquisition") of the capital stock of Nu Skin International, Inc. ("NSI"), NSI affiliates in Europe, South America, Australia and New Zealand and certain other NSI affiliates (collectively, the "Acquired Entities") on March 26, 1998. The Company completed the acquisition of privately-held Generation Health Holdings, Inc., the parent company of Pharmanex, Inc.("Pharmanex"), on October 16, 1998, which enhanced the Company's involvement with the distribution and sale of nutritional products. As discussed in Note 2, on March 8, 1999, NSI terminated its distribution license and various other license agreements and other intercompany agreements with Nu Skin USA, Inc. ("Nu Skin USA"). Also, in March 1999, through a newly formed wholly-owned subsidiary, the Company acquired selected assets of Nu Skin USA. In May 1999, the Company acquired Nu Skin Canada, Inc., Nu Skin Mexico, Inc. and Nu Skin Guatemala, Inc. (collectively, the "North American Affiliates"). The Company completed the Big Planet Acquisition (as defined in Note 3) on July 13, 1999, which enabled the Company to provide marketing and distribution of technology-based products and services. The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, considered necessary for a fair statement of the Company's financial information as of September 30, 2000 and for the three and nine-month periods ended September 30, 2000 and 1999. The results of operations of any interim period are not necessarily indicative of the results of operations to be expected for the fiscal year. For further information, refer to the consolidated financial statements and accompanying footnotes included in the Company's annual report on Form 10-K for the year ended December 31, 1999. 5
Nu Skin Enterprises, Inc. Notes to Consolidated Financial Statements - -------------------------------------------------------------------------------- 2. ACQUISITION OF CERTAIN ASSETS OF NU SKIN USA, INC. On March 8, 1999, NSI terminated its distribution license and various other license agreements and other intercompany agreements with Nu Skin USA and paid Nu Skin USA a $10.0 million termination fee. Also, on that same date, through a newly formed wholly-owned subsidiary, the Company acquired selected assets of Nu Skin USA in exchange for assuming various accounts payable of Nu Skin USA. The acquisition of the selected assets and assumption of liabilities and the termination of these agreements has been recorded for the consideration paid, except for the portion of Nu Skin USA which is under common control of a group of stockholders, which portion has been recorded at predecessor basis. 3. ACQUISITION OF BIG PLANET, INC. On July 13, 1999, the Company completed the acquisition of Big Planet, Inc. ("Big Planet") for $29.2 million, which consisted of a cash payment of $14.6 million and a note payable of $14.6 million (the "Big Planet Acquisition"). In addition, the Company loaned Big Planet approximately $4.5 million immediately prior to the closing to redeem the option holders and certain management stockholders of Big Planet. The Big Planet Acquisition was accounted for by the purchase method of accounting. The Company recorded intangible assets of $47.0 million which will be amortized over a period of 20 years. During the three and nine-month periods ended September 30, 2000, the Company recorded amortization on the intangible assets relating to the Big Planet Acquisition of $0.6 million and $1.8 million, respectively. Big Planet incurred operating losses of approximately $19.7 million for the nine-month period ended September 30, 2000. 4. NET INCOME PER SHARE Net income per share is computed based on the weighted average number of common shares outstanding during the periods presented. Additionally, diluted earnings per share data give effect to all dilutive potential common shares that were outstanding during the periods presented. 5. DERIVATIVE FINANCIAL INSTRUMENTS The Company's Subsidiaries enter into significant transactions with each other and third parties which may not be denominated in the respective Subsidiaries' functional currencies. The Company seeks to reduce its exposure to fluctuations in foreign exchange rates by creating offsetting positions through the use of foreign currency exchange contracts and through certain intercompany loans of foreign currency. The Company does not use such derivative financial instruments for trading or speculative purposes. The Company regularly monitors its foreign currency risks and periodically takes measures to reduce the impact of foreign exchange fluctuations on the Company's operating results. Gains and losses on foreign currency forward contracts and certain intercompany loans of foreign currency are recorded as other income and expense in the consolidated statements of income. 6
Nu Skin Enterprises, Inc. Notes to Consolidated Financial Statements - -------------------------------------------------------------------------------- At September 30, 2000 and December 31, 1999, the Company held foreign currency forward contracts with notional amounts totaling approximately $26.0 million and $31.1 million, respectively, to hedge foreign currency items. These contracts do not qualify as hedging transactions and, accordingly, have been marked to market. The net gains on foreign currency forward contracts were $0.5 million and $2.4 million for the three and nine-month periods ended September 30, 2000, respectively, and the net losses on foreign currency forward contracts were $4.8 million and $2.2 million for the three and nine-month periods ended September 30, 1999, respectively. These contracts at September 30, 2000 have maturities through March 2001. 6. REPURCHASE OF COMMON STOCK During the three-month periods ended September 30, 2000 and 1999, the Company repurchased approximately 1,039,000 and 303,000 shares, respectively, of Class A common stock for approximately $6.5 million and $3.7 million, respectively. During the nine-month periods ended September 30, 2000 and 1999, the Company repurchased approximately 1,718,000 and 1,305,000 shares, respectively, of Class A common stock for approximately $11.5 million and $19.6 million, respectively. 7. COMPREHENSIVE INCOME The components of comprehensive income, net of related tax, for the three and nine-month periods ended September 30, 2000 and 1999, were as follows (in thousands): <TABLE> <CAPTION> Three Three Nine Nine Months Ended Months Ended Months Ended Months Ended Sept. 30, 2000 Sept. 30, 1999 Sept. 30, 2000 Sept. 30, 1999 -------------- -------------- -------------- -------------- <S> <C> <C> <C> <C> Net income $ 14,960 $ 21,126 $ 45,495 $ 73,969 Other comprehensive income, net of tax: Foreign currency translation adjustments 323 2,783 2,013 2,148 -------------- -------------- -------------- -------------- Comprehensive income $ 15,283 $ 23,909 $ 47,508 $ 76,117 ============== ============== ============== ============== </TABLE> 8. SEGMENT INFORMATION During 1998, the Company adopted Statement of Financial Accounting Standards No. 131 ("SFAS 131"), Disclosures about Segments of an Enterprise and Related Information. As described in Note 1, the Company's operations throughout the world are divided into three reportable segments: North Asia, Southeast Asia and Other Markets. Segment data includes intersegment revenue, intersegment profit and operating expenses and intersegment receivables and payables. The Company evaluates the performance of its segments based on operating income. Information as to the operations of the Company in each of the three segments is set forth below (in thousands): 7
Nu Skin Enterprises, Inc. Notes to Consolidated Financial Statements - -------------------------------------------------------------------------------- <TABLE> <CAPTION> Three Three Nine Nine Months Ended Months Ended Months Ended Months Ended Sept. 30, 2000 Sept. 30,1999 Sept. 30, 2000 Sept. 30,1999 -------------- ------------- -------------- ------------- Revenue <S> <C> <C> <C> <C> North Asia $ 142,802 $ 148,232 $ 432,980 $ 464,636 Southeast Asia 65,677 69,186 208,915 206,947 Other Markets 101,391 84,668 308,379 234,651 Eliminations (94,303) (81,998) (294,123) (241,109) -------------- ------------- -------------- ------------- Totals $ 215,567 $ 220,088 $ 656,151 $ 665,125 ============== ============= ============== ============= Operating Income North Asia $ 10,611 $ 18,396 $ 28,116 $ 69,032 Southeast Asia 5,954 10,203 22,619 26,264 Other Markets 557 2,016 9,865 7,510 Eliminations 6,753 (227) 10,164 7,069 -------------- ------------- -------------- ------------- Totals $ 23,875 $ 30,388 $ 70,764 $ 109,875 ============== ============= ============== ============= As of As of Sept. 30, December 31, 2000 1999 -------------- ------------- Total Assets North Asia $ 90,259 $ 116,918 Southeast Asia 69,731 111,204 Other Markets 462,345 520,832 Eliminations (33,086) (105,739) -------------- ------------- Totals $ 589,249 $ 643,215 ============== ============= </TABLE> Information as to the Company's operations in different geographical areas is set forth below (in thousands): Revenue Revenue from the Company's operations in Japan totaled $134,164 and $143,984 for the three- month periods ended September 30, 2000 and 1999, respectively, and totaled $411,185 and $452,846 for the nine-month periods ended September 30, 2000 and 1999, respectively. Revenue from the Company's operations in Taiwan totaled $20,950 and $26,883 for the three- month periods ended September 30, 2000 and 1999, respectively, and totaled $64,563 and $80,808 for the nine-month periods ended September 30, 2000 and 1999, respectively. Revenue from the Company's operations in the United States (which includes intercompany revenue) totaled $94,887 and $78,950 for the three-month periods ended September 30, 2000 and 1999, respectively, and totaled $290,516 and $219,467 for the nine-month periods ended September 30, 2000 and 1999, respectively. 8
Nu Skin Enterprises, Inc. Notes to Consolidated Financial Statements - -------------------------------------------------------------------------------- Long-lived assets Long-lived assets in Japan were $25,218 and $29,314 as of September 30, 2000 and December 31, 1999, respectively. Long-lived assets in Taiwan were $3,212 and $3,381 as of September 30, 2000 and December 31, 1999, respectively. Long-lived assets in the United States were $296,939 and $310,255 as of September 30, 2000 and December 31, 1999, respectively. 9. NEW ACCOUNTING STANDARDS Accounting for Derivative Instruments and Hedging Activities In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133 ("SFAS 133"), Accounting for Derivative Instruments and Hedging Activities. The statement requires companies to recognize all derivatives as either assets or liabilities, with the instruments measured at fair value. Changes in the fair value of derivatives are recorded each period in current earnings or other comprehensive income, depending on the intended use of the derivative and its resulting designation. The statement is effective for all fiscal quarters of fiscal years beginning after June 15, 2000. The Company will adopt SFAS 133 by January 1, 2001. The Company does not anticipate that the adoption of SFAS 133 will have a significant impact on the Company's consolidated financial statements. Revenue Recognition in Financial Statements In December 1999, the Securities and Exchange Commission staff issued staff Accounting Bulletin No. 101 ("SAB 101"), Revenue Recognition in Financial Statements, which provides guidance on the recognition, presentation and disclosure of revenue in financial statements. SAB 101 did not impact the Company's revenue recognition policies. 10. SUBSEQUENT EVENTS Long-term Debt Refinancing On October 12, 2000, the Company refinanced the $87.1 million balance of its existing credit facility with the proceeds of a private placement of $90.0 million of ten-year senior notes (the "Notes") to The Prudential Insurance Company of America. The Notes are denominated in Japanese yen. The Notes bear interest at an effective rate of 3.03% annually and becomes due October 2010 with principal payments beginning October 2004. The debt is classified as long-term in the consolidated financial statements as of September 30, 2000. 9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 2000 compared to 1999 Revenue decreased 2.0% and 1.3% to $215.6 million and $656.2 million for the three and nine- month periods ended September 30, 2000 from $220.1 million and $665.1 million for the same periods in 1999, respectively. The decrease in revenue on a year-over-year basis was due to lower revenue results in Japan and Taiwan, which was partially offset by increased revenue in the United States from the operations of Big Planet, as discussed below. Fluctuations in foreign currency exchange rates positively impacted revenue for the quarter by approximately 3% on a year-over-year basis. Revenue in North Asia decreased 3.6% and 6.8% to $142.8 million and $433.0 million for the three and nine-month periods ended September 30, 2000 from $148.2 million and $464.6 million for the same periods in 1999, respectively. This decrease in revenue was due to revenue in Japan decreasing 6.8% and 9.2% to $134.2 million and $411.2 million for the three and nine-month periods ended September 30, 2000 from $144.0 million and $452.8 million for the same periods in 1999, respectively. The decline in revenue in Japan was partially offset by an increase in revenue in South Korea of 104.8% and 84.7% to $8.6 million and $21.8 million for the three and nine-month periods ended September 30, 2000 from $4.2 million and $11.8 million for the same periods in 1999, respectively. In local currency terms, revenue in Japan was 10.7% lower in the third quarter of 2000 versus the prior year and 16.7% lower for the nine-month period ended September 30, 2000 versus the prior year. The 2000 results reflect the impact of distributor productivity issues as well as increased competition experienced by the Company over the last 18 months as discussed in previous filings. On a sequential basis, revenue in Japan declined by 5.8% after increasing by 5.8% from the first to the second quarter of 2000. The sequential decline in revenue in Japan in the third quarter of 2000 is due in part to the discontinuance of a quarterly LifePak discount promotion in Japan in favor of the Company's Automatic Delivery Program ("ADP"), which offers a smaller discount to purchasers for a long-term monthly commitment. Management believes that as the ADP program continues to grow, it will generate a more stable and consistent revenue stream. Management also believes that revenue in the quarter, compared to the prior sequential quarter, was also affected by seasonality trends and promotional efforts focused on initiatives planned for the fourth quarter and sales of Nu Skin 180 Anti-Aging Skin Therapy System ("Nu Skin 180") during the latter part of the second quarter in connection with the initial launch of Nu Skin 180. In South Korea, the revenue increase is primarily due to significant new product launches including Pharmanex's weight management products in the second quarter of 2000 and Nu Skin 180 in the third quarter of 2000. Revenue in Southeast Asia decreased 18.0% and 16.9% to $29.6 million and $89.8 million for the three and nine-month periods ended September 30, 2000 from $36.1 million and $108.0 million for the same periods in 1999, respectively. This decline in revenue was primarily a result of revenue in Taiwan decreasing 21.9% and 20.0% to $21.0 million and $64.6 million for the three and nine-month periods ended September 30, 2000 from $26.9 million and $80.8 million for the same periods in 1999, respectively. While the Company's operations in Taiwan have continued to suffer the impact of increased competition and an overall decline in sales in the direct selling industry in Taiwan, which management believes is largely due to economic concerns throughout Southeast Asia, revenue results in the third quarter were essentially level with the second quarter of 2000. Management believes that this leveling of sales is due to new promotional plans and initiatives in this market. Management believes that the Company's year-over-year comparisons in Taiwan suffered from the impact of a major earthquake, which occurred late in the third quarter of 1999. In addition, direct selling as a distribution channel has significantly penetrated the Taiwan market. Revenue in the Company's Other Markets, which include its European and North and South America markets, increased 21.0% and 44.2% to $43.2 million and $133.4 million for the three and nine- month periods ended September 30, 2000 from $35.7 million and $92.5 million for the same periods in 10
1999, respectively. This increase in revenue is due to the additional revenue of $6.0 million and $24.9 million for the three and nine-month periods ended September 30, 2000, respectively, from Big Planet following the Big Planet Acquisition, which occurred in July 1999. In addition, the increase in revenue for the nine-month period also related to revenue of $26.3 million for the three-month period ended March 31, 2000 compared to revenue of $5.7 million from March 8, 1999 through March 31, 1999 from sales in the United States resulting from the termination of the Company's license agreement with Nu Skin USA, which occurred in March 1999. This additional revenue more than offsets the elimination of revenue from sales to the Company's former affiliates in these markets, which revenue is now eliminated in consolidation. On a sequential basis, revenue in the United States decreased by $4.3 million, which is primarily due to lower revenue from Big Planet in the United States. This decline in Big Planet revenue is largely related to the Company's conclusion of the "Free to a Good Home" Iphone initiative, which provided a free Iphone to subscribers entering into a long-term commitment for the Company's Internet and long distance services. The Company is currently focusing on initiatives that place an emphasis on higher margin products such as web page building and telecommunications products. Gross profit as a percentage of revenue remained constant at 82.9% for the three-month period ended September 30, 2000 compared to the same period in the prior year and increased to 83.3% for the nine-month period ended September 30, 2000 compared to 82.8% for the same period in the prior year. The increase in the gross profit percentage for the nine-month period in 2000 resulted from the strengthening of the Japanese yen and other Asian currencies relative to the U.S. dollar, higher margin sales to distributors in the United States following the termination of the Company's license agreement with Nu Skin USA, increased local manufacturing efforts and reduced duty rates. The Company purchases a significant majority of goods in U.S. dollars and recognizes revenue in local currencies. Consequently, the Company is subject to exchange rate risks in its gross margins. The Company's gross margin was negatively impacted by Big Planet operations, which include the sale of lower margin technology products and services. Due to the overall growth in revenue from Big Planet, the impact of Big Planet on gross margins had a greater offsetting effect in the second and third quarters of 2000 than it did in the first quarter of 2000. Distributor incentives as a percentage of revenue increased to 38.9% for both the three and nine-month periods ended September 30, 2000 compared to 38.8% and 38.3% for the same periods in the prior year, respectively. The primary reason for the increase in 2000 was the termination of the Company's license agreement with Nu Skin USA which resulted in the Company beginning to sell products directly to distributors in the United States and paying the requisite commissions related to those sales. In addition, the Company recently restructured a portion of its compensation plan for distributors, adding short-term, division-focused incentives, which has increased compensation to the Company's entry-level distributors since the later part of 1999. Selling, general and administrative expenses as a percentage of revenue increased to 33.0% and 33.6% of revenue for the three and nine-month periods ended September 30, 2000 compared to 30.3% and 27.9% of revenue for the same periods in the prior year, respectively. In U.S. dollar terms, selling, general and administrative expenses increased to $71.1 million and $220.6 million for the three and nine-month periods ended September 30, 2000 compared to $66.6 million and $185.9 million for the same periods in the prior year, respectively. This increase was due primarily to an additional $2.1 million and $19.1 million of selling, general and administrative expenses relating to the assumed operations of Big Planet for the three and nine-month periods ended September 30, 2000, respectively. In addition, the Company incurred an incremental $2.3 million of overhead expenses during the nine-month period ended September 30, 2000 compared to the same period in the prior year for operations in North America following the acquisition of certain assets from Nu Skin USA in March 1999 and the North American Affiliates in May 1999. Selling, general and administrative expenses also increased on a year-over-year basis by $4.8 million for the nine-month period ended September 30, 2000 due to a stronger Japanese yen in 2000. Finally, a convention held in Japan in the first quarter of 2000 resulted in higher expenses of approximately $4.7 million in the first quarter of 2000, versus the same period in the prior year. 11
Other income (expense), net increased $4.7 million and $1.0 million for the three and nine-month periods ended September 30, 2000, respectively, compared to the same periods in the prior year primarily as a result of the significant hedging losses recorded in the third quarter of 1999 from forward contracts and intercompany loans resulting from a stronger Japanese yen in relation to the U.S. dollar. The increase for the nine-month period in 2000 was offset by lower net gains recorded on foreign currency contracts in the first half of 2000 compared to the same prior-year period as well as reduced interest expense relating to the Company's long-term debt. Provision for income taxes increased to $8.4 million for the three-month period ended September 30, 2000 from $4.1 million for the same prior-year period. This increase is due to the increase in the effective tax rate from 16.2% in the third quarter of 1999 to 36.0% in the third quarter of 2000. The effective tax rate of 16.2% in the third quarter of 1999 related to the utilization of foreign tax credits as a result of the Company's global tax restructuring plans in that period. Provision for income taxes decreased to $25.6 million for the nine-month period ended September 30, 2000 from $34.6 million for the same prior-year period. This decrease is due to lower income earned in 2000 versus 1999. Liquidity and Capital Resources Historically, the Company's principal needs for funds have been for distributor incentives, working capital (principally inventory purchases), operating expenses, capital expenditures and the development of operations in new markets. The Company has generally relied on cash flow from operations to meet its business objectives without incurring long-term debt to unrelated third parties to fund operating activities. The Company typically generates positive cash flow from operations due to favorable gross margins, the variable nature of distributor commissions which comprise a significant percentage of operating expenses and minimal capital requirements. During the first and third quarters of each year, however, the Company pays significant accrued income taxes in many foreign jurisdictions including Japan. These large cash payments often more than offset significant cash generated in these quarters. During the nine-month period ended September 30, 2000, the Company generated $18.0 million from operations compared to $11.4 million during the nine-month period ended September 30, 1999. This increase in cash generated from operations in 2000 compared to the same prior-year period primarily related to reduced foreign taxes paid in Japan as a result of the Company's global tax restructuring plans. This reduction in foreign taxes paid was somewhat offset by lower net income in 2000. As of September 30, 2000, working capital was $120.8 million compared to $74.6 million as of December 31, 1999. Cash and cash equivalents at September 30, 2000 and December 31, 1999 were $49.9 million and $110.2 million, respectively. The decrease in cash and cash equivalents are related primarily to a debt payment of $55.7 million which occurred in March 2000. The increase in working capital is primarily related to the refinancing of the Company's existing credit facility, as described in Note 10 of the notes to the Consolidated Financial Statements, as well as the change noted above in cash and cash equivalents. Capital expenditures, primarily for equipment, computer systems and software, office furniture and leasehold improvements, were $13.1 million for the nine-month period ended September 30, 2000. In addition, the Company anticipates additional capital expenditures through the remainder of 2000 of approximately $7.0 million to further enhance its infrastructure, including enhancements to computer systems and Internet related software in order to expand the Company's Internet capabilities and to accommodate anticipated future growth. In March 1998, the Company completed the NSI Acquisition. Pursuant to the terms of the NSI Acquisition, NSI and the Company met earnings growth targets in 1998 resulting in a contingent payment to the stockholders of NSI (the "NSI Stockholders") of $25.0 million. The Company and NSI did not meet specific earnings growth targets for the year ended December 31, 1999. However, contingent upon NSI 12
and the Company meeting earnings growth targets during 2000 and 2001, the Company may pay up to $75.0 million in cash over the next two years to the NSI Stockholders. The contingent consideration of $25.0 million earned in 1998 was paid in the second quarter of 1999 and has been accounted for as an adjustment to the purchase price and allocated to the assets and liabilities of the Acquired Entities. Any additional contingent consideration paid over the next two years, if any, will be accounted for in a similar manner. On October 12, 2000, the Company refinanced the $87.1 million balance of its existing credit facility with the proceeds of a private placement of $90.0 million of ten-year senior notes (the "Notes") to The Prudential Insurance Company of America. The Notes are denominated in Japanese yen. The Notes bear interest at an effective rate of 3.03% annually and become due October 2010 with principal payments beginning October 2004. The debt is classified as long-term in the consolidated financials statements as of September 30, 2000. During 2000, the Company renewed a $10.0 million revolving credit agreement with ABN-AMRO, N.V. Advances are available under the agreement through May 18, 2001 with a possible extension upon approval of the lender. There were no outstanding balances under this credit facility at September 30, 2000. Since August 1998, the board of directors has authorized the Company to repurchase up to $40.0 million of the Company's outstanding shares of Class A common stock. The repurchases are used primarily to fund the Company's equity incentive plans. During the three and nine-month periods ended September 30, 2000, the Company repurchased approximately 1,039,000 and 1,718,000 shares for an aggregate price of approximately $6.5 million and $11.5 million, respectively. As of September 30, 2000, the Company had repurchased a total of 3,999,102 shares for an aggregate price of approximately $39.3 million. In addition, in March 1999, in connection with the termination of the license and distribution agreements with Nu Skin USA, the board of directors separately authorized and the Company completed the purchase of approximately 700,000 shares of the Company's Class A common stock from Nu Skin USA and certain stockholders for approximately $10.0 million. The Company had related party payables of $11.4 million and $15.1 million at September 30, 2000 and December 31, 1999, respectively. In addition, the Company had related party receivables of $13.5 million and $16.4 million, respectively, at those dates. Management considers the Company to be sufficiently liquid to be able to meet its obligations on both a short and long-term basis. Management currently believes existing cash balances together with future cash flows from operations will be adequate to fund cash needs relating to the implementation of the Company's strategic plans. Seasonality In addition to general economic factors, the direct selling industry is impacted by seasonal factors and trends such as major cultural events and vacation patterns. For example, Japan, Taiwan, Hong Kong, South Korea and Thailand celebrate their respective local New Year in our first quarter. Management believes that direct selling in Japan, the United States and Europe is also generally negatively impacted during the month of August, which is in the Company's third quarter, when many individuals traditionally take vacations. 13
Distributor Information The following table provides information concerning the number of active and executive distributors as of the dates indicated. As of Sept. 30, 2000 As of Sept. 30, 1999 ---------------------- --------------------- Active Executive Active Executive ------- --------- ------- --------- North Asia . . . . . . . . . 292,000 13,957 321,000 14,977 Southeast Asia . . . . . . . 98,000 2,957 118,000 4,137 Other Markets. . . . . . . . 71,000 3,550 69,000 2,761 ------- --------- ------- --------- Total. . . . . . . . . . . . 461,000 20,464 508,000 21,875 ======= ========= ======= ========= Currency Risk and Exchange Rate Information A majority of the Company's revenue and many of the Company's expenses are recognized primarily outside of the United States except for inventory purchases which are primarily transacted in U.S. dollars from vendors in the United States. Each subsidiary's local currency is considered the functional currency. All revenue and expenses are translated at weighted average exchange rates for the periods reported. Therefore, the Company's reported sales and earnings will be positively impacted by a weakening of the U.S. dollar and will be negatively impacted by a strengthening of the U.S. dollar. Given the uncertainty of exchange rate fluctuations, the Company cannot estimate the effect of these fluctuations on the Company's future business, product pricing, results of operations or financial condition. However, because a majority of the Company's revenue is realized in local currencies and the majority of the Company's cost of sales is denominated in U.S. dollars, the Company's gross profits will be positively affected by a weakening in the U.S. dollar and will be negatively affected by a strengthening in the U.S. dollar. The Company seeks to reduce its exposure to fluctuations in foreign exchange rates by creating offsetting positions through the use of foreign currency exchange contracts and through intercompany loans of foreign currency. The Company does not use such derivative financial instruments for trading or speculative purposes. The Company regularly monitors its foreign currency risks and periodically takes measures to reduce the impact of foreign exchange fluctuations on the Company's operating results. The Company's foreign currency derivatives are comprised of over-the-counter forward contracts with major international financial institutions. As of September 30, 2000, the primary currency for which the Company had net underlying foreign currency exchange rate exposure was the Japanese yen. Based on the Company's foreign exchange contracts at September 30, 2000 as discussed in Note 5 of the notes to the Consolidated Financial Statements, the impact of a 10% appreciation or 10% depreciation of the U.S. dollar against the Japanese yen would not result in significant other income or expense recorded in the Consolidated Statements of Income. Outlook Management's outlook for the remainder of 2000 and looking forward to 2001 is contingent upon the continued success of its strategy of aligning the Company's historical business along three divisions of products and opportunities: Nu Skin (personal care products), Pharmanex (nutritional products), and Big Planet (technology, Internet and telecommunications products and services). Each of these divisions is supported by Nu Skin Enterprises' resources, expertise and knowledge of direct selling. During 1999, the divisional strategy was implemented or announced in major markets. While implementation initially caused some disruption in the distributor force, management believes that its strategy has had a positive impact in many of its markets, particularly in the United States, Japan and South Korea. While management believes that its divisional strategy will yield overall growth for the Company in a market, it recognizes that division specific growth in any given market may vary as distributors shift their attention and focus from 14
one division to another just as the Company's seamless compensation plan yields variations in individual market performance as distributors shift their focus among geographic markets. During the fourth quarter of 2000, management anticipates modest sequential revenue growth in Japan and Taiwan and relatively level revenue in South Korea and the United States. Overall sequential revenue growth for the fourth quarter, which has historically been one of the Company's strongest quarters of the year, is expected to be 5% to 8%. For the year 2001, the Company anticipates revenue growth rates in the mid to high single digits. Gross margins are anticipated to decrease slightly in the fourth quarter of 2000 and into 2001 due to the lower margin goods and services provided by Big Planet as well as the Company's forecast of slightly weaker foreign currencies. Distributor incentives are anticipated to slightly increase due to new incentive programs aimed at attracting new distributors. Selling, general and administrative costs are anticipated to slightly decrease as a percentage of revenue through the fourth quarter of 2000 as the Company looks to continue improving efficiencies and are anticipated to slightly increase in the first quarter of 2001 relating to the planned convention to be held in the United States during the first quarter of 2001 and in the fourth quarter of 2001 due to the planned convention in Japan. While the Company experienced reduced tax rates for the year ended December 31, 1999, management believes that its annual corporate tax rates will continue at current levels through the remainder of 2000 and with slight increases in 2001. Overall, management believes that net income and earnings per share will increase 7% to 10% in the fourth quarter of 2000 compared to the third quarter. For the year 2001, management believes that earnings growth rates will slightly exceed revenue growth rates due to improved operating efficiencies. Note Regarding Forward-Looking Statements With the exception of historical facts, the statements contained in this Report and Management's Discussion and Analysis of Financial Condition and Results of Operations, are "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 (the "Reform Act") which reflect the Company's current expectations and beliefs regarding the future results of operations, performance and achievements of the Company. These statements are subject to risks and uncertainties and are based upon assumptions and beliefs that may not materialize. These forward-looking statements include, but are not limited to, statements concerning: o the Company's belief that existing cash and cash flow from operations will be adequate to fund cash needs; o management's belief that the Company's divisional strategy will yield overall growth; o the belief that revenue will increase sequentially in Japan and Taiwan and will remain relatively stable in the United States and South Korea during the fourth quarter; o management's belief that earnings will improve by 7% to 10% during the fourth quarter compared to the third quarter and revenue will increase by 5% to 8% sequentially; o the current anticipation that revenue will increase in the mid to high single digits in 2001 compared to 2000 and that earnings growth rates will be slightly more than the revenue growth rates as a result of improved operating efficiencies; o management's anticipation that during the fourth quarter of 2000 gross margins will decrease slightly, distributor incentives will slightly increase, selling, general and administrative expenses will slightly decrease as a percent of revenue, and that tax rates will remain at historical levels; and 15
o the Company's plan to implement forward contracts and other hedging strategies to manage foreign currency risks. In addition, when used in this report, the words or phrases, "will likely result," "expects," "anticipates," "will continue," "intends," "plans," "believes," "the Company or management believes," and similar expressions are intended to help identify forward looking statements. The Company wishes to caution readers that the risks and uncertainties set forth below, and the other risks and factors described herein and in the Company's other filings with the Securities and Exchange Commission (which contain a more detailed discussion of the risks and uncertainties related to the Company's business) could cause (and in some cases in the past have caused) the Company's actual results and outcomes to differ materially from those discussed or anticipated. The Company also wishes to advise readers not to place any undue reliance on such forward-looking statements, which reflect the Company's beliefs and expectations only as of the date of this report. The Company assumes no obligation to update or revise these forward-looking statements to reflect new events or circumstances or any changes in its beliefs or expectations. Important factors, risks and uncertainties that might cause actual results to differ from those anticipated include, but are not limited to, the following: (a) There can be no assurances that the factors that have negatively impacted the business over the past year will not continue to have a negative impact or that recent initiatives, including the Company's divisional strategy, will help stabilize operations or renew growth on a sustained basis. The Company has recently implemented various initiatives to stabilize its Asian operations and renew growth. Although management believes initial results have been positive, there is still uncertainty concerning the long-term effect of recent initiatives. In addition, there is a risk that the implementation of the Company's divisional strategy, Internet initiatives, and promotions could create renewed confusion or uncertainty among distributors and not increase distributor productivity. (b) Risks and uncertainties associated with the Company's e-commerce initiatives and Big Planet's initiatives. These risks include: o uncertainty concerning the degree to which such initiatives will increase and sustain levels of distributor interest, activity or retention or generate incremental revenue growth, o the risk of technological problems or development issues that could interrupt or delay such initiatives and impede distributor enthusiasm or increase the costs of such initiatives, and o the risk that the Company's e-commerce initiatives will not continue generating the operating efficiencies currently being experienced. (c) The ability of the Company to retain its key and executive level distributors. The Company has experienced a reduction in the number of active and executive distributors. Because the Company's products are distributed exclusively through its distributors, the Company's divisional strategy and its operating results could be adversely affected if the Company's existing and new business opportunities and products do not generate sufficient economic incentive to retain its existing distributors or to sponsor new distributors on a sustained basis, or if the Company receives adverse publicity. 16
(d) Because a substantial majority of the Company's sales are generated from the Asian region, particularly Japan, significant variations in operating results including revenue, gross margin and earnings from those expected could be caused by o renewed or sustained weakness of Asian economies or consumer confidence, o weakening of foreign currencies, particularly the Japanese yen, and o the risk that the Company will not be able to favorably implement forward contracts and other hedging strategies to manage foreign currency risk. (e) Risks associated with the Company's new business opportunities, new product offerings and new markets, including: o any legal or regulatory restrictions that might delay or prevent the Company from introducing such opportunities and products into all of its markets or limit the ability of the Company to effectively market such products, o the risk that such opportunities and products will not gain market acceptance or meet the Company's expectations as a result of increased competition, o any lack of market acceptance by consumers or the Company's distributors, and o the risk that sales from such new business opportunities and product offerings could reduce sales of existing products and not generate significant incremental revenue growth. (f) The Company's operations could also be affected by the following risks: o adverse business or political conditions, continued competitive pressure, o the maturity of the direct sales channel in certain of the Company's markets, o changes in laws and regulations (including any increased government regulation of direct selling activities and products in existing and future markets such as Singapore, the People's Republic of China, or changes in U.S. or foreign tax regulations), and o the Company's reliance on outside manufacturers. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The information required by Item 3 of Part I of Form 10-Q is incorporated herein by reference from the section entitled "Currency Risk and Exchange Rate Information" in "Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations" of Part I and also in Note 5 to the Financial Statements contained in Item 1 of Part I. 17
PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Reference is made to the Company's Annual Report on Form 10-K and its filings on Form 10-Q for information concerning legal proceedings. In September 2000, the Company filed a motion to dismiss in the case Karen Kindt, on behalf of Nu Skin Enterprises, Inc. v. Blake Roney et.al, which was filed in the Court of Chancery in the State of Delaware in January 2000. In accordance with Delaware statutory process, the Company established a Special Litigation Committee consisting of independent directors to investigate, analyze and evaluate the allegations and issues raised in the complaint. The Special Litigation Committee filed its final report under seal with the Delaware Court of Chancery in September 2000. Based on the determinations of the Special Litigation Committee, the Company has moved to dismiss the complaint. ITEM 2. CHANGES IN SECURITIES None. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits Regulation S-K Number Description 10.1 Note Purchase Agreement dated October 12, 2000 by and between the Company and The Prudential Insurance Company of America 10.2 Pledge Agreement dated October 12, 2000 by and between the Company and State Street Bank and Trust Company of California, N.A., acting in its capacity as collateral agent 10.3 Collateral Agency Agreement dated October 12, 2000 by and between the Company, State Street Bank and Trust Company of California, N.A., as Collateral Agent, and the lenders and note holders party thereto 27.1 Financial Data Schedule - Nine Months Ended September 30, 2000 (b) Reports on Form 8-K. No current Reports on Form 8-K were filed during the quarter ended September 30, 2000. 18
SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on this 7th day of November, 2000. NU SKIN ENTERPRISES, INC. By: /s/ Corey B. Lindley --------------------- Corey B. Lindley Its: Chief Financial Officer (Principal Financial and Accounting Officer) 19
EXHIBIT INDEX 10.1 Note Purchase Agreement dated October 12, 2000 by and between the Company and The Prudential Insurance Company of America 10.2 Pledge Agreement dated October 12, 2000 by and between the Company and State Street Bank and Trust Company of California, N.A., acting in its capacity as collateral agent 10.3 Collateral Agency Agreement dated October 12, 2000 by and between the Company, State Street Bank and Trust Company of California, N.A., as Collateral Agent, and the lenders and note holders party thereto 27.1 Financial Data Schedule - Nine Months Ended September 30, 2000 20