USANA HEALTH SCIENCES INC - Quarter Report: 2018 March (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 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 March 31, 2018

 

or

 

o         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: 001-35024

 

 

USANA HEALTH SCIENCES, INC.

(Exact name of registrant as specified in its charter)

 

 

 

3838 West Parkway Blvd., Salt Lake City, Utah 84120

(Address of principal executive offices, Zip Code)

 

 

(801) 954-7100

(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 o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x  No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company.  See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer x		Accelerated filer o
Non-accelerated filer o		Smaller reporting company o
(Do not check if a smaller reporting company)		Emerging growth company o

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  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 x

 

The number of shares outstanding of the registrant’s common stock as of May 4, 2018 was 24,176,523

 

 

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USANA HEALTH SCIENCES, INC.

 

FORM 10-Q

 

For the Quarterly Period Ended March 31, 2018

 

INDEX

 

 

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PART I.  FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED BALANCE SHEETS

 

(in thousands, except par value)

(unaudited)

 

		As of			As of
		December 30,			March 31,
		2017			2018
ASSETS
Current assets
Cash and cash equivalents		$	247,131		$	266,197
Inventories		62,918			68,128
Prepaid expenses and other current assets		30,110			31,801
Total current assets		340,159			366,126
Property and equipment, net		102,847			101,357
Goodwill		17,417			17,797
Intangible assets, net		35,154			35,969
Deferred tax assets		2,859			3,098
Other assets		20,833			21,598
		$	519,269		$	545,945
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities
Accounts payable		$	11,787		$	12,681
Other current liabilities		129,396			113,687
Total current liabilities		141,183			126,368
Deferred tax liabilities		13,730			17,475
Other long-term liabilities		1,146			1,124
Stockholders’ equity
Common stock, $0.001 par value; Authorized — 50,000 shares, issued and outstanding 24,024 as of December 30, 2017 and 24,099 as of March 31, 2018		24			24
Additional paid-in capital		76,542			79,434
Retained earnings		288,070			315,672
Accumulated other comprehensive income (loss)		(1,426		)	5,848
Total stockholders’ equity		363,210			400,978
		$	519,269		$	545,945

 

The accompanying notes are an integral part of these statements.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

 

(in thousands, except per share data)

(unaudited)

 

		Quarter Ended
		April 1,			March 31,
		2017			2018
Net sales		$	255,323		$	291,998
Cost of sales		42,654			49,375
Gross profit		212,669			242,623
Operating expenses:
Associate incentives		115,781			129,362
Selling, general and administrative		64,001			70,132
Total operating expenses		179,782			199,494
Earnings from operations		32,887			43,129
Other income (expense):
Interest income		483			840
Interest expense		(10		)	(10		)
Other, net		9			32
Other income (expense), net		482			862
Earnings before income taxes		33,369			43,991
Income taxes		12,011			15,045
Net earnings		$	21,358		$	28,946
Earnings per common share
Basic		$	0.87		$	1.20
Diluted		$	0.86		$	1.19
Weighted average common shares outstanding
Basic		24,499			24,074
Diluted		24,976			24,273
Comprehensive income:
Net earnings		$	21,358		$	28,946
Other comprehensive income (loss), net of tax:
Foreign currency translation adjustment		3,297			7,814
Tax benefit (expense) related to foreign currency translation adjustment		(207		)	(540		)
Other comprehensive income (loss), net of tax		3,090			7,274
Comprehensive income		$	24,448		$	36,220

 

The accompanying notes are an integral part of these statements.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

Three Months Ended March 31, 2018

 

(in thousands)

(unaudited)

 

													Accumulated
							Additional						Other
		Common Stock					Paid-in			Retained			Comprehensive
		Shares		Value			Capital			Earnings			Income (Loss)			Total
Balance at December 30, 2017		24,024		$	24		$	76,542		$	288,070		$	(1,426	)	$	363,210
Cumulative effect of accounting change										994						994
Balance after cumulative effect of accounting change		24,024		24			76,542			289,064			(1,426		)	364,204
Net earnings										28,946						28,946
Other comprehensive income (loss), net of tax													7,274			7,274
Equity-based compensation expense							3,805									3,805
Common stock repurchased and retired		(39	)	—			(605		)	(2,338		)				(2,943		)
Common stock issued under equity award plans		114		—												—
Tax withholding for net-share settled equity awards							(308		)							(308		)
Balance at March 31, 2018		24,099		$	24		$	79,434		$	315,672		$	5,848		$	400,978

 

The accompanying notes are an integral part of these statements.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

(in thousands)

(unaudited)

 

		Three Months Ended
		April 1,			March 31,
		2017			2018
Cash flows from operating activities
Net earnings		$	21,358		$	28,946
Adjustments to reconcile net earnings to net cash provided by (used in) operating activities
Depreciation and amortization		3,466			4,531
(Gain) loss on sale of property and equipment		(10		)	1,782
Equity-based compensation expense		4,198			3,805
Deferred income taxes		1,380			3,102
Changes in operating assets and liabilities:
Inventories		(3,265		)	(4,469		)
Prepaid expenses and other assets		3,756			(3,379		)
Accounts payable		263			649
Other liabilities		(29,245		)	(15,449		)
Net cash provided by (used in) operating activities		1,901			19,518
Cash flows from investing activities
Receipts on notes receivable		107			301
Proceeds from sale of property and equipment		10			35
Purchases of property and equipment		(3,381		)	(2,948		)
Net cash provided by (used in) investing activities		(3,264		)	(2,612		)
Cash flows from financing activities
Repurchase of common stock		—			(2,943		)
Payments related to tax withholding for net-share settled equity awards		—			(308		)
Net cash provided by (used in) financing activities		—			(3,251		)
Effect of exchange rate changes on cash, cash equivalents and restricted cash		1,957			5,519
Net increase (decrease) in cash, cash equivalents and restricted cash		594			19,174
Cash, cash equivalents, and restricted cash, at beginning of period		178,952			250,535
Cash, cash equivalents, and restricted cash at end of period		$	179,546		$	269,709
Reconciliation of cash, cash equivalents, and restricted cash to the condensed consolidated balance sheets
Cash and equivalents		$	176,320		$	266,197
Restricted cash included in prepaid expenses and other current assets		322			330
Restricted cash included in other assets		2,904			3,182
Total cash, cash equivalents, and restricted cash		$	179,546		$	269,709
Supplemental disclosures of cash flow information
Cash paid during the period for:
Interest		$	2		$	2
Income taxes		10,087			19,495
Cash received during the period for:
Income tax refund		4,700			49
Non-cash investing activities:
Credits on notes receivable		191			—
Accrued purchases of property and equipment		—			159

 

The accompanying notes are an integral part of these statements.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(in thousands, except per share data)

(unaudited)

 

NOTE A — ORGANIZATION, CONSOLIDATION, AND BASIS OF PRESENTATION

 

USANA Health Sciences, Inc. develops and manufactures high-quality nutritional and personal care/skincare products that are sold internationally through a global network marketing system, which is a form of direct selling. The Condensed Consolidated Financial Statements include the accounts and operations of USANA Health Sciences, Inc., a Utah corporation and its wholly-owned subsidiaries (collectively, the “Company” or “USANA”) in two geographic regions: Asia Pacific, and Americas and Europe.  Asia Pacific is further divided into three sub-regions: Greater China, Southeast Asia Pacific, and North Asia. Greater China includes Hong Kong, Taiwan and China; Southeast Asia Pacific includes Australia, New Zealand, Singapore, Malaysia, the Philippines, Thailand, and Indonesia; North Asia includes Japan, and South Korea.  Americas and Europe includes the United States, Canada, Mexico, Colombia, the United Kingdom, France, Belgium, and the Netherlands.  All intercompany accounts and transactions have been eliminated in consolidation.

 

The condensed consolidated balance sheet as of December 30, 2017, derived from audited consolidated financial statements, and the unaudited interim consolidated financial information of the Company have been prepared in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X promulgated by the Securities and Exchange Commission (“SEC”).  Accordingly, certain information and footnote disclosures that are normally included in financial statements that have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted pursuant to such rules and regulations. The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.  In the opinion of management, the accompanying interim condensed consolidated financial information contains all adjustments, consisting only of normal recurring adjustments that are necessary to state fairly the Company’s financial position as of March 31, 2018 and results of operations for three months ended April 1, 2017 and March 31, 2018.

 

The interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto that are included in the Company’s Annual Report on Form 10-K for the year ended December 30, 2017.  The results of operations for the three months ended March 31, 2018, are not necessarily indicative of the results that may be expected for the fiscal year ending December 29, 2018.

 

Recent Accounting Pronouncements

 

Adopted accounting pronouncements

 

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09, “Revenue from Contracts with Customers (Topic 606).”  Also referred to as ASC 606, this update replaces existing revenue recognition guidance with a single comprehensive revenue model for entities to use in accounting for revenue arising from contracts with customers.  ASC 606 includes a five-step process by which entities recognize revenue to depict the transfer of goods or services to customers in amounts that reflect the consideration to which an entity expects to be entitled in exchange for those goods or services.  This standard also requires enhanced disclosures to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers.

 

The Company adopted ASC 606 effective at the beginning of fiscal 2018 and applied the modified retrospective approach.  Accordingly, the Company recognized the cumulative effect of initially applying ASC 606 as an adjustment to the fiscal 2018 opening balance of retained earnings.  The comparative information has not been restated and continues to be presented according to accounting standards in effect for those periods.  The adoption of ASC 606 did not have a material impact on the Company’s consolidated financial statements.  As a result of the adoption of ASC 606, the Company updated its accounting policies related to revenue recognition.  See Note B — Revenue Recognition for additional information regarding the Company’s revenue recognition policies under the new standard.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE A — ORGANIZATION, CONSOLIDATION, AND BASIS OF PRESENTATION - CONTINUED

 

Under ASC 606, the Company made a change in the timing for recognizing revenue on orders that have shipped but have not been delivered at period end.  Under the new standard, revenue is recognized when the customer obtains control of the goods and considering the indicators used to determine when control has passed to the customer, the Company has concluded that control transfers upon shipment.  Therefore, revenue and related expense items including cost of goods sold and Associate incentives on orders that have shipped but have not been delivered at period end are no longer deferred.  Other than the amounts recorded for this change upon adoption of ASC 606 in the condensed consolidated balance sheet, there were no other changes since the adoption that would be materially different from previous accounting standards that would affect the Company’s consolidated financial statements.

 

The following table summarizes the cumulative effect of the changes to our unaudited condensed consolidated balance sheet opening balances as of the beginning of fiscal 2018:

 

		Balance at			ASC 606			Balance after
		December 30, 2017			Adjustments			ASC 606 Adjustments
Assets
Inventories		$	62,918		$	(350	)	$	62,568
Prepaid expenses and other current assets		30,110			(1,147		)	28,963
Liabilities
Other current liabilities		$	129,396		$	(2,491	)	$	126,905
Stockholders’ Equity
Retained earnings		$	288,070		$	994		$	289,064

 

In November 2016, the FASB issued ASU No. 2016-18, “Statement of Cash Flows (Topic 230): Restricted Cash.”  The ASU requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The ASU is effective for annual and interim periods in fiscal years beginning after December 15, 2017.  The Company adopted ASU 2016-18 using a retrospective transition method during the quarter ended March 31, 2018 and the adoption of the standard did not have a material impact on its consolidated financial statements.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE A — ORGANIZATION, CONSOLIDATION, AND BASIS OF PRESENTATION - CONTINUED

 

In May 2017 the FASB issued ASU No. 2017-09, “Compensation-Stock Compensation (Topic 718): Scope of Modification Accounting.”  ASU 2017-09 provides clarification on when modification accounting should be used for changes to the terms or conditions of a share-based payment award.  ASU 2017-09 does not change the accounting for modifications but clarifies that modification accounting guidance should only be applied if there is a change to the value, vesting conditions, or award classification and would not be required if the changes are considered non-substantive.  The ASU is effective for all annual and interim periods in fiscal years beginning after December 15, 2017.  The Company adopted ASU 2017-09 during the quarter ended March 31, 2018 and the adoption of the standard did not have an impact on its consolidated financial statements.

 

Issued accounting pronouncements

 

In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842).”  ASU 2016-02 is intended to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements.  Additionally, the ASU will require disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases, including qualitative and quantitative requirements.  The update requires lessees to apply a modified retrospective approach for recognition and disclosure, beginning with the earliest period presented.  The ASU is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years, with early adoption permitted.  The Company is currently in the process of evaluating the impact of the ASU on the Company’s outstanding leases and expects that adoption will have an impact on the consolidated balance sheets related to recording right-of-use assets and corresponding lease liabilities.

 

NOTE B — REVENUE RECOGNITION

 

Significant changes to the Company’s accounting policies as a result of adopting ASC 606 are discussed below.  Refer to Note A — Summary of Significant Accounting Policies of the Company’s annual report on Form 10-K for the year ended December 30, 2017 for policies in effect for revenue recognition prior to December 31, 2017, which were based on ASC 605, and for all other significant accounting policies.

 

Revenue is recognized when, or as, control of a promised product or service transfers to a customer, in an amount that reflects the consideration to which the Company expects to be entitled in exchange for transferring those products or services.  Revenue excludes taxes that have been assessed by governmental authorities and that are directly imposed on revenue-producing transactions between the Company and its customers, including sales, use, value-added, and some excise taxes. Revenue recognition is evaluated through the following five-step process:

 

1) identification of the contract with a customer;

2) identification of the performance obligations in the contract;

3) determination of the transaction price;

4) allocation of the transaction price to the performance obligations in the contract; and

5) recognition of revenue when or as a performance obligation is satisfied.

 

Product Revenue

 

A majority of the Company’s sales are for products sold at a point in time and shipped to customers, for which control is transferred as goods are delivered to the third party carrier for shipment.  The Company receives payment, primarily via credit card, for the sale of products at the time customers place orders and payment is required prior to shipment.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE B — REVENUE RECOGNITION - CONTINUED

 

The Company’s product sales contracts include terms that could cause variability in the transaction price for items such as discounts, credits, or sales returns.  Accordingly, the transaction price for product sales includes estimates of variable consideration to the extent it is probable that a significant reversal of revenue recognized will not occur. At the time of sale, the Company estimates a refund liability for the variable consideration based on historical experience.

 

Initial product orders with a new customer may include multiple performance obligations related to sales discounts earned under the Company’s initial order reward program.  Under this program, the customer receives an option to apply the discounts earned on the initial order to two subsequent Auto Orders, which conveys a material right to the customer.  As such, the initial order transaction price is allocated to each separate performance obligation based on its relative standalone selling price and recognized as revenue as each performance obligation is satisfied.

 

Associate incentives represent consideration paid to a customer and include all forms of commissions, and other incentives paid to our Associates.  With the exception of commissions paid to Associates on personal purchases, which are considered a sales discount and are reported as a reduction to net sales, the incentives are paid for distinct services related to the Company’s product sales and are recorded as an expense when revenue for the goods is recognized.

 

Shipping and handling activities are performed after the customer obtains control of the goods transferred.  The Company accounts for these activities as fulfillment costs.  Therefore, the Company recognizes the costs of these activities when revenue for the goods is recognized.  Shipping and handling costs are included in cost of sales for all periods presented.

 

With respect to will-call orders, the Company periodically assesses the likelihood that customers will exercise their contractual right to pick up orders and revenue is recognized when the likelihood is estimated to be remote.

 

Other Revenue

 

Other types of revenue include fees for access to online customer service applications and annual account renewal fees for Associates, for which control is transferred over time as services are delivered and are recognized as revenue on a straight-line basis over the term of the respective contracts.

 

Revenue Disaggregation

 

Disaggregation of revenue by geographical region and major product line is included in Segment Information in Note I.

 

Contract Balances

 

Contract liabilities, which are recorded within Other current liabilities in the condensed consolidated balance sheets, primarily relate to deferred revenue for product sales for customer payments received in advance of shipment, for outstanding material rights under the initial order program, and for services where control is transferred over time as services are delivered.

 

The following table provides information about contract liabilities from contracts with customers, including significant changes in the contract liabilities balances during the period.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE B — REVENUE RECOGNITION - CONTINUED

 

		Three Months Ended
		March 31,
		2018
Contract liabilities at beginning of period		$	14,417
Increase due to deferral of revenue		13,444
Decreases due to recognition of revenue		(12,965		)
Contract liabilities at end of period		$	14,896

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE C — FAIR VALUE MEASURES

 

The Company measures at fair value certain of its financial and non-financial assets and liabilities by using a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, essentially an exit price, based on the highest and best use of the asset or liability. The levels of the fair value hierarchy are:

 

·                  Level 1 inputs are quoted market prices in active markets for identical assets or liabilities that are accessible at the measurement date.

·                  Level 2 inputs are from other than quoted market prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.

·                  Level 3 inputs are unobservable and are used to measure fair value in situations where there is little, if any, market activity for the asset or liability at the measurement date.

 

As of the dates indicated, the following financial assets and liabilities were measured at fair value on a recurring basis using the type of inputs shown:

 

					Fair Value Measurements Using
					Inputs
		December 30, 2017			Level 1			Level 2			Level 3
Money market funds included in cash equivalents		$	106,090		$	106,090		$	—		$	—
Foreign currency contracts included in other current liabilities		(139		)	—			(139		)	—
		$	105,951		$	106,090		$	(139	)	$	—

 

					Fair Value Measurements Using
					Inputs
		March 31, 2018			Level 1			Level 2			Level 3
Money market funds included in cash equivalents		$	167,207		$	167,207		$	—		$	—
Foreign currency contracts included in other current liabilities		(369		)	—			(369		)	—
		$	166,838		$	167,207		$	(369	)	$	—

 

There were no transfers of financial assets or liabilities between levels of the fair value hierarchy for the periods indicated.

 

The majority of the Company’s non-financial assets, which include goodwill, intangible assets, and property and equipment, are not required to be carried at fair value on a recurring basis. However, if certain triggering events occur (or tested at least annually for goodwill and indefinite-lived intangibles) such that a non-financial asset is required to be evaluated for impairment, an impairment charge is recorded to reduce the carrying value to the fair value, if the carrying value exceeds the fair value.  At December 30, 2017 and March 31, 2018, there were no non-financial assets measured at fair value on a non-recurring basis.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE C — FAIR VALUE MEASURES - CONTINUED

 

The Company’s financial instruments include cash equivalents, accounts receivable, restricted cash, notes receivable, and accounts payable. The recorded values of cash equivalents, accounts receivable, restricted cash, and accounts payable approximate their fair values, based on their short-term nature. Historically, the carrying value of the notes receivable approximated fair value because the variable interest rates in the notes reflected current market rates. During the year ended December 30, 2017, an impairment was recorded on a note receivable (discussed in Note E) based on the estimated recoverable amount using Level 3 inputs, which approximates fair value.

 

NOTE D — INVENTORIES

 

Inventories consist of the following:

 

		December 30,			March 31,
		2017			2018
Raw materials		$	20,737		$	21,221
Work in progress		8,461			9,616
Finished goods		33,720			37,291
		$	62,918		$	68,128

 

NOTE E — OTHER ASSETS

 

Other assets consist primarily of land use rights related to a production facility in China and a secured loan to the former supplier of the Company’s nutrition bars.  The Company extended non-revolving credit to this former supplier to allow them to acquire equipment that is necessary to manufacture the USANA nutrition bars, which is secured by the equipment. This relationship was intended to provide improved supply chain stability for USANA and create a mutually beneficial relationship between the parties. Interest accrued at an annual interest rate of LIBOR plus 400 basis points. The note has a maturity date of February 1, 2024 and was to be repaid by a combination of cash payments and credits for the manufacture of USANA’s nutrition bars. There is no prepayment penalty.  The total contractual unpaid principal balance, including accrued unpaid interest on the note receivable from this supplier as of December 30, 2017 and March 31, 2018 was $6,734 and $6,536, respectively.

 

A loan is considered impaired when, based on current information and events; it is probable that the Company will be unable to collect the scheduled payments in accordance with the contractual terms of the loan. Factors considered in determining impairment include payment status, collateral value and the probability of collecting payments when due. During the first half of 2017, the Company experienced challenges with the former supplier of the Company’s nutrition bars and subsequently determined to no longer use this supplier. The Company evaluated the recoverability of the note receivable from this supplier and recorded impairments totaling $2,734 during the year ended December 30, 2017.  No additional impairments were recorded during the three months ended March 31, 2018.  Subsequent to March 31, 2018, the Company received $4,800 in cash from this supplier as settlement in full of the note receivable.

 

NOTE F — LINE OF CREDIT

 

The Company has a $75,000 line of credit with Bank of America.  Interest is computed at the bank’s Prime Rate or LIBOR, adjusted by features specified in the Credit Agreement.  The collateral for this line of credit is the pledge of the capital stock of certain subsidiaries of the Company, pursuant to a separate pledge agreement with the bank.  On February 19, 2016, the Company entered into an Amended and Restated Credit Agreement with Bank of America, which extends the term of the Credit Agreement to April 27, 2021 and increases the Company’s consolidated rolling four-quarter adjusted EBITDA covenant from $60,000 to equal to or greater than $100,000 and its ratio of consolidated funded debt to adjusted EBITDA of 2.0 to 1.0 at the end of each quarter.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE F — LINE OF CREDIT - CONTINUED

 

The adjusted EBITDA under the line of credit agreement is modified for certain non-cash expenses.  Any existing bank guarantees are considered a reduction of the overall availability of credit and part of the covenant calculation under the credit agreement.  This resulted in a $4,273, and $4,991 reduction in the available borrowing limit as of December 30, 2017 and March 31, 2018, respectively, due to existing normal course of business guarantees in certain markets.

 

There was no outstanding debt on this line of credit at December 30, 2017 or at March 31, 2018.  The Company will be required to pay any balance on this line of credit in full at the time of maturity in April 2021 unless the line of credit is replaced or terms are renegotiated.

 

NOTE G — CONTINGENCIES

 

The Company is involved in various lawsuits, claims, and other legal matters from time to time that arise in the ordinary course of conducting business, including matters involving our products, intellectual property, supplier relationships, distributors, competitor relationships, employees and other matters. The Company records a liability when a particular contingency is probable and estimable. The Company faces contingencies that are reasonably possible to occur; however, they cannot currently be estimated. While complete assurance cannot be given to the outcome of these proceedings, management does not currently believe that any of these matters, individually or in the aggregate, will have a material adverse effect on the Company’s financial condition, liquidity or results of operations.

 

On February 7, 2017, the Company disclosed in a Current Report on Form 8-K filed with the SEC that it is conducting a voluntary internal investigation regarding its BabyCare operations in China. In connection with this investigation, the Company expects to continue to incur costs in conducting the on-going review and investigation, in responding to requests for information in connection with any government investigations and in defending any potential civil or governmental proceedings that are instituted against it or any of its current or former officers or directors. The Company has voluntarily contacted the SEC and the United States Department of Justice to advise both agencies that an internal investigation is underway and intends to provide additional information to both agencies as the investigation progresses. Because the internal investigation is ongoing, the Company cannot predict the duration, scope, or result of the investigation. One or more governmental actions could be instituted in respect of the matters that are the subject of the internal investigation, and such actions, if brought, may result in judgments, settlements, fines, penalties, injunctions, cease and desist orders, criminal penalties, or other relief.

 

On February 13, 2017, a purported shareholder class action lawsuit (Rumbaugh v. USANA Health Sciences Inc., et al., Case No. 2:17-cv-00106) was filed in the United States District Court for the District of Utah by April Rumbaugh, a purported shareholder of USANA, alleging that the Company failed to disclose that (i) the Company’s BabyCare subsidiary had engaged in improper reimbursement practices in China, (ii) these practices constituted violations of the Foreign Corrupt Practices Act or FCPA, (iii) as such, the Company’s China revenues were in part the product of unlawful conduct and unlikely to be sustainable, and (iv) the foregoing conduct, when it became known, was likely to subject the Company to significant regulatory scrutiny. On behalf of herself and a putative class of purchasers of USANA stock between March 14, 2014 and February 7, 2017, the plaintiff asserted claims for violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) and Rule 10b-5 promulgated thereunder. The plaintiff sought, among other things, an award of damages, interest, reasonable attorneys’ fees, expert fees, and other costs. The lawsuit named as defendants the Company; is former Co-Chief Executive Officer, David A. Wentz; and our Chief Leadership Development Officer, Paul A. Jones. On June 2, 2017, the court appointed Chi Wah On (another purported shareholder of USANA) as lead plaintiff. On August 4, 2017, lead plaintiff filed a consolidated amended complaint seeking similar relief. This new complaint asserted additional allegations and added the Company’s Chief Executive Officer, Kevin G. Guest, and Chief Financial Officer, G. Douglas Hekking, as defendants. On September 18, 2017, the Company filed a motion to dismiss the amended complaint, and briefing was completed on November 8, 2017.  The motion to dismiss was argued on April 25, 2018 and a decision is pending.  The Company believes that the action is without merit, and intends to vigorously defend against all claims asserted.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE H — COMMON STOCK AND EARNINGS PER SHARE

 

Basic earnings per share are based on the weighted-average number of shares outstanding for each period. Shares that have been repurchased and retired during the periods specified below have been included in the calculation of the number of weighted-average shares that are outstanding for the calculation of basic earnings per share based on the time they were outstanding in any period. Diluted earnings per common share are based on shares that are outstanding (computed under basic EPS) and on potentially dilutive shares. Shares that are included in the diluted earnings per share calculations under the treasury stock method include equity awards that are in-the-money but have not yet been exercised.

 

The following is a reconciliation of the numerator and denominator used to calculate basic earnings per share and diluted earnings per share for the periods indicated:

 

		Three Months Ended
		April 1,			March 31,
		2017			2018
Net earnings available to common shareholders		$	21,358		$	28,946
Weighted average common shares outstanding - basic		24,499			24,074
Dilutive effect of in-the-money equity awards		477			199
Weighted average common shares outstanding - diluted		24,976			24,273
Earnings per common share from net earnings - basic		$	0.87		$	1.20
Earnings per common share from net earnings - diluted		$	0.86		$	1.19

 

Equity awards for the following shares were not included in the computation of diluted EPS due to the fact that their effect would be anti-dilutive:

 

		Three Months Ended
		April 1,		March 31,
		2017		2018
		2,179		1,802

 

There were no share repurchases during the three months ended April 1, 2017.  During the three months ended March 31, 2018, the Company repurchased and retired 39 shares for $2,943 under the Company’s share repurchase plan.  The excess of the repurchase price over par value is allocated between additional paid-in capital and retained earnings on a pro-rata basis.  The purchase of shares under this plan reduces the number of shares outstanding in the above calculations.

 

As of March 31, 2018, the remaining approved repurchase amount under the stock repurchase plan was $47,057.  There currently is no expiration date on the remaining approved repurchase amount and no requirement for future share repurchases.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE I — SEGMENT INFORMATION

 

USANA operates as a direct selling company that develops, manufactures, and distributes high-quality nutritional and personal care/skincare products that are sold through a global network marketing system of independent distributors (“Associates”).  As such, management aggregates its operating segments into one reportable segment as management believes that the Company’s segments exhibit similar long-term financial performance and have similar economic characteristics.  Performance for a region or market is evaluated based on sales.  No single Associate accounted for 10% or more of net sales for the periods presented.  The table below summarizes the approximate percentage of total product revenue that has been contributed by the Company’s nutritional, foods, and personal care/skincare products for the periods indicated.

 

		Three Months Ended
		April 1,		March 31,
		2017		2018
USANA® Nutritionals		85	%	83	%
USANA Foods		8	%	8	%
Personal care/Skincare
Sensé — beautiful science®		6	%	4	%
Celavive®(1)		N/A		4	%

 

(1) The Company launched the Celavive® line in every market except China in the first quarter of 2018, and anticipates launching in China during the fourth quarter of 2018.

 

Selected financial information for the Company is presented for two geographic regions: Asia Pacific, with three sub-regions under Asia Pacific, and Americas and Europe.  Individual markets are categorized into these regions as follows:

 

·                  Asia Pacific —

 

·                  Greater China — Hong Kong, Taiwan and China.  Our business in China is conducted by BabyCare Holding, Ltd.  (“BabyCare”), our wholly-owned subsidiary.

·                  Southeast Asia Pacific — Australia, New Zealand, Singapore, Malaysia, the Philippines, Thailand, and Indonesia

·                  North Asia — Japan and South Korea

 

·                 Americas and Europe — United States, Canada, Mexico, Colombia, the United Kingdom, France, Belgium, and the Netherlands.

 

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USANA HEALTH SCIENCES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(in thousands, except per share data)

(unaudited)

 

NOTE I — SEGMENT INFORMATION - CONTINUED

 

Selected Financial Information

 

Financial information by geographic region is presented for the periods indicated below:

 

		Three Months Ended
		April 1,			March 31,
		2017			2018
Net Sales to External Customers
Asia Pacific
Greater China		$	131,738		$	157,808
Southeast Asia Pacific		50,406			56,228
North Asia		12,956			18,084
Asia Pacific Total		195,100			232,120
Americas and Europe		60,223			59,878
Consolidated Total		$	255,323		$	291,998

 

The following table provides further information on markets representing ten percent or more of consolidated net sales and long-lived assets, respectively:

 

		Three Months Ended
		April 1,			March 31,
		2017			2018
Net sales:
China		$	115,457		$	140,592
United States		$	30,166		N/A

 

		As of
		December 30,			March 31,
		2017			2018
Long-lived assets:
China		$	96,248		$	99,365
United States		$	59,589		$	56,520

 

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

 

The following discussion and analysis of USANA’s financial condition and results of operations is presented in six sections:

 

·                  Overview

·                  Customers

·                  Current Focus and Recent Developments

·                  Results of Operations

·                  Liquidity and Capital Resources

·                  Forward-Looking Statements and Certain Risks

 

This discussion and analysis should be read in conjunction with the Unaudited Condensed Consolidated Financial Statements and Notes thereto that are contained in this quarterly report, as well as Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 30, 2017, and our other filings, including Current Reports on Form 8-K, that have been filed with the SEC through the date of this report.

 

Overview

 

We develop and manufacture high-quality, science-based nutritional and personal care/skincare products that are distributed internationally through a network marketing system, which is a form of direct selling.  We have chosen this distribution method as we believe it is more conducive to meeting our vision as a company, which is improving the overall health and nutrition of individuals and families around the world.  Our customer base comprises two types of customers: “Associates” and “Preferred Customers” referred to together as “active Customers.”  Associates share in our company vision by acting as independent distributors of our products in addition to purchasing our products for their personal use.  Preferred Customers purchase our products strictly for their personal use and are not permitted to resell or to distribute the products.  As of March 31, 2018, we had approximately 585,000 active Customers worldwide.  For purposes of this report, we only count as active Customers those Associates and Preferred Customers who have purchased from us at any time during the most recent three-month period.

 

We have ongoing operations in the following markets, which are grouped and presented as follows:

 

·                  Asia Pacific

 

·                  Greater China — Hong Kong, Taiwan, and China.  Our business in China is conducted by BabyCare, our wholly-owned subsidiary.

 

·                  Southeast Asia Pacific — Australia, New Zealand, Singapore, Malaysia, the Philippines, Thailand, and Indonesia

 

·                  North Asia — Japan and South Korea

 

·                  Americas and Europe — United States, Canada, Mexico, Colombia, the United Kingdom, France, Belgium, and the Netherlands

 

Our primary product lines consist of USANAâ Nutritionals, USANA Foods, Sensé — beautiful scienceâ (Sensé), our line of personal care products, and Celaviveâ the new innovative skincare system with our InCelligence TechnologyTM.  The USANA Nutritionals product line is further categorized into two separate classifications: Essentials and Optimizers.  The following tables summarize the approximate percentage of total product revenue that has been contributed by our major product lines and our top-selling products for the current and prior-year periods as indicated:

 

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		Three Months Ended
		April 1, 2017		March 31, 2018
Product Line
USANA® Nutritionals
Essentials/CellSentials		20	%	18	%
Optimizers		65	%	65	%
USANA Foods		8	%	8	%
Personal care/Skincare
Sensé — beautiful science®		6	%	4	%
Celavive®(1)		N/A		4	%
All Other		1	%	1	%
Key Product
USANA® Essentials/CellSentials		13	%	12	%
Proflavanol®		15	%	11	%
BiOmega-3™		15	%	14	%

 

(1) We launched the Celavive® line in every market except China in the first quarter of 2018, and anticipate launching in China during the fourth quarter of 2018.

 

We believe that our ability to attract and retain Associates and Preferred Customers to sell and consume our products is positively influenced by a number of factors, some of which include: the general public’s heightened awareness and understanding of the connection between diet and long-term health, and the growing desire for a secondary source of income and small business ownership.

 

We believe that our high-quality products and our Associate Compensation Plan are the key components to attracting and retaining Associates.  We periodically make changes to our Compensation Plan in an effort to ensure that our plan is among the most competitive in the industry, to encourage behavior that we believe leads to a successful business for our Associates, and to ensure that our plan provides us with leverage to grow sales and earnings.

 

To further support our Associates in building their businesses, we sponsor meetings and events throughout the year, which offer information about our products and our network marketing system.  These meetings are designed to assist Associates in their business development and to provide a forum for interaction with our Associate leaders and members of our management team.  We also provide low cost sales tools, including online sales, business management, and training tools, which we believe are an integral part of building and maintaining a successful home-based business for our Associates.  Although we provide training and sales tools, we ultimately rely on our Associates to sell our products, attract new active Customers to purchase our products, and educate and train new Associates.

 

Because we have operations in multiple markets, with sales and expenses being generated and incurred in multiple currencies, our reported U.S. dollar sales and earnings can be significantly affected by fluctuations in currency exchange rates.  In general, our operating results are affected positively by a weakening of the U.S. dollar and negatively by a strengthening of the U.S. dollar.  During the three months ended March 31, 2018, net sales outside of the United States represented 90.2% of consolidated net sales.  In our net sales discussions that follow, we approximate the impact of currency fluctuations on net sales by translating current year sales at the average exchange rates in effect during the comparable periods of the prior year.

 

Customers

 

Because we sell our products exclusively to a customer base of independent Associates and Preferred Customers, we must increase the number of active Customers and/or increase the amount they spend, on average, to increase net sales.  Our primary

 

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focus continues to be increasing the number of active Customers.  We believe this focus is consistent with our vision of improving the overall health and nutrition of individuals and families around the world.  Sales to Associates account for the majority of our product sales, representing approximately 57% of product sales during the three months ended March 31, 2018; the remainder of our sales are to Preferred Customers.  Increases or decreases in product sales are typically the result of variations in the volume of product sold relating to fluctuations in the number of active Customers purchasing our products.  The number of active Associates and Preferred Customers is, therefore, used by management as a key non-financial indicator to evaluate our operational performance.

 

The tables below summarize the changes in our active Customer base by geographic region.  These numbers have been rounded to the nearest thousand as of the dates indicated.

 

		Active Associates by Region
		As of				As of				Change from		Percent
		April 1, 2017				March 31, 2018				Prior Year		Change
Asia Pacific:
Greater China		107,000		37.7	%	108,000		37.5	%	1,000		0.9	%
Southeast Asia Pacific		88,000		31.0	%	88,000		30.6	%	—		0.0	%
North Asia		19,000		6.7	%	24,000		8.3	%	5,000		26.3	%
Asia Pacific Total		214,000		75.4	%	220,000		76.4	%	6,000		2.8	%
Americas and Europe		70,000		24.6	%	68,000		23.6	%	(2,000	)	(2.9	)%
		284,000		100.0	%	288,000		100.0	%	4,000		1.4	%

 

		Active Preferred Customers by Region
		As of				As of				Change from		Percent
		April 1, 2017				March 31, 2018				Prior Year		Change
Asia Pacific:
Greater China		183,000		63.1	%	194,000		65.3	%	11,000		6.0	%
Southeast Asia Pacific		14,000		4.8	%	21,000		7.1	%	7,000		50.0	%
North Asia		11,000		3.8	%	11,000		3.7	%	—		0.0	%
Asia Pacific Total		208,000		71.7	%	226,000		76.1	%	18,000		8.7	%
Americas and Europe		82,000		28.3	%	71,000		23.9	%	(11,000	)	(13.4	)%
		290,000		100.0	%	297,000		100.0	%	7,000		2.4	%

 

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