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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the Fiscal Year Ended January 2, 1999
[ ] 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: 0-21116
USANA, INC.
(Exact name of registrant as specified in its charter)
UTAH 87-0500306
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
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)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: common stock, no par
value
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 [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [_]
The aggregate market value of common stock held by non-affiliates of the
registrant as of March 19, 1999 was approximately $48,768,282.
The number of shares outstanding of the registrant's common stock as of March
19, 1999 was 13,051,238.
Documents incorporated by reference. The Company incorporates information
required by Part III (Items 10, 11, 12 and 13) of this report by reference to
the Company's definitive proxy statement to be filed pursuant to Regulation 14A.
[Note: On July 21, 1998, the registrant declared a two-for-one stock split of
its common stock, no par value, that was distributed in the form of a stock
dividend on August 3, 1998 to shareholders of record as of July 31, 1998.
Outstanding common stock data in this report have been adjusted to reflect the
stock split.]
USANA, INC.
FORM 10-K
For the Fiscal Year Ended January 2, 1999
INDEX
Page
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Part I
Item 1 Business 1
Item 2 Properties 17
Item 3 Legal Proceedings 17
Item 4 Submission of Matters to a Vote of Security Holders 18
Part II
Item 5 Market for Registrant's Common Equity and Related Stockholder
Matters 19
Item 6 Selected Financial Data 20
Item 7 Management's Discussion and Analysis of Financial Condition and
Results of Operations 21
Item 7a Quantitative and Qualitative Disclosures About Market Risk 29
Item 8 Financial Statements and Supplementary Data 41
Item 9 Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 41
Part III
Item 10 Directors and Executive Officers of the Registrant 41
Item 11 Executive Compensation 41
Item 12 Security Ownership of Certain Beneficial Owners and Management 41
Item 13 Certain Relationships and Related Transactions 41
Part IV
Item 14 Exhibits, Financial Statement Schedules, and Reports on Form 8-K 42
Signatures
2
PART I
Item 1. Business
General
USANA, Inc. ("USANA" or the "Company") develops and manufactures high-
quality nutritional, personal care and weight management products. The Company
distributes its products through a network marketing system. As of January 2,
1999, the Company had approximately 116,000 current distributors in the United
States, Canada, Australia, New Zealand and the United Kingdom. The Company
defines a current distributor as a distributor that has purchased product from
the Company at any time during the most recent twelve-month period. USANA also
sells products directly to Preferred Customers, who do not act as distributors
of the products. At January 2, 1999, the Company had approximately 26,000
Preferred Customers. From 1993 to 1998, net sales of the Company grew from $3.9
million to $121.6 million, while net earnings increased from a loss of $312,000
to net earnings of $9.5 million.
Founded in 1992 by Myron Wentz, Ph.D., USANA is committed to continuous
product innovation and sound scientific research. The Company's three primary
product lines consist of nutritional, personal care and weight management
products. Nutritional products accounted for approximately 81% of net sales in
fiscal year 1998. The top-selling products, USANA Essentials and Proflavanol,
represented approximately 42% and 19%, respectively, of net sales in fiscal year
1998. USANA's personal care line includes skin, hair and body, and dental care
products. Weight management products include a dietary supplement tablet, food
bars, meal entrees, instructional videos and other products developed to provide
a comprehensive approach to weight management, proper diet and exercise,
nutrition and healthy living. The Company believes high levels of
bioavailability, safety and quality characterize all of its products.
The Company's products are distributed through a network marketing system.
The Company believes that network marketing is an effective way to distribute
its products because network marketing allows person-to-person product
education, which is not readily available through traditional distribution
channels. Network marketing appeals to a broad cross-section of people,
particularly those seeking to supplement family income, start a home-based
business or pursue entrepreneurial opportunities other than conventional full-
time employment. The Company considers its rewarding compensation program and
weekly distributor incentive payments to be attractive components of its network
marketing system.
The Company introduced its Preferred Customer program in 1997 for customers
who want to purchase USANA products for personal use, but do not wish to become
distributors. The Preferred Customer program has become an important part of
USANA's business. During fiscal year 1998, Preferred Customer purchases
represented approximately 8% of net sales.
North America is the primary market for the Company's products. Sales in
the United States and Canada collectively represented 84.4% of net sales in
1998. In February 1998, the Company began operations in Australia/New Zealand,
its first market outside North America. Sales in the Australia/New Zealand
market represented 15.3% of net sales in fiscal year 1998. The Company also
commenced operations in Europe with the soft launch of its United Kingdom market
in December 1998. This market is expected to become a platform for future
expansion in Europe.
The Company's growth strategy is to introduce new products, attract and
retain distributors and Preferred Customers, enter new markets and pursue
strategic acquisitions. The Company believes it can successfully implement this
growth strategy by continuing to capitalize on its operating strengths:
* Science-based products,
* Strong research and development program,
* In-house manufacturing capabilities,
* Attractive distributor compensation plan and benefits, and
* Experienced management team.
3
During 1998, the Company introduced several new products, including
CoQuinone, Procosamine, the USANA Dental Care System and an in-home water
distillation system. New products were also announced at the Company's Jump
Start 2000 program introduced in January 1999, which attracted participation by
more than 30,000 distributors and guests in approximately 500 locations around
the world.
Financial Information by Business Segment
The Company is principally engaged in a single line of business, the
development, manufacture and distribution of nutritional, personal care, and
weight management products. The Company's reportable business segments are
distinguished by geography and include the United States, Canada, Australia/New
Zealand and the United Kingdom. Segment information of the Company for each
of the last three fiscal years is included in Note K to the Financial
Statements.
Industry Overview
The nutritional supplements industry includes many small- and medium-
sized companies that manufacture and distribute products generally intended to
enhance the body's performance and well being. Nutritional supplements include
vitamins, minerals, dietary supplements, herbs, botanicals and compounds derived
therefrom.
According to Packaged Facts, an independent consumer market research
firm, the retail market for nutritional supplements experienced a compound
annual growth rate in the United States of approximately 15% from 1992 to 1997
with sales totaling an estimated $7.3 billion in 1997. The Company believes the
international market for nutritional supplements is similar in size to the U.S.
market and has been growing at a comparable rate.
The Company believes that growth in the nutritional supplement market is
driven by several factors including:
* The general public's heightened awareness and understanding of the
connection between diet and health,
* The aging population, particularly the baby-boomer generation, which
is more likely to consume nutritional supplements,
* Product introductions in response to new scientific research,
* The worldwide trend toward preventive health care, and
* The adoption of the Dietary Supplement Health and Education Act of
1994 ("DSHEA") in the United States.
Nutritional supplements are sold through mass market retailers, including
mass merchandisers, drug stores, supermarkets and discount stores, health food
stores and direct sales organizations, including network marketing organizations
and catalog companies. Direct selling, of which network marketing is a
significant segment, has increased in popularity as a distribution channel due
primarily to advances in technology and communications resulting in improved
product distribution and faster dissemination of information. The distribution
of products through network marketing has grown significantly in recent years.
The World Federation of Direct Selling Associations reported that, from 1990
through 1997, worldwide direct distribution of goods and services to consumers
increased approximately 65%, resulting in the sale of approximately $80.3
billion of goods and services in 1997. The Direct Sellers Association ("DSA")
reported total 1997 direct sales at retail of $22.2 billion in the United
States. According to the "Survey of Attitudes toward Direct Selling,"
commissioned by the DSA, and conducted and prepared by Wirthlin Worldwide, among
the three product categories experiencing the greatest gains in the direct
selling industry since 1976 are food, nutrition and wellness products.
As both a developer and manufacturer of nutritional supplements with a
network marketing distribution system, the Company believes it is well
positioned to capitalize on the demand for nutritional supplement products and
growth trends in direct sales.
4
Operating Strengths and Growth Strategy
The Company's objective is to be a leading developer, manufacturer, and
distributor of science-based nutritional products. The Company believes that it
will be able to continue to grow by capitalizing on the following operating
strengths:
Science-based Products. The Company has developed a line of high-quality
----------------------
nutritional products based upon a combination of published research, in vitro
testing, in-house clinical studies and sponsored research. The Company believes
that the identification and delivery of essential vitamins, minerals and other
supplements will help individuals achieve and maintain lifelong health.
Strong Research and Development. The Company's research and development
-------------------------------
effort is directed by Dr. Wentz and is supported by a team of 20 scientists
and researchers, including seven scientists holding Ph.D. degrees. In its
research and development laboratory, the Company's scientists
* Investigate in vitro activity of new natural extracts,
* Identify and research combinations of nutrients that may be candidates
for new products,
* Study the metabolic activity of existing and newly identified
nutritional supplements, and
* Enhance existing products as new discoveries in nutrition are made and
as required to enter international markets.
The Company performs retrospective analyses of anecdotal information provided by
consumers of its products. In addition, the Company is currently the sponsor of
several double-blind, placebo-controlled clinical studies intended to further
investigate the efficacy of its products.
In-house Manufacturing. USANA believes that its ability to manufacture a
----------------------
significant portion of its products is a competitive advantage and contributes
to its ability to provide high-quality products for several reasons:
* The Company is able to control the quality of raw materials and the
purity and potency of its finished products,
* The Company can monitor the manufacturing process to reduce the risk of
product contamination,
* By testing products at several stages in the manufacturing process, the
Company can ensure accurate product labeling, and
* The Company believes it can better control the underlying costs
associated with manufacturing nutritional supplements.
Attractive Distributor Compensation Plan and Benefits. The Company is
-----------------------------------------------------
committed to providing a highly competitive compensation plan to attract and
retain distributors, who constitute the sales force of the Company. The Company
believes its distributor compensation plan is one of the most financially
rewarding in the direct selling industry. Distributor incentives were 44.8% of
net sales in 1998. The Company pays distributor incentives on a weekly basis
and offers its distributors several benefits, including telecommunications and
credit card affinity programs and participation in a plan to purchase Company
common stock through commission check deductions. The Company also provides
extensive support services to its distributors by telephone, fax and the
Internet. The Company sponsors events throughout the year, which offer
information about the Company's products and network marketing system. These
meetings are designed to assist distributors in business development and to
provide a forum for interaction with successful distributors and the Company's
scientists.
Experienced Management Team. The Company's management team includes
---------------------------
individuals with expertise in various scientific and managerial disciplines,
including nutrition, product research and development, marketing, direct sales,
information technology, finance, operations and manufacturing. The current
executive management team has been in place for more than two years and has been
responsible for strengthening the Company's internal controls, financial
condition and infrastructure to support growth and international expansion.
5
Growth Strategy
The Company intends to increase net sales and profits by implementing the
following growth strategy:
Introduce New Products. The Company utilizes its research and development
----------------------
capabilities to introduce innovative products and to continuously enhance
existing products. At its annual convention in June 1998, the Company
introduced several new products, including two nutritional supplements, a total
dental care system, two new food bars and an in-home water distillation system.
The Company also introduced into its Canadian market a chewable vitamin product
and the L*E*A*N Team program. The Company plans to introduce new products
annually, usually at Company-sponsored distributor events. In January 1999, at
the Company's first Jump Start 2000 program, an international video conference
attended by more than 30,000 distributors and guests at approximately 500
locations worldwide, the Company introduced four new products for its North
America markets: St. John's Wort, Garlic EC, E-Prime and Ginkgo-PS.
Attract and Retain Distributors and Preferred Customers. Since its
-------------------------------------------------------
inception, the Company has enjoyed significant growth in the number of
distributors and, since 1997, the number of Preferred Customers. As of January
2, 1999, the Company had approximately 116,000 current distributors and 26,000
Preferred Customers compared to approximately 84,000 current distributors and
9,000 Preferred Customers one year ago. The Company believes it can continue to
attract and retain distributors by offering high-quality products, comprehensive
distributor and customer support services, and a rewarding compensation plan.
Enter New Markets. The Company believes that, in addition to the North
-----------------
American market, significant growth opportunities exist in international
markets. In February 1998, the Company commenced operations in Australia and
New Zealand. Late in the fourth quarter of 1998, the Company opened its United
Kingdom operations. The Company's decision to enter additional new markets will
be based on its assessment of several factors, including market size,
anticipated demand for the Company's products, receptivity to direct sales and
ease of entry, including possible regulatory restrictions on the products or
marketing system of the Company. The Company has begun to register certain of
its products with regulatory and government agencies in order to position it for
further international expansion. The Company seeks to seamlessly integrate its
distributor compensation plan in markets where the Company's products are sold
in order to allow distributors to receive commissions for global product sales,
rather than merely local product sales. This seamless downline structure is
designed to allow a distributor to build a global network by creating downlines
across national borders. Distributors will not be required to establish new
downlines or requalify for higher levels of compensation within each new country
in which they begin to operate. The Company believes this seamless compensation
plan significantly enhances its ability to expand internationally and the
Company intends, where permitted, to integrate future markets into the plan.
Pursue Strategic Acquisitions. The Company believes that attractive
-----------------------------
acquisition opportunities may arise in the future. The Company intends to
pursue strategic acquisition opportunities that would expand its product lines,
enhance its manufacturing and technical expertise, allow vertical integration or
otherwise complement its business or further its strategic goals.
Products
Product names used in this report are, in certain cases, trademarks and
are also the property of the Company, including Poly C(TM), CoQuinone(TM),
Proflavanol(R), Melatonin KL(TM), OptOmega(TM), Nutrimeal, Fibergy(R), Kid's
choo-ables(TM), L*E*A*N(TM), VitalZomes(R), Procosamine(TM), Procosa(TM), Gold
Bar(R), Forever L*E*A*N(TM), Lifemasters(R), USANA TRUE HEALTH(TM), Garlic EC,
E-Prime and Gingko-PS. The Company's primary product lines consist of
nutritional, personal care and weight management products. In each of the last
three fiscal years, the nutritional product line constituted 80% or more of the
Company's net sales. The Company's principal product lines are briefly
described below:
Nutritional Products. This line includes antioxidants, minerals, vitamins,
--------------------
other nutritional supplements, meal replacement drinks, fiber drinks, and food
bars. USANA's nutritional supplement products are designed to provide optimal
absorption, bioavailability and efficacy. The top-selling products of the
Company are the USANA Essentials (comprised of Mega Antioxidant and Chelated
Mineral) and Proflavanol, which represented approximately 42% and 19%,
respectively, of net sales in fiscal year 1998. Other products in this line
include Poly C, Procosamine,
6
CoQuinone, Melatonin KL, OptOmega, Nutrimeal, Fibergy, Cranberry Drink, Kid's
choo-ables, Gold Bars and a calcium-magnesium supplement. The Company also
introduced four new products: St. John's Wort, Garlic EC, E-Prime and Ginkgo-PS
at Jump Start 2000 in January 1999.
Personal Care Products. The personal care product line includes skin, hair
----------------------
and body, and dental care products. The skin care products are designed to
provide a total skin protection system. Natural oils and emollients,
antioxidants and botanical extracts are key ingredients in USANA's skin care
line, consisting of the Antioxidant Skin Care System, Vital Zomes Serum
Replenisher, Revitalizing Hydrating Treatment and USANA Sunscreen. The Company
has designed hair and body products that generally incorporate pure, natural
substances instead of cheaper, synthetic substances. These products include
shampoo, conditioner, hand and body lotion, and shower gel. In June 1998, the
Company introduced the USANA Dental Care System. The key product in this system
is the all-natural toothpaste, which contains a unique combination of natural
ingredients that have been shown to be effective in reducing bacterial plaque
adhesion to tooth enamel. The other products in the Dental Care System are
mouthwash, fluoride gel, a toothbrush, dental floss and a tongue scraper.
Weight Management Products. The Company has developed its L*E*A*N Team
--------------------------
program to provide a comprehensive approach to weight management, proper diet
and nutrition, and healthy living. The program's underlying principles,
Lifestyle, Education, Activity and Nutrition, literally spell out the L*E*A*N
philosophy. Developed with the assistance of health, nutrition and fitness
experts, the USANA L*E*A*N program seeks to use the latest developments in
nutritional science, psychology and exercise physiology to promote lifelong
health, fitness and well being. The complete USANA L*E*A*N program is packaged
in a custom gym bag and includes:
* A program guide,
* A physical activity guide and instructional videos,
* A motivational audio cassette series,
* A recipe book,
* Calipers to measure body fat,
* L*E*A*N Nutrimeal,
* The USANA L*E*A*N Formula, a dietary supplement tablet that contains
botanical extracts to augment the body's natural weight-loss processes,
* Food bars,
* Meal entrees, and
* Aerobic workout videos.
In addition to its three principal product lines, the Company has developed
and makes available to distributors a number of materials to assist them in
building their business and selling the Company's products. Such resource
materials or sales aids, which may be purchased from the Company, include
product brochures and business forms designed by the Company and printed by
outside publishers. From time to time the Company contracts with authors and
publishers to provide books, tapes and other items dealing with health and
personal motivation. The Company also writes and develops materials for audio
and videotapes, which are produced by third parties. Affinity and identity are
also furthered through the sale of logo merchandise such as clothing, caps, mugs
and other products. Distributors do not earn commissions on the sale of sales
aids, distributor kits or logo merchandise.
Research and Development
The Company is committed to continuous product innovation and improvement
through sound scientific research. The mission of the Company's research and
development team is to develop superior products that support life-long health.
Products are developed and enhanced using a combination of published research,
in vitro testing, in-house clinical studies and sponsored research. The Company
periodically consults with a panel of physicians who advise the Company on
product development. The Company invested $798,000, $1.2 million and $1.4
million in research and development activities in 1996, 1997 and 1998,
respectively. The Company intends to continue to use its resources in the
research and development of new products and reformulation of existing products.
The Company maintains a research and development program based upon
established scientific research methodologies. The modern research facilities
located at its Salt Lake City headquarters are equipped to handle analytical
testing of new raw ingredients, raw material extraction research, in vitro
testing, cell culture procedures and human bioavailability studies. Clinical
evaluations are designed and sponsored by the Company. Anecdotal
7
information from customers is reviewed and retrospective analyses are performed
on this data. Contract clinical studies are conducted on selected existing
products for which the retrospective analysis has demonstrated a positive effect
and on new products to investigate efficacy. Currently, the Company is
sponsoring three double-blind, placebo-controlled clinical studies.
Manufacturing and Quality Assurance
At its Salt Lake City, Utah, manufacturing facility, the Company
manufactured products that accounted for approximately 75% of net sales in
fiscal year 1998. The Company's production process includes the following
steps:
* Identifying and evaluating suppliers of raw materials,
* Acquiring premium-quality raw materials,
* Weighing or otherwise measuring the raw materials,
* Mixing raw materials into batches,
* Forming the mixtures into tablets,
* Coating and sorting the tablets, and
* Bottling and labeling the finished products.
Most of these processes are performed using automatic and semi-automatic
equipment. The Company conducts sample testing of raw materials and finished
products for purity, potency and composition conforming to the Company's
specifications. Constructed in 1996, USANA's production facility is registered
with the Food and Drug Agency ("FDA") and the Canadian Health Protection Branch
("HPB") and is certified by the Australian Therapeutic Goods Administration
("TGA"). Although the Company need only comply with food-level Good
Manufacturing Practice regulations ("GMP's") of the FDA, it believes that it is
in compliance with that agency's drug-level GMP's. The certification by the TGA
applies to that agency's drug-level GMP's.
The Company also contracts with third-party manufacturers and vendors for
the production of some of its products, including most of the products in its
personal care and weight management product lines and certain of its nutritional
products. These third-party vendors and manufacturers produce and, in most
cases, package the Company's products according to formulations developed by or
in conjunction with USANA's product development team.
USANA conducts its quality assurance in two laboratories located in Salt
Lake City, Utah. The microbiology laboratory serves as the primary quality
control facility, where quality assurance personnel test for biological
contamination in raw materials and finished goods. In the analytical chemistry
laboratory, USANA scientists test for chemical contamination and accurate active
ingredient levels of raw materials and finished products and conduct stability
tests on finished products. The Company performs chemical assays on vitamins
and mineral constituents under United States Pharmacopoeia and other validated
methods in its analytical chemistry laboratories.
Most of the raw ingredients used in the manufacture of the Company's
products are available from a number of suppliers. The Company has not
generally experienced difficulty in obtaining necessary quantities of raw
ingredients. When supplies of certain raw materials have tightened, the Company
has been able to find alternative sources of raw materials when needed and
believes it will be able to do so in the future.
The Company's manufacturing facility currently produces an average of 36
million tablets a month, using approximately 66% of its manufacturing capacity
(assuming three eight-hour shifts per day, five days per week). The Company's
packaging equipment fills an average of 350,000 bottles a month, using
approximately 50% of its packaging capacity (again assuming three eight-hour
shifts per day, five days per week). Currently the Company is operating only
one shift per day in packaging and two shifts in manufacturing. This facility
also fills tubes with the Company's skin care products. The Company expects
that growth in new and existing markets will require additional manufacturing,
packaging and warehouse capacity in the next 12 months. There can be no
assurance that such growth will occur. However, if it does, then the Company
will be required to use cash from operations or obtain financing from available
bank lines of credit or the sale of its equity securities to expand its
facilities.
8
Distribution and Marketing
USANA distributes its products primarily through a network marketing
system. The Company also sells directly to its Preferred Customers. Network
marketing is a form of person-to-person direct selling through a network of
vertically organized distributors who purchase products at wholesale prices from
the manufacturer and then make retail sales to consumers. The emergence of
readily available means of mass communication such as personal computers,
facsimiles, low-cost long distance telephone services, satellite conferencing
and the Internet have contributed to the rapid growth of direct selling,
including network marketing. Network marketing is gaining in popularity as a
viable alternative to traditional retail and mail order marketing. The concept
of network marketing is based on the strength of personal recommendations that
frequently come from friends, neighbors, relatives and close acquaintances. The
Company believes that network marketing is an effective way to distribute its
products because it allows person-to-person product education, which is not as
readily available through traditional distribution channels.
Customers who desire to sell the Company's products may become distributors
by being sponsored into the program by another distributor, thereby becoming
part of the sponsoring distributor's downline. The Company believes many of its
distributors are attracted to USANA because of the quality of its products and
its rewarding compensation plan. New distributors must enter into a written
contract, which obligates them to adhere to USANA's policies and procedures.
Distributors are also required to purchase a distributor kit, which includes a
detailed manual of the policies and procedures, for $39, which approximates the
Company's costs of producing and distributing the kit. Distributors must also
pay an annual renewal fee to the Company of $20.
Distributors order products directly from the Company, subject to certain
limitations and restrictions. For example, a distributor may not purchase more
products during any four-week period than the distributor can reasonably expect
to sell and personally consume during that same period. Distributorships
continue until terminated by the Company or voluntarily canceled by the
distributor. Initial training of distributors about the Company, its products,
the distributor compensation plan, and how to effectively engage in network
marketing is provided primarily by a distributor's sponsor and others in their
upline organization. In addition, the Company develops and sells a variety of
training materials and sales aids, as well as a detailed policies and procedures
manual and description of the Company's distributor compensation plan. The
Company sponsors and conducts regional, national and international distributor
events and intensive leadership training seminars. Attendance at these sessions
is voluntary, and the Company undertakes no generalized effort to provide
individualized training to distributors. Distributors may not sell competitive
products to other USANA distributors or solicit USANA distributors to
participate in other network marketing opportunities. The Company also
restricts advertising and making representations or claims concerning its
products or compensation plan.
The distributor compensation plan provides several opportunities for
distributors to earn compensation, provided they are willing to consistently
work at building, training and retaining their downline organizations to
maintain sales of the Company's products to consumers. The Company believes its
distributor compensation plan is distinctive for its equitable distributor
payouts, which are designed to create appropriate incentives for sales of USANA
products. Each distributor must purchase and sell product in order to earn
commissions and bonuses. Distributors cannot simply recruit others for the
purpose of developing a downline and then earn income passively. Distributors
can earn compensation in three ways:
* Purchasing products at special distributor prices from the Company and
selling them to consumers at higher retail prices,
* Generating sales volume points in their downlines, and
* Participating in a leadership bonus pool paid to distributors who meet
certain performance requirements.
The Company seeks to seamlessly integrate its distributor compensation plan
across all markets in which its products are sold, in order to allow
distributors to receive commissions for global, rather than merely local,
product sales. This seamless downline structure is designed to allow a
distributor to build a global network by creating downlines across national
borders. Distributors will not be required to establish new downlines or
requalify for higher levels of compensation within each new market in which they
begin to operate. The Company believes such a seamless compensation plan
significantly enhances its ability to expand internationally and the Company
intends, where permitted, to integrate any new markets into this plan.
9
The Company has established several distributor benefit programs designed
to strengthen distributor loyalty. Among these programs are the Company's
Distributor Stock Purchase Plan (DSPP), a telecommunications program and an
affinity credit card plan. The DSPP allows distributors to make open-market
purchases of the Company's common stock through commission check deductions.
The Executive Committee of the Company's Board of Directors administers the DSPP
and purchases are made through a registered broker-dealer. Under the
telecommunications program, the Company has contracted with a long distance
carrier to provide Internet access, long distance, calling card service and
residential toll-free service to distributors at competitive rates. The Company
also offers its distributors a co-branded credit card, issued by a large credit
card processor, with competitive terms. Distributors who are enrolled in the
credit card and telecommunications programs can also earn commissions on
purchases and calls made by members of their downline who participate in the
programs. Presently, distributors in the United States and Canada may
participate in the DSPP, credit card and telecommunications program. The
Company is currently evaluating the introduction of these benefit programs into
all of its markets outside the United States.
The Company also offers a Preferred Customer program designed for consumers
who desire to purchase the Company's products for their personal use, while
choosing not to become independent distributors of the products. The Company
believes this program gives it access to a market that would otherwise be missed
by targeting customers who enjoy USANA products, but prefer a mail order type
relationship with the Company. Preferred Customers may not engage in retail
sales of products purchased through the program, although they may enroll as
distributors at any time if they desire. Preferred Customers are not eligible
to earn commissions unless they become distributors.
The Company's product return policy allows retail customers to return the
unused portion of any product to the distributor and receive a full cash refund.
Any distributor who provides a refund to a customer is reimbursed by the Company
with product or credit in his or her account upon providing proper documentation
and the remainder of the returned product.
Return of unused and resalable products initiated by a distributor will be
refunded 100% of the purchase price to the distributor, less a 10% restocking
fee for up to one year from the date of purchase. Product that was damaged
during shipment to the distributor is also 100% refundable. Product returns
valued at $100 or more, other than product that was damaged at the time of
receipt by the distributor, may result in termination of the distributorship.
Returns as a percentage of net sales were 1.3% in 1996 and 1997 and 1.5% in
1998.
Substantially all of the Company's sales are made to Preferred Customers
and through independent distributors. No single distributor accounted for 5% or
more of net sales in any of the last three fiscal years. Distributors submit
signed application and agreement forms to the Company, which obligate the
distributors to follow the Company's policies and procedures. Distributors are
independent contractors and are not agents, employees, or legal representatives
of USANA. Employees and affiliates of the Company cannot be distributors,
although there is no prohibition on their family members from becoming
distributors as long as they do not reside in the same household. Distributors
may sell products only in markets where the Company has approved the sale of its
products.
The Company systematically reviews reports of alleged distributor
misbehavior. If USANA determines that a distributor has violated any of the
distributor policies or procedures, it may take a number of disciplinary
actions. For example, the Company may terminate the distributor's rights
completely or impose sanctions such as warnings, fines, probation, withdraw or
deny awards, suspend privileges, withhold commissions until specific conditions
are satisfied, or take other appropriate injunctions at the Company's
discretion. An in-house compliance officer and a full-time commission auditor
also routinely review distributor activities. Infractions of the policies and
procedures are reported to a compliance committee that determines what
disciplinary action may be warranted in each case.
10
Information Technology
The Company believes its ability to efficiently manage its distribution,
compensation, manufacturing, inventory control and communications functions
through the use of sophisticated and dependable information processing systems
is critical to its success. The Company's information technology systems are
designed and selected in order to facilitate order entry and customer billing,
maintain distributor records, accurately track purchases and distributor
incentive payments, manage accounting, finance and manufacturing operations, and
provide customer service and technical support.
In the first quarter of 1998, the Company commenced installation of a new
enterprise resource planning ("ERP") system to replace all of the Company's
resource planning systems, except for the Company's custom-programmed order
entry, distributor billing and compensation program (the "Distributor System").
The Company intends to replace the Distributor System with two new systems in
1999. The Company expects that the first of these two new systems will
introduce a more open architecture platform, allowing greater flexibility and
enhanced interface compatibility with other systems. The second new system is
expected to replace the order entry system to improve on-line international
order processing and shipping. Installation of these systems is expected to be
completed by the end of 1999. The Company's information systems are maintained
by in-house staff and outside consultants.
Regulatory Matters
Product Regulation. Manufacturing, packaging, labeling, advertising,
------------------
promotion, distribution, and sale of the Company's products are subject to
regulation by numerous governmental agencies in the United States and other
countries. In the United States, the FDA regulates the Company's products under
the Food, Drug, and Cosmetic Act ("FDC Act") and regulations promulgated
thereunder. The Company's products are also subject to regulation by, among
others, the Consumer Product Safety Commission, the US Department of
Agriculture, and the Environmental Protection Agency ("EPA"). Advertising of
the Company's products is subject to regulation by the Federal Trade Commission
("FTC") under the Federal Trade Commission Act ("FTC Act"). The manufacturing,
labeling, and advertising of products are also regulated by various governmental
agencies in each foreign country in which the Company distributes its products.
The majority of the Company's products are regulated as dietary supplements
under the FDC Act. Dietary supplements are regulated as foods under the
Nutrition Labeling and Education Act of 1990 ("NLEA"). The NLEA establishes
requirements for ingredient and nutritional labeling and labeling claims for
foods. Dietary supplements are also regulated under DSHEA. The Company believes
DSHEA is favorable to the dietary supplement industry. The legislation for the
first time defined "dietary supplement". Under DSHEA, a dietary supplement is a
product intended to supplement the diet that contains one or more of certain
dietary ingredients, such as a vitamin, a mineral, an herb or botanical, an
amino acid, a dietary substance for use by humans to supplement the diet by
increasing the total dietary intake, or a concentrate, metabolite, constituent,
extract or combination of the preceding ingredients.
Under the current provisions of the FDC Act, there are four categories of
claims that pertain to the regulation of dietary supplements. Drug claims are
representations that a product is intended to diagnose, mitigate, treat, cure,
or prevent a disease. Drug claims are prohibited from use in the labeling of
dietary supplements. Health claims are claims that describe the relationship
between a nutrient or dietary ingredient and a disease or health-related
condition and can be made on the labeling of dietary supplements if supported by
significant scientific agreement and authorized by the FDA in advance after
notice and comment rulemaking. Nutrient content claims, which describe the
nutritional value of the product, may be made if defined by the FDA through
notice and comment rulemaking and if one serving of the product meets the
definition. Nutrient content claims may also be made for dietary supplements
if a scientific body of the US government with official responsibility for the
public health has made an authoritative statement regarding the claim, the claim
accurately reflects that statement, and the manufacturer, among other things,
provides the FDA with notice of and basis for the claim at least 120 days before
the introduction of the supplement with a label containing the claim into
interstate commerce. Statements of nutritional support or product performance,
which are permitted on labeling of dietary supplements without FDA pre-approval,
are defined to include statements that:
* Claim a benefit related to a classical nutrient deficiency disease and
discloses the prevalence of such disease in the United States,
* Describe the role of a nutrient or dietary ingredient intended to affect
the structure or function in humans,
11
* Characterize the documented mechanism by which a dietary ingredient acts
to maintain such structure or function, or
* Describe general well-being from consumption of a nutrient or dietary
ingredient.
In order to make a nutritional support claim the marketer must possess
substantiation to demonstrate that the claim is not false or misleading. If the
dietary ingredient does not provide traditional nutritional value, or a
structure/function claim does not derive from an ingredient's nutritional value,
prominent disclosure of the lack of FDA review of the relevant statement and
notification to the FDA of use of the claim is required. The FDA recently
issued a proposed rule on what constitutes permitted structure/function claims
as distinguished from prohibited disease claims. Although the Company believes
its product claims comply with the law, depending on the content of the final
regulation, the Company may need to revise its labeling.
In addition, a dietary supplement that contains a new dietary ingredient
(defined as an ingredient not on the market before October 15, 1994) must have a
history of use or other evidence of safety establishing that it is reasonably
expected to be safe. The manufacturer must notify the FDA at least 75 days
before marketing products containing new dietary ingredients and provide to the
FDA the information upon which the manufacturer based its conclusion that the
product has a reasonable expectation of safety.
The FDA issued final dietary supplement labeling regulations in 1997 that
require a new format for product labels and will necessitate revising dietary
supplement product labels by March 23, 1999. All companies in the dietary
supplement industry are required to comply with these new regulations. The
Company updated its product labels in 1997 in response to these new
regulations. The FDA also announced that it is considering the adoption of new
GMP's specific to dietary supplements. Such GMP's, if promulgated, may be
significantly more rigorous than currently applicable GMP's and contain quality
assurance requirements similar to the FDA's GMP's for drug products. The Company
believes it currently manufactures its dietary supplement products according to
the standards of the drug GMP's. However, the Company may be required to expend
additional capital and resources on manufacturing controls in the future in
order to comply with the law.
Other products marketed by the Company include cosmetics, over-the-counter
("OTC") drugs, and medical devices. In general, the Company's cosmetic products
currently are not subject to premarket approval by the FDA. However, cosmetics
are subject to regulation by the FDA under the FDC Act's adulteration and
misbranding provisions. Cosmetics also are subject to specific labeling
regulations, including warning statements if the safety of a cosmetic is not
adequately substantiated or if the product may be hazardous, as well as
ingredient statements and other packaging requirements under the Fair Packaging
and Labeling Act. Cosmetics that meet the definition of a drug (e.g., are
intended to treat or prevent disease or affect the structure or function of the
body), such as the Company's sunscreens and anti-cavity dental treatment gel,
are regulated as drugs. OTC drug products may be marketed if they conform to
the requirements of any OTC monograph that is applicable to a drug. Drug
products not conforming to monograph requirements for OTC drug products require
an approved New Drug Application ("NDA") before marketing. An NDA requires,
among other things, one or more adequate and well-controlled clinical trials
demonstrating the drug's safety and effectiveness before approval. The agency
has not yet promulgated final monographs for some of the Company's products,
such as sunscreens. If the agency finds that a product or ingredient of one of
the Company's OTC drug products is not generally recognized as safe and
effective or does not include it in a final monograph applicable to one of the
Company's OTC drug products, the Company will have to reformulate or cease
marketing the product until it is the subject of an approved NDA or until such
time, if ever, that the monograph is amended to include the Company's product.
For example, the Company's hand and body lotion contains an ingredient,
colloidal silver, that is the subject of a proposed rule finding that currently
it is not generally recognized as safe and effective for external or internal
use. If the rule becomes final, the Company will have to stop marketing the
product as currently formulated. Whether or not an OTC drug product conforms to
a monograph or is subject to an approved NDA, such a drug must comply with other
requirements under the FDC Act including GMP's, labeling, and the FDC Act's
misbranding and adulteration provisions.
Most of the Company's medical device products, as currently designed and
marketed, do not require premarket approval or clearance by the FDA. The
Medical Device Amendments of 1976 to the FDC Act established three regulatory
classes for medical devices depending on the degree of control necessary to
provide a reasonable assurance of safety and effectiveness. Generally, Class I
devices present the least risk to health and Class III devices present the
greatest risk to health and the most complex or novel technologies. Some Class
I and most Class II devices
12
currently require premarket notification and clearance by the FDA before
marketing under section 510(k) of the FDC Act. Devices for which the FDA has not
promulgated a classification regulation also require premarket notification and
clearance. Class III devices require premarket approval before commercial
distribution, because the FDA either has promulgated a regulation requiring a
premarket application for a pre-amendments type of device, or a post-amendments
device was not found substantially equivalent to a legally marketed device. The
Company's toothbrush and floss are currently regulated as Class I devices and do
not require premarket notification or clearance by the agency. The Company's
tongue scraper device is as yet unclassified by the FDA and, therefore, the
manufacturer received FDA clearance following premarket notification under
section 510(k) before marketing. Modifications to the Company's marketed devices
will require a premarket notification and clearance under section 510(k) before
the changed device can be marketed, if the change or modification could
significantly affect safety or effectiveness. All of the Company's devices,
unless specifically exempted by regulation, are subject to the FDC Act's general
controls, which include, among other things, registration and listing, adherence
to Quality System Regulation requirements for manufacturing, Medical Device
Reporting, and the potential for voluntary and mandatory recalls.
The Company's advertising of its products is subject to regulation by the
FTC under the FTC Act. Section 5 of the FTC Act prohibits unfair methods of
competition and unfair or deceptive acts or practices in or affecting commerce.
Section 12 of the FTC Act provides that the dissemination or the causing to be
disseminated of any false advertisement pertaining to drugs or foods, which
would include dietary supplements, is an unfair or deceptive act or practice.
Under the FTC's Substantiation Doctrine, an advertiser is required to have a
"reasonable basis" for all objective product claims before the claims are made.
Failure to adequately substantiate claims may be considered either deceptive or
unfair practices. Pursuant to this FTC requirement, the Company is required to
have adequate substantiation for all material advertising claims made for its
products.
In recent years the FTC has initiated numerous investigations of and
actions against dietary supplement, weight loss, and cosmetic products and
companies. The FTC has recently issued a guidance document to assist these
companies in understanding and complying with the substantiation requirement.
The Company is organizing the documentation to support its advertising and
promotional practices in compliance with the guideline.
The FTC may enforce compliance with the law in a variety of ways, both
administratively and judicially. Means available to the FTC include compulsory
process, cease and desist orders, and injunctions. FTC enforcement can result
in orders requiring, among other things, limits on advertising, corrective
advertising, consumer redress, divestiture of assets, rescission of contracts,
and such other relief as deemed necessary. Violation of such orders could
result in substantial financial or other penalties. Any such action by the FTC
could materially adversely affect the Company's ability to successfully market
its products.
In markets outside the United States, prior to commencing operations or
marketing its products, the Company may be required to obtain approvals,
licenses, or certifications from a country's ministry of health or comparable
agency. Approvals or licensing may be conditioned on reformulation of the
Company's products for the market or may be unavailable with respect to certain
products or product ingredients. The Company must also comply with local
product labeling and packaging regulations that vary from country to country.
The Company cannot predict the nature of any future laws, regulations,
interpretations, or applications, nor can it determine what effect additional
governmental regulations or administrative orders, when and if promulgated,
would have on its business in the future. They could include, however,
requirements for the reformulation of certain products to meet new standards,
the recall or discontinuation of certain products that cannot be reformulated,
additional record keeping, expanded documentation of the properties of certain
products, expanded or different labeling, and additional scientific
substantiation. Any or all such requirements could have a material adverse
effect on the Company's business, financial condition and results of operations.
Network Marketing Regulation. Other laws and regulations affecting the
----------------------------
Company have been enacted to prevent the use of deceptive or fraudulent
practices that have sometimes been inappropriately associated with legitimate
direct selling and network marketing activities. These include anti-pyramiding,
securities, lottery, referral selling, anti-fraud and business opportunity
statutes, regulations and court cases. Illegal schemes, typically referred to
as "pyramid," "chain distribution," or "endless chain" schemes, compensate
participants primarily for the introduction or enrollment of additional
participants into the scheme. Often, such schemes are characterized by large
up-front entry or sign-up fees, over-priced products of low value, little or no
emphasis on the sale or use of products, high-pressure
13
recruiting tactics and claims of huge and quick financial rewards with little or
no effort. Generally these laws are directed at ensuring that product sales
ultimately are made to consumers and that advancement within such sales
organizations is based on sales of the enterprise's products, rather than
investments in such organizations or other non-retail sales related criteria.
Where required by law, the Company obtains regulatory approval of its network
marketing system, or, where such approval is not required or available, the
favorable opinion of local counsel as to regulatory compliance.
* In the United States, the FTC and state attorneys general regulate the
network marketing system of the Company.
* In Canada, Industry Canada at the federal level and territorial
provincial Ministries or Departments of Justice regulate the Company's
network marketing system.
* In Australia, network marketing is subject to regulation under the Trade
Practices Act, which is administered by the Australian Competition and
Consumer Commission,
* In New Zealand, network marketing is subject to the Fair Trading Act,
which is administered by the New Zealand Commerce Commission
* In the United Kingdom, network marketing is subject to the Fair Trading
Act and the Trading Schemes Regulations, which are administered by the
Department of Trade and Industry.
The Company occasionally receives requests to supply information regarding
its network marketing plan to certain regulatory agencies. Although the Company
has from time to time modified its network marketing system to comply with
interpretations of various regulatory authorities, it believes that its network
marketing program presently is in compliance with laws and regulations relating
to direct selling activities. Nevertheless, the Company remains subject to the
risk that, in one or more of its present or future markets, its marketing system
or the conduct of certain of its distributors could be found not to be in
compliance with applicable laws and regulations. Failure by the Company or its
distributors to comply with these laws and regulations could have an adverse
material effect on the Company in a particular market or in general. Any or all
of such factors could adversely affect the way the Company does business and
could affect the Company's ability to attract potential distributors or enter
new markets. In the United States, the FTC has been active in its enforcement
efforts against both pyramid schemes and legitimate network marketing
organizations with certain legally problematic components, having instituted
several enforcement actions resulting in signed settlement agreements and
payment of large fines. Although the Company has not been the target of an FTC
investigation, there can be no assurance that the FTC will not investigate the
Company in the future.
The Company cannot predict the nature of any future law, regulation,
interpretation or application, nor can it predict what effect additional
governmental legislation or regulations, judicial decisions, or administrative
orders, when and if promulgated, would have on its business in the future. It
is possible that such future developments may require revisions to the Company's
network marketing program. Any or all of such requirements could have a
material adverse effect on the Company's business, results of operations and
financial condition.
Competition
The business of developing and distributing nutritional, personal care and
weight management products such as those offered by the Company is highly
competitive. Numerous manufacturers, distributors and retailers compete for
consumers and, in the case of other network marketing companies, for
distributors. The Company competes directly with other entities that
manufacture, market and distribute products in each of its product lines. The
Company competes with these entities by emphasizing the underlying science,
value and high quality of its products as well as the convenience and financial
benefits afforded by its network marketing system. However, many of the
Company's competitors are substantially larger than the Company and have greater
financial resources and broader name recognition. The Company's markets are
highly sensitive to the introduction of new products that may rapidly capture a
significant share of such markets.
The nutritional supplement market in which the Company's leading products
compete is characterized by:
* Large selections of essentially similar products that are difficult to
differentiate,
* Retail consumer emphasis on value pricing,
* Constantly changing formulations based on evolving scientific research,
14
* Low entry barriers resulting from low brand loyalty, rapid change,
widely available manufacturing, low regulatory requirements and ready
access to large distribution channels, and
* A lack of uniform standards regarding product ingredient sources,
potency, purity, absorption rate and form.
Similar factors are also characteristic of products comprising the
Company's other product lines. There can be no assurance that the Company will
be able to effectively compete in this intensely competitive environment. In
addition, nutritional, personal care and weight management products can be
purchased in a wide variety of channels of distribution, including retail
stores. The Company's product offerings in each product category are relatively
few compared to the wide variety of products offered by many of its competitors
and are often premium priced. As a result, the Company's ability to remain
competitive depends in part upon the successful introduction of new products and
enhancements of existing products.
The Company is also subject to significant competition from other network
marketing organizations for the time, attention and commitment of new and
current distributors. The Company's ability to remain competitive depends, in
significant part, on the Company's success in recruiting and retaining
distributors. The Company believes that it offers a rewarding distributor
compensation plan and attractive distributor benefits and services. To the
extent practicable, the Company's distributor compensation plan is designed to
be seamless, permitting international expansion without requalification or re-
entry requirements. Payments of distributor incentives are made weekly,
reducing the time a distributor must wait between purchase and sale of products
and payment of commissions. There can be no assurance that the Company's
programs for recruiting and retaining distributors will be successful. The
Company competes for the time, attention and commitment of its independent
distributor force. The pool of individuals interested in the business
opportunities presented by direct selling tends to be limited in each market and
is reduced to the extent other network marketing companies successfully recruit
these individuals into their businesses. Although management believes the
Company offers an attractive opportunity for distributors, there can be no
assurance that other network marketing companies will not be able to recruit the
Company's existing distributors or deplete the pool of potential distributors in
a given market.
The Company believes that the leading network marketing company in the
world, based on total sales, is Amway Corporation and its affiliates, and that
Avon Products, Inc. is the leading direct seller of beauty and related products
worldwide. Leading competitors in the nutritional products and nutritional
direct selling markets include Herbalife International, Inc., Nature's Sunshine
Products, Inc., Rexall Sundown, Inc. and its direct selling division Rexall
Showcase International, Inc., Twinlab Corporation, Shaklee Corporation and Nu
Skin International, Inc. The Company believes there are other manufacturers of
competing product lines that may or will launch direct selling enterprises,
which will compete with the Company in certain of its product lines and for
distributors. There can be no assurance that the Company will be able to
successfully meet the challenges posed by such increased competition.
Intellectual Property
Trademarks. The Company uses registered trademarks in its business,
----------
particularly relating to its corporate and product names. The Company owns six
trademarks registered with the United States Patent and Trademark Office. The
Company has also filed applications to register eight additional trademarks.
Federal registration of a trademark enables the registered owner of the mark to
bar the unauthorized use of the registered mark in connection with a similar
product in the same channels of trade by any third party anywhere in the United
States, regardless of whether the registered owner has ever used the trademark
in the area where the unauthorized use occurs. The Company also has filed
applications and owns trademark registrations, and intends to register
additional trademarks, in foreign countries where the Company's products are or
may be sold. Protection afforded registered trademarks in some jurisdictions
may not be as extensive as the protection available in the United States.
Certain product names, unregistered trademarks and service marks are claimed by
the Company under common law.
Common law trademark rights do not provide the Company with the same level
of protection afforded by registration of a trademark. In addition, common law
trademark rights are limited to the geographic area in which the trademark is
actually used. The Company believes its trademarks, registered and claimed
under common law, constitute valuable assets of the Company, adding to
recognition of the Company and the marketing of its products. The Company
therefore believes such proprietary rights have been and will continue to be
important in enabling the Company to compete in its industry.
15
Trade Secrets. The Company has certain trade secrets that it intends to
-------------
protect, in part, through confidentiality agreements with employees and other
parties. Certain of the Company's employees involved in research and
development activities have not entered into such agreements. Even where such
agreements exist, there can be no assurance that these agreements will not be
breached, that the Company would have adequate remedies for any breach or that
the Company's trade secrets will not otherwise become known to or independently
developed by competitors.
Patents. The Company does not own any patents and has no patent
-------
applications pending or plans to seek patent protection of any of its products.
The Company believes that patent protection is not generally available for
nutritional supplements, the Company's core products. To the extent patents may
be obtained for nutritional products, the scope of such patents may not be
sufficiently broad to provide meaningful protection against infringement.
Labeling regulations require the Company to disclose product ingredients and
formulations, which makes enforcement of patents in the nutritional supplements
industry difficult. The Company does not believe that the lack of patents in
any way will adversely affect the Company's ability to compete in the
nutritional supplement, personal care or weight management industries.
The Company intends to protect its legal rights concerning its intellectual
property by all appropriate legal action. The Company may become involved from
time to time in litigation to determine the enforceability, scope and validity
of any of the foregoing proprietary rights. Any such litigation could result in
substantial cost to the Company and divert the efforts of its management and
technical personnel.
Backlog
The Company typically ships products within 72 hours after the receipt of
the order. As of January 2, 1999, there was no significant backlog.
Working Capital Practices
The Company maintains significant amounts of inventory in stock in order
to provide a high level of service to its independent distributors and Preferred
Customers. Substantial inventories are required to serve the needs of USANA's
dual role as manufacturer and distributor.
Environment
The Company presently is not aware of any instance in which it has
contravened federal, state or local provisions enacted for or relating to
protection of the environment or in which it otherwise may be subject under such
laws to liability for environmental conditions that materially could affect the
Company's operations.
Employees
As of March 19, 1999, the Company had approximately 455 employees (as
measured by full time equivalency), of whom 362 were in the United States, 47
were in Australia/New Zealand, 22 in Canada and 24 in the United Kingdom. Of
the Company's employees, 192 are involved in customer service and order entry,
101 in manufacturing and shipping, 137 in selling and administration and 25 in
research and development and quality control. The Company's employees are not
represented by a collective bargaining agreement and the Company has experienced
no work stoppages as a result of labor disputes. The Company believes its
relationship with its employees is good.
16
Item 2. Properties
The Company's headquarters are located in Salt Lake City, Utah in a 102,000
square foot building on approximately one-half of a 16-acre parcel owned by the
Company. The Company added approximately 4,000 square feet of administrative
space in the building in 1998. Of the 102,000 square feet presently occupied by
the Company, approximately 28,000 square feet are used for manufacturing,
packaging and distribution; 26,000 square feet are used for warehouse space; and
the remaining 48,000 square feet are occupied by executive and administrative
personnel, distributor services, research and development, and three
laboratories. The Company believes that its headquarters facility and the
available property at this site (consisting of approximately eight unimproved
acres) will prove to be adequate for anticipated growth. Administrative space
in the building is almost fully utilized and production capacity is currently
running at approximately 66% and 50% in the Company's manufacturing and
packaging facilities, respectively.
The following table summarizes the Company's facilities as of January 2,
1999. Total monthly lease commitments for these properties average
approximately $28,000.
Approximate Leased/ Expiration
Location Function Square Feet Owned Date
- -------------------------- ------------------------------------------------- ----------- ------ -----------------
Salt Lake City, Utah USA Corporate headquarters/manufacturing/warehouse 102,000 Owned -
Tooele, Utah, USA Call center 11,200 Leased April 30, 2000
Ontario, Canada Warehouse/distribution center/office 18,000 Leased March 31, 2003
Sydney, Australia Central office/call center/warehouse/distribution 20,000 Leased October 30, 2002
Auckland, New Zealand Warehouse/distribution center/office 4,000 Leased February 28, 2007
Milton Keynes, England Central office/call center/distribution center 23,500 Owned -
The Company maintains general commercial/casualty insurance on its
properties, which it deems to be adequate for its present needs.
Item 3. Legal Proceedings
The Company is party to certain litigation in the United States
Federal District Court for the District of Connecticut, which is also affected
by two related actions as follows:
The U.S. Lawsuit. On March 6, 1996, International Nutrition Company
----------------
("INC") filed a patent infringement action (the "U.S. Lawsuit") against a number
of defendants, including USANA, alleging infringement of U.S. patent number
4,698,360 (the "'360 patent"). The complaint, filed in the United States
District Court for the District of Connecticut, alleges that USANA's Proflavanol
product infringes the `360 patent. The complaint seeks preliminary and
permanent injunctions against the manufacture, sale and use of Proflavanol, as
well as damages in unspecified amounts, costs and attorneys' fees. If INC were
to prevail in its claim for injunctive relief, USANA would be prohibited from
using, selling, offering to sell, manufacturing or importing any infringing
product. If liability were established, damages in the case could range from a
reasonable royalty to lost profits, and if willfulness is established, could
also include treble damages, as well as attorneys' fees. Having conducted a
thorough investigation of the `360 patent and the allegations made in the
complaint, USANA believes that its manufacture and sale of Proflavanol does not
infringe any valid claim of the `360 patent.
Reexamination Proceeding. On April 17, 1996, an unidentified party
------------------------
filed a request (the "Reexamination Proceeding") with the United States Patent
and Trademark Office ("PTO") to reexamine the validity of the `360 patent. The
request for reexamination was granted and the PTO conducted the Reexamination
Proceeding. The U.S. Lawsuit was stayed pending the outcome of the
Reexamination Proceeding. On August 22, 1997, the PTO granted a Certificate of
Reexamination for the `360 patent, confirming the validity of each of the claims
of the patent over the prior art cited as part of the Reexamination Proceeding.
The French Lawsuit. INC claims an ownership interest in the `360
------------------
patent by assignment from Societe Civile d'Investigation Pharmacologique
d'Acquitane ("SCIPA"), who took a one-half interest in the patent from the
inventor, Jack Masquielier. The other half of the `360 patent was conveyed by
Mr. Masquelier to a company known as Horphag Research Ltd. ("Horphag"). In
October 1995, Horphag sued SCIPA, INC and others in Bordeaux, France (the
"French Lawsuit"). In its action, Horphag alleged that SCIPA's transfer of its
one-half interest in the `360 patent to INC
17
violated Horphag's right of preemption under French law and the provisions of
the agreement by which Horphag and SCIPA acquired their ownership interests in
the `360 patent. Horphag's complaint in the French Lawsuit requested that the
French court order that the assignment from SCIPA to INC be declared null and
void, and that the court issue an order declaring that INC has no ownership
interest in the `360 patent. USANA purchases its raw ingredients for Proflavanol
from Indena, a licensee of Horphag.
On March 21, 1997, the court for the U.S. Lawsuit ordered that the
action not proceed until resolution of the French Lawsuit. On March 25, 1997,
the trial court in Bordeaux issued a decision declaring that under French law,
INC has no interest in the `360 patent, because of the principle of preemption.
Specifically, the French trial court held that SCIPA, through whom INC claims
ownership rights in the `360 patent, had an obligation to offer its one-half
interest in the patent to Horphag before selling it to INC. Because SCIPA did
not offer its interest to Horphag, the French trial court nullified the
assignment from SCIPA to INC, finding that SCIPA has again become a joint owner
of the `360 patent. INC appealed the decision of the trial court.
On May 28, 1998, the Court of Appeals in Bordeaux affirmed the
decision of the trial court that INC has no ownership interest in the `360
patent. Specifically, the decision holds that INC does not now hold and never
has held any ownership rights in the `360 patent. The appellate court also
found that recent attempts by Mr. Masquelier to assign an interest in the `360
patent to INC were null and void because he had no ownership interest in the
`360 patent and therefore could not assign such an interest to INC. The French
appellate decision also rejected INC's argument that it purchased an interest in
the `360 patent in good faith, without knowledge of Horphag's one-half interest.
On July 10, 1998, USANA filed a motion to dismiss the INC complaint,
alleging that based on the decisions of the French courts INC has no standing to
sue. Alternatively, USANA has alleged that, under U.S. law, even if INC were a
co-owner of the `360 patent, it owns at most a one-half interest and cannot
bring suit to enforce the patent unless the other co-owner voluntarily agrees to
join in such suit as a plaintiff. The other owner of the `360 patent, Horphag,
has not voluntarily joined the U.S. Lawsuit as a plaintiff and, in fact, is a
defendant in that proceeding. Therefore, USANA believes the litigation must be
dismissed. No hearing has been set on USANA's motion to dismiss, although INC
has indicated it will oppose the motion. USANA intends to vigorously defend its
right to continue providing its Proflavanol product to its customers.
Item 4. Submission of Matters to a Vote of Security Holders
None.
18
PART II
Item 5. Market For Registrant's Common Equity and Related Stockholder Matters
Market Information
The Company's common stock trades on the Nasdaq Stock Market(R) under the
symbol "USNA." The following table sets forth the reported high and low sale
prices for the Company's common stock as reported on the Nasdaq Stock Market for
the periods indicated:
1997 High Low
-------- ------
First Quarter... 10 1/4 7 1/16
Second Quarter.. 8 7/8 4 5/8
Third Quarter... 10 3/4 6
Fourth Quarter.. 10 11/16 8 1/2
1998
First Quarter... 14 1/2 8 7/8
Second Quarter.. 17 1/4 12 3/4
Third Quarter... 24 1/8 8
Fourth Quarter.. 14 3/4 9 5/16
On March 19, 1999, the high and low sales prices of the Company's common
stock were $9.25 and $8.875, respectively.
Shareholders
As of March 19, 1999, there were approximately 420 holders of record of the
Company's common stock and an estimated 5,500 beneficial owners, including
shares of common stock held in street name.
Dividends
The Company has never declared or paid cash dividends on its common stock.
The Company currently intends to retain future earnings to fund the development
and growth of its business and does not anticipate paying any cash dividends in
the foreseeable future. Future cash dividends, if any, will be determined by
the Board of Directors and will be based on the Company's earnings, capital,
financial condition and other factors deemed relevant by the Board of Directors.
The Company's credit facility contains restrictions on the Company's ability to
declare cash dividends on its capital stock or redeem or retire such stock
without the lender's written consent.
19
Item 6. Selected Financial Data
The selected consolidated financial data set forth below with respect to
the Company's consolidated statements of earnings and consolidated balance
sheets for each of the last five fiscal years are derived from the consolidated
financial statements of the Company. The data set forth should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations," and the audited consolidated financial statements
and related notes thereto.
Year Ended
---------------------------------------------------
December 31,
------------------
Dec. 28, Dec. 27, Jan. 2, (1)
1994 1995 1996 1997 1999
-------- -------- -------- -------- -----------
(in thousands, except per share data)
Consolidated Statement of Earnings Data:
Net sales.............................................. $ 7,317 $24,541 $56,700 $85,205 $121,558
Cost of sales.......................................... 2,238 5,703 11,596 17,852 25,279
------- ------- ------- ------- --------
Gross profit........................................ 5,079 18,838 45,104 67,353 96,279
Operating expenses:
Distributor incentives.............................. 3,066 10,800 25,890 39,536 54,408
Selling, general and administrative................. 1,564 4,246 10,515 16,040 25,284
Research and development............................ 54 256 798 1,245 1,362
------- ------- ------- ------- --------
Total operating expenses.......................... 4,684 15,302 37,203 56,821 81,054
------- ------- ------- ------- --------
Earnings from operations............................... 395 3,536 7,901 10,532 15,225
Other income (expense), net............................ (44) 191 247 166 178
------- ------- ------- ------- --------
Earnings before income taxes........................... 351 3,727 8,148 10,698 15,403
Income taxes........................................... 26 1,422 3,113 4,116 5,906
------- ------- ------- ------- --------
Net earnings........................................... $ 325 $ 2,305 $ 5,035 $ 6,582 $ 9,497
======= ======= ======= ======= ========
Earnings per share - diluted........................... $0.03 $0.20 $0.38 $0.49 $0.68
======= ======= ======= ======= ========
Weighted average shares outstanding - diluted.......... 10,631 11,589 13,326 13,319 13,929
======= ======= ======= ======= ========
As of
-------------------------------------------------
December 31,
----------------
Dec. 28, Dec. 27, Jan. 2, (1)
1994 1995 1996 1997 1999
------- ------- -------- -------- -----------
(in thousands, except per share data)
Consolidated Balance Sheet Data:
Cash and cash equivalents.............................. $ 647 $ 2,976 $ 1,130 $ 2,608 $ 2,617
Working capital........................................ 845 1,795 458 4,569 8,430
Current assets......................................... 1,839 5,361 9,040 11,273 17,146
Total assets........................................... 2,790 10,174 21,079 26,369 39,957
Long-term obligations, less current maturities......... 7 4 - - -
Stockholders' equity................................... 1,722 6,555 12,368 19,258 30,617
Other Data:
Current distributors (2)............................... 16,000 34,000 59,000 84,000 116,000
Preferred customers (3)................................ - - - 9,000 26,000
- ---------------------------------------------------------------------------------------------------------
(1) The 1998 fiscal year ended January 2, 1999 was a 53-week year. Fiscal 1997
was a 52-week year. Fiscal 1996 began on January 1, 1996 and ended on
December 28, 1996. Both fiscal 1995 and 1994 were calendar years.
(2) The Company defines a current distributor as a distributor who has
purchased product from the Company at any time during the most recent
twelve-month period. The Company adopted this definition in September
1997. The number of current distributors for prior periods is an estimate.
(3) The Company introduced its Preferred Customer program in the third quarter
of 1997. Preferred Customers purchase products from the Company at
wholesale prices for personal use, but do not distribute the products.
20
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis of the Company's financial condition and
results of operations should be read in conjunction with the Consolidated
Financial Statements and Notes thereto appearing elsewhere in this report.
Overview
- --------
USANA develops and manufactures high-quality nutritional, personal care and
weight management products. The Company distributes its products through a
network marketing system. As of January 2, 1999, the Company had approximately
116,000 current distributors in the United States, Canada, Australia, New
Zealand and the United Kingdom. The Australia/New Zealand and the United
Kingdom markets initiated operations on February 12, 1998 and November 30, 1998,
respectively. The Company defines a current distributor as a distributor who
has made a purchase in the most recent twelve-month period. From 1993 to 1998,
net sales of the Company grew from $3.9 million to $121.6 million, while net
earnings increased from a loss of $312,000 to net earnings of $9.5 million.
The Company's three primary product lines consist of nutritional, personal
care and weight management products. Nutritional products accounted for
approximately 81% of the Company's net sales in 1998. The Company's top selling
products, USANA Essentials and Proflavanol, represented approximately 42% and
19%, respectively, of net sales in 1998. No other products accounted for more
than 10% of net sales during the year. USANA's personal care line includes
skin, hair and body, and dental care products. The Company's weight management
line includes a dietary supplement in tablet form, food bars, meal entrees,
instructional videos and other products developed to provide a comprehensive
approach to weight management, proper diet, nutrition and healthy living. In
June 1998, the Company introduced several new products, including CoQuinone,
Procosamine, the USANA Dental Care System and an in-home water distillation
system. In addition to its primary product lines, the Company also sells
distributor kits and sales aids which accounted for approximately 4% of the
Company's net sales in 1998.
Net sales of the Company are primarily dependent upon the efforts of a network
of independent distributors who purchase products and sales materials. The
Company also offers a Preferred Customer program specifically designed for
customers who desire to purchase USANA's products for personal consumption,
while choosing not to become independent distributors. As of January 2, 1999,
the Company had approximately 26,000 Preferred Customers. The Company
recognizes revenue when products are shipped and title passes to independent
distributors and Preferred Customers. In 1998, sales in the Company's four
primary markets, the United States, Canada, Australia/New Zealand and the United
Kingdom, were 57.5%, 26.9%, 15.3% and 0.3%, respectively, of net sales of the
Company. As the Company expands into additional international markets, the
Company expects international operations to account for an increasing percentage
of its net sales.
Cost of sales primarily consists of expenses related to raw materials, labor,
quality assurance and overhead directly associated with the procurement and
production of USANA's products and sales materials as well as duties and taxes
associated with product exports. In 1998, products manufactured by the Company
accounted for approximately 75% of its net sales. As international sales
increase as a percentage of net sales, the Company expects that its overall cost
of sales could increase slightly, reflecting additional duties, freight and
other expenses associated with international expansion.
Distributor incentives are the Company's most significant expense and
represented 44.8% of net sales in 1998. Distributor incentives include
commissions and leadership bonuses, and are paid weekly based on sales volume
points. Each product sold by the Company is assigned a sales volume point value
independent of the product's price. Distributors earn commissions based on
sales volume points generated in their downline. Generally, distributor kits,
sales aids and logo merchandise, such as items of clothing and luggage, have no
sales volume point value and therefore the Company pays no commissions on the
sale of these items.
The Company closely monitors the amount of distributor incentives paid as a
percentage of net sales and may from time to time adjust its distributor
compensation plan to prevent distributor incentives from having a significant
adverse effect on earnings, while continuing to maintain an appropriate
incentive for its distributors. For example, in
21
the third quarter of 1997, the Company introduced a repricing strategy across
its product lines that created a spread between the price a distributor pays for
the product and the sales volume point value associated with the product. This
new price strategy had the effect of reducing the amount of total distributor
incentives paid as a percentage of net sales. At the same time, the Company
changed its leadership bonus program, increasing the payout from 2.0% to 3.0% of
total sales volume points.
Selling, general and administrative expenses include wages and benefits,
depreciation and amortization, rents and utilities, distributor events,
promotion and advertising, and professional fees along with other marketing and
administrative expenses. Wages and benefits represent the largest component of
selling, general and administrative expenses. The Company expects to add human
resources and associated infrastructure as operations expand. The President,
Chief Executive Officer and Chairman of the Board of Directors of the Company,
Dr. Wentz, does not receive a salary, and the Company does not anticipate that
Dr. Wentz will take a salary for the foreseeable future. However, if Dr. Wentz
were to take a salary, selling, general and administrative expenses would
increase. Depreciation and amortization expense has increased as a result of
substantial investments in computer and telecommunications equipment and systems
to support international expansion. The Company anticipates that additional
capital investments will be required in future periods to promote and support
growth in sales and the increasing size of the distributor and Preferred
Customer base.
Research and development expenses include costs incurred in developing new
products, supporting and enhancing existing products and reformulating products
for introduction in international markets. The Company capitalizes product
development costs after market feasibility is established. These costs are
amortized as cost of sales over an average of 12 months, beginning with the
month the products become available for sale.
In 1996, the Company adopted a 52-53 week fiscal year. Commencing with
fiscal year 1996, the fiscal year end of the Company was changed from December
31 of each year to the Saturday closest to December 31. References to a
particular fiscal year are to the fiscal year ending on such Saturday for fiscal
years 1996 and later, and to the year ended December 31 for fiscal years 1995
and earlier. Fiscal year 1998 was a 53-week year. Fiscal year 1997 was a 52-
week year. Management believes the additional week in fiscal 1998 did not have
a material impact on earnings.
Results Of Operations
The following table summarizes operating results as a percentage of net sales,
respectively, for the periods indicated:
Year Ended
--------------------------------------------------------
Dec. 28, Dec. 27, Jan. 2,
1996 1997 1999
--------------- -------------- ---------------
Net sales 100.0% 100.0% 100.0%
Cost of sales 20.5% 21.0% 20.8%
--------------- -------------- ---------------
Gross profit 79.5% 79.0% 79.2%
Operating expenses:
Distributor incentives 45.7% 46.4% 44.8%
Selling, general and administrative 18.5% 18.8% 20.8%
Research and development 1.4% 1.5% 1.1%
--------------- -------------- ---------------
Earnings from operations 13.9% 12.3% 12.5%
Other income 0.4% 0.2% 0.2%
--------------- -------------- ---------------
Earnings before income taxes 14.3% 12.5% 12.7%
Income taxes 5.5% 4.8% 4.9%
Net earnings 8.8% 7.7% 7.8%
=============== ============== ===============
22
Years Ended January 2, 1999 and December 27, 1997
Net Sales. Net sales increased 42.7% to $121.6 million in 1998, an
increase of $36.4 million from $85.2 million in 1997. Approximately 90% of the
growth in net sales for this period was attributable to increases in total unit
sales. The increase in unit sales is primarily the result of a 38.1% increase in
the Company's independent distributor base and continued growth in its Preferred
Customer program, which was introduced in the third quarter of 1997. As of
January 2, 1999, the Company had approximately 116,000 current distributors
compared to approximately 84,000 current distributors at December 27, 1997.
Approximately 75% of the growth in the distributor base can be associated with
the opening of the Australia/New Zealand market in February 1998. As of January
2, 1999, the Company had approximately 26,000 Preferred Customers. Successful
regional conventions, new product introductions and the product price increase
in the third quarter of 1997 also contributed to sales growth in 1998.
The following table illustrates the growth in sales by region for the years
ended December 27, 1997 and January 2, 1999:
Sales Growth by Region
(in millions)
Year Ended
----------------------------------------------------------------
December 27, 1997 January 2, 1999
----------------------------- ------------------------------ Growth over %
Net Sales % Net Sales Net Sales % Net Sales Prior Year Growth
----------- ------------- ------------ ------------- ---------------- --------
Region
- ------
United States $59.0 69.2% $ 69.9 57.5% $10.9 18.4%
Canada 26.2 30.8% 32.7 26.9% 6.5 24.8%
Australia/New Zealand - - 18.7 15.3% 18.7 -
United Kingdom - - 0.3 0.3% 0.3 -
----------- ------------- ------------ ------------- ----------------
$85.2 100.0% $121.6 100.0% $36.4 42.7%
=========== ============ ============ ============ ================
Cost of Sales. Cost of sales increased 41.6% to $25.3 million in 1998, an
increase of $7.4 million from $17.9 million in 1997. As a percentage of net
sales, cost of sales decreased slightly to 20.8% in 1998 from 21.0% in 1997.
The decrease in cost of sales as a percentage of net sales can be attributed
primarily to the price increase introduced in the third quarter of 1997 and
volume-based efficiencies in production and procurement activities. These
factors were partially offset by additional costs such as freight and duties
associated with exporting products to Australia/New Zealand and the United
Kingdom, and a change in the sales mix to include a higher percentage of
distributor kits which have a significantly lower gross profit margin. When a
new market is opened, the Company initially experiences a higher demand for
distributor kits in that market.
Distributor Incentives. Distributor incentives increased 37.6% to $54.4
million in 1998, an increase of $14.9 million from $39.5 million in 1997. As a
percentage of net sales, distributor incentives decreased to 44.8% in 1998 from
46.4% in 1997. The decrease in distributor incentives as a percentage of net
sales can be attributed primarily to the implementation of the Company's
repricing strategy and a change in the sales mix that resulted from increased
demand for distributor kits in the Australia/New Zealand market. The decrease
in distributor incentives as a percentage of net sales was partially offset by
an increase in the Company's leadership bonus program from 2.0% to 3.0% of the
sales volume points generated.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 57.6% to $25.3 million in 1998, an increase of
$9.3 million from $16.0 million in 1997. As a percentage of net sales, selling,
general and administrative expenses increased to 20.8% in 1998 from 18.8% in
1997. The increase in selling, general and administrative expenses can be
attributed to several factors:
* Higher variable expenses such as increases in customer service staffing
levels and discount fees on credit cards in association with growth in
sales and the increased number of distributors and Preferred Customers,
23
* Increased depreciation and amortization expense of approximately 1% as a
percentage of net sales as a result of substantial investments in
current and prior periods in computer and telecommunications equipment
to support growth and international expansion,
* Increased costs including, but not limited to, employee compensation as
a result of building a Company infrastructure to meet strategic
objectives, and
* Higher relative costs associated with international expansion, primarily
related to commencing operations in Australia/New Zealand and the United
Kingdom.
Research and Development Expenses. Research and development expenses
increased 9.4% to $1.4 million in 1998, an increase of $0.2 million from $1.2
million in 1997. The modest increases in research and development expenses in
1998 were primarily the result of new product development, ongoing clinical
studies and the reformulation of existing products.
Net Earnings. Net earnings increased 44.3% to $9.5 million in 1998, an
increase of $2.9 million from $6.6 million in 1997. The increase in net
earnings is primarily the result of higher sales. Net earnings reflect the
combined effect of decreased cost of sales, decreased distributor incentives,
and increased selling, general and administrative expenses relative to net
sales, which resulted in a 7.8% profit margin in 1998 compared to 7.7% in 1997.
Diluted earnings per share increased 38.8% to $0.68 in 1998, an increase of
$0.19 from $0.49 in 1997.
Years Ended December 27, 1997 and December 28, 1996
Net Sales. Net sales increased 50.3% to $85.2 million in 1997, an increase
of $28.5 million from $56.7 million in 1996. The increase in net sales is
primarily the result of a 42.4% increase in the Company's independent
distributor base and continued growth in its Preferred Customer program. As of
December 27, 1997, the Company had approximately 84,000 current distributors
compared to an estimated 59,000 current distributors at December 28, 1996. The
Company introduced its Preferred Customer program in the third quarter of 1997.
Approximately 9,000 Preferred Customers enrolled in the Preferred Customer
program in 1997. Successful regional conventions, new product introductions and
the Company's price increase also contributed to sales growth in 1997. This
price increase, which was phased in as part of the Company's repricing strategy
beginning in the third quarter of 1997, accounted for less than 2.0% of net
sales in 1997. Approximately 50% of the sales growth in 1997 resulted from
growth in the Canadian operations. Canadian sales increased 118.9% to $26.2
million in 1997, an increase of $14.2 million from $12.0 million in 1996. Net
sales in the United States increased 31.9% to $59.0 million from $44.7 million
in 1996.
Cost of Sales. Cost of sales increased 53.9% to $17.9 million in 1997, an
increase of $6.3 million from $11.6 million in 1996. As a percentage of net
sales, cost of sales increased to 21.0% in 1997 from 20.5% in 1996. The
increase in cost of sales can be attributed primarily to sales growth, a modest
increase in the underlying cost of materials with no accompanying price increase
until the third quarter of 1997, and inefficiencies associated with new product
introduction and product preparation for international growth. In addition, the
Company established a provision for inventory obsolescence of $220,000 in 1997
to offset the risk of potential inventory obsolescence attributed to new product
introduction and the modification of existing products.
Distributor Incentives. Distributor incentives increased 52.7% to $39.5
million in 1997, an increase of $13.6 million from $25.9 million in 1996. As a
percentage of net sales, distributor incentives increased to 46.4% in 1997 from
45.7% in 1996. The increase in distributor incentives was attributable
primarily to increased sales growth. Two other factors contributed to the
increase in distributor incentives: (1) the maturation of the distributor
network; and (2) an increase in the leadership bonus payout from 2.0% to 3.0% of
total sales volume points generated. The increase in distributor incentives was
partially offset by a decrease in the proportion of sales volume points to total
sales that resulted from the introduction of the Company's repricing strategy in
the third quarter of 1997. Although total distributor incentives increased in
1997, distributor incentives declined as a percentage of net sales in both the
third and the fourth quarter of 1997 compared to the third and four quarters of
1996.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 52.5% to $16.0 million in 1997, an increase of
$5.5 million from $10.5 million in 1996. As a percentage of net sales, selling,
general and administrative expenses increased to 18.8% in 1997 from 18.5% in
1996. The increase in selling, general and administrative expenses can be
attributed primarily to two factors. First, variable selling, general and
administrative expenses such as discount fees on credit cards and higher
customer service staffing levels increased to
24
accommodate the demands of sales growth and the increased number of distributors
and Preferred Customers. Second, as a result of substantial investments in
computer and production equipment in late 1996 and throughout 1997, depreciation
and amortization expenses as a component of selling, general and administrative
expense increased by more than $800,000 in 1997 compared to 1996.
Research and Development Expenses. Research and development expenses
increased 56.0% to $1.2 million in 1997, an increase of $447,000 from $798,000
in 1996. As a percentage of net sales, research and development expenses
increased to 1.5% in 1997 from 1.4% in 1996. Increases in research and
development expenses in 1997 were primarily the result of new product
development and, to a lesser extent, the reformulation of existing products.
Net Earnings. Net earnings increased 30.7% to $6.6 million in 1997, an
increase of $1.6 million from $5.0 million in 1996. The increase in net
earnings is primarily the result of higher sales. The Company`s profit margin
was 7.7% in 1997, a decrease of 1.1% from 8.8% in 1996. The decrease in the
Company's profit margin can be attributed to increases in cost of sales,
distributor incentives, and selling, general and administrative expenses
relative to net sales. Diluted earnings per share increased 28.9% to $0.49 in
1997, compared to $0.38 in 1996.
Quarterly Financial Information and Seasonality
The following table sets forth unaudited quarterly operating results for
each of the Company's last eight quarters as well as certain of such data
expressed as a percentage of net sales for the periods indicated. This
information has been prepared by the Company on a basis consistent with the
Company's Consolidated Financial Statements and includes all adjustments,
consisting only of normal recurring adjustments, that management considers
necessary for a fair presentation of the data. The Company's quarterly results
are not necessarily indicative of future results of operations. This information
should be read in conjunction with the Consolidated Financial Statements of the
Company and Notes thereto included elsewhere in this report.
25
The Company believes that the impact of seasonality on its results of
operations is not material, although historically growth has been slower in the
fourth quarter of each year. This could change as new markets are opened and
become a more significant part of the Company's business. In addition, the
significant growth experienced by the Company since its inception has made it
difficult to accurately determine seasonal trends.
Quarter Ended
--------------------------------------------------------------------------------------
Mar. 29, June 28, Sep. 27, Dec. 27, Mar. 28, June 27, Sep. 26, Jan. 2,(1)
1997 1997 1997 1997 1998 1998 1998 1999
--------- --------- --------- --------- --------- --------- --------- ---------
(in thousands, except per share data)
Consolidated Statements of Earnings Data:
Net sales.............................. $17,654 $21,046 $22,873 $23,632 $26,164 $30,913 $32,123 $32,358
Cost of sales.......................... 3,759 4,394 4,809 4,890 5,486 6,408 6,725 6,660
------- ------- ------- ------- ------- ------- ------- -------
Gross profit........................ 13,895 16,652 18,064 18,742 20,678 24,505 25,398 25,698
Operating expenses:
Distributor incentives.............. 8,348 9,807 10,438 10,943 11,762 13,930 14,312 14,404
Selling, general and
administrative................... 3,403 3,971 4,273 4,393 5,433 6,318 6,705 6,828
Research and development............ 280 299 386 280 354 373 405 230
------- ------- ------- ------- ------- ------- ------- -------
Total operating expenses............ 12,031 14,077 15,097 15,616 17,549 20,621 21,422 21,462
------- ------- ------- ------- ------- ------- ------- -------
Earnings from operations............... 1,864 2,575 2,967 3,126 3,129 3,884 3,976 4,236
Other income (expense), net............ 22 42 43 59 46 21 113 (2)
------- ------- ------- ------- ------- ------- ------- -------
Earnings before income taxes........... 1,886 2,617 3,010 3,185 3,175 3,905 4,089 4,234
Income taxes........................... 763 955 1,154 1,244 1,239 1,501 1,559 1,607
------- ------- ------- ------- ------- ------- ------- -------
Net earnings........................... $ 1,123 $ 1,662 $ 1,856 $ 1,941 $ 1,936 $ 2,404 $ 2,530 $ 2,627
======= ======= ======= ======= ======= ======= ======= =======
Earnings per share - diluted........... $ 0.08 $ 0.13 $ 0.14 $ 0.14 $ 0.14 $ 0.17 $ 0.18 $ 0.19
======= ======= ======= ======= ======= ======= ======= =======
Weighted average shares
outstanding - diluted................. 13,455 13,285 13,241 13,552 13,771 14,064 14,190 13,901
====== ======= ======= ======= ======= ======= ======= =======
Quarter Ended
-------------------------------------------------------------------------------------
Mar. 29, June 28, Sep. 27, Dec. 27, Mar, 28, June 27, Sep. 26, Jan. 2,(1)
1997 1997 1997 1997 1998 1998 1998 1999
------- ------- ------- ------- ------- ------- ------- -------
As a Percentage of Net Sales:
Net sales.............................. 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of sales.......................... 21.3 20.9 21.0 20.7 21.0 20.7 20.9 20.6
------- ------- ------- ------- ------- ------- ------- -------
Gross profit........................ 78.7 79.1 79.0 79.3 79.0 79.3 79.1 79.4
Operating expenses:
Distributor incentives.............. 47.3 46.6 45.6 46.3 45.0 45.1 44.6 44.5
Selling, general and
administrative................... 19.3 18.9 18.7 18.6 20.8 20.4 20.9 21.1
Research and development............ 1.6 1.4 1.7 1.2 1.4 1.2 1.3 0.7
------- ------- ------- ------- ------- ------- ------- -------
Total operating expenses............ 68.2 66.9 66.0 66.1 67.2 66.7 66.8 66.3
------- ------- ------- ------- ------- ------- ------- -------
Earnings from operations............... 10.5 12.2 13.0 13.2 11.8 12.6 12.3 13.1
Other income (expense), net............ 0.1 0.2 0.2 0.2 0.2 0.1 0.4 0.0
------- ------- ------- ------- ------- ------- ------- -------
Earnings before income taxes........... 10.6 12.4 13.2 13.4 12.0 12.7 12.7 13.1
Income taxes........................... 4.3 4.5 5.0 5.3 4.7 4.9 4.8 5.0
------- ------- ------- ------- ------- ------- ------- -------
Net earnings........................... 6.3% 7.9% 8.2% 8.1% 7.3% 7.8% 7.9% 8.1%
======= ======= ======= ======= ======= ======= ======= =======
(1) The quarter ended January 2, 1999 was a 14 week quarter. All other quarters
in the table represent 13 week quarters.
The Company may experience variations on a quarterly basis in its
results of operations, in response to, among other things:
* The timing of Company-sponsored distributor events
* New product introductions
* The opening of new markets
* The timing of holidays, especially in the fourth quarter, which may
reduce the amount of time distributors spend selling the Company's
products or recruiting new distributors
* The adverse effect of distributors' or the Company's failure, or
allegations of their failure, to comply with applicable governmental
regulations
26
* The negative impact of changes in or interpretations of regulations that
may limit or restrict the sale of certain of the Company's products
* The operation of its network marketing system
* Fluctuations in currency exchange rates
* The recruiting and retention of distributors
* The integration and operation of new information technology systems
* The inability of the Company to introduce new products or the
introduction of new products by the Company's competitors
* Availability of raw materials
* General conditions in the nutritional supplement, personal care and
weight management industries or the network marketing industry
* Consumer perceptions of the Company's products and operations
Because the Company's products are ingested by consumers or applied to
their bodies, the Company is highly dependent upon consumers' perception of the
safety, quality and efficacy of its products. As a result, substantial negative
publicity, whether founded or unfounded, concerning one or more of the Company's
products or other products similar to the Company's products could adversely
affect the Company's business, financial condition and results of operations.
As a result of these and other factors the Company's quarterly revenues,
expenses and results of operations could vary significantly in the future, and
period-to-period comparisons should not be relied upon as indications of future
performance. There can be no assurance that the Company will be able to
increase its revenues in future periods or be able to sustain its level of
revenue or its rate of revenue growth on a quarterly or annual basis.
Furthermore, no assurances can be given that the Company's revenue growth rate
in new markets where operations have not commenced will follow this pattern.
Due to the foregoing factors, the Company's future results of operations could
be below the expectations of public market analysts and investors. In such
event, the market price of the common stock of the Company would likely be
materially adversely affected.
Liquidity and Capital Resources
The Company has financed its growth primarily from cash flows from
operations. In 1998, the Company generated net cash from operations of $10.6
million compared to $7.1 million in 1997. Cash and cash equivalents were flat
at $2.6 million at both January 2, 1999 and December 27, 1997. Working capital
was $8.4 million at January 2, 1999 compared to $4.6 million at December 27,
1997. The Company does not extend credit to its customers, but requires payment
prior to shipping, which eliminates significant receivables.
The Company invested $11.3 million in property and equipment in 1998
compared to $5.3 million in 1997. The Company invested approximately three
million dollars in land, building and improvements in the United Kingdom in
1998. This 23,500 square foot facility contains a warehouse, administrative
offices, a retail store for distributors and Preferred Customers, and a call
center to service orders from England, Scotland, Wales and Northern Ireland.
Inventory increased $4.0 million to $10.5 million at January 2, 1999 from $6.5
million at December 27, 1997. The increase in inventory can primarily be
attributed to the commencement of operations in the Australia/New Zealand and
United Kingdom markets, including the extended transit times of shipments to
these markets. As of January 2, 1999, the Company had invested approximately
$5.5 million to fund operations in the United Kingdom.
At January 2, 1999 the Company had $5.0 million available under its line of
credit which expires May 31, 1999. The interest rate is computed at the bank's
prime rate, or at the option of the Company, the LIBOR base rate plus 2.25%.
Certain receivables, inventories, and equipment collateralize the line of
credit. The line-of-credit agreement also contains restrictive covenants
requiring the Company to maintain certain financial ratios. As of January 2,
1999, the Company was in compliance with these covenants. There was no
outstanding balance on the line of credit as of January 2, 1999.
A significant percentage of the Company's net sales are generated from the
sale of products outside the United States. The Company intends to continue to
expand its foreign operations. The Company is exposed to risks associated with
changes in social, political and economic conditions inherent in foreign
operations, including changes in the laws and policies that govern foreign
investment in countries where it has operations as well as, to a lesser
27
extent, changes in U.S. laws and regulations relating to foreign trade and
investment. In addition, the Company's results of operations and the value of
its foreign assets are affected by fluctuations in foreign currency exchange
rates, which may favorably or adversely affect reported earnings and,
accordingly, the comparability of period-to-period results of operations.
Changes in currency exchange rates may affect the relative prices at which the
Company and foreign competitors sell their products in the same market. Sales
outside the United States represented 12.3%, 21.1%, 30.8% and 42.5% of the
Company's net sales in 1995, 1996, 1997 and 1998, respectively. The Company
enters into forward and option contracts to hedge certain commitments
denominated in foreign currency, including intercompany cash transfers.
Transaction hedging activities seek to protect operating results and cash flows
from the potentially adverse effects of currency exchange fluctuations.
The Company believes that its current cash balances, the available line of
credit and cash provided by operations will be sufficient to cover its needs in
the ordinary course of business for the next 12 months. In the event the
Company experiences an adverse operating environment or unusual capital
expenditure requirements, additional financing may be required. However, no
assurance can be given that additional financing, if required, would be
available on favorable terms. The Company may also require or seek additional
financing, including through the sale of its equity securities to finance future
expansion into new markets, finance capital acquisitions associated with the
growth of the Company and for other reasons. Any financing which involves the
sale of equity securities or instruments convertible into such securities could
result in immediate and possibly significant dilution to existing shareholders.
Year 2000 Issues
The Company is aware of the risks associated with the operation of
information technology and non-information technology systems as the millennium
(year 2000) approaches. The "Year 2000 problem" is pervasive and complex, with
the possibility that it will affect many technology systems and is the result of
the rollover of the two digit year value from "99" to "00". Systems that have
date-sensitive software may recognize a date using "00" as the year 1900 rather
than the year 2000. This could result in a system failure or miscalculations
causing disruptions of operations, including, among other things, a temporary
inability to process transactions, send invoices, or engage in similar normal
business activities.
The Company is in the process of assessing its state of readiness,
including the readiness of third parties with which the Company interacts, with
respect to the Year 2000 problem. The assessment will also include an
evaluation of the costs to the Company to correct Year 2000 problems related to
its own systems, which, if uncorrected, could have a material adverse effect on
the business, financial condition or results of operations of the Company. As
a part of this assessment, the Company will also determine the known risks
related to the consequences of failure to correct any Year 2000 problems
identified by the Company and contingency plans, if any, that should be adopted
by the Company should any identified Year 2000 problems not be corrected. The
Company will use, if necessary, both internal and external resources to
reprogram, or replace and test its software for Year 2000 acceptability.
However, if such modifications or conversions are not made, or are not completed
timely, the Year 2000 problem could have a material impact on the operations of
the Company. The Company has initiated formal communications with all of its
significant suppliers to determine the extent to which the Company is vulnerable
to those third parties' failure to remediate their own 2000 problems.
Independent of the Year 2000 problem, the Company determined in late 1997
that the purchase and installation of an Enterprise Resource Planning system
(ERP system) could assist in achieving overall efficiencies. The ERP system
will replace all of the Company's existing resource planning systems except for
the Distribution System. The Company has begun installing the ERP system and
expects the installation to be complete during the third quarter of 1999. The
third-party vendor of the ERP system has certified that its software is Year
2000 compliant according to the Information Technology Association of America.
Therefore, assuming the successful installation of the ERP system, the Company
does not expect any material Year 2000 compliance issues related to its primary
internal business information systems. The Company intends to replace the
Distribution System with two new systems in 1999 and to integrate it with the
ERP system. With respect to third-party providers whose services are critical
to the Company, the Company intends to monitor the efforts of such providers as
they become Year 2000 compliant.
The Company is presently not aware of any Year 2000 issues that have been
encountered by any such third party, which could materially affect the Company's
operations. Based on the most recent assessment, the Company
28
believes that with modifications to existing software and conversions to new
software, any Year 2000 problems that it may have with its own systems can be
mitigated. Notwithstanding the foregoing, there can be no assurance that the
Company will not experience operational difficulties as a result of Year 2000
issues, either arising out of internal operations, or caused by third-party
service providers, which individually or collectively could have an adverse
impact on business operations or require the Company to incur unanticipated
expenses to remedy any problems.
Inflation
The Company does not believe that inflation has had a material impact on
its historical operations or profitability.
Outlook
- -------
Management believes net sales will continue to grow at a double-digit rate
in 1999, although at a slower rate than in prior years. Increases in net sales
will be driven by continued growth in existing markets as well as the potential
opening of new international markets. According to the Nutrition Business
Journal, the nutritional industry in the United States will grow at an annual
rate of approximately 10% over the next three years. This does represent a
slower rate of industry growth than in prior years. Management believes that
network marketing provides a channel of distribution that offers opportunities
for rapid international expansion with a low cost of entry relative to other
channels in the nutritional industry. Double-digit sales growth in 1999 is
dependent upon a strong nutritional industry and success in new international
markets. If the recent industry slowdown continues or the Company's new markets
fail to meet management's expectations, the Company may experience downward
pressure on its net sales.
Management believes that cost of sales as a percentage of net sales will
remain relatively constant in 1999 when compared to 1998 levels. Although
additional duties and taxes relating to product exports may result in higher
cost of sales, management believes that increases in production efficiencies
will offset the negative impact of increased duties and taxes. To the extent
the Company opens additional international markets in 1999, cost of sales as a
percentage of net sales will temporarily increase. This increase results from a
higher initial demand in new markets for distributor kits, which have a
significantly lower gross profit margin than other products sold by the Company.
The Company may experience capacity constraints in its production operations if
sales grow at a greater rate than in prior years, which would result in higher
cost of sales.
Management believes distributor incentives as a percentage of net sales
will be approximately 45% in 1999. The Company closely monitors the amount of
distributor incentives paid as a percentage of net sales and may from time to
time adjust its distributor compensation plan to prevent distributor incentives
from having a significant adverse affect on earnings, while continuing to
maintain an appropriate incentive for its distributors. The Company continues
pricing its products to achieve a desired contribution margin (sales less cost
of sales less distributor incentives) and will make necessary changes to operate
in this range.
Management believes that selling, general and administrative expenditures
will increase modestly as a percentage of net sales during 1999 when compared to
1998 levels. This increase can be attributed to several factors:
* Increased depreciation and amortization levels resulting from strategic
investments in computer and telecommunications equipment,
* Standard start-up costs related to international expansion,
* Market research for future international expansion, and
* Increased costs associated with building an infrastructure to achieve the
Company's strategic objectives.
Item 7a. Quantitative and Qualitative Disclosures About Market Risk
The Company conducts its business in several countries and intends to
continue to expand its foreign operations. The net sales are affected by
fluctuations in interest rates, currency exchange rates and other uncertainties
inherent in doing business and selling product in more than one currency. In
addition, the operations of the Company are exposed to significant risks
associated with changes in social, political and economic conditions inherent in
foreign operations, including changes in the laws and policies that govern
foreign investment in countries where it has operations as well as, to a lesser
extent, changes in U.S. laws and regulations relating to foreign trade and
investment.
29
Fluctuations in foreign currency exchange rates may favorably or adversely
affect the Company's reported earnings and, accordingly, the comparability of
its period-to-period results of operations. Changes in currency exchange rates
may affect the relative prices at which the Company and foreign competitors sell
their products in the same market. When the value of the U.S. dollar is high in
comparison with the other currencies in which sales are made, this will have a
negative impact on net sales. Additionally, if the dollar weakens against
currencies in which the Company incurs or is required to pay expenses, this will
have a negative impact on net sales.
To protect against these risks, the Company enters into forward and option
contracts to hedge certain commitments denominated in foreign currency,
including intercompany cash transfers. Transaction hedging activities seek to
protect operating results and cash flows from the potentially adverse effects of
currency exchange fluctuations. The Company believes that its cash management
and investment policies have minimized theses risks. However, there can be no
assurance that these practices will be successful in eliminating all or
substantially all of the risks encountered by the Company in connection with its
foreign currency transactions.
Forward-Looking Statements and Certain Risks Affecting the Company
The statements contained in this Report that are not purely historical are
"forward-looking statements" within the meaning of Section 21E of the Securities
Exchange Act. These statements regard the Company's expectations, hopes,
beliefs, commitments, intentions and strategies regarding the future. They may
be identified by the use of words or phrases such as "believes," "expects,"
"anticipates," "should," "plans," "estimates," and "potential," among others.
Forward-looking statements include, but are not limited to, statements contained
in Management's Discussion and Analysis of Financial Condition and Results of
Operations regarding the Company's financial performance, revenue and expense
levels in the future and the sufficiency of its existing assets to fund future
operations and capital spending needs. Actual results could differ materially
from the anticipated results or other expectations expressed in such forward-
looking statements or for the reasons discussed below. The fact that some of
the risk factors may be the same or similar to the Company's past reports filed
with the Securities and Exchange Commission means only that the risks are
present in multiple periods. The Company believes that many of the risks
detailed here are part of doing business in the industry in which the Company
operates and competes and will likely be present in all periods reported. The
fact that certain risks are endemic to the industry does not lessen their
significance. The forward-looking statements contained in this report are made
as of the date of this report and the Company assumes no obligation to update
them or to update the reasons why actual results could differ from those
projected in such forward-looking statements. Among others, risks and
uncertainties that may affect the business, financial condition, performance,
development, and results of operations of the Company include the following:
30
The Company relies on non-employee, independent distributors to purchase,
market and sell its products.
The Company distributes its products through distributors. These
distributors are independent contractors who purchase products directly from the
Company for their own use or for resale. Distributors typically work at the
distribution of the Company's products on a part-time basis and may and likely
will engage in other business activities, some of which may compete with the
Company. The Company has a large number of distributors and a relatively small
corporate staff to implement its marketing programs and provide motivational
support to its distributors. The Company undertakes no effort to provide
individual training to its distributors. Distributors may voluntarily terminate
their agreements with the Company at any time. There is typically significant
turnover in distributors from year to year. Because of this high turnover, the
Company must continually recruit new distributors. The Company's net sales are
directly dependent upon the efforts of these non-employee, independent
distributors and future growth in sales volume will depend in large part upon
the Company's success in increasing the number of new distributors and improving
productivity of its distributors. Consequently, the loss of a key distributor or
group of distributors, large turnovers or decreases in the size of the
distributor force, seasonal or other decreases in purchase volume, sales volume
reduction and the costs associated with training new distributors and other
related expenses may adversely affect the Company's business, financial
condition and results of operations. Moreover, the Company's ability to continue
to attract and retain distributors can be affected by a number of factors, some
of which are beyond the control of the Company, including:
* General business and economic conditions,
* Public perceptions about network marketing programs,
* High-visibility investigations or legal proceeding against network
marketing companies by federal or state authorities or private citizens,
and
* Public perceptions about the value and efficacy of nutritional, personal
care or weight management products generally.
There can be no assurance that the Company will be able to continue to attract
and retain distributors in numbers sufficient to sustain the Company's future
growth or to maintain present growth levels, which could have a material adverse
effect on the Company's business, financial condition and results of operations.
The Company does not directly control the independent acts of its
distributors. The Company's distributors are required to sign and adhere to the
Company's Distributor Application and Agreement, which obligates them to abide
by USANA policies and procedures. Although these policies and procedures
prohibit distributors from making certain claims regarding the Company's
products or income potential from the distribution of those products,
distributors may from time to time create promotional materials or otherwise
provide information that does not accurately describe the Company's marketing
program. They also may make statements regarding potential earnings, product
claims or other matters in violation of the Company's policies or applicable
laws and regulations concerning these matters. Such violations may result in
legal action by regulatory agencies. Future legal actions against distributors
or others associated with the Company could lead to increased regulatory
scrutiny of the Company and its network marketing system. The Company takes
what it believes to be commercially reasonable steps to monitor distributor
activities to guard against misrepresentation and other illegal or unethical
conduct by distributors and to assure that the terms of its compensation plan
are observed. There can be no assurance, however, that the Company's efforts in
this regard will be sufficient to accomplish this objective. Publicity
resulting from such distributor activities can also make it more difficult for
the Company to attract and retain distributors and may have an adverse effect on
the Company's business, financial condition and results of operations.
Network marketing is subject to intense government scrutiny and regulation.
Network marketing systems such as the Company's are frequently subject to laws
and regulations directed at ensuring that product sales are made to consumers of
the products and that compensation, recognition and advancement within the
marketing organization are based on the sale of products rather than investment
in the sponsoring company. In the United States, these laws and regulations
include the federal and state securities laws, the regulation of the offer and
sale of franchises and business opportunities, regulations and statutes
administered by the FTC and various state anti-pyramid and business opportunity
laws that target direct selling businesses that promise quick rewards for little
or no effort, require high entry costs, use high pressure recruiting methods or
do not involve legitimate products. Similar laws govern the Company's
activities in foreign countries where it presently has operations or may have
operations in the future. The Company is subject to the risk that, in one or
more of its present or future markets, its marketing system could be found not
to comply with these laws and regulations or may be prohibited. Failure by the
Company to comply with these laws and regulations or such a prohibition could
have a material adverse effect on the Company's business, financial condition
and results of operations. Further the Company may simply be prohibited from
distributing its products through a network-marketing channel in some foreign
countries.
The Company's business is subject to the effects of adverse publicity and
negative public perception. The Company's ability to attract and retain
distributors and to sustain and enhance sales through its distributors can be
affected by adverse publicity or negative public perception regarding the
Company or its competitors. This negative public perception may include
publicity regarding the legality of network marketing, the quality or efficacy
of nutritional supplement products or ingredients in general or the Company's
products or ingredients specifically, and regulatory investigations of the
Company or its competitors or other network marketing companies and their
products, or distributor actions. There can be no assurance that the Company
will not be subject to adverse publicity or negative public perception in the
future or that such adverse publicity will not have a material adverse effect on
the Company's business, financial condition and results of operations.
31
The Company relies heavily on its key management personnel. The Company
depends on the services of its founder, Dr. Wentz, who serves as President,
Chief Executive Officer and Chairman of the Board, and its other executive
officers. Dr. Wentz is a highly visible spokesman for the Company and its
products, and the Company believes its success depends in large part on the
continued visibility and reputation of Dr. Wentz, which helps distinguish the
Company from its competitors. Dr. Wentz is not a permanent resident of the
United States and will likely spend no more than four months per year in the
United States, however he intends to devote a majority of his time to the
Company's business and expects to travel outside the United States to direct and
promote the Company's international expansion. The loss or limitation of Dr.
Wentz's services as the lead spokesman for the Company and its products, as a
key developer of those products or as an executive officer of the Company could
have a material adverse effect upon the Company's business, financial condition
and results of operations.
The Company's executive officers other than Dr. Wentz are primarily
responsible for the Company's day-to-day operations, and the Company believes
its success depends in part on its ability to retain its executive officers and
to continue to attract additional qualified individuals to its management team.
The Company does not maintain a key man life insurance policy on Dr. Wentz or
any of its other officers, nor does it have an employment agreement with any of
its officers other than Gilbert A. Fuller, Vice President of Finance and Chief
Financial Officer. The loss or limitation of the services of any of the
Company's executive officers or the inability of the Company to attract
additional qualified management personnel could have a material adverse effect
on the Company's business, financial condition and results of operations.
The ownership of a significant amount of the Company's common stock gives
Dr. Wentz effective control of the Company. Gull Holdings, Ltd., which is
solely owned and controlled by Dr. Wentz, owns approximately 58% of the
Company's common stock outstanding. Consequently, Dr. Wentz has effective
control of the Company, including the ability to elect a majority of the Board
of Directors of the Company. Similarly, Dr. Wentz is in a position to
effectively control decisions to adopt, amend or repeal the Company's Articles
of Incorporation and Bylaws and prevent a takeover of the Company by one or more
third parties, or sell or otherwise transfer his stock to a third party, which
could deprive the Company's stockholders of a premium that might otherwise be
realized by them in connection with an acquisition of the Company.
The products and manufacturing activities of the Company are subject to
extensive government regulation. The manufacture, packaging, labeling,
advertising, promotion, distribution and sale of the Company's products are
subject to regulation by numerous national and local governmental agencies in
the United States and other countries. In the United States, the FDA regulates
the Company's products under the FDC Act and regulations promulgated thereunder.
The Company's products also are subject to regulation by, among others, the
Consumer Product Safety Commission, the United States Department of Agriculture
and the EPA. Advertising and other forms of promotion and methods of marketing
of the Company's products under the FTC Act are regulated by the FTC. Various
state and local agencies as well as those of each foreign country in which the
Company distributes products also regulate the manufacture, labeling and
advertising of the Company's products.
Most of the Company's products generally are regulated as dietary
supplements under the FDC Act and therefore are not subject to premarket
approval by the FDA. However, these products are subject to extensive
regulation by the FDA, including regulation under the FDC Act's adulteration and
misbranding provisions. For instance, the Company is responsible for ensuring
that all dietary ingredients in a supplement are safe. The Company must notify
the FDA in advance of placing on the market a product containing a new dietary
ingredient (defined as an ingredient not marketed for use as a supplement before
October 15, 1994) and must furnish adequate information to provide reasonable
assurance of the ingredient's safety. Further, if the Company makes statements
about a supplement's effects on the structure or function of the body, the
Company must, among other things, have substantiation that the statements are
truthful and not misleading. In addition, the Company must ensure that its
product labels bear proper ingredient and nutritional labeling and the Company
must manufacture its dietary supplements in accordance with current GMP's for
foods. The FDA has issued an advance notice of proposed rulemaking to consider
whether to develop specific GMP's for dietary supplements and dietary supplement
ingredients. Such regulations, if promulgated, may be significantly more
rigorous than current requirements and contain quality assurance requirements
similar to GMP's for drug products. The FDA may remove a product from the
market if it poses a significant or unreasonable risk of illness or injury.
Moreover, if the FDA determines that the intended use of any of the Company's
products is for the diagnosis, cure, mitigation, treatment or prevention of
disease, the agency would consider the product a drug and would require
premarket approval of safety and effectiveness prior to its
32
manufacture and distribution. To the extent that the intended use is a function
of the claims made by the Company regarding a dietary supplement, relabeling of
the product to remove the offending claims may be sufficient to avoid new drug
status and/or compliance action by the FDA.
Other products manufactured by the Company are regulated as cosmetics, OTC
drugs, and medical devices. In general, the Company's cosmetic products are not
subject to premarket approval. However, the FDA does regulate cosmetics under
the FDC Act's adulteration and misbranding provisions. Cosmetics are also
subject to specific labeling regulations, including warning statements if the
safety of a cosmetic is not adequately substantiated or if the product may be
hazardous, as well as ingredient statements and other packaging requirements
under the Fair Packaging and Labeling Act. Cosmetics that meet the definition
of a drug (e.g., are intended to treat or prevent disease or affect the
structure or function of the body) are regulated as drugs. OTC drug products
may be marketed if they conform to the requirements of any OTC monograph that is
applicable to a drug. Drug products not conforming to the monograph
requirements for OTC drugs require an approved NDA before marketing. An NDA
requires, among other things, one or more adequate and well-controlled clinical
trials demonstrating the drug's safety and effectiveness before approval. The
agency has not yet promulgated final monographs for some of the Company's
products. If the agency finds that an OTC drug or ingredient of an OTC drug
marketed by the Company is not generally recognized as safe and effective or
does not include it in a final monograph applicable to an OTC drug, the Company
would have to reformulate or cease marketing such a product until it is the
subject of an approved NDA, or until such time, if ever, that the monograph is
amended to include the Company's product. Whether or not an OTC drug conforms
to a monograph or is subject to an approved NDA, such a drug must comply with
other requirements under the FDC Act, including GMP's, labeling, and the FDC
Act's misbranding and adulteration provisions.
Both of the Company's medical device products as currently designed and
marketed do not require premarket approval or clearance by the FDA. However,
one of the Company's devices has been cleared for marketing under section 510(k)
of the FDC Act. If a device is subject to section 510(k), the FDA must receive
premarket notification from the manufacturer of its intent to market the device.
The FDA must find that the device is substantially equivalent to a legally
marketed device before the agency will clear the device for marketing. In
addition, modifications to the Company's marketed devices will require a
premarket notification and clearance under section 510(k) before the changed
device may be marketed, if the change or modification could significantly affect
safety or effectiveness. All the Company's devices, unless specifically
exempted by regulation, are subject to the FDC Act's general controls, which
include among other things registration and listing, adherence to the Quality
System Regulation requirements for manufacturing, Medical Device Reporting and
the potential for voluntary and mandatory recalls.
Failure of the Company to comply with applicable FDA regulatory
requirements may result in, among other things, injunctions, product
withdrawals, recalls, product seizures, fines, and criminal prosecutions. Any
such action by the FDA could materially adversely affect the Company's ability
to successfully market its products.
The FTC regulates the advertising of the Company's products under the FTC
Act. Section 5 of the FTC Act prohibits unfair methods of competition and
unfair or deceptive acts or practices in or affecting commerce. Section 12 of
the FTC Act provides that the dissemination or the causing to be disseminated of
any false advertisement pertaining to, among other things, drugs, cosmetics,
devices or foods, which include dietary supplements, is an unfair or deceptive
act or practice. Under the FTC's Substantiation Doctrine, an advertiser is
required to have a "reasonable basis" for all product claims at the time the
claims are first used in advertising or other promotions. Failure to adequately
substantiate claims may be considered either as a deceptive or unfair practice.
Pursuant to this FTC requirement, the Company is required to have adequate
substantiation for all advertising claims made about its products. The type of
substantiation will be dependent upon the product claims made. For example, a
health claim normally would require competent and reliable scientific evidence,
while a taste claim would require only survey evidence.
In recent years, the FTC has initiated numerous investigations of and
actions against dietary supplement, weight loss, and cosmetic products and
companies. If the FTC has reason to believe the law is being violated (e.g.,
the Company does not possess adequate substantiation for product claims), it can
initiate an enforcement action. The FTC has a variety of processes and remedies
available to it for enforcement, both administratively and judicially, including
compulsory process authority, cease and desist orders and injunctions. FTC
enforcement could result in orders requiring, among other things, limits on
advertising, consumer redress, divestiture of assets, rescission of contracts,
and such other relief as may be deemed necessary. Violation of such orders
could result in substantial financial or other
33
penalties. Any such action by the FTC could materially adversely affect the
Company's ability to successfully market its products.
In markets outside the United States, prior to commencing operations or
marketing its products, the Company may be required to obtain approvals,
licenses or certifications from a country's ministry of health or comparable
agency. For example, the Company's manufacturing facility has been registered
with the FDA and the Canadian HPB and is certified by Australia's TGA.
Approvals or licensing may be conditioned on reformulation of the Company's
products or may be unavailable with respect to certain products or product
ingredients. The Company must also comply with product labeling and packaging
regulations that vary from country to country. These activities are also
subject to regulation by various agencies or the countries in which the
Company's products are sold.
The Company cannot predict the nature of any future laws, regulations,
interpretations, or applications, nor can it determine what effect additional
governmental regulations or administrative orders, when and if promulgated,
would have on its business in the future. They could include, however,
requirements for the reformulation of certain products to meet new standards,
the recall or discontinuance of certain products, additional record keeping,
expanded documentation of the properties of certain products, expanded or
different labeling, and additional scientific substantiation. Any or all such
requirements could have a material adverse effect on the Company.
The Company's business expansion into foreign markets is subject to risks.
The Company commenced operations in Australia and New Zealand in February 1998
and in the United Kingdom in November 1998. The Company believes that its
ability to achieve future growth is dependent in part on its ability to continue
its international expansion efforts. However, there can be no assurance that
the Company will be able to grow in its existing international markets, enter
new international markets on a timely basis or that such new markets will be
profitable. The Company must overcome significant regulatory and legal barriers
before it can begin marketing in any foreign market. Also, before marketing
commences it is difficult to assess the extent to which the Company's products
and sales techniques will be accepted or successful in any given country. In
addition to significant regulatory barriers, the Company may also encounter
problems conducting operations in new markets with different cultures and legal
systems from those encountered elsewhere. The Company may be required to
reformulate certain of its products before commencing sales in a given country.
Once the Company has entered a market, it must adhere to the regulatory and
legal requirements of that market. No assurance can be given that the Company
will be able to successfully reformulate its products in any of the Company's
current or potential international markets to meet local regulatory requirements
or attract local customers. The failure to do so would have a material adverse
effect on the Company's business, financial condition and results of operations.
There can be no assurance that the Company will be able to obtain and retain
necessary permits and approvals or that it will have sufficient capital to
finance its expansion efforts in a timely manner. In many market areas, network
marketing companies other than the Company already have significant market
penetration, the effect of which could be to desensitize the local distributor
population to a new opportunity such as the Company, or to make it more
difficult for the Company to recruit qualified distributors. There can be no
assurance that, even if the Company is able to commence operations in foreign
countries, there will be a sufficiently large population of persons inclined to
participate in a network marketing system such as the Company's. The Company
believes its future success will depend in part on its ability to seamlessly
integrate its distributor compensation plan across all markets in which the
Company's products are sold. There can be no assurance that the Company will be
able to further develop and maintain a seamless compensation program.
The Company's success depends on its ability to sustain and manage
growth. The Company has experienced significant growth since 1993. The
management challenges encountered by the Company as a result of this growth
include a significant increase in the number of employees and distributors and
the need to expand its facilities, acquire capital equipment and information
technology systems to accommodate growth, add to and modify the Company's
products, and expand into new markets. To effectively manage these and other
changes resulting from growth, the Company may be required to continue to hire
additional management changes resulting from growth, the Company may be required
to continue to hire additional management and operations personnel and make
additional expenditures to improve and to expand its operational, financial,
information technology and management systems and its production capacity.
These requirements may significantly increase future operating expenses and
reduce earnings. No assurance can be given that the Company's business will
grow in the future or that the Company will be able to effectively manage future
growth. The Company also believes that its future success will depend, in part,
upon its ability to enhance its existing products and to develop new products.
Therefore, the Company expects to continue to make significant investments in
research and development. There can be no assurance that the Company will be
able to
34
improve its existing products or develop new products. Further, there
can be no assurance that the Company's development of new or enhanced products
will be introduced in a timely manner or accepted in the marketplace. Failure
by the Company to develop or introduce enhanced or new products in a timely
manner may have a material adverse effect on the Company's business, financial
condition and results of operations. Additionally, any failure by the Company
to appropriately manage its growth could have a material adverse effect on the
Company's business, financial condition and results of operations.
The increase in distributor incentives expense reduces profitability.
Since its inception, the Company generally has experienced increases, as a
percentage of net sales, in the amount of distributor incentives, including
commissions and leadership bonuses, paid to its distributors. From time to time
the Company has changed its distributor compensation plan to better manage
distributor incentives. For example, during the third quarter of 1997, the
Company introduced a broad repricing strategy across its product lines, creating
a spread between the price the distributor pays for the product and the sales
volume point value associated with the product. At the same time, the Company
changed its leadership bonus program, increasing the payout from 2.0% to 3.0% of
total sales volume points. Management closely monitors the amount of
distributor incentives paid as a percentage of net sales and may adjust its
distributor compensation plan to prevent distributor incentives from having a
significant adverse effect on earnings. There can be no assurance that such
changes or future changes to the distributor compensation plan or the Company's
pricing structure will be successful in maintaining the level of distributor
incentives expense as a percentage of net sales. Furthermore, such changes may
make it difficult to recruit and retain qualified and motivated distributors.
The Company relies on and is subject to risks associated with information
technology systems. The Company's success is dependent on the accuracy,
reliability and proper use of sophisticated and dependable information
processing systems and management information technology. The Company's
information technology systems are designed and selected in order to facilitate
order entry and customer billing, maintain distributor and Preferred Customer
records, accurately track purchases and distributor incentive payments, manage
accounting, finance and manufacturing operations, generate reports and provide
customer service and technical support. Any interruption in these systems could
have a material adverse effect on the Company's business, financial condition
and results of operations. The Company recognizes the need to regularly upgrade
its management information systems to most effectively manage its operations and
distributor data base. In the first quarter of 1998, the Company commenced
installation of a new ERP system. The ERP system replaces all of the Company's
former resource planning systems except for the Company's custom-programmed
Distributor System. The Company intends to introduce two new systems in 1999
that will replace the current Distributor System. Future changes to the
distributor compensation plan may require modifications of these programs or
acquisition of new software. There can be no assurance that the transition to
the new software will be accomplished without interrupting the Company's
business or that the new software will perform in accordance with expectations,
and any such delay or failure of the system would have a material adverse effect
on the Company's business, financial condition and result of operations.
The Company relies on the successful efforts of certain distributors. The
Company's distributor compensation plan is designed to permit distributors to
sponsor new distributors, creating multiple "business centers," or levels in the
marketing structure. Sponsored distributors are referred to as "downline"
distributors within the sponsoring distributor's "downline network." If these
downline distributors in turn sponsor new distributors, additional business
centers are created, with the new downline distributors becoming part of the
original sponsor's downline network. As a result of this network marketing
system, distributors develop business relationships with other distributors.
The Company believes its revenue is generated by thousands of distributors.
However, the loss of a high-level sponsoring distributor, together with a group
of leading distributors in that person's downline, or the loss of a significant
number of distributors for any reason, would have a material adverse effect on
the Company's business, financial condition and results of operations.
The business of the Company is subject to the risks associated with intense
competition from larger, wealthier and more established competitors. The
Company faces intense competition in the business of distributing and marketing
nutritional supplements, vitamins and minerals, personal care products, weight
management items, and other nutritional products. Numerous manufacturers,
distributors and retailers compete actively for consumers and, in the case of
other network marketing companies, for distributors. The Company competes
directly with other entities that manufacture, market and distribute products in
each of its product lines. The Company competes by emphasizing the underlying
science, value and high quality of its products as well as the convenience and
financial benefits afforded by its network marketing system. However, many of
the Company's competitors are substantially larger than the
35
Company and have greater financial resources and broader name recognition. The
Company's markets are highly sensitive to the introduction of new products that
may rapidly capture a significant share of such markets. The nutritional
supplement market in which the Company's leading products compete is
characterized by:
* A large selection of essentially similar products that are difficult to
differentiate,
* Retail consumer emphasis on value pricing,
* Constantly changing formulations based on evolving scientific research,
* Low entry barriers resulting from low brand loyalty, rapid change,
widely available manufacturing outsourcing, low regulatory requirements,
and ready access to large distribution channels, and
* A lack of uniform standards regarding product ingredient source,
potency, purity, absorption rate and form.
Similar factors are also characteristic of products comprising the
Company's other product lines. There can be no assurance that the Company will
be able to compete in this intensely competitive environment. In addition,
nutrition, personal care and weight management products can be purchased in a
wide variety of channels of distribution including retail stores. The Company's
product offerings in each product category are also relatively small compared to
the wide variety of products offered by many other companies. As a result, the
Company's ability to remain competitive depends in part upon the successful
introduction of new products.
The Company is also subject to significant competition from other network
marketing organizations for the time, attention and commitment of new and
existing distributors. The Company's ability to remain competitive depends, in
significant part, on the Company's success in recruiting and retaining
distributors. There can be no assurance that the Company's programs for
recruiting and retaining distributors will be successful. The pool of
individuals interested in the business opportunities presented by direct selling
tends to be limited in each market, and it is reduced to the extent other
network marketing companies successfully recruit these individuals into their
businesses. Although management believes the Company offers an attractive
opportunity for distributors, there can be no assurance that other network
marketing companies will not be able to recruit the Company's existing
distributors or deplete the pool of potential distributors in a given market.
The Company believes that the leading network marketing company in terms of
global sales is Amway Corporation and its affiliates and that Avon Products is
the leading direct seller of beauty and related products worldwide. Leading
competitors in the nutritional products and nutritional direct selling markets
include Herbalife International, Inc., Nature's Sunshine Products, Inc., Rexall
Sundown, Inc. and its direct selling division Rexall Showcase International,
Inc., Twinlab Corporation, Shaklee Corporation and NuSkin International, Inc.
The Company believes there are other manufacturers of competing product lines
that may or will launch direct selling enterprises, which will compete with the
Company in certain of its product lines and for distributors. There can be no
assurance that the Company will be able to successfully meet the challenges
posed by this increased competition.
The Company's foreign expansion subjects it to the increased expense and
risks associated with foreign duties and import restrictions. At present, most
of the Company's products are manufactured in the United States and are exported
to the countries in which they ultimately are sold. The countries in which the
Company operates may impose various legal restrictions on imports. In most
cases, permits or licenses are required to import particular types of goods,
including products of the type sold by the Company. Duties of varying amounts
are imposed based on the values or quantities of the goods imported. In certain
countries and jurisdictions, nutritional and other products are subject to
significant import duties. Certain products that the Company exports from the
United States, notably products in the personal care line are subject to foreign
health and safety regulations. Certain nutritional products may also be subject
to governmental regulations regarding food and drugs, which regulations may
limit the Company's ability to sell some of its products in some countries and
jurisdictions. To date, the Company has not experienced any difficulty in
obtaining or maintaining import licenses, but there can be no assurance that it
will be able to maintain these licenses or obtain the necessary licenses to
enter new markets. In addition, new regulations may be adopted or any of the
existing regulations could be changed at any time in a manner that could have a
material adverse effect on the Company's business, financial condition and
results of operations. Duties on imports could be changed in a manner that
would be materially adverse to the Company's sales and its competitive position
compared to locally produced goods. In addition, import restrictions in certain
countries and jurisdictions may prevent the importation of U.S.-manufactured
products altogether.
36
Foreign operations are affected by taxation and transfer pricing
considerations. The Company's principal domicile is the United States, where it
is incorporated. Sales in the Company's three primary markets, the United
States, Canada and Australia/New Zealand, during fiscal year 1998 represented
57.5%, 26.9% and 15.3%, respectively, of net sales. The Company is subject to
taxation in the United States at an effective rate of approximately 39%. In
addition, the Company's Canadian subsidiary is subject to taxation in Canada at
an effective rate of approximately 45%. Tax rates applicable to operations in
New Zealand and Australia are approximately 36% and 33%, respectively. Under
tax treaties, the Company is eligible to receive foreign tax credits in the
United States for taxes actually paid abroad. As the Company's operations
expand outside the United States, taxes paid to foreign taxing authorities may
exceed amounts of the credits available to the Company, resulting in the
Company's paying a higher overall effective tax rate on its worldwide
operations. The Company has adopted transfer pricing agreements with its
subsidiaries to regulate intercompany transfers, which agreements are subject to
transfer pricing laws that regulate the flow of funds between the subsidiaries
and the Company for product purchases, management services and contractual
obligations such as the payment of distributor incentives. If the United States
Internal Revenue Service or the taxing authorities of any other jurisdiction
were to successfully challenge these agreements or require changes in the
Company's transfer pricing practices, the Company could become subject to higher
taxes and its earnings would be adversely affected. The Company believes that
it operates in compliance with all applicable foreign exchange control and
transfer pricing laws. However, there can be no assurance that the Company will
continue to be found to be operating in compliance with foreign exchange control
and transfer pricing laws, or that such laws will not be modified, which, as a
result, may require changes in the Company's operating procedures.
Foreign operations are affected by exchange rate fluctuations. Sales
outside of the United States represented 12.3%, 21.1%, 30.8% and 42.5% of the
Company's net sales in 1995, 1996, 1997, and 1998, respectively. The Company
intends to continue to expand its foreign operations, exposing the Company to
risks of changes in social, political and economic conditions in foreign
countries, including changes in the laws and policies that govern foreign
investment in countries where it has operations. Since a significant portion of
the Company's sales are in foreign countries, exchange rate fluctuations may
have a significant effect on the Company's sales and gross margins. Further, if
exchange rates fluctuate dramatically, it may become uneconomical for the
Company to establish or continue activities in certain countries. For instance,
changes in currency exchange rates may affect the relative prices at which the
Company and foreign competitors sell their products in the same market. As the
Company's business expands outside the United States, an increasing share of its
net sales and cost of sales will be transacted in currencies other than the U.S.
dollar. Accounting practices require that the Company's non-U.S. sales and
selling, general and administrative expenses be converted to U.S. dollars for
reporting purposes. Consequently, the reported net earnings of the Company in
future periods may be significantly affected by fluctuations in currency
exchange rates, with earnings generally increasing with a weaker U.S. dollar and
decreasing with a strengthening U.S. dollar. Product purchases from the Company
by its foreign subsidiaries are transacted in U.S. dollars. As operations
expand in countries where foreign currency transactions may be made, the
Company's operating results will be increasingly subject to the risks of
exchange rate fluctuations and the Company may not be able to accurately
estimate the impact of such changes on its future business, product pricing,
results of operations or financial condition. In addition, the value of the
U.S. dollar in relation to other currencies may also adversely affect the
Company's sales to customers outside the United States. The Company enters into
forward foreign exchange contracts to hedge certain commitments denominated in
foreign currency, including intercompany cash transfers. The Company generally
does not use derivative instruments to manage currency fluctuations. There can
be no assurance that such hedging transactions will protect operating results
and cash flows from potentially adverse effects of currency exchange
fluctuations. Such adverse effects would also adversely affect the Company's
business, financial condition and results of operations.
Growth of the Company's business subjects it to risks relating to
expansion of facilities. The Company believes its long-term competitive
position depends in part on its ability to increase its manufacturing capacity.
The Company expects it will be necessary to expand its manufacturing capacity,
administrative offices and warehouse facilities in 1999. The failure of the
Company to complete the expansion on schedule and under budget could have a
material adverse effect on its business, financial condition and results of
operations.
The Company's business may be affected by risks associated with the Year
2000. Since its inception, the Company has attempted to leverage technology,
including increasingly sophisticated computer hardware and software, in managing
its business and operations. The Company also relies on third parties to
facilitate its business. For example, these vendors include:
37
* Telecommunications providers on whom the Company must rely for its call
center operations,
* Public utilities that provide electrical power and other utilities
needed in the Company's operations,
* Major credit card companies that process the vast majority of payments
for the Company's products,
* Major shipping companies located in the United States, Canada and
elsewhere through which the Company ships its products to distributors,
* Financial institutions that provide commercial banking and other
financial services to the Company, and
* The Nasdaq Stock Market, on which the Company's common stock is traded.
Many existing computer programs use only two digits to identify a year in the
date field and were designed, developed and modified without considering the
impact of the upcoming change in the century. If not corrected, such computer
applications could fail or create erroneous results by or at the Year 2000 by
erroneously identifying the year "00" as 1900, rather than 2000. Correcting a
Year 2000 problem on a large mainframe or network application can be difficult
and expensive. If a company does not successfully address its Year 2000 issues,
it may face material adverse consequences. The Company is in the process of
insuring that all of its internal computer systems are Year 2000 compliant.
Independent of those efforts, the Company determined in late 1997 that the
purchase and installation of an integrated ERP could achieve overall
efficiencies. The ERP system will replace all of the Company's existing
resource planning systems except for the Company's Distributor System. The
Company has commenced installation of the ERP system through a third-party
provider of software and consulting services, and expects the installation to be
complete no later than the second quarter of fiscal 1999. The third-party
vendor of the ERP system has represented to the Company that the Information
Technology Association of America certifies the ERP system as Year 2000
compliant. Therefore, assuming the successful installation of the ERP system,
the Company does not expect any material Year 2000 compliance issues to arise
related to its primary internal business information systems. While the Company
believes its current Distributor System is Year 2000 compliant, it expects to
replace the Distributor System with two new applications in 1999. These
applications are also expected to be Year 2000 compliant as certified by the
vendors of the systems. There can be no assurance that the transition to these
new software systems will be accomplished in a timely manner or that they will
in fact be Year 2000 compliant.
With respect to third-party providers whose services are critical to the
Company, the Company intends to monitor the efforts of such providers as they
become Year 2000 compliant. The Company is not aware of any Year 2000 issues
that have been encountered by any such third party, which it believes could
materially affect the Company's operations. However, there can be no assurance
that the Company will not experience operational difficulties as a result of
Year 2000 issues, either arising out of internal operations, or caused by third-
party service providers, which individually or collectively could have a
material adverse effect on the Company's business, financial condition or
results of operations.
The Company depends on outside suppliers for raw materials. The Company
acquires all of its raw materials for the manufacture of its products from
third-party suppliers. Normally, materials used in manufacturing the Company's
products are purchased on account or by purchase order. The Company has very
few long-term agreements for the supply of such materials. There is a risk that
any of the Company's suppliers or manufacturers could discontinue selling their
products to the Company. Although the Company believes that it could establish
alternate sources for most of its products, any delay in locating and
establishing relationships with other sources could result in product shortages
and back orders for the products, with a resulting loss of net sales. For
example, since the fourth quarter of fiscal year 1996 and continuing
intermittently during 1997 and 1998, the Company experienced difficulty in
obtaining sufficient quantities of natural Vitamin E powder, an ingredient
required for the manufacture of several of its products. As a consequence, the
Company was required to alter its products and to substitute different products
from another source. In addition, the Company relies on third-party
manufacturers for several of its products, including its food bars and drink
mixes. The Company has in the past discontinued or temporarily stopped sales of
certain products manufactured by third parties while those products were on back
order. There can be no assurance that suppliers will provide the raw materials
needed by the Company in the quantities requested or at a price the Company is
willing to pay. Because the Company does not control the actual production of
these raw materials, it is also subject to delays caused by interruption in
production of materials based on conditions not within its control, including
weather, crop conditions, transportation interruptions, strikes by supplier
employees and natural disasters or other catastrophic events. The inability of
the Company to obtain adequate supplies of raw materials for its products at
favorable prices, or at all, could have a material adverse effect on the
Company's business, financial condition and results of operations.
38
Future acquisitions, if any, by the Company would be subject to certain
risks. The Company has not completed any acquisitions to date, but it may
pursue acquisitions in the future as a part of its business strategy.
Acquisitions involve numerous risks, including the risk that the acquired
business will not perform in accordance with expectations, difficulties in the
integration of the operations and products of the acquired businesses with those
of the Company, the diversion of the Company's management attention from other
aspects of the Company's business, the risks associated with entering geographic
and product markets where the Company has limited or no direct prior experience
and the potential loss of key employees of the acquired business. The
acquisition of another business can also subject the Company to liabilities and
claims arising out of such business. Future acquisitions would likely require
the Company to obtain additional financing, which would likely result in an
increase in the Company's indebtedness or the issuance of additional capital
stock, which may be dilutive to the Company's stockholders. In addition, to the
extent the Company has outstanding indebtedness under the Company's credit
facility or is required to incur indebtedness thereunder to consummate an
acquisition, the consent of the lender under the credit facility may be required
prior to such acquisition. Additionally, the Company faces significant
competition for acquisition opportunities from numerous companies, many of which
have greater financial resources than the Company. Accordingly, there can be no
assurance that attractive acquisition opportunities will be available to the
Company or that the Company will be able to obtain financing or otherwise
consummate any future acquisitions.
Nutritional supplement products may be supported by only limited
availability of conclusive clinical studies. The Company's products include
nutritional supplements that are made from vitamins, minerals, herbs and other
substances for which there is a long history of human consumption. Some of the
Company's products contain innovative ingredients or combinations of
ingredients. Although the Company believes all of its products to be safe when
taken as directed, there is little long-term experience with human consumption
of certain of these product ingredients or combinations of ingredients in
concentrated form. The Company conducts research tests the formulation and
production of its products, but the Company has performed or sponsored only
limited clinical studies. Furthermore, because the Company is highly dependent
on consumers' perception of the efficacy, safety and quality of its products, as
well as similar products distributed by other companies, the Company could be
adversely affected in the event such products should prove or be asserted to be
ineffective or harmful to consumers or in the event of adverse publicity
associated with illness or other adverse effects resulting from consumers' use
or misuse of the Company's products or similar products.
Manufacturers such as the Company may be subject to product liability
claims. As a manufacturer and distributor of products for human consumption and
topical application, the Company could become exposed to product liability
claims and litigation to prosecute such claims. Additionally, the manufacture
and sale of such products involves the risk of injury to consumers as a result
of tampering by unauthorized third parties or product contamination. To date,
the Company has not been party to any product liability litigation, although
certain individuals have asserted that they have suffered adverse consequences
as a result of using the Company's nutritional products. These matters
historically have been settled to the satisfaction of the Company and have not
to date resulted in material payments by the Company. The Company is aware of
no instance in which any of its products are or have been defective in any way
that could give rise to material losses or expenditures related to product
liability claims. Although the Company maintains product liability insurance
which it believes to be adequate for its needs, there can be no assurance that
the Company will not be subject to claims in the future or that its insurance
coverage will be adequate or that it will be able to maintain adequate insurance
coverage.
The Company is subject to risks associated with general economic
conditions. USANA's products are priced at a premium compared to most
nutritional, personal care and weight management products that are readily
available at retail outlets. A recession in the general economy or a decline in
consumer spending could have a material adverse effect on the Company's
business, financial condition and results of operations.
There is no assurance of future industry growth. Market data referred
to in this Report regarding the size and projected growth rates of the market
for nutritional supplements generally indicate that this market is large and
growing. However, there can be no assurance that such market is as large as
reported or that such projected growth will occur or continue. Market data and
projections such as those presented in this Report are inherently uncertain,
subject to change and generally not available for 1997 and 1998. In addition,
the underlying market conditions are subject to change based on economic
conditions, consumer preferences and other factors that are beyond the Company's
control. An adverse change in size or growth rate of the market for nutritional
supplements is likely to have a material adverse effect on the Company's
business, financial condition and results of operations.
39
The Company's business is subject to particular intellectual property
risks. The Company owns no patents, has filed no patent applications and does
not intend in the immediate future to file a patent application covering any of
the formulations of its nutritional or other products. The labeling regulations
governing the Company's nutritional supplements require that the ingredients of
such products be precisely and accurately indicated on product containers.
Accordingly, patent protection for nutritional supplements often is impractical,
if not impossible, given the large number of manufacturers who produce
nutritional supplements having many active ingredients in common. Additionally,
the nutritional supplement industry is characterized by rapid change and
frequent reformulations of products as the body of scientific research and
literature refines current understanding of the application and efficacy of
certain substances and interactions among various substances. In this respect,
the Company maintains an active research and development program that is devoted
to developing better, purer and more effective formulations of its nutritional
products. The Company protects its investment in research, as well as the
techniques it uses to improve the purity and effectiveness of its products by
relying on trade secret laws, although it has not to date entered into
confidentiality agreements with certain of its employees involved in research
and development activities. Additionally, the Company endeavors to seek, to the
fullest extent permitted by applicable law, trademark and trade dress protection
for its products, which protection has been sought in the United States, Canada
and many of the other countries in which the Company is either presently
operating or plans to commence operations in the near future. The Company's
research and development efforts may at some future time result in patentable
products, in which case patents would be sought; however, no assurance can be
given that patents would be obtained. Notwithstanding the Company's efforts as
described above, there can be no assurance that such efforts to protect its
trade secrets and trademarks will be successful. Nor can there be any assurance
that third parties will not assert claims against the Company for infringement
of the proprietary rights of others. If an infringement claim is asserted, the
Company may be required to obtain a license of such rights, pay royalties on a
retrospective or prospective basis or terminate its manufacturing and marketing
of its products alleged to have infringed. Litigation with respect to such
matters could result in substantial costs and diversion of management and other
resources and could have a material adverse effect on the Company's business,
financial condition and operating results. For example, since 1996 the Company
has been engaged in defending litigation involving, among other things, claims
of patent infringement relating to a key ingredient in one of its most popular
products. Although the Company disputes the claims of the plaintiff in this
case, the litigation has continued for more than two years and the Company has
expended approximately $150,000 in its defense of such claims. An adverse
ruling in the case could have materially adverse effects on the business,
financial condition and results of operations of the Company. Production of
the Company's products has not ever been adversely affected by the
unavailability of raw materials as a result of infringement or other similar
claims or royalty claims from third parties. There can be no assurance,
however, that such third-party claims will not in the future adversely affect
the Company's business, financial condition and results of operations.
The Company's manufacturing activity is subject to certain risks. The
Company's results of operations are dependent upon the continued operation of
its manufacturing facility in Salt Lake City, Utah. The operation of a
nutritional supplement manufacturing facility involves many risks, including
power failures, the breakdown, failure or substandard performance of equipment,
the improper installation or operation of equipment, natural or other disasters
and the need to comply with the requirements or directives of government
agencies, including the FDA. There can be no assurance that the occurrence of
these or any other operational problems at the Company's facility would not have
a material adverse effect on the Company's business, financial condition and
results of operations. The Company is subject to a variety of environmental
laws relating to the storage, discharge, handling, emission, generation,
manufacture, use and disposal of chemicals, solid and hazardous waste and other
toxic and hazardous materials. The Company's manufacturing operations presently
do not result in the generation of material amounts of hazardous or toxic
substances. Nevertheless, complying with new or more stringent laws or
regulations, or more vigorous enforcement of current or future policies of
regulatory agencies, could require substantial expenditures by the Company and
could have a material adverse effect on its business, financial condition and
results of operations. Environmental laws and regulations require the Company
to maintain and comply with a number of permits, authorizations and approvals
and to maintain and update training programs and safety data regarding materials
used in its processes. Violations of those requirements could result in
financial penalties and other enforcement actions, and could require the Company
to halt one or more portions of its operations until a violation is cured. The
combined costs of curing incidents of non-compliance, resolving enforcement
actions that might be initiated by government authorities or satisfying business
requirements following any period affected by the need to take such actions
could have a material adverse effect on the Company's business, financial
condition and results of operations.
40
The Company's stock price is subject to volatility. The trading price
of the common stock has been and is likely to continue to be subject to wide
fluctuations in response to the quarter-to-quarter variations in the Company's
operating results, material announcements by the Company or its competitors,
governmental regulatory action, conditions in the nutritional supplement
industry or other events or factors, many of which are beyond the Company's
control. The Company's operating results in future quarters may be below the
expectations of securities analysts and investors. In such event, the price of
the common stock would likely decline, perhaps substantially. In addition, the
stock market has historically experienced extreme price and volume fluctuations
which have particularly affected the market prices of many nutritional
supplement companies and network marketing companies and which often have been
unrelated to the operating performance of such companies. Moreover, the
Company's common stock may be even more prone to volatility than the securities
of other businesses in similar industries in light of the relatively small
number of shares of common stock not held by affiliates. Given such a
relatively small "public float," there can be no assurance that the prevailing
market prices of common stock will not be artificially inflated or deflated by
trading even on relatively small amounts of common stock.
Item 8. Financial Statements and Supplementary Data
The Financial Statements and Supplementary Data of the Company required
by this Item are set forth at the pages indicated at Item 14.
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
The information for this Item is incorporated by reference to the
Company's definitive proxy statement to be filed pursuant to Regulation 14A
under the Securities Exchange Act of 1934, as amended.
Item 11. Executive Compensation
Incorporated by reference to the Company's definitive proxy statement
to be filed pursuant to Regulation 14A.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Incorporated by reference to the Company's definitive proxy statement
to be filed pursuant to Regulation 14A.
Item 13. Certain Relationships and Related Transactions
Incorporated by reference to the Company's definitive proxy statement
to be filed pursuant to Regulation 14A.
41
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) The following documents are filed as part of this Form:
1. Financial Statements
Report of Independent Auditors F-1
Consolidated Balance Sheets F-3
Consolidated Statements of Earnings F-4
Consolidated Statements of Stockholders' Equity F-5
Consolidated Statements of Cash Flows F-6
Notes to the Consolidated Financial Statements F-8
2. Supplementary Data
Quarterly Financial Data (unaudited) (included in the Notes to
the Consolidated Financial Statements)
3. Financial Statement Schedules. [Those that are required are
included in the Consolidated Financial Statements or Notes
thereto.]
4. Exhibits.
Form 10-K
For Year Ended January 2, 1999
Exhibit Index
Exhibit
Number Description
- ------ -----------
3.1 Articles of Incorporation [Incorporated by reference to the Company's
Registration Statement on Form 10, File No. 0-21116, effective
April 16, 1993]
3.2 Bylaws [Incorporated by reference to the Company's Registration
Statement on Form 10, File No. 0-21116, effective April 16, 1993]
4.1 Specimen Stock Certificate for Common Stock, no par value [Incorporated
by reference to the Company's Registration Statement on Form 10, File
No. 0-21116, effective April 16, 1993]
10.1 Business Loan Agreement by and between Bank of America National Trust
and Savings Association, d/b/a Seafirst Bank ("Seafirst Bank") and the
Company [Incorporated by reference to the Company's Report
on Form 10-Q for the period ended June 27, 1998]
10.2 Loan Modification Agreement by and between Seafirst Bank and the
Company [Incorporated by reference to the Company's Report on Form 10-Q
for the period ended June 27, 1998]
10.3 Employment Agreement dated June 1, 1997 by and between the Company and
Gilbert A. Fuller [Incorporated by reference to the Company's Report on
Form 10-Q for the period ended June 27, 1998]
10.4 Amended and Restated Long-Term Stock Investment and Incentive Plan
[Incorporated by reference to the Company's Report on Form 10-Q for the
period ended June 27, 1998]
11.1 Computation of Net Income per Share (included in Notes to Consolidated
Financial Statements)
22.1 Subsidiaries of the Company
27.1 Financial Data Schedule
42
SIGNATURES
In accordance with 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 3rd day of April, 1998:
USANA, INC.
By:____________________________________
Myron W. Wentz, PhD,
President and Chairman
Date: March 26, 1999
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated:
/s/ Myron W. Wentz
- --------------------------------------- March 26, 1999
Myron W. Wentz, PhD,Chairman, President Date
(Principal Executive Officer)
/s/ Ronald S. Poelman
- --------------------------------------- March 26, 1999
Ronald S. Poelman, Director Date
/s/ Robert Anciaux
- --------------------------------------- March 26, 1999
Robert Anciaux, Director Date
/s/ Ned M. Weinshenker
- --------------------------------------- March 26, 1999
Ned M. Weinshenker, PhD, Director Date
/s/ David A. Wentz
- --------------------------------------- March 26, 1999
David A. Wentz, Director Date
/s/ Gilbert A. Fuller
- --------------------------------------- March 26, 1999
Gilbert A. Fuller, Vice President Date
And Chief Financial Officer (Principal Financial
Officer and Principal Accounting Officer)
43
USANA, INC. AND SUBSIDIARIES
FINANCIAL STATEMENTS AND REPORT OF
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
DECEMBER 28, 1996, DECEMBER 27, 1997 AND JANUARY 2, 1999
C O N T E N T S
Page
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS F-1
CONSOLIDATED FINANCIAL STATEMENTS
BALANCE SHEETS F-3
STATEMENTS OF EARNINGS F-4
STATEMENT OF STOCKHOLDERS' EQUITY F-5
STATEMENTS OF CASH FLOWS F-6
NOTES TO FINANCIAL STATEMENTS F-8
REPORT OF INDEPENDENT
---------------------
CERTIFIED PUBLIC ACCOUNTANTS
----------------------------
Board of Directors and Stockholders
USANA, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of USANA, Inc. and
Subsidiaries (the Company) as of December 27, 1997 and January 2, 1999 and the
related consolidated statements of earnings, stockholders' equity and cash flows
for each of the three years in the period ended January 2, 1999. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of USANA, Inc. and
Subsidiaries as of December 27, 1997 and
January 2, 1999 and the consolidated results of their operations and their
consolidated cash flows for each of the three years in the period ended January
2, 1999, in conformity with generally accepted accounting principles.
/s/ Grant Thornton LLP
- ----------------------
Salt Lake City, Utah
February 5, 1999
CONSOLIDATED FINANCIAL STATEMENTS
USANA, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
December 27, January 2,
1997 1999
---------------- ---------------
Assets
Current Assets
Cash and cash equivalents $ 2,608 $ 2,617
Accounts receivable, net (Notes D and E) 98 294
Current maturities of notes receivable (Note D) 30 547
Inventories, net (Notes B and E) 6,516 10,543
Prepaid expenses 595 1,146
Deferred income taxes (Note G) 856 1,233
Other current assets 570 766
---------------- ---------------
Total current assets 11,273 17,146
Property and Equipment, net (Notes C and E) 15,004 22,751
Notes Receivable, less current maturities (Note D) 16 5
Other Assets 76 55
---------------- ---------------
$ 26,369 $ 39,957
================ ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Accounts payable $ 3,212 $ 4,211
Other current liabilities (Note F) 3,492 4,505
---------------- ---------------
Total current liabilities 6,704 8,716
Deferred Income Taxes (Note G) 407 624
Commitments and Contingencies (Note I) - -
Stockholders' Equity (Notes J and M)
Common stock, no par value; authorized 50,000 shares; issued and
outstanding 12,812 shares at December 27, 1997 and 13,047 shares at
January 2, 1999 7,167 9,131
Accumulated other comprehensive loss (80) (182)
Retained earnings 12,171 21,668
---------------- ---------------
Total stockholders' equity 19,258 30,617
---------------- ---------------
$ 26,369 $ 39,957
================ ===============
The accompanying notes are an integral part of these statements.
F-3
USANA, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(in thousands, except per share amounts)
Year ended
-------------------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
----------------- --------------- ---------------
Net sales $ 56,700 $ 85,205 $ 121,558
Cost of sales 11,596 17,852 25,279
--------------- --------------- --------------
Gross profit 45,104 67,353 96,279
Operating expenses
Distributor incentives 25,890 39,536 54,408
Selling, general and administrative 10,515 16,040 25,284
Research and development 798 1,245 1,362
--------------- --------------- --------------
Total operating expenses 37,203 56,821 81,054
--------------- --------------- --------------
Earnings from operations 7,901 10,532 15,225
--------------- --------------- --------------
Other income (expense)
Interest income 165 157 259
Interest expense (7) (16) (8)
Other, net 89 25 (73)
--------------- --------------- --------------
Total other income (expense) 247 166 178
--------------- --------------- --------------
Earnings before income taxes 8,148 10,698 15,403
Income taxes (Note G) 3,113 4,116 5,906
--------------- --------------- --------------
Net earnings $ 5,035 $ 6,582 $ 9,497
=============== =============== ==============
Earnings per share (Note M)
Earnings per share - basic $ 0.40 $ 0.52 $ 0.73
=============== =============== ==============
Weighted average shares outstanding - basic 12,627 12,741 12,937
=============== =============== ==============
Earnings per share -diluted $ 0.38 $ 0.49 $ 0.68
=============== =============== ==============
Weighted average shares outstanding - diluted 13,326 13,319 13,929
=============== =============== ==============
The accompanying notes are an integral part of these statements.
F-4
USANA, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Years ended December 28, 1996, December 27, 1997
and January 2, 1999
(in thousands)
Accumulated
other
Common stock Retained comprehensive
Shares Amount earnings income/loss Total
------ ---------- --------- ------------- --------------
Balance at January 1, 1996 12,560 $ 6,005 $ 554 $ (4) $ 6,555
Comprehensive income
Net earnings for the year - - 5,035 - 5,035
Foreign currency translation adjustment - - - 14 14
--------------
Comprehensive income 5,049
Common stock issued under stock option
plan, including tax benefit of $592 142 764 - - 764
------ ---------- --------- ------------- --------------
Balance at December 28, 1996 12,702 6,769 5,589 10 12,368
Comprehensive income
Net earnings for the year - - 6,582 - 6,582
Foreign currency translation adjustment - - - (90) (90)
--------------
Comprehensive income 6,492
Common stock issued under stock option
plan, including tax benefit of $232 110 398 - - 398
------ ---------- --------- ------------- --------------
Balance at December 27, 1997 12,812 7,167 12,171 (80) 19,258
Comprehensive income
Net earnings for the year - - 9,497 - 9,497
Foreign currency translation adjustment - - - (102) (102)
--------------
Comprehensive income 9,395
Common stock issued under stock option
plan, including tax benefit of $816 235 1,964 - - 1,964
------ ---------- --------- ------------- --------------
Balance at January 2, 1999 13,047 $ 9,131 $ 21,668 $ (182) $ 30,617
====== ========== ========= ============= ==============
The accompanying notes are an integral part of this statement.
F-5
USANA, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Year ended
---------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
--------------- --------------- ------------
Increase in cash and cash equivalents
Cash flows from operating activities
Net earnings $ 5,035 $ 6,582 $ 9,497
Adjustments to reconcile net earnings to net cash
provided by operating activities
Depreciation and amortization 922 2,216 3,377
(Gain) loss on sale of property and equipment (69) - 30
Provision for doubtful accounts (2) 139 307
Provision for inventory obsolescence - 220 792
Deferred income taxes (111) (217) (160)
Changes in assets and liabilities
Accounts receivables (42) (182) (494)
Income taxes receivable (405) 405 -
Inventories (4,272) (336) (4,988)
Prepaid expenses and other assets (938) (1,617) (596)
Accounts payable 3,499 (1,497) 1,014
Other current liabilities 621 1,351 1,869
--------------- --------------- ------------
Total adjustments (797) 482 1,151
--------------- --------------- ------------
Net cash provided by
operating activities 4,238 7,064 10,648
--------------- --------------- ------------
Cash flows from investing activities
Receipts on notes receivable 13 27 30
Increase in notes receivable (86) - (536)
Purchase of property and equipment (7,801) (5,299) (11,273)
Proceeds from sale of property and equipment 120 1,110 86
--------------- --------------- ------------
Net cash used in
investing activities (7,754) (4,162) (11,693)
--------------- --------------- ------------
(Continued)
F-6
USANA, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
(in thousands)
Year ended
----------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
--------------- --------------- ------------
Cash flows from financing activities
Principal payments of long-term obligations (15) - -
Net proceeds from sale of common stock 171 166 1,148
Increase (decrease) in line of credit 1,500 (1,500) -
--------------- --------------- ------------
Net cash provided by (used in)
financing activities 1,656 (1,334) 1,148
Effect of exchange rate changes on cash 14 (90) (94)
--------------- --------------- ------------
Net increase (decrease) in cash and cash (1,846) 1,478 9
equivalents
Cash and cash equivalents at beginning of year 2,976 1,130 2,608
--------------- --------------- ------------
Cash and cash equivalents at end of year $ 1,130 $ 2,608 $ 2,617
=============== =============== ============
Supplemental disclosures of cash flow information
Cash paid during the year for
Interest $ 23 $ 16 $ 8
Income taxes 4,375 3,889 5,506
The accompanying notes are an integral part of these statements.
F-7
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the significant accounting policies consistently applied in the
preparation of the accompanying consolidated financial statements follows.
1. Financial statement presentation
--------------------------------
The accounting and reporting policies of USANA, Inc. and Subsidiaries (the
Company) conform with generally accepted accounting principles and with
general practices in the manufacturing industry.
2. Principles of consolidation
---------------------------
The consolidated financial statements include the accounts and operations of
USANA, Inc. and its wholly-owned subsidiaries, USANA Canada Co., USANA
Australia Pty, Ltd., USANA New Zealand Limited, USANA (UK) Limited, and USANA
Trading Company, Inc. USANA, Inc. was incorporated in July of 1992 under the
laws of the State of Utah. USANA Canada, Inc. was incorporated and began
operations in February of 1995. USANA Australia Pty, Ltd., and USANA New
Zealand Limited were incorporated in March of 1997, USANA Trading Company,
Inc. was incorporated in September of 1997 and USANA (UK) Limited was
incorporated in August of 1998. These last four subsidiaries had no
operations in 1997. All significant intercompany accounts and transactions
have been eliminated in consolidation.
3. Business activity
-----------------
The Company develops and manufactures nutritional, personal care and weight
management products which are sold through a direct selling marketing system
throughout the United States and Canada. Direct selling in Australia, New
Zealand, and the United Kingdom began in 1998.
4. Fiscal year
-----------
The Company operates on a 52-53 week year, ending on the Saturday nearest to
December 31. The year ended January 2, 1999 (1998) consisted of 53 weeks and
the year ended December 27, 1997 (1997) consisted of 52 weeks. The year
ended December 28, 1996, (1996) was the first year to end on a 52-53 week
basis but began on January 1, 1996.
F-8
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
5. Cash and cash equivalents
-------------------------
The Company considers all highly liquid investments with an original maturity
of three months or less when purchased to be cash equivalents.
6. Internal software development costs
-----------------------------------
Software development costs for internally used software are capitalized
beginning when adequate funds are committed and technological feasibility for
the project is established up to the time the product is ready for use.
Amortization of the capitalized costs begins when the software is ready for
its intended use and after substantially all tests to determine whether the
software is operational have been completed.
7. Inventories
-----------
Inventories are stated at the lower of cost or market using the first-in,
first-out method.
8. Depreciation and amortization
-----------------------------
Depreciation is provided in amounts sufficient to relate the cost of
depreciable assets to operations over the estimated service lives. Leasehold
improvements are amortized over the shorter of the life of the respective
lease or the service life of the improvements. The straight-line method of
depreciation and amortization is followed for financial reporting purposes.
Maintenance, repairs, and renewals which neither materially add to the value
of the property nor appreciably prolong its life are charged to expense as
incurred. Gains or losses on dispositions of property and equipment are
included in earnings.
9. Revenue recognition and deferred revenue
----------------------------------------
The Company receives payment for the sales price of its products at the time
orders are made by a distributor or Preferred Customer. Sales are recorded
when the product is shipped and title passes to the customer. Payments
received for unshipped products are recorded as deferred revenue and are
included in other current liabilities.
F-9
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
10. Income taxes
------------
The Company utilizes the liability method of accounting for income taxes.
Under the liability method, deferred income tax assets and liabilities are
provided based on the difference between the financial statement and tax
bases of assets and liabilities as measured by the currently enacted tax
rates in effect for the years in which these differences are expected to
reverse. Deferred tax expense or benefit is the result of changes in
deferred tax assets and liabilities.
11. Product return policy
---------------------
Returned product that is unused and resalable will be refunded at 100 percent
of sales price to the distributor less a 10 percent restocking fee up to one
year from the date of purchase. Returned product that was damaged during
shipment to the distributor is 100 percent refundable. Return of product
other than that which was damaged at the time of receipt by the distributor
constitutes potential cancellation of the distributorship. Product returns
have not been significant.
12. Research and development
------------------------
Research and development costs have been charged to expense as incurred.
13. Earnings per share
------------------
Basic earnings per common share (EPS) are based on the weighted average
number of common shares outstanding during each period. Diluted earnings per
common share are based on shares outstanding (computed as under basic EPS)
and potentially dilutive common shares. Potential common shares included in
the diluted earnings per share calculation include stock options granted.
Weighted average shares outstanding reflect a two-for-one stock split
effective August 3, 1998.
14. Fair value of financial instruments
-----------------------------------
The carrying value of the Company's cash and cash equivalents, notes
receivable, accounts receivable, payables and line of credit approximate
carrying values due to the short-term maturity of the instruments.
15. Translation of foreign currencies
---------------------------------
The foreign subsidiaries' asset and liability accounts, which are originally
recorded in the appropriate local currency, are translated for consolidated
financial reporting purposes, into U.S. dollar amounts at period-end exchange
rates. Revenue and expense accounts are translated at the weighted-average
rates for the period. Foreign currency translation adjustments are
accumulated as a component of comprehensive income.
F-10
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
16. Common stock
------------
The Company follows the practice of recording amounts received upon the
exercise of options by crediting common stock. No charges are reflected in
the consolidated statements of earnings as a result of the grant or exercise
of stock options. The Company realizes an income tax benefit from the
exercise of certain stock options. This benefit results in a decrease in
current income taxes payable and an increase in the common stock amount.
Common stock and stock options have been adjusted to reflect a two-for-one
stock split effective August 3, 1998.
17. Certain reclassifications
-------------------------
Certain nonmaterial reclassifications have been made to the 1996 and 1997
financial statements to conform with the 1998 presentation.
18. Segment information
-------------------
The Company's operations involve a single industry segment, the development,
manufacturing and distribution of nutritional, personal care and weight
management products. The Company operates in various geographic segments.
No distributor accounted for more than ten percent of net sales for the years
ended December 28, 1996, December 27, 1997 and January 2, 1999.
19. Recently issued accounting pronouncements not yet adopted
---------------------------------------------------------
The FASB recently issued SFAS 133, Accounting for Derivative Instruments and
Hedging Activities, which requires entities to recognize all derivatives in
their financial statements as either assets or liabilities measured at fair
value. SFAS 133 also specifies new methods of accounting for hedging
transactions, prescribes the items and transactions that may be hedged, and
specifies detailed criteria to be met to qualify for hedge accounting. SFAS
133 is effective for fiscal years beginning after June 15, 1999. The Company
has not yet evaluated the impact of SFAS 133 on its financial statements.
20. Use of estimates
----------------
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the amounts reported in the consolidated financial statements and
related notes to financial statements. Changes in such estimates may affect
amounts reported in future periods.
F-11
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
21. Foreign currency contracts
--------------------------
Gains and losses on forward and option contracts that qualify as hedges are
deferred and recognized as an adjustment of the carrying amount of the hedged
asset; or liability, or identifiable foreign currency firm commitment. Gains
and losses on foreign currency exchange and option contracts that do not
qualify as hedges are recognized in income based on the fair market value of
the contracts.
NOTE B - INVENTORIES
Inventories consist of the following:
December 27, January 2,
1997 1999
--------------- ------------
Raw materials $ 2,313 $ 3,043
Work in progress 904 1,534
Finished goods 3,519 6,592
--------------- ------------
6,736 11,169
Less allowance for inventory obsolescence
220 626
--------------- ------------
$ 6,516 $ 10,543
=============== ============
The history of allowance for inventory obsolescence is as follows:
Year ended
--------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
--------------- --------------- ------------
Balance at beginning of year $ - $ - $ 220
Provisions - 220 792
Write-offs - - 386
--------------- --------------- ------------
Balance at end of year $ - $ 220 $ 626
=============== =============== ============
F-12
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE C - PROPERTY AND EQUIPMENT
Cost of property and equipment and their estimated useful lives is as
follows:
December 27, January 2,
Years 1997 1999
---------- --------------- ------------
Building 40 $ 5,437 $ 7,414
Laboratory and production equipment 5-7 1,480 2,697
Computer equipment and software 3-5 5,809 11,075
Furniture and fixtures 3-5 1,313 2,024
Automobiles 3-5 321 320
Leasehold improvements 3-5 86 461
Land improvements 15 289 542
--------------- ------------
14,735 24,533
Less accumulated depreciation and amortization 2,597 5,681
--------------- ------------
12,138 18,852
Land 1,773 2,548
Deposits and projects in process 1,093 1,351
--------------- ------------
$ 15,004 $ 22,751
=============== ============
NOTE D - RECEIVABLES
Accounts receivable consist of the following:
December 27, January 2,
1997 1999
--------------- ------------
Trade receivables $ 231 $ 306
Other receivables 6 236
--------------- ------------
237 542
Less allowance for doubtful accounts 139 248
--------------- ------------
$ 98 $ 294
=============== ============
F-13
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE D - RECEIVABLES - CONTINUED
The history of the allowance for doubtful accounts is as follows:
Year ended
--------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
--------------- --------------- ------------
Balance at beginning of year $ 2 $ - $ 139
Provisions - 139 307
Write-offs 2 - 198
--------------- --------------- ------------
Balance at end of year $ - $ 139 $ 248
=============== =============== ============
Notes receivable consists of the following:
December 27, January 2,
1997 1999
--------------- ------------
10% note receivable from a company, due over three years,
collateralized by equipment $ 46 $ 16
7.75% note receivable from a officer/stockholder of the
Company, unsecured, payable on demand (Note H) - 531
Non-interest bearing note receivable from an employee of the
Company, unsecured, due over two years - 5
--------------- ------------
46 552
Less current maturities 30 547
--------------- ------------
$ 16 $ 5
=============== ============
NOTE E - LINE OF CREDIT
At January 2, 1999, the Company had a $5 million line of credit with a bank
expiring in May 1999. The interest rate is computed at the bank's prime rate,
or at the option of the Company, at the LIBOR base rate plus 2.25 percent.
Certain receivables, inventories, and equipment collateralize the line of
credit. The line of credit agreement also contains restrictive covenants
requiring the Company to maintain certain financial ratios. There were no
outstanding balances at December 27, 1997 or January 2, 1999.
F-14
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE F - OTHER CURRENT LIABILITIES
Other current liabilities consist of the following:
December 27, January 2,
1997 1999
--------------- ------------
Accrued compensation $ 763 $ 964
Distributor incentives 685 1,140
Income taxes 729 429
Sales taxes 658 845
Deferred revenue 165 34
All other 492 1,093
--------------- ------------
$ 3,492 $ 4,505
=============== ============
NOTE G - DEFERRED INCOME TAXES
Income tax expense (benefit) consists of the following:
Year ended
----------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
--------------- --------------- ------------
Current
Federal and State $ 3,114 $ 3,866 $ 5,343
Foreign 110 467 723
--------------- --------------- ------------
3,224 4,333 6,066
Deferred
Federal and State (111) (217) (152)
Foreign - - (8)
--------------- --------------- ------------
$ 3,113 $ 4,116 $ 5,906
=============== =============== ============
F-15
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE G - DEFERRED INCOME TAXES - CONTINUED
The income tax provision reconciled to the tax computed at the federal
statutory rate of 34 percent for 1996 and 1997 and 35 percent for 1998 is as
follows:
Year ended
--------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
--------------- --------------- ------------
Federal income taxes at statutory rate $ 2,770 $ 3,637 $ 5,391
State income taxes, net of federal
tax benefit 269 369 517
Difference between U.S. statutory rate and
foreign rate 26 110 141
All other 48 - (143)
--------------- --------------- ------------
$ 3,113 $ 4,116 $ 5,906
=============== =============== ============
Deferred tax assets and liabilities consist of the following:
December 27, January 2,
1997 1999
--------------- ------------
Deferred tax assets
Inventory capitalization $ 415 $ 290
Intercompany sales 220 929
All other 221 14
--------------- ------------
$ 856 $ 1,233
=============== ============
Deferred tax liabilities
Accumulated depreciation (310) (358)
All other (97) (266)
--------------- ------------
$ (407) $ (624)
=============== ============
NOTE H - RELATED PARTY TRANSACTIONS
During fiscal 1998, the Company purchased certain assets and incurred certain
expenses on behalf of the Company's President and CEO. In consideration of
these purchases the President and CEO has promised to pay to the Company, on
demand, the principal amount of $531 plus interest at 7.75 percent per annum
(Note D).
F-16
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE I - COMMITMENTS AND CONTINGENCIES
1. Operating leases
----------------
The Company currently conducts its Canadian, Australian and New Zealand
operations in leased facilities. Each of the lease agreements are
noncancelable operating leases and expire through 2003. The Company utilizes
equipment under a noncancelable operating lease expiring in 1999. The
minimum rental commitments under operating leases at January 2, 1999 are as
follows:
Fiscal year ending December
---------------------------
1999 $ 336
2000 258
2001 210
2002 187
2003 16
Thereafter -
-------
$ 1,007
=======
The leases generally provide that property taxes, insurance, and maintenance
expenses are obligations of the Company. It is expected that in the normal
course of business, operating leases that expire will be renewed or replaced
by leases on other properties. The total rent expense for the years ended
December 28, 1996, December 27, 1997 and January 2, 1999 was approximately
$232, $373, and $657.
2. Contingencies
-------------
The Company is involved in various lawsuits and disputes arising in the
normal course of business. In the opinion of management, based upon advice
of counsel, the ultimate outcome of these lawsuits will not have a material
impact on the Company's financial position or results of operations.
F-17
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE I - COMMITMENTS AND CONTINGENCIES - CONTINUED
3. Employee Benefit Plan
---------------------
The Company has an employee benefit plan under Section 401(k) of the Internal
Revenue Code. This plan covers employees who are at least 18 years of age
and have been employed by the Company longer than three months. The Company
makes matching contributions of $.50 on each $1.00 of contribution up to 6
percent of the participating employees compensation. In addition, the Company
may make a discretionary contribution based on earnings. The Company's
matching contributions vest at 20 percent per year beginning with the second
year. Total contributions by the Company to the plan for the years ended
December 28, 1996, December 27, 1997, and January 2, 1999 were $33, $133,
and $172, respectively.
4. Foreign currency contracts
--------------------------
In order to reduce the impact of changes in foreign exchange rates on
consolidated results of operations and future foreign currency denominated
cash flows, the Company was a party to various forward exchange contracts at
January 2, 1999. These contracts help the Company manage currency movements
affecting existing foreign currency denominated assets, liabilities and firm
commitments.
At January 2, 1999, the Company had approximately $119 recorded in
unamortized option contracts. Total open foreign currency forward exchange
contracts at January 2, 1999, are described in the table below:
Contract Amount
----------------------------------------------
Foreign Maturities
currency U.S. (in months)
------------- ------------ -------------
Canadian Dollar $ 1,600 $ 1,048 9
Australian Dollar $ 2,400 $ 1,488 9
New Zealand Dollar $ 600 $ 309 9
British Pound Pound 1,875 $ 3,049 8
F-18
NOTE J - STOCK OPTIONS
On June 23, 1998, the Company's Board of Directors approved the combination
of the 1995 Long-term Stock Investment and Incentive Plan and the 1995
Directors' Stock Option Plan without increasing the aggregate number of
shares available for issuance under the combined plans. The Amended and
Restated Long-Term Stock Investment and Incentive Plan (the Plan) reserved
4,000 shares under the Plan. Accordingly, the Board of Directors has
approved the granting of options under the Plan as follows:
As of January 2, 1999, Company directors, officers and key employees have
been granted options to acquire 2,907 shares of common stock that vest
periodically through October 2003. The options have been granted at prices
ranging from $1.53 to $15.48 per share, which were the market prices of the
Company's shares on the dates granted. During 1997, exercise prices on
certain options were changed to $7.83 per share. The options expire upon the
earlier of an expiration date fixed by the committee responsible for
administering the Plan or ten years from the date of grant.
The Company has adopted only the disclosure provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" (SFAS 123). Therefore, the Company continues to account for
stock based compensation under Accounting Principles Board Opinion No. 25,
under which no compensation cost has been recognized. Had compensation cost
for the stock based compensation been determined consistent with SFAS 123,
the Company's net earnings and earnings per share would have been changed to
the following pro forma amounts:
Year ended
------------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
Net earnings As reported $ 5,035 $ 6,582 $ 9,497
---------------- ---------------- --------------
Pro forma $ 3,834 $ 5,541 $ 8,224
---------------- ---------------- --------------
Earnings per share - basic As reported $ 0.40 $ 0.52 $ 0.73
---------------- ---------------- --------------
Pro forma $ 0.30 $ 0.43 $ 0.64
---------------- ---------------- --------------
Earnings per share - diluted As reported $ 0.38 $ 0.49 $ 0.68
---------------- ---------------- --------------
Pro forma $ 0.29 $ 0.42 $ 0.59
---------------- ---------------- --------------
F-19
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE J - STOCK OPTIONS - CONTINUED
The fair value of these options was estimated at the date of grant using the
Black-Scholes option-pricing model with the following weighted-average
assumptions; expected volatility of 46 percent for 1996, 62 percent for 1997,
60 percent for 1998; average risk-free interest rate of 6.19 percent for
1996, 6.13 percent for 1997, 5.67 percent for 1998; average expected life is
equal to the actual life for 1996, 1997, and 1998. Dividends were assumed
not to be paid during the period of calculation. The weighted-average fair
value of options granted was $9.99, $8.41, and $11.42 in 1996, 1997, and
1998, respectively.
Option pricing models require the input of highly subjective assumptions
including the expected stock price volatility. Also, the Company's employee
stock options have characteristics significantly different from those of
traded options including long-vesting schedules, and changes in the
subjective input assumptions can materially affect the fair value estimate.
Management believes the best input assumptions available were used to value
the options and the resulting option values are reasonable.
Changes in the Company's stock options are as follows:
Weighted-average
Shares Exercise price exercise price
------------ -------------------- ------------------
Outstanding at January 1, 1996 1,307 $ 1.53 - 4.88 $ 2.69
Granted 1,100 5.97 - 10.52 9.99
Exercised (142) 1.53 1.53
Canceled or expired (208) 1.53 - 4.85 4.72
------------
Outstanding at December 28, 1996 2,057 1.53 - 10.52 6.66
Granted 190 7.83 - 8.75 8.41
Exercised (109) 1.53 1.53
Canceled or expired (160) 1.53 - 7.83 5.77
------------
Outstanding at December 27, 1997 1,978 1.53 -8.75 5.49
Granted 310 8.90 - 15.48 11.42
Exercised (235) 1.53 - 7.83 4.89
Canceled or expired (107) 7.83 7.83
------------
Outstanding at January 2, 1999 1,946 1.53 - 15.48 6.74
============
Exercisable at January 2, 1999 577 1.53 - 8.90 6.60
============
F-20
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE J - STOCK OPTIONS - CONTINUED
Additional information about stock options outstanding and exercisable at
January 2, 1999 is summarized as follows:
Options Outstanding Options Exercisable
-------------------------------------------------------------------- ----------------------------
Weighted-average Weighted-
Range of Number remaining Weighted-average Number average
exercise prices outstanding contractual life exercise price exercisable exercise price
----------------- ----------- ------------------ ---------------- ----------- ---------------
$ 1.53 360 6.4 years $ 1.53 22 $1.53
4.85 - 5.97 377 6.9 years 4.98 209 4.91
7.83 - 8.90 979 7.4 years 8.03 346 7.94
10.20 - 12.75 150 9.2 years 10.72 -
13.70 - 15.48 80 9.5 years 15.25 -
----- -----------
1,946 577
===== ===========
NOTE K - SEGMENT INFORMATION
The Company's chief operating decision makers utilize information about
geographic operations in determining the allocation of resources and in
assessing the performance of the Company. Management considers the
geographic segments of the Company to be the only reportable operating
segments.
The accounting policies used to develop segment information correspond to
those described in the summary of significant accounting policies. Segment
profit or loss is based on profit or loss from operations before income taxes
and includes a management fee charged by the domestic operation to each of
the foreign entities. All other intersegment transactions are eliminated
from the following segment information.
Interest revenues and expenses, income taxes, and equity in the earnings of
subsidiaries, while significant, are not included in the Company's
determination of segment profit or loss in assessing the performance of a
segment.
Revenues from external customers for each of the geographic segments is
attributed to the identified countries based on the Company's familiarity
with its customer base.
F-21
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE K - SEGMENT INFORMATION - CONTINUED
Financial information summarized by geographic segment for the years ended
December 28, 1996, December 27, 1997, and January 2, 1999 is listed below:
Australia/ United
Year ended December 28, 1996 Domestic Canada New Zealand Kingdom All Others Totals
- --------------------------------------------- ---------- -------- ------------- --------- ------------ --------
Revenues from external customers $ 44,720 $ 11,980 $ - $ - $ - $ 56,700
Earnings before income taxes $ 7,036 $ 1,112 $ - $ - $ - $ 8,148
Long-lived assets $ 12,017 $ 22 $ - $ - $ - $ 12,039
Total assets $ 20,629 $ 450 $ - $ - $ - $ 21,079
Australia/ United
Year ended December 27, 1997 Domestic Canada New Zealand Kingdom All Others Totals
- --------------------------------------------- ---------- -------- ------------- --------- ------------ --------
Revenues from external customers $ 58,975 $ 26,230 $ - $ - $ - $ 85,205
Earnings before income taxes $ 7,458 $ 3,240 $ - $ - $ - $ 10,698
Long-lived assets $ 14,789 $ 70 $ 237 $ - $ - $ 15,096
Total assets $ 23,809 $ 1,381 $ 1,117 $ 62 $ - $ 26,369
Australia/ United
Year ended January 2, 1999 Domestic Canada New Zealand Kingdom All Others Totals
- --------------------------------------------- ---------- -------- ------------- --------- ------------- ---------
Revenues from external customers $ 69,822 $ 32,739 $ 18,659 $ 338 $ - $ 121,558
Earnings (loss) before income taxes $ 7,981 $ 6,156 $ 1,423 $ (144) $ (13) $ 15,403
Long-lived assets $ 20,477 $ 246 $ 1,077 $ 1,011 $ - $ 22,811
Total assets $ 30,275 $ 3,014 $ 3,850 $ 2,812 $ 6 $ 39,957
F-22
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE L - QUARTERLY FINANCIAL RESULTS (Unaudited)
Summarized quarterly financial information for fiscal years 1997 and 1998 is
as follows:
First Second Third Fourth
----------- ----------- ------------ ------------
1997 quarter
- ------------
Net sales $ 17,654 $ 21,046 $ 22,873 $ 23,632
Gross profit $ 13,895 $ 16,652 $ 18,064 $ 18,742
Net earnings $ 1,123 $ 1,662 $ 1,856 $ 1,941
Earnings per share:
Basic $ 0.09 $ 0.13 $ 0.15 $ 0.15
Diluted $ 0.08 $ 0.13 $ 0.14 $ 0.14
First Second Third Fourth
----------- ----------- ------------ ------------
1998 quarter
- ------------
Net sales $ 26,164 $ 30,913 $ 32,123 $ 32,358
Gross profit $ 20,678 $ 24,505 $ 25,398 $ 25,698
Net earnings $ 1,936 $ 2,404 $ 2,530 $ 2,627
Earnings per share:
Basic $ 0.15 $ 0.19 $ 0.19 $ 0.20
Diluted $ 0.14 $ 0.17 $ 0.18 $ 0.19
F-23
USANA Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share data)
NOTE M - EARNINGS PER SHARE
Year ended
------------------------------------------------
December 28, December 27, January 2,
1996 1997 1999
--------------- --------------- ------------
Earnings available to common shareholders $ 5,035 $ 6,582 $ 9,497
=============== =============== ============
Basic EPS
- ---------
Shares
Common shares outstanding entire period 12,560 12,702 12,812
Weighted average common shares issued during
period 67 39 125
--------------- --------------- ------------
Weighted average common shares outstanding
during period 12,627 12,741 12,937
=============== =============== ============
Earnings per common share - basic $ 0.40 $ 0.52 $ 0.73
=============== =============== ============
Diluted EPS
- -----------
Shares
Weighted average common shares outstanding
during period - basic 12,627 12,741 12,937
Dilutive effect of stock options 699 578 992
--------------- --------------- ------------
Weighted average common shares outstanding
during period - diluted 13,326 13,319 13,929
=============== =============== ============
Earnings per common share - diluted $ 0.38 $ 0.49 $ 0.68
=============== =============== ============
F-24