TABLE OF
CONTENTS
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Our Product Categories |
-3- |
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Sourcing and Production |
-7- |
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Research and Development |
-8- |
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Geographic Sales Regions |
-9- |
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Intellectual Property |
-18- |
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Government Regulation |
-18- |
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Available Information |
-22- |
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ITEM 1A. |
RISK FACTORS |
-23- |
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ITEM 1B. |
UNRESOLVED STAFF COMMENTS |
-35- |
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ITEM 3. |
LEGAL PROCEEDINGS |
-36- |
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ITEM 4. |
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS |
-37- |
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ITEM 5. |
MARKET FOR REGISTRANTS COMMON EQUITY,
RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES |
-37- |
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ITEM 6. |
SELECTED FINANCIAL DATA |
-39- |
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ITEM 7. |
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS |
-40- |
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ITEM 7A. |
QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK |
-64- |
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ITEM 8. |
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
-64- |
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ITEM 9. |
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE |
-90- |
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ITEM 9A. |
CONTROLS AND PROCEDURES |
-90- |
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ITEM 9B. |
OTHER INFORMATION |
-91- |
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ITEM 15. |
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
-93- |
-i-
FORWARD-LOOKING
STATEMENTS
THIS
ANNUAL REPORT ON FORM 10-K, IN PARTICULAR ITEM 7. MANAGEMENTS DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, AND ITEM 1.
BUSINESS, INCLUDE FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF
SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. THESE STATEMENTS REPRESENT
OUR EXPECTATIONS OR BELIEFS CONCERNING, AMONG OTHER THINGS, FUTURE REVENUE, EARNINGS,
GROWTH STRATEGIES, NEW PRODUCTS, FUTURE OPERATIONS AND OPERATING RESULTS, AND FUTURE
BUSINESS AND MARKET OPPORTUNITIES. WE UNDERTAKE NO OBLIGATION TO PUBLICLY UPDATE OR REVISE
ANY FORWARD-LOOKING STATEMENT, WHETHER AS A RESULT OF NEW INFORMATION, FUTURE EVENTS OR
OTHERWISE. WE WISH TO CAUTION AND ADVISE READERS THAT THESE STATEMENTS INVOLVE RISKS AND
UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THE EXPECTATIONS
AND BELIEFS CONTAINED HEREIN. FOR A SUMMARY OF CERTAIN RISKS RELATED TO OUR BUSINESS, SEE
ITEM 1A RISK FACTORS BEGINNING ON PAGE 23.
In this Annual Report on Form
10-K, references to dollars and $ are to United States dollars. Nu
Skin, Pharmanex, and Big Planet are our trademarks. The italicized product names used in
this Annual Report on Form 10-K are product names and also, in certain cases, our
trademarks.
PART I
ITEM 1. BUSINESS
Overview
Nu
Skin Enterprises is a leading, global direct selling company with operations in 41
countries throughout Asia, the Americas and Europe. We develop and distribute premium
quality, innovative personal care products and nutritional supplements that are sold
worldwide under the Nu Skin and Pharmanex brands. We also market technology-related
products and services under the Big Planet brand. We operate through a direct selling
model in all of our markets except Mainland China (hereinafter China), where
we currently use a retail business model with employed sales representatives because of
regulatory restrictions on direct selling activities. We are currently in the process of
applying for a direct selling license in China pursuant to recently enacted regulations
that will enable us to begin to adapt our current business model there to include a direct
selling component, assuming we receive the required license.
We
are one of the leading direct selling companies in the world with 2005 revenue of $1.2
billion. As of December 31, 2005, we had a global network of approximately 803,000
active independent distributors, sales representatives, and preferred customers,
approximately 30,000 of whom were executive level distributors or full-time sales
representatives. Our executive level distributors and full-time sales representatives play
an important leadership role in our distribution network and are critical to the growth
and profitability of our business.
We
recognized approximately 88% of our revenue in markets outside the United States in 2005.
Our Japanese operations accounted for approximately 48% of our 2005 revenue, although this
markets contribution to our overall revenue is lower compared to prior years as a
result of our expansion into and growth in other markets. Because of the size of our
foreign operations, our operating results can be
-1-
impacted positively or negatively by
economic, political and business conditions around the world as well as by foreign
currency fluctuations, particularly in Japan and other Asian markets.
We
develop and market branded consumer products that we believe are well-suited for direct
selling. Our distributors market and sell our products by educating consumers about the
benefits and distinguishing characteristics of our products and by providing personalized
customer service. Through dedicated research and development, we continually develop and
introduce new products and enhance our existing line of products to provide our
distributors with a differentiated product portfolio. We believe that we are able to
attract and motivate high-caliber independent distributors because of our focus on
developing innovative products, our attractive global compensation plan and our advanced
technological distributor support.
Our
business is subject to various laws and regulations throughout the world, in particular
with respect to network marketing activities and nutritional supplements. This creates
certain risks for our business, including improper activities by our distributors or any
inability to obtain necessary product registrations.
Our
strategy for growing our business over the last few years has focused on three key areas:
|
|
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expansion
into new markets; |
|
|
|
introduction
of unique tools and initiatives to motivate distributors and improve retention; and |
|
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development
of compelling and innovative products. |
During
2005, we continued our efforts to expand into additional new markets and grow operations
in recently opened markets. We commenced operations in Indonesia in August of 2005, and we
recently opened business in Romania. We also plan to commence operations in Russia during
the first half of 2006. We also further expanded our presence in China by opening stores
and operations in many new cities. We currently have stores in 92 cities throughout China.
We also introduced certain key Pharmanex products into China in January 2005.
We
also remain committed to providing our distributors with unique tools and initiatives that
motivate distributors and help them attract and retain customers and other distributors.
These tools reflect our focus on delivering a product offering with a Measurable
Difference. During 2005, we continued to expand the use of the
Pharmanex® BioPhotonic Scanner (the Scanner) in the United
States and key international markets including Japan. The Scanner is based on patented
technologies that allow our distributors to non-invasively measure the impact of our
nutritional products on overall nutritional status. At our global convention held in the
United States in October 2005, we unveiled the second-generation model of the Scanner
(called the S2 or the "Scanner") which is smaller, more portable and faster than its
predecessor in terms of scan and calibration time. We also recently
announced plans to launch the Nu Skin® ProDerm Skin Analyzer, a
handheld skin imaging and analysis tool that will enable our distributors to demonstrate
the efficacy of our skin care products by providing a visual and quantifiable assessment
of important skin characteristics. In addition, we have continued to expand and promote
product subscription and loyalty programs in many of our markets that provide incentives
for customers to commit to purchase a set amount of products on a monthly basis. We
believe these programs have improved customer retention in many of our markets.
Compelling
and innovative products and initiatives are vital to our company because they help to
motivate our distributors and make them more effective. As a result, we continue to focus
on the
-2-
development and introduction of innovative products and reformulated products in
order to help expand our business in existing markets. Our product development philosophy
across all three product categories is to develop products and related initiatives that
allow customers to live better, longer. Some of the products introduced in the
last year include:
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|
|
g3, a nutrient-rich juice blend containing a highly concentrated mix of carotenoid
antioxidants and micronutrients with a natural delivery system called
Lipocarotenes; |
|
|
|
LifePak Nano,
a new formula of LifePak featuring novel, proprietary nano-carotenoid
antioxidants delivered through a unique lipid system that maximizes nutrient absorption; |
|
|
|
NanoCoQ10,
a supplement using cutting-edge nano technology to deliver highly bioavailable coenzyme
Q10; |
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|
a second generation of our top-selling Nu Skin 180º Anti-aging Skin Therapy System; |
|
|
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Celltrex CoQ10
Complete, a topical antioxidant network for the skin that combines coenzyme Q10 with
colorless carotenoids and vitamins C and E; |
|
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|
Epoch Sole
Solution Foot Treatment, an ethnobotanical cream for dry, cracked skin; and |
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Photomax, an online digital imaging service that allows consumers to preserve,
organize, share and enjoy their photographs. |
Our Product Categories
We
have three product categories, each distinguished by its own brand. We market our
premium-quality personal care products under the Nu Skin brand, science-based nutritional supplements
under the Pharmanex brand and technology-based products and services under the Big Planet
brand.
Presented
below are the U.S. dollar amounts and percentages of revenue from the sale of Nu Skin,
Pharmanex and Big Planet products and services for the years ended December 31, 2003, 2004
and 2005. This table should be read in conjunction with the information presented in
Managements Discussion and Analysis of Financial Condition and Results of
Operations, which discusses the costs associated with generating the aggregate
revenue presented.
Revenue by Product
Category
(U.S. dollars in
millions)(1)
|
Year Ended December 31, |
|
Product Category | |
2003 | |
2004 | |
2005 | |
| |
| |
| |
| |
Nu Skin |
|
$ 476.2 |
|
48.3 |
% |
$ 548.1 |
|
48.2 |
% |
$ 484.3 |
|
41.0 |
% |
| |
| |
| |
| |
Pharmanex | |
472.1 |
|
47.8 |
|
567.2 |
|
49.8 |
|
667.6 |
|
56.5 |
|
| |
| |
| |
| |
Big Planet | |
38.2 |
|
3.9 |
|
22.6 |
|
2.0 |
|
29.0 |
|
2.5 |
|
| |
| |
| |
| |
| |
$ 986.5 |
|
100.0 |
% |
$ 1,137.9 |
|
100.0 |
% |
$ 1,180.9 |
|
100.0 |
% |
(1) |
|
In
2005, 88% of our sales were transacted in foreign currencies that were
converted to U.S. dollars for financial reporting purposes at
weighted-average exchange rates. Foreign currency fluctuations positively
impacted reported revenue by approximately 1% in 2005, compared to 2004,
and positively impacted reported revenue by approximately 4% in 2004,
compared to 2003. |
-3-
Nu
Skin. Nu Skin is our original product line and offers premium-quality personal
care products in the areas of advanced skin treatments, daily skin care, ethnobotanical
treatments and other advanced personal care products. Our strategy is to leverage our
network marketing distribution model to establish Nu Skin as an innovative leader in the
personal care market. We are committed to continuously improving and evolving our product
formulations to incorporate innovative and proven ingredients. In 2005, we introduced
several new products and tools, including a new version of Nu Skin 180°,
Celltrex CoQ10 Complete and Epoch Sole Solution Foot Treatment.
In
addition to marketing premium-quality personal care products, we are committed to
developing tools to help distributors market our products more effectively. In 2004, for
example, we introduced the Nu Skin® Regimen Optimizer, a proprietary
software tool that integrates decades of skin care expertise into an easy-to-use, mobile
product recommendation tool. We also provided our distributor centers around the world
with a third-party skin imaging camera called the VISIA Complexion Analysis System,
helping distributors tailor product recommendations to their customers specific
needs. By mid-2006, we plan to begin the global launch of a proprietary skin imaging and
assessment system, a patent-pending handheld skin analysis tool called the Nu
Skin® ProDerm Skin Analyzer, which we unveiled at our October 2005
global distributor convention. This tool is designed to provide users with a visual and
quantifiable assessment of skin characteristics such as wrinkles, texture, discoloration
and pores, enabling distributors to help customers determine their skin care needs and
quantifiably measure the effect of their skin care regimens.
Our
leading product categories in the Nu Skin division are advanced skin treatments and daily skin care. The following table summarizes the current Nu Skin product line by category:
Category | |
Description | |
Selected Products | |
|
|
|
Advanced Skin Treatments | |
Our advanced skin treatments are designed to target specific
skin care needs with ingredients scientifically proven to provide visible results for concerns
ranging from aging to acne. | |
Nu Skin 180° Anti-Aging Skin Therapy System
Tru Face Line Corrector
Tru Face Essence
Tru Face Revealing Gel
Nu Skin Galvanic Spa System II
Nu Skin Clear Action Acne Medication System
Nu Skin Tri-Phasic White | |
|
|
|
Daily Skin Care |
|
Our daily skin care line consists of face and body
products, including cleansers, toners, moisturizers, specialty products and body care. Nutricentials
products, fortified with topically applied nutrients, uniquely position this line. |
|
Night Supply NourishingCream
Liquid Body Bar
Enhancer Skin Conditioning Gel
Celltrex Ultra Recovery Fluid
Celltrex CoQ10 Complete
Perennial Intense Body Moisturizer |
|
-4-
Category | |
Description | |
Selected Products | |
|
|
|
Ethnobotanicals |
|
Our Epoch line is distinguished by utilizing the
traditions of indigenous cultures. Each Epoch
product is formulated with botanical
ingredients derived from renewable resources found in nature. In addition, we contribute a percentage of our proceeds from Epoch
sales to
charitable causes. |
|
Epoch Baby
Calming Touch
Glacial Marine Mud
Ava puhi moni Shampoo
IceDancer Invigorating Leg
Gel
FireWalker Moisturizing Foot Cream
Sole Solution |
|
|
|
|
Color Cosmetics | |
Our Nu Colour line complements our skin care offerings
through a variety of premium-quality cosmetics. | |
Nu Colour Cosmetics
Skin Beneficial Tinted Moisturizer
Bronzing Pearls
Replenishing Lipstick
Eye Makeup Remover | |
|
|
|
|
Scion | |
Available in certain markets, Scion is a line of personal care products that provides value-oriented solutions to meet basic grooming needs with quality
ingredients. | |
Scion Toothpaste
Scion Two-In-One Shampoo
Scion Hand and Body Wash
Scion Moisturizing Body Lotion | |
|
|
|
|
Other Products | |
Our personal care portfolio also includes daily-use products for hair care, scalp treatment and sun protection. | |
DailyKind Mild Shampoo
FreeFall Detangling Spray
Nutriol Hair Fitness
Sunright Lip Balm | |
|
|
|
|
| |
| |
| |
Pharmanex.
We market a variety of Pharmanex nutritional products comprised of
comprehensive micronutrient supplements, targeted nutritional supplements,
weight management supplements and certain specialty products. Pharmanex products
include our flagship line of LifePak micronutrient and phytonutrient
supplements, which accounted for 27% of our total revenue and 47% of Pharmanex
revenue in 2005.
Direct
selling has proven to be an extremely effective method of marketing our high-quality
nutritional supplements because our distributors are able to personally educate consumers
on the quality and benefits of our products, differentiating them from competitors
offerings. Our strategy for expanding our nutritional supplement business is to introduce
innovative, substantiated products based on extensive research and development and quality
manufacturing. Our product development efforts are focused in the areas of anti-aging,
weight management and other nutrition issues. In 2005, we introduced several new products,
including g3 juice and LifePak nano.
In
line with our commitment to provide distributors with tools that will help them market our
products more effectively, we introduced the Scanner in 2003 and have since supplied it to
nearly all of our global markets. At our global convention held in the United States in
October 2005, we unveiled the second-generation model of the Scanner which is smaller,
more portable and faster than its predecessor in terms of scan and calibration time. We
launched the S2 in the United States and China in February 2006 and plan to introduce it
in Japan and other markets later this year. Until recently, our license for the Scanner technology did not permit us to use
the Scanner in a medical setting. However, as a result of
a recent transaction that we completed, we now own the rights to use the Scanner
technology within all environments, including in a medical setting. This
provides us with an increased marketing opportunity for our sales force to promote and
sell our nutritional supplements. It also opens up new clinical research opportunities for
us to further evaluate the application of the Scanner technology in nutrition science.
-5-
The
following table summarizes the current Pharmanex product lines by category:
Category | |
Description | |
Selected Products | |
|
|
|
Micronutrient Supplements |
|
Our daily supplements are designed to provide a beneficial mix of nutrients including vitamins, minerals and antioxidants. |
|
LifePak Family of Products
g3 juice |
|
|
|
|
Targeted Nutritional Solutions | |
Our self-care dietary supplements contain consistent levels of botanical ingredients that are designed to provide consumers with targeted wellness benefits. | |
Tegreen 97
ReishiMax GLp
MarineOmega
Cholestin
CordyMax Cs-4
Cortitrol
BioGingko 27/7
IgG Boost
Estera Women | |
|
|
|
Weight Management | |
Our TRA ephedra-free line of weight management products was
created to capitalize on the growing weight management category. TRA supplements complement
any diet program that is currently on the market. | |
OverDrive
FibreNet
TRA
| |
|
|
|
Other - Specialty Products | |
Our portfolio of other nutritional products includes healthy drinks and other specialty wellness products, including our VitaMeal dehydrated food product. | |
Splash C
Appeal
AloeDrink | |
|
|
|
|
| |
| |
| |
Big Planet. We offer high-technology products and services centered around
two product categories under the Big Planet brand: digital photography and business tools.
We evaluate emerging trends in technology and develop easy-to-use products that are
designed to capitalize on these trends. Our strategy is to provide innovative products
designed specifically for non-technical people, which we believe is an underserved market
due to the usual complexity of high-tech products.
Our
current development focus centers around the digital photography market, where the
convergence of trends in digital cameras, mass storage and the Internet offers a unique
opportunity to provide products and services that make it easy for consumers to preserve,
organize, share and enjoy their photographs. In
-6-
2005, we introduced a Web-based digital
photo service called Photomax.com, which makes it easy for consumers to view,
organize and share digital pictures online. Other products in this category include
Photo Saver CD, a service in which we convert traditional photographs and slides to
digital format and store them on a CD, and Movie Magic DVD and Picture Show
DVD, services that transform digital photos into personalized movies or slide shows.
Our
Big Planet business tools, products and services are designed to help distributors
increase their productivity by leveraging technology in the management of their direct
selling activities. These products include individual, personalized distributor Web sites
hosted by Big Planet that grant customers easy and convenient access to information about
our products and services. Distributors can manage content on their individual Web sites,
customizing their marketing efforts and conducting e-commerce activities across our
product lines.
The
following table summarizes the current Big Planet product lines by category:
Category | |
Description | |
Selected Products | |
|
|
|
Digital Photography |
|
A line of digital photography services designed for non-technical consumers. |
|
Picture Show DVD
Movie Magic DVD
Photo Saver CD
Photomax Web site - online photo storage |
|
|
|
|
Business Tools | |
Advanced tools and services that help distributors and consumers establish an online presence and manage their businesses. | |
Global Web Page
BP Mall
ISP for U.S. - by Qwest
ISP for Japan - by Nifty
BP Internet Security | |
| |
| |
| |
We
also market a line of home care products under the Ecosphere brand, which are designed to
clean and protect the home environment and include the Water Purifier, Filtering
Showerhead, and Surface Wipes. These products are sold primarily in our Asian
markets.
Sourcing and Production
Nu
Skin. In order to maintain high product quality, we acquire our ingredients and
contract production of our proprietary products from suppliers that we believe are reliable, reputable,
and deliver us high quality materials and service. For more than
10 years, we have acquired ingredients and products from one primary supplier that
currently manufactures approximately 31% of our Nu Skin personal care products. Our
contract with our supplier is for a one-year term that automatically renews each year for
an additional one-year term unless either party terminates the contract. We maintain a
good relationship with our supplier and do not anticipate that either party will terminate
the contract in the near term. We also have ongoing relationships with secondary and
tertiary suppliers who supply almost all of our remaining products and ingredients. In the
event we become unable to source any products or ingredients from our major supplier, we
believe that we would be able to produce or replace those products or substitute
ingredients from our secondary and tertiary suppliers without great difficulty or
significant increases to our cost of goods sold. Please refer to "Item 1A - Risk Factors for a discussion of risks and uncertainties associated
with our supplier relationships and with the sourcing of raw materials and ingredients.
-7-
In
2001, we established our own production facility in Shanghai, where we currently
manufacture the personal care products sold through our retail stores in China, as well as
a small portion of product that is exported to other markets. If the need arose, this
plant could be expandedor other facilities could be built in Chinato produce
larger amounts of inventory for export as a back-up to our usual supply chain.
Pharmanex.
Substantially all of our Pharmanex nutritional supplements and ingredients,
including LifePak, are produced or provided by industry-leading
third-party suppliers. We rely on two partners for the majority of our Pharmanex
products, one of which supplies approximately 35% and the other of which
supplies approximately 22% of our nutritional supplements. In the event we
become unable to source any products or ingredients from these suppliers or from
other current vendors, we believe that we would be able to produce or replace
those products or substitute ingredients without great difficulty or significant
increases to our cost of goods sold. Please refer to "Item 1A. - Risk Factors for a discussion of certain risks and uncertainties
associated with our supplier relationships, as well as with the sourcing of raw
materials and ingredients.
We
also maintain a facility located in Zhejiang Province, China, where we produce herbal
extracts for Tegreen 97, ReishiMax GLp and other products sold
globally. In 2005, we completed the build-out of a new manufacturing facility in Zhejiang
Province where we produce some of our Pharmanex nutritional supplements for sale through
our retail stores in China. Adjacent to this site, we are in the process of building a new
herbal extract plant that will replace the existing facility. We are also planning to
build a nutritional supplement manufacturing and exporting facility in China that is
scheduled to be online by mid-2008.
We
initially relied on a third-party manufacturer to produce our Scanner units, but in
December 2004 we opened a plant in Shanghai where we now manufacture the Scanners
ourselves. This facility will allow us to produce sufficient Scanners to support current
and future demands in our markets.
Big
Planet. Other than Web hosting, our on-line digital photography services and
online distributor tools, nearly all Big Planet products and services are provided by
third parties pursuant to contractual arrangements. By acting as a private-labeled agent
for other vendors, we are able to avoid the large capital investment that would be
required to build the infrastructure necessary to fulfill Big Planets product
offerings. However, our profit margins and our ability to deliver quality services at
competitive prices depend upon our ability to negotiate and maintain favorable terms with
third-party providers. In connection with our Big Planet digital photography services, we
are developing our own internal infrastructure for some of these offerings.
Research and Development
We
continually invest in our research and development capabilities. Our research and development expenditures
were approximately $6 million in 2003, $8 million in 2004 and $8 million in 2005. Because
of our commitment to product innovation, we will continue to commit resources to research
and development in the future.
Our
primary research laboratory, adjacent to our office complex in Provo, Utah, houses both
Pharmanex and Nu Skin research facilities and technical personnel. We also maintain
research facilities in China. Much of our Pharmanex research to date has been
conducted in China, where we benefit from a well-educated, low-cost labor pool that
enables us to conduct research and clinical trials at a much lower cost than would be
possible in the United States.
-8-
We
also have collaborative relationships with numerous independent scientists, including
scientific advisory boards comprised of recognized authorities in various related
disciplines for each of our nutritional and personal care product categories. We maintain
collaborative arrangements with prominent universities and research institutions in the
United States, Europe and Asia, whose staffs include scientists with expertise in natural
product chemistry, biochemistry, dermatology, pharmacology and clinical studies. Some of
the university research centers with which we have worked include UC Davis, UCLA, Stanford
University, Vanderbilt University, Tufts University, Columbia University, the University
of Kansas, the University of Hong Kong School of Medicine and Taiwan Academia Sinica.
In
addition, we evaluate a significant number of product ideas for our Nu Skin and Pharmanex
categories presented by outside sources. We utilize strategic licensing and other
relationships with vendors for access to directed research and development work.
In
order to provide high-quality nutritional supplements, Pharmanex utilizes a unique 6S
Quality Process® in our development and sourcing activities. The 6S Quality
Process enhances our ability to provide consumers with safe, effective and consistent
products and involves the following steps:
|
|
|
Selection.
Conducting a scientific review of research and databases in connection with the
selection of potential products and ingredients and determining the authenticity,
usefulness and safety standards for potential products and ingredients. |
|
|
|
Sourcing.
Investigating potential sources, evaluating the quality of sources and performing
botanical and chemical evaluations where appropriate. |
|
|
|
Structure.
Determining the structural profile of natural compounds and active ingredients. |
|
|
|
Standardization.
Standardizing the products dosage of biologically relevant active ingredients.
|
|
|
|
Safety.
Assessing safety from available research and, where necessary, performing additional
testssuch as microbial tests and chemical analysesfor toxins and heavy
metals. |
|
|
|
Substantiation.
Reviewing documented pre-clinical and clinical trials and, where necessary and
appropriate, initiating studies and clinical trials sponsored by Pharmanex. |
Geographic Sales Regions
We
currently sell and distribute our products in 41 markets, employing a direct selling model
in each of our markets except China. Our operations are divided into five geographic
regions: North Asia, Greater China, North America, South Asia/Pacific and Other Markets.
The following table sets forth the revenue for each of the geographic regions for the
years ended December 31, 2003, 2004 and 2005:
-9-
Revenue by Region
|
Year Ended December 31, | |
|
(U.S. dollars in millions) | |
2003 | |
2004 | |
2005 | |
North Asia |
|
$ 612.8 |
|
62% |
|
$ 640.1 |
|
56% |
|
$ 649.4 |
|
55% |
|
Greater China | |
135.5 |
|
14 |
|
229.8 |
|
20 |
|
236.7 |
|
20 |
|
North America | |
127.6 |
|
13 |
|
145.7 |
|
13 |
|
154.1 |
|
13 |
|
South Asia/Pacific | |
75.8 |
|
8 |
|
81.8 |
|
7 |
|
86.7 |
|
7 |
|
Other Markets | |
34.8 |
|
3 |
|
40.5 |
|
4 |
|
54.0 |
|
5 |
|
| |
$ 986.5 |
|
100% |
|
$ 1,137.9
|
|
100% |
|
$ 1,180.9 |
|
100% |
|
Additional
comparative revenue and related financial information is presented in the tables captioned
Segment Information in Note 17 to our Consolidated Financial Statements. The
information from these tables is incorporated by reference in this Report.
North
Asia. The following table provides information on each of the markets in the North
Asia region, including the year it was opened, 2005 revenue and the percentage of our
total 2005 revenue for each market:
(U.S. dollars in millions) | |
Year Opened | |
2005 Revenue | |
Percentage of
2005 Revenue | |
|
|
|
|
Japan |
|
1993 |
|
$ 562.0 |
|
48% |
|
South Korea | |
1996 | |
$ 87.4 |
|
7% |
|
| |
| |
| |
| |
Japan
is our largest market and accounted for approximately 48% of total revenue in 2005. We
market most of our Nu Skin and Pharmanex products in Japan, along with a limited number of
Big Planet offerings. In addition, all three product categories offer a limited number of
locally developed products sold exclusively in our Japanese market. In November 2004, we
launched the Scanner in Japan, completing that roll-out during 2005, and plan to launch
the new S2 Scanner in 2006. We also plan to launch g3 nutritional juice (subject to regulatory approval) and the Nu
Skin® Proderm Skin Anlayzer in 2006.
In
South Korea, we offer most of our Nu Skin and Pharmanex products, along with a limited
number of Big Planet services. During 2005, we made the Scanner available in our walk-in
centers and to distributors through the Scanner lease program.
Greater
China. The following table provides information on each of the markets in
the Greater China region, including the year it was opened, 2005 revenue and the
percentage of our total 2005 revenue for each market:
(U.S. dollars in millions) | |
Year Opened | |
2005 Revenue | |
Percentage of
2005 Revenue | |
|
|
|
|
China |
|
2003 |
|
$ 102.2 |
|
9% |
|
Taiwan | |
1992 | |
$ 92.4 |
|
8% |
|
Hong Kong | |
1991 | |
$ 42.1 |
|
4% |
|
| |
| |
| |
| |
Our
Hong Kong and Taiwan operations are aligned with our global direct selling business model
and our global compensation plan. We offer a robust product offering of the majority of
our Nu Skin and Pharmanex products in Hong Kong and Taiwan, and only limited Big Planet
products and services. The majority of our revenue in these markets comes from orders
through our monthly product subscription program, which has led to improved retention of
customers and distributors and has streamlined the ordering process.
-10-
In
China, we sell many of our Nu Skin products and a locally produced value line of personal
care products under the Scion brand name. During 2005 we began selling several key
Pharmanex products, including LifePak, and we also placed Scanners in each of our
140 retail stores. Our plans in 2006 include the launch of the S2 Scanner, g3
nutritional juice, and the Nu Skin® ProDerm Skin Analyzer.
We
currently do not operate under our global direct selling business model in China as a
result of regulatory restrictions on direct selling activities in this market.
Consequently, we have developed a retail sales model which utilizes an employed sales
force to sell products through fixed retail locations. We rely on this employed sales
force to market and sell products at the various retail locations supported by only
minimal advertising and traditional promotional efforts. Our retail model in China is
largely based upon our ability to attract customers to our retail stores through our
employed sales force, to educate them about our products through frequent training
meetings, and to obtain repeat purchases from the sales employees and their customers. Our
model only allows for product sales to be transacted within our retail stores. We
currently have 140 retail locations in operation. The compensation and salary of an
employed sales representative is determined based on a variety of factors including the
sales productivity of the sales representative and the other representatives he trains and
supervises. While our distributor leaders from other markets are able to introduce
customers and sales people to our stores, their promotional efforts are limited due to the
restrictions on direct selling in this market.
We
employed approximately 3,800 full-time sales representatives in China as of December 31,
2005. Although we enter into labor contracts with all potential new sales representatives,
only a small percentage complete the qualification process, become full-time sales
representatives and continue as such for an extended period of time. We provide these
potential new sales representatives with a minimum base pay and other labor benefits. As
of December 31, 2005, we had approximately 6,600 of such sales employees not yet
considered full-time sales representatives.
In
September of 2005, the Chinese government announced the adoption of new direct selling
regulations that allow sales away from a fixed location through independent contractors,
subject to various requirements and restrictions, including restrictions on the ability to
pay multi-level compensation. These regulations are not clear in many respects and are
subject to various interpretations. In accordance with these new regulations, we have
applied for a direct selling license. If and when we obtain a required direct selling
license, we plan to begin to adapt our current business model to include a direct selling
component that will allow us to engage independent contractors who will be able to sell
our products away from a fixed location. We currently anticipate that we will be able to
conduct direct selling in several leading provinces and municipalities by the end of 2006,
and in additional provinces and municipalities in 2007. Since the new regulations prohibit
the use of multi-level compensation plans for direct selling, these independent
contractors engaged in direct selling will be compensated for their personal selling
efforts only. We plan, however, to continue to operate our retail store/employed sales
representative model because we believe it provides us with more flexibility in the manner
in which we can operate throughout China and compensate our sales representatives given
the restrictions in the new direct selling regulations. For more information concerning
the regulatory risks associated with our operations in China, see Item 1A. Risk
Factors If recently adopted direct selling regulations in China are interpreted or
enforced by governmental authorities in a manner that negatively impacts our current
business model or our planned dual business model there, or if we are unable to obtain a
direct selling license under these regulations, our business in China would be
harmed.
-11-
In
addition, the new direct selling regulations require us to maintain service
centers in any area where we desire to conduct direct selling activities. We expect
that our retail stores and offices will qualify as service centers, but we plan to add
additional small service centers in 2006 and 2007. The number of service centers to be
added will depend upon our development strategy as well as governmental guidelines that
are still being developed at the local, provincial, city and/or district levels throughout
China.
North
America. The following table provides information on each of the markets in the
North America region, including the year it was opened, 2005 revenue and the percentage of
our total 2005 revenue for each market:
(U.S. dollars in millions) | |
Year Opened | |
2005 Revenue | |
Percentage of
2005 Revenue | |
|
|
|
|
United States |
|
1984 |
|
$ 144.5 |
|
12% |
|
Canada | |
1990 | |
$ 9.6 |
|
1% |
|
| |
| |
| |
| |
Substantially
all of our Nu Skin and Pharmanex products, as well as our Big Planet products and
services, are available for sale in the United States. The Scanner has been a significant
focus for us as an important distributor business tool in the United States since its
initial introduction in 2003. Coupled with a focus on growing monthly product subscription
revenue, the Scanner has been an important factor in the growth of our Pharmanex business
in the United States over the last few years. We plan to launch the S2 Scanner and the Nu
Skin® ProDerm Skin Analyzer during 2006.
South
Asia/Pacific. The following table provides information on each of the
markets in the South Asia/Pacific region, including the year it was opened, 2005 revenue
and the percentage of our total 2005 revenue for each market:
(U.S. dollars in millions) | |
Year Opened | |
2005 Revenue | |
Percentage of
2005 Revenue | |
|
|
|
|
Singapore/Malaysia/Brunei |
|
2000/2001/2004 |
|
$ 41.4 |
|
4% |
|
Thailand | |
1997 | |
$ 23.7 |
|
2% |
|
Australia/New Zealand | |
1993 | |
$ 13.3 |
|
1% |
|
Indonesia | |
2005 | |
$ 4.2 |
|
* |
|
Philippines | |
1998 | |
$ 4.1 |
|
* |
|
| |
| |
| |
| |
We
offer a majority of our Pharmanex and Nu Skin products but very few Big Planet products in
South Asia/Pacific. Marketing initiatives in South Asia/Pacific have centered around
monthly product subscription orders and the Scanner, which is available in many of our
walk-in centers in this region. We commenced operations in Indonesia in August 2005.
Other
Markets. The following table provides information on each of the markets in the
Other Markets region, including the year it was opened, revenue for 2005 and the
percentage of our total 2005 revenue for each market:
-12-
(U.S. dollars in millions) | |
Year Opened | |
2005 Revenue | |
Percentage of
2005 Revenue | |
|
|
|
|
Europe(1) |
|
1995 |
|
$ 46.0 |
|
4% |
|
Latin America and Other(2) | |
1994 | |
$ 8.0 |
|
1% |
|
| |
| |
| |
| |
(1) |
|
Europe
includes Austria, Belgium, Denmark, Finland, France, Germany, Hungary,
Ireland, Iceland, Israel, Italy, the Netherlands, Norway, Poland,
Portugal, Spain, Sweden and the United Kingdom. |
(2) |
|
Latin
America and Other includes Brazil, El Salvador, Guatemala, Honduras and Mexico. |
We
currently operate in 18 countries throughout Western, Southern, and Central Europe and
offer a full range of Nu Skin, Pharmanex and Big Planet products.
Over
the past year, we continued to invest in our Latin American markets. As a result, we have
seen significant growth to our business in Mexico during the past 18 months, due largely
to modifications to our compensation model there that have attracted strong distributor
leaders. We also continue to invest in our European markets and we recently commenced
operations in Hungary and Romania. We plan to commence operations in Russia during the
second quarter of 2006 and are looking into other Eastern European markets as well.
Distribution
Overview.
The foundation of our sales philosophy and distribution system is network
marketing. We sell our products through independent distributors who are not
employees, except in China where we sell our products through employed retail sales
representatives. Our distributors generally purchase products from us for resale
to consumers and for personal consumption. Because of the nature of our Big
Planet products and services, distributors buy a limited number of our Big
Planet products for resale but primarily act as independent sales
representatives for our products and receive a commission on product sales from
us.
Network
marketing is an effective vehicle to distribute our products because:
|
|
|
distributors
can educate consumers about our products in person, which we believe is more effective
for premium-quality, differentiated products than using television and print
advertisements; |
|
|
|
direct
sales allow for actual product testing by potential customers; |
|
|
|
there
is greater opportunity for distributor and customer testimonials; and |
|
|
|
as
compared to other distribution methods, our distributors can provide customers higher
levels of service and encourage repeat purchases. |
Active
distributors under our global compensation plan are those distributors who have
purchased products for resale or personal consumption during the previous three months. In
addition, we have implemented preferred customer programs in many of our
markets, which allow customers to purchase productsgenerally on a monthly product
subscription basisdirectly from us. Throughout this annual report, we include
preferred customers who have purchased products for resale or personal consumption during
the previous three months in our active distributor numbers. While preferred
customers are legally very different from distributors, both are considered customers of
our products.
-13-
Executive-level
distributors under our global compensation plan are those distributors who are most
seriously pursuing the direct selling opportunity and must achieve and maintain specified
personal and group sales volumes for a required period of time. Once an individual becomes
an executive-level distributor, he or she can begin to take full advantage of the benefits
of commission payments on personal and group sales volume. As a result of direct selling
restrictions in China, we have implemented a modified business model utilizing retail
stores and an employed sales force. (See the discussion on China in Geographic Sales
Regions.) Employed full-time sales representatives are those sales representatives
that have completed a qualification process. These sales representatives have a monthly
volume commitment that is about 50% of the dollar amount of an executive-level
distributors monthly volume commitment under our global compensation plan.
Throughout this annual report, we include full-time sales representatives in China in our
executive-level distributor numbers in order to provide some level of
comparison between our China model and our global direct selling model.
Our
revenue is highly dependent upon the number and productivity of our distributors. Growth
in sales volume requires an increase in the productivity and/or growth in the total number
of distributors. As of December 31, 2005, we had approximately 803,000 active distributors
of our products and services. Approximately 30,000 of these distributors were
executive-level distributors. As of each of the dates indicated below, we had the
following number of executive distributors in the referenced regions:
Total Number of Executive
Distributors by Region
Region | |
2003 | |
2004 | |
2005 | |
North Asia |
|
17,013 |
|
16,637 |
|
16,129 |
|
Greater China | |
5,991 |
(1) |
8,827 |
(1) |
7,134 |
(1) |
North America | |
2,861 |
|
3,099 |
|
3,443 |
|
South Asia/Pacific | |
2,175 |
|
2,076 |
|
2,043 |
|
Other Markets | |
1,091 |
|
1,377 |
|
1,722 |
|
Total | |
29,131 |
|
32,016 |
|
30,471 |
|
(1) |
|
These
numbers include employed, full-time sales representatives in China of 3,100,
5,437 and 3,787 for 2003, 2004 and 2005, respectively. |
Sponsoring.
We rely on our distributors to recruit and sponsor new distributors of our
products. While we provide Internet support, product samples, brochures,
magazines and other sales materials at cost, distributors are primarily
responsible for recruiting and educating new distributors with respect to
products, our global compensation plan and how to build a successful
distributorship.
The
sponsoring of new distributors creates multiple levels in a network marketing structure.
Individuals that a distributor sponsors are referred to as downline or
sponsored distributors. If downline distributors also sponsor new
distributors, they create additional levels in the structure, but their downline
distributors remain in the same downline network as their original sponsoring distributor.
Sponsoring
activities are not required of distributors and we do not pay any commissions for
sponsoring new distributors. However, because of the financial incentives provided to
those who succeed in building and mentoring a distributor network that resells and
consumes products, many of our distributors attempt, with varying degrees of effort and
success, to sponsor additional distributors. People are often attracted to become
distributors after using our products and becoming regular customers. Once a person
becomes a distributor, he or she is able to purchase products directly from us at
wholesale prices. The distributor is also entitled to sponsor other distributors in order
to build a network of distributors and product users. A potential distributor must enter
into a standard distributor agreement, which obligates the distributor to abide by our
policies and procedures.
-14-
Global
Compensation Plan. One of our key competitive advantages is our global sales
compensation plan. Under our global compensation plan, a distributor is paid consolidated
monthly commissions in the distributors home country, in local currency, for the
distributors own product sales and for product sales in that distributors
downline distributor network across all geographic markets. Because of restrictions on
direct selling in China, our full-time employed sales representatives there do not
participate in the global compensation plan, but are compensated according to a retail
sales model established for that market. Additionally, while global distributor leaders
are compensated based on sales activity of preferred customers and sales employees in
China, sales in China do not accrue to satisfy applicable sales volume requirements within
the global compensation plan.
Commissions
on the sale of an individual Nu Skin or Pharmanex product can reach approximately 58% of
the wholesale price. The actual payout percentage, however, varies depending on a
distributors level within the global compensation plan. On a global basis, the
overall payout on these products has typically averaged approximately 41% to 43%. We
believe that our commission payout as a percentage of total sales is among the most
generous paid by major direct selling companies.
From
time to time, we make modifications and enhancements to our global compensation plan to
help motivate distributors. In addition, we evaluate a limited number of distributor
requests on a monthly basis for exceptions to the terms and conditions of the global
compensation plan, including volume requirements. While our general policy is to
discourage exceptions, we believe that the flexibility to grant exceptions is critical in
retaining distributor loyalty and dedication.
High
Level of Distributor Incentives. Based upon managements knowledge of our
competitors distributor compensation plans, we believe our global compensation plan
is among the most financially rewarding plans offered by leading direct selling companies.
There are two fundamental ways in which our distributors can earn money:
|
|
|
through
retail markups on sales of products purchased by distributors at wholesale; and |
|
|
|
through
a series of commissions on product sales. |
Each
of our products carries a specified number of sales volume points. Commissions are based
on total personal and group sales volume points per month. Sales volume points are
generally based upon a products wholesale cost, net of any point-of-sale taxes. As a
distributors business expands to successfully sponsoring other distributors into the
businesswho in turn expand their own businessesa distributor receives a higher
percentage of commissions. An executives commissions can increase substantially as
multiple downline distributors achieve executive status. In determining commissions, the
number of levels of downline distributors included in an executives commissionable
group increases as the number of executive distributorships directly below the executive
increases.
Distributor
Support. We are committed to providing high-level support services tailored to the
needs of our distributors in each market. We attempt to meet the needs and build the
loyalty of distributors by providing personalized distributor services and by maintaining
a generous product return policy. Because the majority of our distributors are part time
and have only a limited number of hours each week to concentrate on their business, we
believe that maximizing a distributors efforts by providing effective distributor
support has been, and will continue to be, important to our success.
-15-
Through
training meetings, distributor conventions, Web-based messages, distributor focus groups,
regular telephone conference calls and other personal contacts with distributors, we seek
to understand and satisfy the needs of our distributors. We provide walk-in, telephonic
and computerized product fulfillment and tracking services that result in user-friendly,
timely product distribution. Several of our walk-in retail centers maintain meeting rooms,
which our distributors may utilize for training and sponsoring activities. Because of our
efficient distribution system, we do not believe that most of our distributors maintain a
significant inventory of our products.
Rules
Affecting Distributors. We closely monitor regulations and distributor activity in
each market to ensure our distributors comply with local laws. Our published distributor
policies and procedures establish the rules that distributors must follow in each market.
We also monitor distributor activity to maintain a level playing field for our
distributors, ensuring that some are not disadvantaged by the activities of others. We
require our distributors to present products and business opportunities ethically and
professionally. Distributors further agree that their presentations to customers must be
consistent with, and limited to, the product claims and representations made in our
literature.
Distributors
must represent to us that their receipt of commissions is based on retail sales and
substantial personal sales efforts. We must produce or pre-approve all sales aids used by
distributors such as videotapes, audiotapes, brochures and promotional clothing.
Distributors may not use any form of media advertising to promote products. Products may
be promoted only by personal contact or by literature produced or approved by us.
Distributors may not use our trademarks or other intellectual property without our
consent.
Except
in China, products generally may not be sold, and our business opportunities may not be
promoted, in traditional retail environments. We have made an exception to this rule by
allowing some of our Pharmanex products to be sold in independently owned pharmacies and
drug stores meeting specified requirements. Distributors who own or are employed by a
service-related businesssuch as a doctors office, hair salon or health
clubmay make products available to regular customers as long as products are not
displayed visibly to the general public in a manner to attract the general public into the
establishment to purchase products.
In
order to qualify for commission bonuses, our distributors generally must satisfy specific
requirements including achieving at least 100 points, which is approximately $100 in
personal sales volume per month. In addition, individual markets may have requirements
specific to that country based on regulatory concerns. For example, in the United States,
distributors must also:
-16-
|
|
|
document
retail sales or customer connections to established numbers of retail customers; and |
|
|
|
sell
and/or consume at least 80% of personal sales volume. |
We
systematically review reports of alleged distributor misbehavior. If we determine one of
our distributors has violated any of our policies or procedures, we may terminate the
distributors rights completely. Alternatively, we may impose sanctions, such as
warnings, probation, withdrawal or denial of an award, suspension of privileges of a
distributorship, fines and/or withholding of commissions until specified conditions are
satisfied, or other appropriate injunctive relief.
Product
Returns. We believe we are among the most consumer-protective companies in the
direct selling industry. While the regulations and our operations vary somewhat from
country to country, we generally follow a similar procedure for product returns. For 30
days from the date of purchase, our product return policy generally allows a retail
customer to return any Nu Skin or Pharmanex product to us directly or to the distributor
through whom the product was purchased for a full refund. After 30 days from the date of
purchase, the end users return privilege is at the discretion of the distributor.
Our distributors can generally return unused products directly to us for a 90% refund for
one year. Through 2004, our experience with actual product returns averaged less than 5%
of annual revenue.
Payment.
Distributors generally pay for products prior to shipment. Accordingly, we carry
minimal accounts receivable. Distributors typically pay for products in cash, by
wire transfer or by credit card. Cash, which represents a significant portion of
all payments, is received by order takers in the distribution centers or retail
stores in China when orders are placed.
Competition
Direct
Selling Companies. We compete with other direct selling organizations, some of
which have a longer operating history and higher visibility, name recognition and
financial resources than we do. The leading direct selling companies in our existing
markets are Avon and Alticor (Amway). We compete for new distributors on the strength of
our multiple business opportunities, product offerings, global compensation plan,
management, and our international operations. In order to successfully compete in this
market and attract and retain distributors, we must maintain the attractiveness of our
business opportunities to our distributors.
Nu
Skin and Pharmanex Products. The markets for our Nu Skin and Pharmanex products
are highly competitive. Our competitors include manufacturers and marketers of personal
care and nutritional products, pharmaceutical companies and other direct selling
organizations, many of which have longer operating histories and greater name recognition
and financial resources than we do. We compete in these markets by emphasizing the
innovation, value and premium quality of our products and the convenience of our
distribution system.
Big
Planet Products and Services. The markets for our Big Planet products and
services are also highly competitive. Many of our competitors for these products and
services have much greater name recognition and financial resources than we do. We compete
in this market by delivering products that are more user friendly than those of our
competitors, by developing unique features and product interfaces, by partnering with
leading technology vendors whose competitive positioning can assist us and by leveraging
our direct selling channel strengths. The market for technology and telecommunication
products is very price sensitive, so we rely on our ability to acquire quality services
from vendors at prices that allow our distributors to sell at competitive prices while
still generating attractive commissions.
-17-
Intellectual Property
Our
major trademarks are registered in the United States and in each country where we operate
or have plans to operate, and we consider trademark protection to be very important to our
business. Our major trademarks include Nu Skin, Pharmanex, Big Planet and LifePak.
In addition, a number of our products and tools, including the Scanner, are based on
proprietary technologies and formulations, some of which are patented or licensed from
third parties. We also rely on trade secret protection to protect our proprietary formulas
and know-how. Our business is not substantially dependent on any single licensed
technology from any third party.
Government Regulation
Direct
Selling Activities. Direct selling activities are regulated by various federal,
state and local governmental agencies in the United States and foreign countries. These
laws and regulations are generally intended to prevent fraudulent or deceptive schemes,
often referred to as pyramid schemes, that compensate participants for
recruiting additional participants irrespective of product sales, use high-pressure
recruiting methods and/or do not involve legitimate products. The laws and regulations in
our current markets often:
|
|
|
impose
cancellation/product return, inventory buy-backs and cooling-off rights for consumers and
distributors; |
|
|
|
require
us or our distributors to register with governmental agencies; |
|
|
|
impose
reporting requirements; and |
|
|
|
impose
upon us requirements, such as requiring distributors to maintain levels of retail sales
to qualify to receive commissions, to ensure that distributors are being compensated for
sales of products and not for recruiting new distributors. |
The
laws and regulations governing direct selling are modified from time to time, and, like
other direct selling companies, we are subject from time to time to government
investigations in our various markets related to our direct selling activities. This can
require us to make changes to our business model and aspects of our global compensation
plan in the markets impacted by such changes and investigations. Based on research
conducted in existing markets, the nature and scope of inquiries from government
regulatory authorities and our history of operations in those markets to date, we believe
our method of distribution complies in all material respects with the laws and regulations
related to direct selling of the countries in which we currently operate.
As
a result of restrictions in China on direct selling activities that prevent us from direct
selling our products through independent contractors, we have implemented a retail store
model utilizing an employed sales force. The regulatory environment in China is complex.
Because we operate a direct selling model outside of China, our operations in China have
attracted significant regulatory and media scrutiny since we expanded our operations there
in January 2003. China recently adopted new direct selling and anti-pyramiding regulations
that are restrictive and contain various limitations, including a restriction on the
ability to pay multi-level compensation to independent distributors. Regulations are
subject to discretionary interpretation by municipal and provincial level regulators.
Interpretations of what constitutes permissible activities by regulators can vary from
province to province and can change from time to time because of the lack of clearly
defined rules regarding direct selling activities.
-18-
Because
of the Chinese governments significant concerns about direct selling activities, it
scrutinizes very closely activities of direct selling companies. The scrutiny has
increased following adoption of the new direct selling and anti-pyramiding regulations and
our business continues to be subject to reviews and investigations by municipal and
provincial level regulators. At times, investigations and related actions by government
regulators have caused an obstruction to our ability to conduct business in certain
locations, and have resulted in a few cases in fines being paid by our company. In each of
these cases, we have been allowed to recommence operations after the governments
investigation, and no material changes to our business model were required in connection
with these fines and obstructions. We also expect to receive continued guidance and
direction as we work with regulators to address our business model and any changes we make
to comply with the new direct selling regulations. For more information on the
regulatory risks associated with our business in China, see the risk factor under
Item 1A. Risk Factors entitled Our operations in China have
been subject to significantly governmental scrutiny, and our operations in China may be
harmed by the results of such scrutiny.
In
accordance with the new direct selling regulations, we have applied for a direct selling
license. It is not clear when direct selling licenses will be issued and how the
government is processing these applications. If and when we receive a direct selling
license, we plan to augment our current business model by adding a direct selling
component that will allow us to begin to engage independent contractors who will be able
to sell our products away from a fixed location. We plan on maintaining our retail
store/employed sales representative model because we believe it provides us with more
flexibility in the manner in which we can operate throughout China and compensate our
sales representatives. For more information on the risks that these regulations could
have on our business, see the risk factor under Item 1A. Risk Factors
entitled If recently adopted direct selling regulations in China are
interpreted or enforced by governmental authorities in a manner that negatively impacts
our current business model or our planned dual business model there, or if we are unable to
obtain a direct selling license under these regulations, our business in China could be
harmed.
Regulation
of Our Products. Our Nu Skin and Pharmanex products and related promotional and
marketing activities are subject to extensive governmental regulation by numerous domestic
and foreign governmental agencies and authorities, including the FDA, the FTC, the
Consumer Product Safety Commission, the United States Department of Agriculture, State
Attorneys General and other state regulatory agencies in the United States, and the
Ministry of Health, Labor and Welfare in Japan and similar government agencies in each
market in which we operate. For example, in Japan, the Ministry of Health, Labor and
Welfare requires us to have an import business license and to register each personal care
product imported into Japan. In Taiwan, all medicated cosmetic and
pharmaceutical products require registration. In China, personal care products are placed
into one of two categories, general and drug. Products in both
categories require submission of formulas and other information with the health
authorities, and drug products require human clinical studies. The product registration
process in China for these products can take from nine to more than 18 months. Such
regulations in any given market can limit our ability to import products and can delay
product launches as we go through the registration and approval process for those
products. The sale of cosmetic products is regulated in the European Union under the
European Union Cosmetics Directive, which requires a uniform application for foreign
companies making personal care product sales.
Our
Pharmanex products are subject to various regulations in the markets in which we operate.
In the United States, laboratory analysis by governmental authorities, and the product
registration process for these products are regulated by the Food and Drug Administration.
Because our products are regulated more like foods under the Dietary Supplement and Health
Education Act, we are generally not required to obtain regulatory approval prior to
introducing a product into the United States market. None of this infringes, however, upon
the FDAs power to remove an unsafe substance from the market. In our foreign
markets, the products are generally regulated by similar government agencies, such as the
Ministry of Health and Welfare in Japan and the Department of Health in Taiwan. We
typically market our Pharmanex products in international markets as foods or health foods
under applicable regulatory regimes. In the event a product, or an ingredient in a
product, is classified as a drug or pharmaceutical product in any market, we will
generally not be able to distribute that product in that market through our distribution
channel because of strict restrictions applicable to drug and pharmaceutical products.
China has some of the most restrictive nutritional supplement product regulations.
Products marketed as health foods are subject to extensive laboratory analysis
by governmental authorities, and the product registration process for these products takes
approximately two years. We market both health foods and general
foods in China. Our flagship product, LifePak, is currently marketed as a general
food with only one of the three main capsules having received health food
classification. Currently, general foods is not an approved category for
direct selling and, therefore if final health food classification for LifePak is not
obtained for this two other capsules in the product prior to our initiation of direct selling
activities in this market, we will only market LifePak through our stores as we do today.
Additionally, there is some risk associated with the common practice in China of
marketing a product as a general food while seeking health food
classification. If government officials feel our categorization of product is inconsistent
with product claims, ingredients or function, this could limit our ability to market such
products in China in their current form.
-19-
The
markets in which we operate all have varied regulations that distinguish foods and
nutritional health supplements from drugs or pharmaceutical
products. Because of the varied regulations, some products or ingredients that are
considered a food in certain markets may be treated as a
pharmaceutical in other markets. In Japan, for example, if a specified
ingredient is not listed as a food by the Ministry of Health and Welfare, we
must either modify the product to eliminate or substitute that ingredient, or petition the
government to treat such ingredient as a food. We experience similar issues in our other
markets. As a result, we must often modify the ingredients and/or the levels of
ingredients in our products for certain markets. In some circumstances, the regulations in
foreign markets may require us to obtain regulatory approval prior to introduction of a
new product. Because of recent negative publicity associated with some supplements, such
as ephedra (which we have never marketed) and other potentially harmful
ingredients, there has been an increased movement in the United States and other markets
to expand the regulation of dietary supplements, which could impose additional
restrictions or requirements in the future.
Most
of our major markets also regulate advertising and product claims regarding the efficacy
of products. This is particularly true with respect to our dietary supplements because we
typically market them as foods or health foods. Accordingly, these regulations can limit
our ability to inform consumers of the full benefits of our products. For example, in the
United States, we are unable to claim that any of our nutritional supplements will
diagnose, cure, mitigate, treat or prevent disease. In most of our foreign markets we are
not able to make any medicinal claims with respect to our Pharmanex products.
In the United States, the Dietary Supplement Health and Education Act, however, permits
substantiated, truthful and non-misleading statements of nutritional support to be made in
labeling, such as statements describing general well-being resulting from consumption of a
dietary ingredient or the role of a nutrient or dietary ingredient in affecting or
maintaining a structure or a function of the body. Most of the other markets in which we
operate have not adopted similar legislation and we may be subject to more restrictive
limitations on the claims we can make about our products in these markets. For example, in Japan,
our nutritional supplements are
marketed as food products, which significantly limits our ability to make any claims regarding
these products. In addition,
all product claims must be substantiated.
To
date, we have not experienced any difficulty maintaining our import licenses. However, due
to the varied regulations governing the manufacture and sale of nutritional products in
the various markets, we have found it necessary to reformulate many of our products or
develop new products in order to comply with such local requirements. In the United
States, we are also subject to a consent decree with the FTC and various state regulatory
agencies arising out of investigations that occurred in the early 1990s of certain alleged
unsubstantiated product and earnings claims made by our distributors. The consent decree
requires us to, among other things, supplement our procedures to enforce our policies, not
allow our distributors to make earnings representations without making certain average
earnings disclosures, and not allow our distributors to make unsubstantiated product
claims.
-20-
Regulation
of Our Business Tools. One of our strategies is to develop
technologically-advanced business tools designed to help our distributors effectively
market our Nu Skin and Pharmanex products. For example, during the last three years we
have introduced the Scanner in many of our markets around the world. We are also
planning to introduce the Nu Skin® ProDerm Skin Analyzer in our
markets beginning in 2006. These tools are subject to the regulations of various health,
consumer protection and other governmental authorities around the world. These regulations
vary from market to market and affect whether our business tools are required to be
registered as medical devices, the claims that can be made with respect to these tools,
who can use them and where they can be used. We have been subject to regulatory inquiries
in the United States, Japan and other countries with respect to the status of the Scanner
as a non-medical device. Any determination that medical device clearance is required could
require us to expend significant time and resources in order to meet the stringent
standards imposed on medical device companies. We are also subject to regulatory
constraints on the claims that can be made with respect to the use of our business tools.
In Japan, for example, we are limited in our ability to tie the Scanner measurement
directly to the consumption of our nutrition products. We expect to face similar
regulatory issues in Japan and other markets with respect to the Nu Skin®
ProDerm Skin Analyzer as we launch it this year.
Other
Regulatory Issues. As a United States entity operating through subsidiaries in
foreign jurisdictions, we are subject to foreign exchange control, transfer pricing and
custom laws that regulate the flow of funds between our subsidiaries and us for product
purchases, management services and contractual obligations, such as the payment of
distributor commissions.
As
is the case with most companies that operate in our product categories, we receive from
time to time inquiries from government regulatory authorities regarding the nature of our
business and other issues, such as compliance with local direct selling, transfer pricing,
customs, taxation, foreign exchange control, securities and other laws. Negative publicity
resulting from inquiries into our operations by United States and state government
agencies in the early 1990s, stemming in part from alleged inappropriate product and
earnings claims by distributors, and in the late 1990s resulting from adverse media
attention in South Korea, harmed our business.
Employees
As
of December 31, 2005, we had approximately 9,000 full- and part-time employees,
approximately 3,800 of whom are employed as full-time sales representatives in our China
operations. We also had labor contracts with approximately 6,600 potential
new sales representatives, only a small percentage of whom are expected to complete the
qualification process and become full-time sales representatives. None of our employees is
represented by a union or other collective bargaining group, with the exception of the
limited number of employees involved in our operations in Brazil. We believe that our
relationship with our employees is good, and we do not foresee a shortage in qualified
personnel necessary to operate our business.
-21-
Available Information
Our
Internet address is www.nuskinenterprises.com. We make available free of charge on
or through our Internet website our annual reports on Form 10-K, quarterly reports on Form
10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished
pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as
reasonably practicable after we electronically file such material with, or furnish it to,
the Securities and Exchange Commission.
Note
Regarding Forward-Looking Statements. Certain statements made in this
filing under the caption Item 1- Business are forward-looking
statements within the meaning of Section 21E of the Securities Exchange Act of 1934,
as amended (the Exchange Act). In addition, when used in this Report the words
or phrases will likely result, expect, intend,
will continue, anticipate, estimate,
project, believe and similar expressions are intended to identify
forward-looking statements within the meaning of the Exchange Act.
Forward-looking
statements include plans and objectives of management for future operations, including
plans and objectives relating to our products and future economic performance in countries
where we operate. These forward-looking statements involve risks and uncertainties and are
based on certain assumptions that may not be realized. Actual results and outcomes may
differ materially from those discussed or anticipated. We assume no responsibility or
obligation to update these statements to reflect any changes. The forward-looking
statements and associated risks set forth herein relate to, among other things:
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our
plans with respect to the launch of the S2 Scanner and the Nu Skin® ProDerm Skin
Analyzer in various markets; |
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the
expectation that our relationship with our current primary suppliers will not end in the
near term, and the belief that we could produce or source our personal care products from
other suppliers and expand manufacturing capabilities in China, and replace our primary
suppliers of Pharmanex products without great difficulty or increased cost; |
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our
plans to build and open a nutritional supplement manufacturing facility in China for
export by mid-2008; |
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our
belief that we can produce sufficient Scanners in our new manufacturing facility in China
to support current and future demands in our markets; |
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our
plans to continue to develop new, innovative products and to improve and evolve our
existing product formulations; |
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our
plans to commit resources to research and development in the future; |
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our
belief that providing effective distributor support will be important to our success; |
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our
plans to continue to enter and expand new markets, including Russia and other Eastern
European markets; |
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our
plans to add a direct selling component to our business model in China; and |
-22-
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our
belief that we do not currently foresee a shortage in qualified personnel necessary to
operate our business. |
These
and other forward-looking statements are subject to various risks and uncertainties
including those described below under Risk Factors and in Item 7.
Managements Discussion and Analysis of Financial Condition and Results of
Operations.
We
face a number of substantial risks. Our business, financial condition or results of
operations could be harmed by any of these risks. The trading price of our common stock
could decline due to any of these risks, and they should be considered in connection with
the other information contained in this Annual Report on Form 10-K. These risk factors
should be read together with the other items in this Annual Report on Form 10-K, including
Item 1. Business and Item 7. Managements Discussion and Analysis
of Financial Condition and Results of Operations.
Currency exchange rate
fluctuations could lower our revenue and net income.
In
2005, we recognized approximately 88% of our revenue in markets outside of the United
States in each markets respective local currency. We purchase inventory primarily in
the United States in U.S. dollars. In preparing our financial statements, we translate
revenue and expenses in foreign countries from their local currencies into U.S. dollars
using weighted-average exchange rates. If the U.S. dollar strengthens relative to local
currencies, particularly the Japanese yen inasmuch as we generated approximately 48% of
our 2005 revenue in Japan, our reported revenue, gross profit and net income will likely
be reduced. During the latter-half of 2005, we experienced a significant weakening of the
Japanese yen, which harmed our results. Given the global, complex political and economic
dynamics that affect exchange rate fluctuations, we cannot estimate future fluctuations
and the effect these fluctuations may have upon future reported results or our overall
financial condition. In the event the Japanese yen or other foreign currencies continue to
weaken or do not return to previous levels, our results in 2006 would be negatively
impacted. Although we attempt to reduce our exposure to short-term exchange rate
fluctuations by using foreign currency exchange rate contracts for the Japanese yen, we
cannot be certain these contracts or any other hedging activity will effectively reduce
exchange rate exposure. In addition, the Chinese government has recently allowed the yuan
to float against the U.S. dollar to a small degree, which will result in exchange rate
risk for our Chinese operations as well.
Because our Japanese operations
account for a majority of our business, adverse changes in our business operations in
Japan would harm our business.
Approximately
48% of our 2005 revenue was generated in Japan. We have experienced some softness in our
business in this market during the past six months, and many of our competitors have seen
their businesses in this market contract in the last few years. We believe our operating
results have been negatively impacted by a variety of factors, including the unanticipated
impact of compensation plan changes, regulatory issues, as well as economic and political
conditions. In addition, we continue to face increasing competition from existing and new
competitors in Japan. Our financial results would be harmed if our products, business
opportunity or planned growth initiatives do not retain and generate continued interest
and enthusiasm among our distributors and consumers in this market. If the BioPhotonic
Scanner, the ProDerm Skin Analyzer and other planned initiatives are delayed, impacted by regulatory constraints or
do not generate
distributor excitement or attract new distributors or customers in Japan, it may limit our
prospects for growth in that market and harm our financial results.
-23-
If we are unable to retain our
existing independent distributors and recruit additional distributors, our revenue will
not increase and may even decline.
We
distribute almost all of our products through our independent distributors (including
China sales representatives) and we depend on them to generate virtually all of our
revenue. Our distributors may terminate their services at any time, and, like most direct
selling companies, we experience high turnover among distributors from year to year. As a
result, in order to maintain sales and increase sales in the future, we need to continue
to retain existing distributors and recruit additional distributors. To increase our
revenue, we must increase the number of and/or the productivity of our distributors.
We
have experienced periodic declines in both active distributors and executive distributors
in the past. The number of our active and executive distributors may not increase and
could decline again in the future. While we take many steps to help train, motivate and
retain distributors, we cannot accurately predict how the number and productivity of
distributors may fluctuate because we rely primarily upon our distributor leaders to
recruit, train and motivate new distributors. Our operating results could be harmed if we
and our distributor leaders do not generate sufficient interest in our business to retain
existing distributors and attract new distributors.
The number and productivity of our distributors also depends on several additional
factors, including:
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any
adverse publicity regarding us, our products, our distribution channel or our competitors; |
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a
lack of interest in, or the technical failure of, existing or new products; |
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the
public's perception of our products and their ingredients; |
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the
public's perception of our distributors and direct selling businesses in general; |
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our
actions to enforce our policies and procedures; |
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general
economic and business conditions; and |
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potential
saturation or maturity levels in a given country or market which could negatively impact
our ability to attract and retain distributors in such market. |
Our
operating results could be adversely affected if our existing and new business
opportunities and incentives, products, business tools and other initiatives do not
generate sufficient enthusiasm and economic incentive to retain our existing distributors
or to sponsor new distributors on a sustained basis. For example, the introduction of the
Scanner, changes in compensation incentives (particularly in the United States) and focus
on automatic delivery programs have helped generate growth in many of our markets. There
can be no assurance that such initiatives will generate excitement among our distributors
in the long-term or that planned initiatives tied to the Scanner in markets like the
United States, where the Scanner was introduced more than three years ago, will be
successful in maintaining distributor activity and productivity. In addition, some
initiatives may have unanticipated negative impacts on our markets. For example, during
the past year certain modifications we made to compensation incentives in China, Japan and
Singapore were not received or understood well by some distributors, resulting in
unanticipated negative impacts on distributor numbers and revenue in these markets. The
introduction of a new product or key initiative such as the Scanner can also negatively
impact other product lines to the extent our distributor leaders focus their efforts on
the new product or initiative.
-24-
Our operations in China have been
subject to significant governmental scrutiny, and our operations in China may be harmed by
the results of such scrutiny.
Because of the governments
significant concerns about direct selling activities, government regulators in China
scrutinize very closely activities of direct selling companies or activities that resemble
direct selling. This scrutiny has increased following adoption of the new direct selling
and anti-pyramiding regulations. In the past, the government has taken significant actions
against companies that the government found were engaging in direct selling activities in
violation of applicable law, including shutting down their businesses and imposing
substantial fines. Although China has recently adopted new direct selling regulations,
which will allow direct selling activities by companies who have received the appropriate
direct selling licenses, we have not received such licenses or authorizations yet.
Consequently, we have not implemented our direct sales model in China, but are continuing
to use a business model that utilizes retail stores and an employed sales force that we
believe complies with applicable regulations. Frequently, individuals, including our
competitors, complain to local regulatory agencies that our China business model violates
applicable regulations on direct selling. In addition, some of our distributors from
outside of China and some of our employed sales representatives have engaged in activities
in this market that violated our policies. As a result, we have been subject to, and
continue to be subject to, various inquires and investigations by local and provincial
regulators regarding our business model and the activities of our sales representatives.
These reviews and investigations by government regulators have at times obstructed our
ability to conduct business and have resulted in several cases in fines being paid by us,
which in the aggregate have been less than 1% of our revenue in China. We may incur similar or more severe sanctions in the future.
Occasionally, we have also been asked to cease sales activity in some stores while the
regulators review our operations. While, in each of these cases, we have been allowed to
recommence operations after the governments review without material changes to our
operations, there is no assurance that this will always be the case. Our operations or
results of operations also could be harmed if the results of current reviews or
investigations of our operations or activities of our sales representatives delay or
impact our ability to obtain a direct selling license.
With
the adoption of new direct selling and anti-pyramiding regulations, the regulatory
environment in China is evolving, and officials in the Chinese government often exercise
significant discretion in deciding how to interpret and apply applicable regulations.
Although we have worked closely with both national and local governmental agencies in
implementing our plans, our efforts to comply with local laws may be harmed by the rapidly
evolving regulatory climate, concerns about activities resembling direct selling, and any
subjective or restrictive interpretation of applicable laws as discussed below, including
the new direct selling regulations. Any determination that our operations or activities,
or the activities of our employed sales representatives or distributors living outside of
China, are not in compliance with applicable regulations could result in the imposition of
substantial fines, extended interruptions of business, restrictions on our ability to
obtain a direct selling license, open new stores or obtain approvals for service centers
or expand into new locations, changes to our business model, the termination of required
licenses to conduct business, limitations on the number of sales persons we can employ, or
other actions, all of which would harm our business.
If recently adopted direct selling
regulations in China are interpreted or enforced by governmental authorities in a manner
that negatively impacts our current business model or our planned dual business model there,
or if we are unable to obtain a direct selling license under these regulations, our
business in China would be harmed.
Towards
the end of 2005, Chinese regulators adopted anti-pyramiding and new direct selling
regulations. These regulations contain significant restrictions and limitations, including
a restriction on multi-level compensation for independent distributor selling away from a
fixed location. Although we have applied for a direct selling license and anticipate that
we will be able to obtain a direct selling license under these regulations, there can be
no assurance that we will be able to obtain such a license. The timing, the factors taken
into consideration and the process that the government will follow in processing
applications and granting direct selling licenses are not clear, and our future growth in
China could be harmed if we do not receive a direct selling license, or if the direct
selling application process is delayed further than anticipated. These new regulations are
not yet well understood, and there continues to be some confusion and uncertainty as to
the meaning of the new regulations and their scope, and the specific types of restrictions
and requirements imposed under them. It is also difficult to predict how regulators will
interpret and enforce these new regulations and the impact of these new regulations on
pending regulatory reviews and investigations. Our business and our growth prospects would
be harmed if Chinese regulators interpret the anti-pyramiding regulations or direct
selling regulations as applying to our retail store/employed sales representative business
model, or if regulations are interpreted in such a manner that our current method of
conducting business through the use of employed sales representatives or our planned
implementation of direct selling is found to violate applicable regulations. In
particular, our business would be harmed by any determination that our current method of
compensating our sales employees, including our use of the sales productivity of a sales
employee and the group of sales employees whom he or she trains and supervises as one of the
factors in establishing such sales employee's salary and compensation, violates the restriction on
multi-level compensation in the new regulations. Our business could also be harmed if
regulators inhibit our ability to concurrently operate our retail store/employed sales
representative business model and our planned direct selling business. In addition, there
can be no assurance that we will be able to successfully grow our business through direct
selling activities given the restrictive nature of the new direct selling regulations.
If we are unable to obtain approvals for service centers in China as quickly as we
would like, our ability to grow our business there could be negatively impacted.
-25-
The
new direct selling regulations and supplemental rules recently adopted in China require us
to establish a service center in each area where we conduct direct selling activities. We
will be required to obtain approval from local governmental authorities for each service
center we intend to establish. The local approval processes vary and remain uncertain in
some areas. The local governmental officials also have broad discretion in approving these
service centers. If regulators fail to approve licenses for service centers at a rate that
meets our growth demands, this could limit our ability to obtain direct selling licenses
in some provinces and harm our business.
Intellectual property rights are
difficult to enforce in China.
Chinese
commercial law is relatively undeveloped compared to most of our other major markets, and,
as a result, we may have limited legal recourse in the event we encounter significant
difficulties with patent or trademark infringers. Limited protection of intellectual
property is available under Chinese law, and the local manufacturing of our products may
subject us to an increased risk that unauthorized parties may attempt to copy or otherwise
obtain or use our product formulations. As a result, we cannot assure you that we will be
able to adequately protect our product formulations.
If the BioPhotonic Scanner is
determined to be a medical device in a particular geographic market or if our distributors
use it for medical diagnostic purposes, this could harm our ability to utilize it.
In
March 2003, the FDA questioned the status of the BioPhotonic Scanner as a non-medical
device. We subsequently filed an application with the FDA to have it classified as a
non-medical device. The FDA has not yet acted on our application. There are various
factors that could determine whether the BioPhotonic Scanner is a medical device including
the claims that we or our distributors make about it. We have faced similar uncertainties
and regulatory issues in other markets with respect to the status of the BioPhotonic
Scanner as a non-medical device and the claims that can be made in using it. For example,
during the past year we faced regulatory inquiries in Japan, Korea and Singapore regarding
distributor claims with respect to the Scanner. A determination in any of these markets
that it is a medical device or that distributors are using it to make medical claims or
perform medical diagnoses could negatively impact our plans for or use of the BioPhotonic
Scanner in such market. Regulatory scrutiny of the Scanner may also dampen distributor
enthusiasm and hinder the ability of distributors to effectively utilize the Scanner. In
the event medical device clearance is required in any market, obtaining clearance could
require us to provide documentation concerning its clinical utility and to make some
modifications to its design, specifications and manufacturing process in order to meet
stringent standards imposed on medical device companies. There can be no assurance we
would be able to provide such documentation and make such changes promptly or in a manner
that is satisfactory to regulatory authorities.
-26-
Technical and regulatory issues
associated with the Nu Skin® ProDerm Skin Analyzer
could negatively impact the success of this program, which could harm our business.
Our
plans to introduce the Nu Skin® ProDerm Skin Analyzer in our various
markets are subject to risks and uncertainties. We are currently in the process of
finalizing the hardware and software design specifications, and if we experience
difficulties or delays in completing this process that prevent us from meeting our launch
schedules, our business may be harmed. Our plans are also subject to regulatory risks,
particularly in Japan, where we are currently working through the regulatory process for
the planned introduction of the ProDerm Skin Analyzer in that market. It appears
that regulatory restrictions in Japan may impose limitations on the use of this tool and
on claims that may be made in connection with its use. Such limitations in Japan or any
other markets could weaken the ability of our distributors to utilize this tool in
building their businesses, and could dampen distributor enthusiasm surrounding it.
Governmental regulations relating
to the marketing and advertising of our products and services, in particular our
nutritional supplements, may restrict or inhibit our ability to sell these products.
Our
products and our related marketing and advertising efforts are subject to extensive
governmental regulations by numerous domestic and foreign governmental agencies and
authorities. These include the FDA, the FTC, the Consumer Product Safety Commission and
the Department of Agriculture in the United States, State Attorneys General and other
state regulatory agencies and the Ministry of Health, Labor and Welfare in Japan along
with similar governmental agencies in other foreign markets where we operate.
Our
markets have varied regulations concerning product formulation, labeling, packaging and
importation. These laws and regulations often require us to, among other things:
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reformulate
products for a specific market to meet the specific product formulation laws of that
country; |
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conform
product labeling to the regulations in each country; and |
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register
or qualify products with the applicable governmental authority or obtain necessary
approvals or file necessary notifications for the marketing of our products. |
Restrictions
on or our ability to introduce products, or delays in introducing products, could reduce
revenue and decrease profitability. Regulators also may prohibit us from making
therapeutic claims about products, regardless of the existence of research and independent
studies that may support such claims. These product claim restrictions could prevent us
from realizing the potential revenue from some of our products.
-27-
Recent negative publicity
concerning supplements with certain controversial ingredients has spurred efforts to
change existing laws and regulations with respect to nutritional supplements that, if
successful, could result in more restrictive and burdensome regulations.
There
have been some recent injuries and deaths that have been attributed to the use of
nutritional supplements that contain ephedra (which we have never sold) and other
controversial ingredients that have generated negative publicity. Because of this negative
publicity, there has been an increasing movement in the United States and other markets to
increase the regulation of dietary supplements which could impose additional restrictions
or requirements in the future. Although we are committed to not market nutritional
supplements that contain any substances such as ephedra that are controversial and that
could pose health risks, our operations could be harmed if governmental laws or
regulations are enacted that restrict the ability of companies to market or distribute
nutritional supplements or impose additional burdens or requirements on nutritional
supplement companies as a result of public reaction to the recent injuries and deaths
caused by supplements that do contain such ingredients.
If we are unable to successfully
expand operations in any of the new markets we have currently targeted, we may have
difficulty achieving our long-term objectives.
A
significant percentage of our revenue growth over the past decade has been attributable to
our expansion into new markets. For example, the revenue growth we experienced in 2003 and
2004 was due in part to our successful expansion of operations into China. Moreover, our
growth over the next several years depends in part on our ability to successfully
introduce our products and our distribution system into new markets, including Russia and
further development of China and Eastern Europe. In addition to the regulatory
difficulties we may face in gaining access into these new markets, we could face
difficulties in achieving acceptance of our premium-priced products in developing markets.
In the past, we have struggled to operate successfully in developing country markets, such
as Latin America. This may also be the case in Eastern Europe and the other new markets
into which we currently intend to expand. If we are unable to successfully expand our
operations into these new markets, our opportunities to grow our business may be limited,
and, as a result, we may not be able to achieve our long-term objectives. In
addition, sometimes the opening of a new market or the introduction of a key initiative in
a market can have a negative impact on other markets if it attracts the attention and time
of key executive distributor leaders from other markets.
Global political issues
and conflicts could harm our business.
Because
a substantial portion of our business is conducted outside of the United States, our
business is subject to global political issues and conflicts, including terrorism threats,
tensions related to North Korea, political tensions between the Peoples Republic of
China and Taiwan, and other issues. If these conflicts or issues escalate, or if there is
increased anti-American sentiment, this could harm our foreign operations. In addition,
changes and actions by governments in foreign markets, in particular those markets such as
China where capitalism and free market trading is still evolving, could harm our business.
Adverse publicity concerning our
business, marketing plan or products could harm our business and reputation.
The
size of our distribution force and the results of our operations can be particularly
impacted by adverse publicity regarding us, the legality of our distributor network, our
products or the actions of our distributors. Specifically, we are susceptible to adverse
publicity concerning:
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suspicions
about the legality and ethics of network marketing; |
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the
ingredients or safety of our or our competitors' products; |
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regulatory
investigations of us, our competitors and our respective products; |
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the
actions of our current or former distributors; and |
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public
perceptions of direct selling businesses generally. |
In
addition, in the past we have experienced negative publicity that has harmed our business
in connection with regulatory investigations and inquiries. We may receive negative
publicity in the future, and it may harm our business and reputation.
Although our distributors are
independent contractors, improper distributor actions that violate laws or regulations
could harm our business.
Distributor
activities in our existing markets that violate governmental laws or regulations could
result in governmental actions against us in markets where we operate. Except in China,
our distributors are not employees and act independently of us. We implement strict
policies and procedures to ensure our distributors will comply with legal requirements.
However, given the size of our distributor force, we experience problems with distributors
from time to time. For example, product claims made by some of our distributors in 1990
and 1991 led to an investigation by the FTC, which resulted in our entering into a consent
decree with the FTC as described below.
Inability of new products to gain
distributor and market acceptance could harm our business.
A
critical component of our business is our ability to develop new products that create
enthusiasm among our distributor force. If we are unable to introduce new products planned
for introduction, our distributor productivity could be harmed. In addition, if any new
products fail to gain market acceptance, are restricted by regulatory requirements or have
quality problems, this would harm our results of operations. Factors that could affect our
ability to continue to introduce new products include, among others, government
regulations, the inability to attract and retain qualified research and development staff,
the termination of third-party research and collaborative arrangements, proprietary
protections of competitors that may limit our ability to offer comparable products and the
difficulties in anticipating changes in consumer tastes and buying preferences.
Government inquiries,
investigations, and actions could harm our business.
From
time to time, we receive formal and informal inquiries from various government regulatory
authorities about our business and our compliance with local laws and regulations. Any
determination that we or our distributors are not in compliance with existing laws or
regulations could potentially harm our business. Even if governmental actions do not
result in rulings or orders, they potentially could create negative publicity which could
detrimentally affect our efforts to recruit or motivate distributors and attract customers
and, consequently, reduce revenue and net income.
In
the early 1990s, we entered into voluntary consent agreements with the FTC and a few state
regulatory agencies relating to investigations of our distributors product claims
and practices. These investigations centered on alleged unsubstantiated product and
earnings claims made by some of our distributors. We believe that the negative publicity
generated by this FTC action, as well as a subsequent action in the mid-1990s related to
unsubstantiated product claims, harmed our business and results of operations in the
United States. Pursuant to the consent decrees, we agreed, among other things, to
supplement our procedures to enforce our policies, to not allow distributors to make
earnings representations without making additional disclosures relating to average
earnings and to not make, or allow our distributors to make, product claims that were not
substantiated. We have taken various actions, including implementing a more generous
inventory buy-back policy, publishing average distributor earnings information,
supplementing our procedures for enforcing our policies, and reviewing distributor product
sales aids, to address the issues raised by the FTC and state agencies in these
investigations. As a result of the previous investigations, the FTC makes inquiries from
time to time regarding our compliance with applicable laws and regulations and our consent
decree. Any further actions by the FTC or other comparable state or federal regulatory
agencies, in the United States or abroad, could have a further negative impact on us in
the future.
-29-
In
addition, we are susceptible to government-initiated campaigns that do not rise to the
level of formal regulations. For example, the South Korean government, several South
Korean trade groups and members of the South Korean media initiated campaigns in 1997 and
1998 urging South Korean consumers not to purchase luxury or foreign goods. We believe
that these campaigns and the related media attention they received, together with the
economic recession that occurred in the late 1990s in the South Korean economy,
significantly harmed our South Korean business. We cannot assure you that similar
government, trade group or media actions will not occur again in South Korea or in other
countries where we operate or that such events will not similarly harm our operations.
The loss of key high-level
distributors could negatively impact our distributor growth and our revenue.
As
of December 31, 2005, we had approximately 803,000 active independent distributors, sales
representatives and preferred customers, including approximately 30,000 executive level
distributors or full-time sales representatives. Approximately 446 distributors occupied
the highest distributor level under our global compensation plan as of that date. These
distributors, together with their extensive networks of downline distributors, account for
substantially all of our revenue. As a result, the loss of a high-level distributor or a
group of leading distributors in the distributors network of downline distributors,
whether by their own choice or through disciplinary actions by us for violations of our
policies and procedures, could negatively impact our distributor growth and our revenue.
Laws and regulations may prohibit
or severely restrict our direct sales efforts and cause our revenue and profitability to
decline.
Various
government agencies throughout the world regulate direct sales practices. These laws and
regulations are generally intended to prevent fraudulent or deceptive schemes, often
referred to as pyramid schemes, that compensate participants for recruiting
additional participants irrespective of product sales, use high pressure recruiting
methods and/or do not involve legitimate products. The laws and regulations in our current
markets often:
|
|
|
impose
order cancellations, product returns, inventory buy-backs and cooling-off rights for
consumers and distributors; |
|
|
|
require
us or our distributors to register with governmental agencies; |
|
|
|
impose
reporting requirements to regulatory agencies; and/or |
|
|
|
require
us to ensure that distributors are not being compensated based upon the recruitment of
new distributors. |
-30-
Complying
with these widely varying and sometimes inconsistent rules and regulations can be
difficult and require the devotion of significant resources on our part. If we are unable
to continue business in existing markets or commence operations in new markets because of
these laws, our revenue and profitability will decline. Countries where we currently do
business could change their laws or regulations to negatively affect or prohibit
completely direct sales efforts. In addition, government agencies and courts in the
countries where we operate may use their powers and discretion in interpreting and
applying laws in a manner that limits our ability to operate or otherwise harms our
business. If any governmental authority were to bring a regulatory enforcement action
against us that interrupts our business, revenue and earnings would likely suffer.
Challenges by private parties to
the form of our network marketing system could harm our business.
We
may be subject to challenges by private parties, including our distributors, to the form
of our network marketing system or elements of our business. In the United States, the
network marketing industry and regulatory authorities have generally relied on the
implementation of distributor rules and policies designed to promote retail sales to
protect consumers and to prevent inappropriate activities and to distinguish between
legitimate network marketing distribution plans and unlawful pyramid schemes. We have
adopted rules and policies based on case law, rulings of the FTC, discussions with
regulatory authorities in several states and domestic and global industry standards. Legal
and regulatory requirements concerning network marketing systems, however, involve a high
level of subjectivity, are inherently fact-based and are subject to judicial
interpretation. Because of the foregoing, we can provide no assurance that we would not be
harmed by the application or interpretation of statutes or regulations governing network
marketing, particularly in any civil challenge by a current or former distributor.
Increases
in duties on our imported products in our markets outside of the United States or adverse results of tax audits in our various markets
could
reduce our revenue, negatively impact our operating results and harm our competitive position.
Historically, we have
imported most of our products into the countries in which they are ultimately sold. These
countries impose various legal restrictions on imports and typically
impose duties on our products. We are subject from time to time to reviews and audits by
the foreign taxing authorities of the various jurisdictions in which we conduct business
throughout the world. These audits sometimes result in challenges by such taxing
authorities as to our methodologies used in determining our income tax, duties, customs,
and other amounts owed in connection with the importation and distribution of our
products. Currently, customs audits are underway in a number of our markets. We were
recently assessed by the Japan customs authorities for additional duties on products
imported into Japan, and we are currently contesting this assessment. Audits are also
often focused on whether or not certain expenses are deductible for tax purposes in a
given country. In Taiwan, we are currently subject to an audit by tax authorities with
respect to the deductibility of distributor commission expenses in that market. In order
avoid the running of the statute of limitations with respect to the 1999 and 2000 tax
years, the Taiwan tax authorities have disallowed our commission expense deductions for
those years and assessed us a total of approximately $18.7 million. We are contesting this
assessment and are in discussions with the tax authorities in an effort to resolve this
matter. To the extent we are unable to successfully defend ourselves against such audits
and reviews, we may be required to pay assessments and penalties and increased duties,
which may, individually or in the aggregate, negatively impact our gross margins and
operating results.
-31-
Governmental authorities may
question our intercompany transfer pricing policies or change their laws in a manner that
could increase our effective tax rate or otherwise harm our business.
As
a U.S. company doing business in international markets through subsidiaries, we are
subject to foreign tax and intercompany pricing laws, including those relating to the flow
of funds between our company and our subsidiaries. Regulators in the United States and in
foreign markets closely monitor our corporate structure and how we effect intercompany
fund transfers. If regulators challenge our corporate structure, transfer pricing
mechanisms or intercompany transfers, our operations may be harmed, and our effective tax
rate may increase. Tax rates vary from country to country, and, if regulators determine
that our profits in one jurisdiction may need to be increased, we may not be able to fully
utilize all foreign tax credits that are generated, which will increase our effective tax
rate. For example, our corporate income tax rate in the United States is 35%. If our
profitability in a higher tax jurisdiction, such as Japan where the corporate tax rate is
currently set at 46%, increases disproportionately to the rest of our business, our
effective tax rate may increase. The various customs, exchange control and transfer
pricing laws are continually changing and are subject to the interpretation of
governmental agencies. Despite our efforts to be aware of and comply with such laws and
changes to and interpretations thereof, there is a risk that we may not continue to
operate in compliance with such laws. We may need to adjust our operating procedures in
response to such changes, and as a result our business may suffer.
The loss of suppliers could harm
our business.
For
approximately ten years, we have acquired ingredients and products from a supplier that
currently manufactures approximately 31% of our Nu Skin personal care products. In
addition, we currently rely on two suppliers for a majority of Pharmanex nutritional
supplement products, one of which supplies approximately 35% and the other of which
supplies approximately 22%. In the event we were to lose any of these suppliers and
experience any difficulties in finding or transitioning to alternative suppliers, this
could harm our business. In addition, we obtain some of our products from sole suppliers.
We also license the right to distribute some of our products from third parties. Although
none of these products individually represent a substantial portion of our revenue, in the
event we are unable to renew these contracts, we may need to discontinue some products or
develop substitute products, which could harm our revenue. In addition, if we experience
supply shortages or regulatory impediments with respect to the raw materials and
ingredients we use in our products, we may need to seek alternative supplies or suppliers.
If we are unable to successfully respond to such issues our business could be harmed.
Production difficulties
and quality control problems could harm our business.
Occasionally,
we have experienced production difficulties with respect to our products, including the
delivery of products that do not meet our quality control standards. These quality
problems have resulted in the past, and could result in the future, in stock outages or
shortages in our markets with respect to products, harming our sales and creating
inventory write-offs for unusable product. In addition, these issues can negatively impact
distributor confidence as well as potentially invite additional governmental scrutiny in
our various markets.
We depend on our key personnel,
and the loss of the services provided by any of our executive officers or other key
employees could harm our business and results of operations.
Our
success depends to a significant degree upon the continued contributions of our senior
management, many of whom would be difficult to replace. These employees may voluntarily
terminate their employment with us at any time. We may not be able to successfully retain
existing personnel or identify, hire and integrate new personnel. We do not carry key
person insurance for any of our personnel. Although we have signed offer letters or
written agreements summarizing the compensation terms for some of our senior executives,
we have generally not entered into formal employment agreements with our executive
officers. If we lose the services of our executive officers or key employees for any
reason, our business, financial condition and results of operations could be harmed.
-32-
Our markets are intensely
competitive, and market conditions and the strengths of competitors may harm our business.
The
markets for our products are intensely competitive. Our results of operations may be
harmed by market conditions and competition in the future. Many competitors have much
greater name recognition and financial resources than we have, which may give them a
competitive advantage. For example, our Nu Skin products compete directly with branded,
premium retail products. We also compete with other direct selling organizations. The
leading direct selling companies in our existing markets are Avon and Alticor (Amway). We
currently do not have significant patent or other proprietary protection, and our
competitors may introduce products with the same ingredients that we use in our products.
Because of regulatory restrictions concerning claims about the efficacy of dietary
supplements, we may have difficulty differentiating our products from our
competitors products, and competing products entering the nutritional market could
harm our nutritional supplement revenue.
We also compete with other network marketing companies for distributors. Some of these
competitors have a longer operating history and greater visibility, name recognition and
financial resources than we do. Some of our competitors have also adopted and could
continue to adopt some of our successful business strategies, including our global
compensation plan for distributors. Consequently, to successfully compete in this market
and attract and retain distributors, we must ensure that our business opportunities and
compensation plans are financially rewarding. We have over 20 years of experience in this
market and believe we have significant competitive advantages, but we cannot assure you
that we will be able to successfully compete in every endeavor in this market.
Product liability claims could
harm our business.
We
may be required to pay for losses or injuries purportedly caused by our products. Although
we have had a very limited product claims history, we have recently experienced difficulty
in finding insurers that are willing to provide product liability coverage at reasonable
rates due to insurance industry trends and the rising cost of insurance generally. As a
result, we have elected to self-insure our product liability risks for our core product
lines. Until we elect and are able to obtain product liability insurance, if any of our
products are found to cause any injury or damage, we will be subject to the full amount of
liability associated with any injuries or damages. This liability could be substantial. We
cannot predict if and when product liability insurance will be available to us on
reasonable terms.
System failures could harm our
business.
Because
of our diverse geographic operations and our complex distributor compensation plan, our
business is highly dependent on efficiently functioning information technology systems.
These systems and operations are vulnerable to damage or interruption from fires,
earthquakes, telecommunications failures and other events. They are also subject to
break-ins, sabotage, intentional acts of vandalism and similar misconduct. We have adopted
a Business Continuity/Disaster Recovery Plan, which is in the process of being
implemented. Our primary data sets are archived and stored at third-party secure sites,
but we have not contracted for a third-party recovery site. Despite any precautions, the
occurrence of a natural disaster or other unanticipated problems could result in
interruptions in services and reduce our revenue and profits.
-33-
There is uncertainty whether the
SARS or other epidemics could return or arise, particularly in those Asian markets most
affected by such epidemics in recent years.
Our
revenue was negatively impacted in 2003 by the SARS epidemic that hit Asia during that
year. It is difficult to predict the impact on our business, if any, of a recurrence of
SARS or other epidemic or the emergence of new epidemics. Although such an event could
generate increased sales of health/immune supplements and certain personal care products,
our direct selling and retail activities and results of operations could be harmed if the
fear of SARS or other communicable diseases that spread rapidly in densely populated areas
causes people to avoid public places and interaction with one another.
The market price of our Class A
common stock is subject to significant fluctuations due to a number of factors that are
beyond our control.
Our
Class A common stock closed at $20.15 per share on March 31, 2004 and closed at $18.08 per
share on February 28, 2006. During this two-year period, our Class A common stock traded
as low as $15.35 per share and as high as $28.15 per share. Many factors could cause the
market price of our Class A common stock to fall. Some of these factors include:
|
|
|
fluctuations
in our quarterly operating results; |
|
|
|
the
sale of shares of Class A common stock by our original or significant stockholders; |
|
|
|
general
trends in the market for our products; |
|
|
|
acquisitions
by us or our competitors; |
|
|
|
economic
and/or currency exchange issues in those foreign countries in which we operate; |
-34-
|
|
|
changes
in estimates of our operating performance or changes in recommendations by securities
analysts; and |
|
|
|
general
business and political conditions. |
Broad
market fluctuations could also lower the market price of our Class A common stock
regardless of our actual operating performance.
As of February 28, 2006, our
original stockholders, together with their family members, estate planning entities and
affiliates, controlled approximately 26% of the combined stockholder voting power, and
their interests may be different from yours.
The
original stockholders of our company, together with their family members and affiliates,
have the ability to influence the election and removal of the board of directors and, as a
result, future direction and operations of our company. As of February 28, 2006, these
stockholders owned approximately 26% of the voting power of the outstanding shares of
Class A common stock. Accordingly, they may influence decisions concerning business
opportunities, declaring dividends, issuing additional shares of Class A common stock or
other securities and the approval of any merger, consolidation or sale of all or
substantially all of our assets. They may make decisions that are adverse to your
interests.
If our stockholders sell a
substantial number of shares of our Class A common stock in the public market, the market
price of our Class A common stock could fall.
Several
of our principal stockholders hold a large number of shares of the outstanding Class A
common stock. Any decision by any of our principal stockholders to aggressively sell their
shares could depress the market price of our Class A common stock. As of February 28,
2006, we had approximately 70.2 million shares of Class A common stock outstanding. All of
these shares are freely tradable, except for approximately 18 million shares held by
certain stockholders who participated in our October 2003 recapitalization transaction
wherein we repurchased approximately 10.8 million of our shares from our original
stockholders and their affiliates and facilitated their resale of approximately 6.2
million additional shares to a group of private equity investors. Under the terms of our
repurchase, our original stockholders agreed to a two-year lock-up that expired on
October 22, 2005. These stockholders also agreed that, after the expiration of the
two-year lock-up agreement in October 2005, they will be subject to certain volume
limitations with respect to open market transactions. In the event these lock-up
restrictions were removed, the resulting sales could cause the price of our Class A common
stock to decline.
ITEM 1B. |
|
UNRESOLVED STAFF COMMENTS |
None.
Our
principal properties consist of the following:
Operational
Facilities. These facilities include administrative offices, walk-in centers, and
warehouse/distribution centers. Our operational facilities measuring 50,000 square feet or
more include the following:
|
|
|
our
worldwide headquarters in Provo, Utah; |
|
|
|
our
worldwide distribution center/warehouse in Provo, Utah; and |
-35-
|
|
|
our
distribution center in Tokyo, Japan. |
Manufacturing Facilities. Each of
our manufacturing facilities measure 50,000 square feet or more, and include the
following:
|
|
|
our
nutritional supplement manufacturing facility in Zhejiang Province, China; |
|
|
|
our
personal care manufacturing facility in Shanghai, China; and |
|
|
|
our
Scanner manufacturing facility in Shanghai, China. |
Retail Stores. We currently operate
140 stores in 30 provinces throughout China, measuring a total of approximately 296,010
square feet.
Research and Development Centers.
We operate three research and development centers, one in Provo, Utah, one in Shanghai,
China, and one in Beijing, China.
With
the exception of our research and development center in Utah, our nutritional supplement
plant in China, and a few other minor facilities, which we own, we lease the properties
described above. Our headquarters and distribution center in Utah are leased from related
parties. We believe that our existing and planned facilities are adequate for our current
operations in each of our existing markets.
ITEM 3. |
|
LEGAL
PROCEEDINGS |
On
October 29, 2004, a motion for preliminary injunction was filed by Caroderm, Inc.
(Caroderm) in the action Caroderm, Inc. and University of Utah Research
Foundation v. Nu Skin Enterprises, Inc., Niksun Acquisition Corporation, et. al.,
Third Judicial District Court, Salt Lake County, State of Utah. The complaint was filed in
this action on July 16, 2004 by Caroderm, which is a separate licensee of the technology
utilized in the Scanner. The motion and complaint alleged that we are in
violation of the terms of our license because of alleged use of the Scanner for medical
diagnostic purposes or in medical clinical settings. The complaint and motion sought
an order of the court enjoining and restraining us and requiring us to take steps to stop
the use of the Scanner by our distributors for medical diagnostic purposes or in a medical
clinical setting in excess of our granted field of use. After a five-day bench trial held the week of April 25, 2005,
the court denied Caroderms claim for injunctive relief. Caroderm subsequently
appealed this decision. On March 7, 2006, we signed an Agreement and Plan of Merger
pursuant to which we acquired Caroderm. As a result, Caroderms appeal was subsequently dismissed.
-36-
ITEM 4. |
|
SUBMISSION
OF MATTERS TO A VOTE OF SECURITY HOLDERS |
There
were no matters submitted to a vote of the security holders during the fourth quarter of
the fiscal year ended December 31, 2005.
PART II
ITEM 5. |
|
MARKET FOR REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER
PURCHASES OF EQUITY SECURITIES |
Our
Class A common stock is listed on the New York Stock Exchange (NYSE) and
trades under the symbol NUS. The following table is based upon the information
available to us and sets forth the range of the high and low sales prices for our Class A
common stock for the quarterly periods during 2004 and 2005 based upon quotations on the
NYSE.
Quarter Ended | |
High | |
Low | |
|
|
|
March 31, 2004 |
|
$ 21.97 |
|
$ 16.65 |
|
June 30, 2004 | |
25.91 |
|
20.55 |
|
September 30, 2004 | |
28.15 |
|
23.03 |
|
December 31, 2004 | |
25.75 |
|
16.27 |
|
Quarter Ended | |
High | |
Low | |
|
|
|
March 31, 2005 |
|
$ 25.55 |
|
$ 20.07 |
|
June 30, 2005 | |
24.62 |
|
20.57 |
|
September 30, 2005 | |
25.86 |
|
18.95 |
|
December 31, 2005 | |
19.29 |
|
15.35 |
|
The
market price of our Class A common stock is subject to significant fluctuations in
response to variations in our quarterly operating results, general trends in the market
for our products and product candidates, economic and currency exchange issues in the
foreign markets in which we operate and other factors, many of which are not within our
control. In addition, broad market fluctuations, as well as general economic, business,
regulatory and political conditions may adversely affect the market for our Class A common
stock, regardless of our actual or projected performance.
The
closing price of our Class A common stock on February 28, 2006, was $18.08. The
approximate number of holders of record of our Class A common stock as of February 28,
2006 was 610. This number of holders of record does not represent the actual number of
beneficial owners of shares of our Class A common stock because shares are frequently held
in street name by securities dealers and others for the benefit of individual
owners who have the right to vote their shares.
Dividends
We
declared and paid a $0.08 per share dividend for Class A common stock in March, June,
September and December of 2004, and a $0.09 per share quarterly dividend for Class A
common stock in March, June, September and December of 2005. The board of directors
declared a quarterly cash dividend of $0.10 per share of Class A common stock on February
1, 2006. This quarterly cash dividend will be paid on March 22, 2006, to stockholders of
record on March 3, 2006. Management believes that cash flows from operations will be
sufficient to fund this and future dividend payments, if any.
-37-
We
expect to continue to pay dividends on our common stock. However, the declaration of
dividends is subject to the discretion of our board of directors and will depend upon
various factors, including our net earnings, financial condition, cash requirements,
future prospects and other factors deemed relevant by our board of directors.
Purchases of Equity
Securities by the Issuer
|
(a) | |
(b) | |
(c) | |
(d) | |
Period | |
Total Number of Shares Purchased | |
Average Price Paid per Share | |
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | |
Approximate Dollar Value of Shares that may yet be Purchased Under
the Plans or Programs (in millions)(1) | |
October 1 - 31, 2005 |
|
65,000 |
|
$ 17.25 |
|
65,000 |
|
$ 56.6 |
|
November 1 - 30, 2005 |
|
185,074 |
|
$ 17.17 |
|
184,000 |
|
$ 53.6 |
| |
December 1 - 31, 2005 |
|
70,000 |
|
$ 17.59 |
|
70,000 |
|
$ 52.5 | |
|
Total |
|
320,074 |
(2) |
$ 17.28 |
|
319,000 |
(1) |
|
In August 1998, our board of directors approved a plan to repurchase $10.0
million of our Class A common stock on the open market or in private transactions. Our board has
from time to time increased the amount authorized under the plan and a total
amount of approximately $160.0 million is currently authorized. As of December
31, 2005, we had repurchased approximately $107.5 million of shares under the
plan. There has been no termination or expiration of the plan since the initial
date of approval. |
(2) |
|
We have authorized the repurchase of shares acquired by our employees in
certain foreign markets because of regulatory and other issues that make it
difficult and costly for these persons to sell such shares in the open market.
These shares were awarded or acquired in connection with our initial public
offering in 1996. Of the shares listed in this column, 1,074 shares for November
relate to repurchases from such employees at an average per share purchase price
of $17.25. |
-38-
ITEM 6. |
|
SELECTED
FINANCIAL DATA |
The
following selected consolidated financial data as of and for the years ended December 31,
2001, 2002, 2003, 2004 and 2005 have been derived from the audited consolidated financial
statements.
|
Year Ended December 31, |
|
|
2001 | |
2002 | |
2003 | |
2004 | |
2005 | |
|
(U.S. dollars in thousands, except per share data) |
|
Income Statement Data: |
|
|
|
|
|
|
|
|
|
|
|
Revenue | |
$ 885,621 |
|
$ 964,067 |
|
$ 986,457 |
|
$ 1,137,864 |
|
$ 1,180,930 |
|
Cost of sales | |
178,083 |
|
190,868 |
|
176,545 |
|
191,211 |
|
206,163 |
|
Gross profit | |
707,538 |
|
773,199 |
|
809,912 |
|
946,653 |
|
974,767 |
|
Operating expenses: | |
Selling expenses | |
347,452 |
|
382,159 |
|
407,088 |
|
487,631 |
|
497,421 |
|
General and administrative expenses | |
288,605 |
|
285,229 |
|
289,925 |
|
333,263 |
|
354,223 |
|
Restructuring and other charges | |
|
|
|
|
5,592 |
|
|
|
|
|
Total operating expenses | |
636,057 |
|
667,388 |
|
702,605 |
|
820,894 |
|
851,644 |
|
Operating income | |
71,481 |
|
105,811 |
|
107,307 |
|
125,759 |
|
123,123 |
|
Other income (expense), net | |
8,380 |
|
(2,886 |
) |
432 |
|
(3,618 |
) |
(4,172 |
) |
Income before provision for income taxes | |
79,861 |
|
102,925 |
|
107,739 |
|
122,141 |
|
118,951 |
|
Provision for income taxes | |
29,548 |
|
38,082 |
|
39,863 |
|
44,467 |
|
44,918 |
|
Net income(1) | |
$ 50,313 |
|
$ 64,843 |
|
$ 67,876 |
|
$ 77,674 |
|
$ 74,033 |
|
Net income per share: | |
Basic | |
$ 0.60 |
|
$ 0.79 |
|
$ 0.86 |
|
$ 1.10 |
|
$ 1.06 |
|
Diluted | |
$ 0.60 |
|
$ 0.78 |
|
$ 0.85 |
|
$ 1.07 |
|
$ 1.04 |
|
Weighted-average common shares outstanding (000s): | |
Basic | |
83,472 |
|
81,731 |
|
78,637 |
|
70,734 |
|
70,047 |
|
Diluted | |
83,915 |
|
83,128 |
|
79,541 |
|
72,627 |
|
71,356 |
|
|
|
|
Balance Sheet Data (at end of period): | |
Cash and cash equivalents and current investments | |
$ 75,923 |
|
$ 120,341 |
|
$ 122,568 |
|
$ 120,095 |
|
$ 155,409 |
|
Working capital | |
153,495 |
|
181,942 |
|
149,324 |
|
117,401 |
|
149,098 |
|
Total assets | |
546,024 |
|
577,794 |
|
591,059 |
|
609,737 |
|
678,866 |
|
Current portion of long-term debt | |
|
|
|
|
17,915 |
|
18,540 |
|
26,757 |
|
Long-term debt | |
73,718 |
|
81,732 |
|
147,488 |
|
132,701 |
|
123,483 |
|
Stockholders' equity | |
379,890 |
|
386,486 |
|
290,248 |
|
296,233 |
|
354,628 |
|
|
|
|
Supplemental Operating Data (at end of period): | |
Approximate number of active distributors(2) | |
558,000 |
|
566,000 |
|
725,000 |
|
820,000 |
|
803,000 |
|
Number of executive distributors(2) | |
24,839 |
|
27,915 |
|
29,131 |
|
32,016 |
|
30,471 |
|
(1) |
|
In January 2002, we adopted SFAS 142, Goodwill and Other Intangible
Assets. Assuming no amortization of goodwill and other indefinite lived
intangibles for all periods presented prior to adoption, net income would have
been $57.0 million for the year ended December 31, 2001. For 2003, net income
includes a pre-tax, non-recurring charge of $5.6 million due to restructuring
and other charges incurred during the third quarter. |
(2) |
|
Active distributors include preferred customers and distributors
purchasing products directly from us during the three months ended as of the
date indicated. An executive distributor is an active distributor who has
achieved required personal and group sales volumes. Following the opening of our
retail business in China during 2003, active distributors includes 117,000,
147,000 and 116,000 preferred customers in China and executive distributors
includes 3,100, 5,437 and 3,787 employed, full-time sales representatives for
the years ended December 31, 2003, 2004 and 2005, respectively. |
-39-
ITEM 7. |
|
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION |
The
following discussion of our financial condition and results of operations should be read
in conjunction with the Consolidated Financial Statements and related Notes thereto, which
are included in this Annual Report on Form 10-K.
Overview
We
are a leading, global direct selling company with 2005 revenue of $1.18 billion and a
global network of over 800,000 active independent product distributors and preferred
customers who purchase our products for resale and for personal use. Approximately 30,000
of these distributors are executive level distributors, who play an important leadership
role in our distribution network and are critical to the growth of our business. We
develop and market premium-quality personal care products under the Nu Skin brand,
science-based nutritional supplements under the Pharmanex brand, and technology-related
products and services under the Big Planet brand. We currently operate in 41 markets
throughout Asia, the Americas and Europe.
Our
revenue depends on the number and productivity of our active independent distributors and
executive distributor leaders. We have been successful in attracting and motivating
distributors by:
|
|
|
developing
and marketing innovative, technologically advanced products; |
|
|
|
providing
compelling initiatives, advanced technological tools and strong distributor support; and |
|
|
|
offering
attractive incentives that motivate distributors to build sales organizations. |
Our
distributors market and sell our products based on the distinguishing benefits and
innovative characteristics of our products. As a result, it is vital to our business that
we continuously leverage our research and development resources to develop and introduce
innovative products and provide our distributors with an attractive portfolio of products.
We also offer unique initiatives and business tools, such as our technologically-advanced
Pharmanex® BioPhotonic Scanner (the Scanner), to help distributors
effectively differentiate our earnings opportunity and product offering. If we experience
delays or difficulties in introducing compelling products or attractive initiatives or
tools into a market, this can have a negative impact on revenue.
We
have developed a global distributor compensation plan and other incentives designed to
motivate our distributors to market and sell our products and to build sales
organizations around the world and across product lines. Our global compensation plan helps
us to rapidly introduce products and penetrate our markets with little up-front
promotional expense. As a result of the global nature of our distributor incentives,
however, the opening of a new market or the introduction of a new product or key
initiative such as the Scanner, however, can negatively impact other markets or product
lines to the extent our distributor leaders focus their efforts on the new market,
product, or initiative. We have also continued to expand and promote product subscription and loyalty
programs in many of our markets that provide incentives for customers to commit to
purchase a specific amount of products on a monthly basis. We believe these subscription
programs have improved customer retention, have had a stabilizing impact on revenue and
have helped generate recurring sales for our distributors. Subscription orders represented
42% of our revenue in 2005 compared to 29% in the prior year.
-40-
In
2005, we generated approximately 82% of our revenue from our Asian markets, with sales in
Japan representing approximately 48% of revenue. Because of the size of our foreign
operations, operating results can be impacted negatively or positively by factors such as
foreign currency fluctuations, in particular fluctuations between the Japanese yen and the
U.S. dollar, and economic, political and business conditions around the world. In
addition, our business is subject to various laws and regulations, in particular
regulations related to network marketing activities and nutritional supplements that
create certain risks for our business, including improper claims or activities by our
distributors and potential inability to obtain necessary product registrations. For more
information about these risks and challenges we face, please refer to Note Regarding
Forward-Looking Statements.
Income Statement
Presentation
We
recognize revenue in five geographic regions and we translate revenue from each
markets local currency into U.S. dollars using quarterly weighted-average exchange
rates. The following table sets forth revenue information by region for the periods
indicated. This table should be reviewed in connection with the tables presented under
Results of Operations, which disclose selling expenses and other costs
associated with generating the aggregate revenue presented.
|
Year Ended December 31, | |
Revenue by Region | |
2003 | |
2004 | |
2005 | |
|
(U.S. dollars in millions) | |
North Asia |
|
$ 612.8 |
|
62% |
|
$ 640.1 |
|
56% |
|
$ 649.4 |
|
55% |
|
Greater China | |
135.5 |
|
14 |
|
229.8 |
|
20 |
|
236.7 |
|
20 |
|
North America | |
127.6 |
|
13 |
|
145.7 |
|
13 |
|
154.1 |
|
13 |
|
South Asia/Pacific | |
75.8 |
|
8 |
|
81.8 |
|
7 |
|
86.7 |
|
7 |
|
Other Markets | |
34.8 |
|
3 |
|
40.5 |
|
4 |
|
54.0 |
|
5 |
|
| |
$ 986.5 |
|
100% |
|
$ 1,137.9 |
|
100% |
|
$ 1,180.9 |
|
100% |
|
Cost
of sales primarily consists of:
|
|
|
cost
of products purchased from third-party vendors, generally in U.S. dollars; |
|
|
|
manufacturing
costs of self-manufactured products; |
|
|
|
the
cost of sales materials which we sell to distributors at or near cost; |
|
|
|
the
amortization expenses associated with certain products and services such as the Scanners
that are leased to distributors; |
|
|
|
the
freight cost of shipping products to distributors and import duties for the products; and |
|
|
|
royalties
and related expenses for licensed technologies. |
We
source the majority of our products from third-party manufacturers located in the United
States. Due to Chinese government restrictions on the importation of finished goods
applicable to the current scope of our business in China, we are required to manufacture
the bulk of our own products for distribution in China. We are also considering plans to
manufacture more products in China for export in order to reduce our cost of sales. Cost
of sales and gross profit may fluctuate as a result of changes in the ratio between
self-manufactured products and products sourced from third-party suppliers. In addition,
because we purchase a significant majority of our goods in U.S. dollars and recognize
revenue in local currencies, we are subject to exchange rate risks in our gross margins.
-41-
Selling
expenses are our most significant expense and are classified as operating expenses.
Selling expenses include distributor commissions as well as wages, benefits, bonuses and
other labor and unemployment expenses we pay to our employed sales representatives in
China. Our global compensation plan, which we employ in all of our markets except China,
is an important factor in our ability to attract and retain distributors. We pay monthly
commissions to several levels of distributors on each product sale based upon a
distributors personal and group product volumes, as well as the group product
volumes of up to six levels of executive distributors in such distributors downline
sales organization. We do not pay commissions on sales materials, which are sold to
distributors at or near cost. Small fluctuations occur in the amount of commissions paid
as the network of distributors actively purchasing products changes from month to month.
However, due to the size of our distributor force of over 800,000 active
distributors, the fluctuation in the overall payout is relatively small. The overall
payout has typically averaged from 41% to 43% of global product sales. From time to time,
we make modifications and enhancements to our global compensation plan to help motivate
distributors and develop leadership characteristics, which can have an impact on selling
expenses.
Distributors
also have the opportunity to make retail profits by purchasing products from us at
wholesale and selling them to customers with a retail mark-up. We do not pay commissions
on these retail sales by distributors nor do we recognize any revenue from these retail
sales. In many markets, we also allow individuals who are not distributors, whom we refer
to as preferred customers, to buy products directly from us at wholesale
prices. We pay commissions on preferred customer purchases to the referring distributors.
General
and administrative expenses include:
|
|
|
depreciation
and amortization; |
|
|
|
promotion
and advertising; |
|
|
|
research
and development; and |
|
|
|
other
operating expenses. |
Labor
expenses are the most significant portion of our general and administrative expenses.
Promotion and advertising expenses include costs of distributor conventions held in
various markets worldwide, which we expense in the period in which they are incurred.
Because our various distributor conventions are not always held during each fiscal year,
their impact on our general and administrative expenses may vary from year to year. For
example, we have typically held our global distributor convention and our Japan
distributor convention, our two most expensive conventions, every 18 months. Therefore, we
have not incurred expenses for these conventions during every fiscal year or in comparable
interim periods and year-over-year comparisons have been impacted accordingly. We held
global distributor conventions in February 2004 and October 2005 and Japan distributor
conventions in February 2003 and November 2004. We held a Japan
distributor convention in March 2006. In the future, we plan to begin holding global
conventions every 24 months instead of every 18 months.
-42-
Provision
for income taxes depends on the statutory tax rates in each of the jurisdictions in which
we operate. For example, statutory tax rates in 2005 were approximately 17.5% in Hong
Kong, 25% in Taiwan, 27.5% in South Korea, 46% in Japan and 24% in China. In China, we
benefited from a tax holiday until the end of 2005. We will be subject to a reduced tax
rate of 50% of the statutory rate in China for 2006, 2007 and 2008, after which time we
will be subject to the full statutory rate. We are subject to taxation in the United
States at the statutory corporate federal tax rate of 35% and we pay taxes in multiple
states within the United States at various tax rates.
Critical Accounting
Policies
The
following critical accounting policies and estimates should be read in conjunction with
our audited Consolidated Financial Statements and related Notes thereto. Management
considers the most critical accounting policies to be the recognition of revenue,
accounting for income taxes and accounting for intangible assets. In each of these areas,
management makes estimates based on historical results, current trends and future
projections.
Revenue.
We recognize revenue when products are shipped, which is when title and risk
of loss pass to our independent distributors. With some exceptions in various
countries, we offer a return policy whereby distributors can return unopened and
unused product for up to 12 months subject to a 10% restocking fee. Reported
revenue is net of returns, which have historically been less than 5% of gross
sales. A reserve for product returns is accrued based on historical experience.
We classify selling discounts as a reduction of revenue. Our global compensation plan for our distributors
is focused on remunerating distributors based upon the selling efforts of the
distributors and their downlines, and not their personal purchases.
Income
Taxes. We account for income taxes in accordance with Statements of
Financial Accounting Standards (SFAS) No. 109, Accounting for Income
Taxes. This statement establishes financial accounting and reporting standards for
the effects of income taxes that result from an enterprises activities during the
current and preceding years. It requires an asset and liability approach for financial
accounting and reporting of income taxes. We pay income taxes in many foreign
jurisdictions based on the profits realized in those jurisdictions, which can be
significantly impacted by terms of intercompany transactions among our affiliates around
the world. Deferred tax assets and liabilities are created in this process. As of December
31, 2005, we had net deferred tax assets of $31.3 million. These net deferred tax assets
assume sufficient future earnings will exist for their realization, as well as the
continued application of current tax rates. We have considered projected future taxable
income and ongoing tax planning strategies in determining the extent of valuation
allowances required. In the event we were to determine that we would not be able to
realize all or part of our net deferred tax assets in the future, an adjustment to the
deferred tax assets would be charged to earnings in the period such determination was
made.
Our
foreign taxes paid are high relative to foreign operating income and our U.S. taxes paid
are low relative to U.S. operating income due largely to the flow of funds among our
subsidiaries around the world. As payments for services, management fees, license
arrangements and royalties are made from our foreign affiliates to our U.S. corporate
headquarters, these payments often incur withholding and other forms of tax that are
generally creditable for U.S. tax purposes. Therefore, these payments lead to increased
foreign effective tax rates and lower U.S. effective tax rates. Variations (or shifts)
occur in our foreign and U.S. effective tax rates from year to year depending on several
factors, including the impact of global transfer prices and the timing and level of
remittances from foreign affiliates.
-43-
We
are subject to regular audits by federal, state and foreign tax authorities. These audits
may result in additional tax liabilities. We account for such contingent liabilities in
accordance with SFAS No. 5, Accounting for Contingencies and believe we have
appropriately provided for income taxes for all years. Several factors drive the
calculation of our tax reserves. Some of these factors include: (i) the expiration of
various statutes of limitations; (ii) changes in tax law and regulations; (iii) issuance
of tax rulings; and (iv) settlements with tax authorities. Changes in any of these factors
may result in adjustments to our reserves, which would impact our reported financial
results. The Financial Accounting Standards Board is currently considering changes to
accounting for uncertain tax positions. Because the nature and extent of these changes are
not fully known, we are not able to predict the impact on our tax contingency reserves, if
any.
Intangible
Assets. Under the provisions of SFAS No. 142, Goodwill and Other
Intangible Assets (SFAS 142), our goodwill and intangible assets with
indefinite useful lives are no longer amortized. Our intangible assets with definite lives
are recorded at cost and are amortized over their respective estimated useful lives and
are reviewed for impairment in accordance with SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets (see Note 5 to the Consolidated
Financial Statements).
We
are required to make judgments regarding the useful life of our intangible assets. For
example, with the recent completion of the earnout payments in connection with the
acquisition of Scanner-related technology, we have recorded an intangible asset of
approximately $42.0 million, which we are amortizing over the life of the patent related
to the technology. With the implementation of SFAS 142, we determined certain intangible
assets to have indefinite lives based upon our analysis of the requirements of SFAS No.
141, Business Combinations (SFAS 141) and SFAS 142. Under the
provisions of SFAS 142, we are required to test these assets for impairment at least
annually. The annual impairment tests have been completed and did not result in an
impairment charge. To the extent an impairment is identified in the future, we will record
the amount of the impairment as an operating expense in the period in which it is
identified.
-44-
Results of Operation
The
following table sets forth our operating results as a percentage of revenue for the
periods indicated:
|
Year Ended December 31, | |
|
2003 | |
2004 | |
2005 | |
|
|
|
|
Revenue |
|
100.0 |
% |
100.0 |
% |
100.0 |
% |
Cost of sales | |
17.9 |
|
16.8 |
|
17.5 |
|
|
|
|
|
Gross profit | |
82.1 |
|
83.2 |
|
82.5 |
|
| |
Operating expenses: | |
Selling expenses | |
41.3 |
|
42.9 |
|
42.1 |
|
General and administrative expenses | |
29.4 |
|
29.3 |
|
30.0 |
|
Restructuring and other charges |
|
.5 |
|
|
|
|
|
|
|
|
|
Total operating expenses | |
71.2 |
|
72.2 |
|
72.1 |
|
|
|
|
|
Operating income | |
10.9 |
|
11.0 |
|
10.4 |
|
Other income (expense), net | |
|
|
(.3 |
) |
(.3 |
) |
|
|
|
|
Income before provision for income taxes | |
10.9 |
|
10.7 |
|
10.1 |
|
Provision for income taxes | |
4.0 |
|
3.9 |
|
3.8 |
|
|
|
|
|
Net income | |
6.9 |
% |
6.8 |
% |
6.3 |
% |
2005 Compared to 2004
Overview
Revenue
in 2005 increased 4% to $1.18 billion from $1.14 billion in 2004. The revenue increase
in 2005 was a result of year-over-year growth in Korea, Taiwan, Europe and the United
States, and expansion into Indonesia. The revenue increase is also attributable in part to
a 1% positive impact of changes in foreign currency exchange rates. During 2005, we continued to see the positive impact
of our Scanner and monthly product subscription programs. Subscription orders represented
42% of our revenue in 2005, compared to 29% in the prior year. We believe that these
programs are strengthening our recurring revenue base and are improving customer retention
rates, as well as helping our distributor leaders build their sales organizations.
Reported revenue in 2005 was negatively impacted by a weakening of the
Japanese yen during the second half of the year which declined from 111.62 yen to the
U.S. dollar on July 1, 2005 to 117.94 yen to the U.S. dollar on December 31, 2005. Revenue growth in 2005 was also negatively
impacted by declines in local currency revenue in China and Japan in the second half of
the year. Our active and executive distributor counts were down 2% and 5% in 2005
compared to 2004, respectively, primarily due to declines in China and Japan as discussed
below.
Earnings
per share in 2005 decreased by 3%, or $0.03 per share, compared to 2004, primarily as a result of a lower gross
margin, higher general and administrative expenses and a higher effective tax rate.
-45-
Revenue
North Asia. The following table
sets forth revenue for the North Asia region and its principal markets (U.S. dollars in
millions):
|
2004 | |
2005 | |
Change | |
|
|
|
|
|
|
|
|
Japan |
|
$ 574.4 |
|
$ 562.0 |
|
(2%) |
|
South Korea | |
65.7 |
|
87.4 |
|
33% |
|
North Asia total | |
$ 640.1 |
|
$ 649.4 |
|
1% |
|
Revenue
in Japan decreased 2% in 2005 compared to 2004 and was negatively impacted 1% by changes
in foreign currency exchange rates following a significant weakening of the Japanese yen
during the second half of the year. In local currency, revenue in Japan decreased 1% as a
result of a local currency decline in the second half of the year. This decline was a
result of the following:
|
|
|
modifications
to distributor incentives that appear to have negatively impacted revenue later in the
second half of the year and resulted in declines in executive distributors; |
|
|
|
a
slower than expected market response to our roll-out of the Scanner program during 2005
due to regulatory contstraints; and |
|
|
|
our
scale-back of the Scanner roll-out and related promotional campaigns during the latter
part of 2005 in anticipation of the 2006 launch of the second-generation model of the
Scanner (the S2 or the "Scanner"). |
In
2005 we made some modifications to our compensation plan in Japan similar to changes that
had been successfully implemented previously in other markets, including the United
States. Upon review of our second-half results in Japan, it appears that the changes in
incentives did not have the same positive impact as they did in other markets and
contributed to the decline in revenue. Effective April 1, 2006, we are implementing some
enhancements to distributor incentives in Japan in order to address the negative impacts
resulting from previous modifications. We believe that these initiatives will have a
positive impact on our business in this market.
While
we have successfully dealt with regulatory restrictions in the past with respect to our
nutritional sales in Japan, the regulatory environment appears to have resulted in a
slower than expected response to our 2005 Scanner roll-out in Japan. Our nutritional
supplements are sold as foods in Japan, which limits the claims we can make with respect
to such products, including an inability to claim that our products increase antioxidant
levels. In addition, although we are able to link the Scanner measurement to a more
general nutritional assessment (which we are not able to do in most of our other markets),
we are not able to link it to a specific measure of carotenoid antioxidant levels. We are
also limited in our ability to tie the Scanner measurement directly to the consumption of
our nutrition products.
In
addition to launching the S2 Scanner in Japan in 2006, subject to regulatory approval we plan to launch our g3
nutritional juice, which contains a highly concentrated mix of several types of
antioxidants including carotenoid antioxidants. We anticipate that these initiatives will
positively impact our nutritional revenue in this market. We are also planning to launch
our Nu Skin® ProDerm Skin Analyzer, a handheld skin analysis tool. Based on
recent discussions with Japanese regulators, there are indications that certain
limitations may be imposed on the use of the ProDerm tool. It appears that we will
be able to use the ProDerm to provide close-up skin images, but we may not be able
to use the ProDerm to provide a score that quantifies skin condition and attributes as will be the case in other markets.
-46-
South
Korea generated its eighth consecutive quarter of year-over-year growth in the fourth
quarter of 2005, with local currency revenue growth of 19% in 2005 compared to 2004 as
well as significant growth in our active and executive distributor counts. We believe that
these results are due to strong product and other initiatives and alignment of our
distributor leaders behind these initiatives.
Greater
China. The following table sets forth revenue for the Greater China region and its
principal markets (U.S. dollars in millions):
|
2004 | |
2005 | |
Change | |
|
|
|
|
|
|
|
|
China |
|
$ 105.6 |
|
$ 102.2 |
|
(3%) |
|
Taiwan |
|
82.8 |
|
92.4 |
|
12% |
|
Hong Kong | |
41.4 |
|
42.1 |
|
2% |
|
Greater China total | |
$ 229.8 |
|
$ 236.7 |
|
3% |
|
Revenue
growth in Greater China was primarily a result of year-over-year growth in Taiwan. The
region also benefited from a 2% positive impact of changes in foreign currency exchange
rates.
China
revenue decreased by 3% in 2005 compared to 2004. We experienced sequential growth in our
business in China during the first half of the year following the introduction of
Pharmanex products and the Scanner. Our business declined, however, during the second half
of the year as a result of changes we made to our compensation plan in China in July of
2005 in order to prepare for anticipated direct selling regulations in that
market. These changes negatively impacted our revenue during the second half of the year
as our sales representatives adapted to them. In addition, in September, the Chinese
government announced the adoption of the new direct selling regulations. Consumer
uncertainty regarding the impact of the new regulations increased following publication of
the new regulations, also negatively impacting our sales during the second half of the
year. These issues contributed to a 30% decline in our sales representative count in 2005
compared to 2004.
With
the adoption of the new direct selling regulations, we have applied for a direct selling
license with the Chinese government, and the application process is ongoing. While the
timing of the application process is uncertain, we plan to begin to adapt our current
retail business model to include a direct selling component if and when we are able to
obtain a direct selling license. This will allow us to engage independent contractors who
will be able to sell products away from a fixed location. The new regulations prohibit the
use of multi-level compensation plans for direct selling, however, so we will compensate
the independent contractors based on their personal selling efforts only. We plan,
however, to maintain our retail store/employed sales representative model because we
believe it provides us with more flexibility in the manner in which we conduct business in
China, including the manner in which we compensate our full-time sales representatives.
For a discussion of the risks to our business and uncertainties associated with the
adoption of the new regulations in China, please refer to the section below entitled
Note Regarding Forward-Looking Statements.
In 2006, we
plan to launch the S2 Scanner and g3 juice. We also plan to launch the Nu Skin®
ProDerm Skin Analysis tool, which we believe will help reinvigorate enthusiasm for
our Nu Skin products following declines in Nu Skin sales during the past year as sales
leaders shifted their focus towards Pharmanex products. We also plan to continue to invest
resources in continued expansion and build-out of our infrastructure in China.
Taiwan
and Hong Kong each generated revenue growth in 2005 compared to the prior year. In local
currency, Taiwan grew 8% in 2005 compared to 2004, driven by success with the Scanner
program. We saw a leveling of business in Taiwan during the second half of the year, with
revenue down in the fourth quarter on a year-over-year basis. Fourth quarter revenue in
Hong Kong was also down year-over-year in the fourth quarter, due to Pharmanex sales to
China sales representatives shifting to China with the 2005 launch of Pharmanex products
in that market.
-47-
North
America. The following table sets forth revenue for the North America region and its
principal markets (U.S. dollars in millions):
|
2004 | |
2005 | |
Change | |
|
|
|
|
|
|
|
|
United States |
|
$ 135.7 |
|
$ 144.5 |
|
6% |
|
Canada | |
10.0 |
|
9.6 |
|
(4%) |
|
North America total | |
$ 145.7 |
|
$ 154.1 |
|
6% |
|
Revenue
in the United States grew 6% in 2005 compared to 2004 and was positively impacted by:
|
|
|
our
monthly product subscription program; and |
|
|
|
the
launch of a number of new, innovative Pharmanex, Nu Skin and Big Planet products. |
In
early 2005 we launched Photomax, a Big Planet digital imaging service, and during
the fourth quarter of 2005 we launched a newly reformulated LifePak product. In
2006, we plan to launch the S2 Scanner and the Nu Skin® ProDerm skin analysis
tool in the United States in order to help drive further revenue growth.
South
Asia/Pacific. The following table sets forth revenue for the South Asia/Pacific region
and its principal markets (U.S. dollars in millions):
|
2004 | |
2005 | |
Change | |
|
|
|
|
|
|
|
|
Singapore/Malaysia/Brunei |
|
$ 40.0 |
|
$ 41.4 |
|
3% |
|
Thailand | |
25.6 |
|
23.7 |
|
(7%) |
|
Australia/New Zealand | |
13.1 |
|
13.3 |
|
2% |
|
Indonesia | |
|
|
4.2 |
|
|
|
Philippines | |
3.1 |
|
4.1 |
|
32% |
|
South Asia/Pacific total | |
$ 81.8 |
|
$ 86.7 |
|
6% |
|
Revenue
in South Asia/Pacific increased 6% in 2005 compared to 2004, and was positively impacted
1% by changes in foreign currency exchange rates. The increase in local currency revenue
in this region was due primarily to revenue generated in Indonesia following its August
2005 opening. Revenue growth in Singapore/Malaysia/Brunei was somewhat offset by declines
in the second half of the year as some of our distributor leaders in these markets focused
their attention on business opportunities in Indonesia and away from their home markets,
as well as negative impacts from modifications to distributor incentives implemented in
September of 2005. Following four years of solid growth in Thailand, our business softened
in 2005.
-48-
Other Markets. The following table
sets forth revenue for our Other Markets (U.S. dollars in millions):
|
2004 | |
2005 | |
Change | |
|
|
|
|
|
|
|
|
Europe |
|
$ 36.6 |
|
$ 46.0 |
|
26% |
|
Latin America | |
3.9 |
|
8.0 |
|
105% |
|
Other Markets total | |
$ 40.5 |
|
$ 54.0 |
|
33% |
|
Revenue
growth in Europe was a result of success with the Scanner, our product subscription
program, and expansion into Eastern Europe. These initiatives positively impacted
distributor leadership, resulting in a 27% growth in our executive distributor count.
Following modifications to our business model in Latin America two years ago, we have
experienced rapid growth in that region in terms of revenue and distributor numbers,
particularly in Mexico. Towards the end of 2005, we began to experience a slowing of
growth rates in this region.
Gross
profit
Gross profit
as a percentage of revenue decreased to 82.5% in 2005, compared to 83.2% in 2004, as a
result of increased amortization costs associated with the continued global expansion of
the Scanner, and the strengthening of the U.S. dollar, particularly against the Japanese
yen, during the second half of the year.
Selling
expenses
Selling expenses
as a percentage of revenue decreased to 42.1% in 2005 from 42.9% in 2004.
Selling expenses increased to $497.4 million from $487.6 million in 2004. The decrease in
selling expenses as a percentage of revenue is due primarily to the following:
|
|
|
short-term
sales incentives paid in Japan in 2004 that were not paid in 2005; |
|
|
|
the
continued global expansion of the Scanner program, as no commissions are paid on lease
revenue; and |
|
|
|
slightly
lower incentive expenses in China. |
General
and administrative expenses
General and
administrative expenses as a percentage of revenue increased to 30.0% in 2005 from 29.3%
in 2004. General and administrative expenses increased to $354.2 million in 2005 from
$333.3 million in 2004. General and administrative expenses in 2005 were impacted by the
incremental costs associated with our investment in various growth initiatives, including
further development of China, Latin America and Europe, new market openings, and the
global expansion of the Scanner program. Beginning in 2006, we will be required to begin
expensing stock-based compensation granted to employees as a result of new accounting
rules. Had we recognized compensation cost for stock options in 2005 according to the
methodology prescribed under the new rules, our general and administrative expenses would
have been approximately $9.4 million higher that year.
In addition, we recently announced plans to implement a restructuring initiative during the first half of 2006
designed to (i) eliminate
organizational redundancies, (ii) revamp administrative support functions, (iii) prioritize investments to favor
profitable initiatives and markets, and
(iv) increase efficiencies in the supply chain process. In connection with this initiative, we expect to
incur employee severance costs of approximately
$10 to $20 million and $5 million related to various other streamlining intitiatves. Additionally, in February
2006, as a result of our launch of and
transition to our second-generation BioPhotonic Scanner, we determined it would be necessary to write down
the book value of the existing inventory of the
prior model of the Scanner of approximately $20 million. As a result of these initiatives, we expect to incur a
total cost of $30 to $40 million
on a pre-tax basis in the first half of 2006, and we anticipate that approximately $10 to $20 million of the
restructuring charges will result in
future cash expenditures. We expect that this initiative will result in cost savings that will enable us to
improve the profitability of our business and
allow us to invest in new growth initiatives.
-49-
Other
income (expense), net
Other income
(expense), net was $4.2 million of expense in 2005 compared to $3.6
million of expense in 2004. Fluctuations in other income (expense), net are impacted by
interest expense and foreign exchange fluctuations to the U.S. dollar on the translation
of yen-based bank debt and other foreign denominated intercompany balances into U.S.
dollars for financial reporting purposes. The increase in other expense in 2005 was
primarily a result of foreign exchange fluctuations.
Provision
for income taxes
Provision for
income taxes increased to $44.9 million in 2005 from $44.5 million in 2004. The effective
tax rate increased to 37.8% from 36.4% of pre-tax income in 2005 and 2004, respectively.
This increase in the effective tax rate was due to an increase in the amount of
nondeductible executive compensation, reconciliation of U.S. and foreign income tax
payable amounts and other nondeductible expenses related to equity compensation.
Net
income
As
a result of the foregoing factors, net income decreased to $74.0 million in 2005 from
$77.7 million in 2004.
-54-
2004 Compared to 2003
Overview
Revenue
in 2004 increased 15% to $1,137.9 million from $986.5 million in 2003. Excluding the
impact of changes in foreign currency exchange rates, we would have experienced a revenue
increase of 11% for 2004 compared to 2003. The revenue increase in 2004 was a result of
significant revenue growth in China, as well as solid revenue growth in the United States,
Taiwan and Hong Kong. During 2004 we continued to see the positive impact of our
BioPhotonic Scanner and monthly product subscription programs. We continued to expand our
use of the BioPhotonic Scanner in the United States and initiated lease programs in other
key markets including Japan in November 2004. Subscription orders represented 29% of our
revenue in 2004 compared to 24% in the prior year. Revenue growth in
2004 was negatively impacted by a decline in local currency revenue in Japan.
These
factors also contributed to a $0.22 increase in earnings per share in 2004 compared to
2003. Earnings per share for 2003 included the impact of a $0.04 per share, one-time
restructuring charge. The growth in earnings per share was also positively impacted by the
repurchase of 10.8 million and 3.1 million shares of our Class A common stock in October
2003 and July 2004, respectively.
Revenue
North
Asia. The following table sets forth revenue for the North Asia region and its principal
markets (U.S. dollars in millions):
|
2003 | |
2004 | |
Change | |
|
|
|
|
|
|
|
|
Japan |
|
$ 553.8 |
|
$ 574.4 |
|
4% |
|
South Korea | |
59.0 |
|
65.7 |
|
11% |
|
North Asia total | |
$ 612.8 |
|
$ 640.1 |
|
4% |
|
Excluding
the impact of changes in foreign currency exchange rates, revenue in North Asia decreased
1% in 2004 compared to 2003. In local currency, revenue in Japan decreased 3%. Revenue in
Japan during 2004 was negatively impacted by the absence of a compelling growth driver for
our distributors during most of the year as a result of regulatory uncertainty associated
with the BioPhotonic Scanner that prevented us from introducing it until November 2004.
Revenue was also negatively impacted by:
|
|
|
key
distributor leaders spending time in other markets pending the launch of the BioPhotonic
Scanner; |
|
|
|
stock outages resulting from product quality and regulatory challenges we faced during
2004, including BSE (or mad cow disease) issues in the first quarter, which required us to
convert many of our dietary supplements for sale in Japan from bovine-based capsules to
tablets and non-bovine based capsules; and |
In
South Korea, our local currency revenue grew 7% in 2004 compared to 2003 primarily as a
result of continued growth in our active distributors. We believe that strong initiatives
and distributor support contributed to the growth in this market despite the difficult
regulatory and economic conditions in South Korea.
Greater
China. The following table sets forth revenue for the Greater China region and its
principal markets (U.S. dollars in millions):
|
2003 | |
2004 | |
Change | |
|
|
|
|
|
|
|
|
China |
|
$ 38.5 |
|
$ 105.6 |
|
174% |
|
Taiwan |
|
73.1 |
|
82.8 |
|
13% |
|
Hong Kong | |
23.9 |
|
41.4 |
|
73% |
|
Greater China total | |
$ 135.5 |
|
$ 229.8 |
|
70% |
|
Revenue
growth in Greater China was a result of the continued expansion of operations in China, as
well as strong growth in Hong Kong and Taiwan. Currencies in China and Hong Kong are
generally pegged to the U.S. dollar, minimizing the impact of foreign currency
fluctuations on this region.
China
revenue grew by 174% compared to 2003. We continued to successfully grow our business in
China as a result of:
|
|
|
expansion
of our sales representatives, based in part upon the attractiveness of the opportunity
for employment with us in the market; |
-51-
|
|
|
successful
product launches and promotions; and |
|
|
|
a
robust economy, with a focus on international brands and opportunities. |
Following a period of rapid
sequential growth in China in 2003 and the first half of 2004, however, revenue declined
slightly in the third quarter of 2004 compared to the second quarter, and then stabilized
sequentially in the fourth quarter. Also, the number of sales representatives remained
essentially level during the second half of the year. This softening in the second half of
the year is attributed to a softening of the recruiting environment for new customers and
sales representatives after an initial 18 months of rapid sequential growth. This
softening was also largely the result of our taking actions against sales representatives who
had violated company policies. Due to increased media and government scrutiny of
activities related to direct selling and direct selling companies operating in China in
advance of new direct selling regulations, we focused more on training our sales
representatives and enforcing our sales policies that prohibit improper promotion of our
business, and less on implementing aggressive growth initiatives. This emphasis resulted
in disciplinary actions against, or termination of employment of, sales representatives
who had violated these policies, and contributed to the lack of growth in our revenue, our
customers and our sales representative numbers during the second half of 2004. We believe, however, that our long-term
growth prospects were enhanced due to these actions. Results
in China were also negatively impacted by uncertainties and delays with respect to the new
direct selling regulations and related negative and confusing media coverage.
Hong
Kong and Taiwan each generated strong growth in revenue and in the number of executive and
active distributors in 2004. Modifications we made to our compensation plan in early 2004
in these markets to promote the development of executive distributors, as well as
continued growth in monthly product subscription orders, contributed to the growth in
revenue in these markets. The revenue increases in these markets were also due in part to
continued enthusiasm for business prospects in China and the use of the BioPhotonic
Scanner, particularly in Taiwan. In addition, revenue in Hong Kong was positively impacted
by sales of products to sales representatives from China for personal consumption,
particularly to those sales representatives attending our third quarter sales convention
in Hong Kong.
North
America. The following table sets forth revenue for the North America region and its
principal markets (U.S. dollars in millions):
|
2003 | |
2004 | |
Change | |
|
|
|
|
|
|
|
|
United States |
|
$ 118.2 |
|
$ 135.7 |
|
15% |
|
Canada | |
9.4 |
|
10.0 |
|
6% |
|
North America total | |
$ 127.6 |
|
$ 145.7 |
|
14% |
|
Revenue
in the United States grew 15% in 2004 compared to 2003 and was positively impacted by:
|
|
|
the
BioPhotonic Scanner program; |
|
|
|
our
monthly product subscription program; |
|
|
|
the
launch of a number of new, innovative Pharmanex and Nu Skin products; and |
|
|
|
$5.8
million in sales to international distributors at our global convention held in the U.S.
in February 2004, which did not occur in 2003. |
These initiatives resulted in a 36%
increase in Pharmanex revenue and a 4% increase in Nu Skin revenue in 2004 compared to
2003, excluding sales to international distributors at our global distributor
convention. These initiatives also continued to enhance distributor
enthusiasm and sponsorship as well as increase retention. The number of executive
distributors grew 10% in 2004 compared to 2003. The growth in revenue in Pharmanex and Nu
Skin in the United States was partially offset by a decline in Big Planet revenue,
primarily as a result of our strategic elimination of low margin products and services
that generated approximately $11.0 million in revenue in 2003. Over the last couple of
years, Big Planet has focused on eliminating low margin products while developing and
introducing new products and services with margins comparable to Nu Skin and Pharmanex
products.
-52-
In
addition, in connection with the global roll-out of the BioPhotonic Scanner program, some
of our key U.S. distributor leaders spent time promoting the BioPhotonic Scanner in
international markets. This negatively impacted revenue and distributor activity in the
United States during the last half of the year as revenue and distributor statistics were
relatively flat sequentially.
South
Asia/Pacific. The following table sets forth revenue for the South Asia/Pacific region
and its principal markets (U.S. dollars in millions):
|
2003 | |
2004 | |
Change | |
|
|
|
|
|
|
|
|
Singapore/Malaysia/Brunei |
|
$ 36.7 |
|
$ 40.0 |
|
9% |
|
Thailand | |
22.7 |
|
25.6 |
|
13% |
|
Australia/New Zealand | |
13.5 |
|
13.1 |
|
(3%) |
|
Philippines | |
2.9 |
|
3.1 |
|
7% |
|
South Asia/Pacific total | |
$ 75.8 |
|
$ 81.8 |
|
8% |
|
Excluding
the impact of changes in foreign currency exchange rates, revenue in South Asia/Pacific
increased 4% in 2004 compared to 2003. The increase in local currency revenue in this
region was due primarily to revenue growth in Thailand as well as an increase in combined
Singapore/Malaysia revenue. We have experienced solid growth in Thailand for the last four
years, but revenue was down 13% in local currency in the fourth quarter compared to prior
year results. We launched the BioPhotonic Scanner program in Thailand in late 2004 to help
improve distributor activity and revenue in this market. Our focus on our monthly product
subscription programs, growth in our nutrition business, and the BioPhotonic Scanner
contributed to the revenue increases in Malaysia and Singapore. The revenue increases in
these markets were slightly offset by a decrease in revenue in combined Australia/New
Zealand.
Other
Markets. The following table sets forth revenue for our Other Markets (U.S. dollars in
millions):
|
2003 | |
2004 | |
Change | |
|
|
|
|
|
|
|
|
Europe |
|
$ 32.0 |
|
$ 36.6 |
|
14% |
|
Latin America | |
2.8 |
|
3.9 |
|
39% |
|
Other Markets total | |
$ 34.8 |
|
$ 40.5 |
|
16% |
|
The
16% increase in Other Markets was primarily due to a 14% increase in revenue in Europe,
which was mostly attributed to the favorable impact of foreign currency fluctuations in
2004 compared to 2003. We experienced higher local currency growth in Europe during the
second half of 2004, and in 2004 active distributors and executive distributors grew 25%
and 17%, respectively over 2003. Although our
-53-
Latin America business accounts for a small
part of our business, we have made efforts to grow our business there as well as in other
developing countries around the world. As a result of these efforts, revenue in Mexico was
up 54% in local currency in 2004 compared to 2003, and the executive distributor count
grew by 149%.
Gross
profit
Gross
profit as a percentage of revenue increased to 83.2% in 2004 compared to 82.1% in 2003.
Our gross profit was positively impacted by the shift away from low margin Big Planet
revenue to higher margin Nu Skin and Pharmanex products, strong gross margins in China
resulting from in-house manufacturing in that market, and the positive impact of
fluctuations in foreign currency exchange rates in 2004 compared to 2003. During 2004, we
continued to expand the BioPhotonic Scanner program in the U.S. and in our international
markets. Lease revenue from BioPhotonic Scanners has significantly lower margins than our
personal care and nutritional supplement products, as we lease them on essentially a
break-even basis.
Selling
expenses
Selling
expenses as a percentage of revenue increased to 42.9% in 2004 from
41.3% in 2003. Selling expenses increased to $487.6 million in 2004 from $407.1 million in
2003. The increase in selling expenses as a percentage of revenue is due in part to higher
costs associated with our employed sales representatives in China. The increase in selling expenses as a
percent of revenue was also due to a short-term increase in distributor incentives in
Japan in the fourth quarter of 2004. This increase in incentives resulted from the
implementation of new components to our compensation plan in this market while certain
existing components were transitioned out over several months.
General
and administrative expenses
General and administrative expenses as a percentage of revenue decreased
slightly to 29.3% in 2004 from 29.4% in 2003. General and administrative
expenses increased to $333.3 million in 2004 from $289.9 million in 2003. The
U.S. dollar increase during 2004 in general and administrative expenses was
primarily due to the incremental costs associated with significantly larger
retail operations in China versus the prior year, stronger foreign currencies
against the U.S. dollar, and higher distributor convention expenses.
Other
income (expense), net
Other
income (expense), net was $3.6 million of expense in 2004 compared to
$0.4 million of income in 2003. This increase in other income (expense), net of $4.0
million is primarily related to increased interest expenses due to additional debt we
entered into during 2003.
Provision
for income taxes
Provision
for income taxes increased to $44.5 million in 2004 from $39.9 million in 2003. This
increase was largely due to the increase in operating income as compared to the prior
year. The effective tax rate decreased to 36.4% from 37.0% of pre-tax income in 2004 and
2003, respectively. This decrease in the effective tax rate was largely due to our
election in 2004 to permanently reinvest some of our earnings related to our foreign
operations. We anticipate the remittance of these earnings to be postponed indefinitely.
Net
income
As
a result of the foregoing factors, net income increased to $77.7 million in 2004 from
$67.9 million in 2003.
Liquidity and Capital
Resources
Historically,
our principal uses of cash have included operating expenses, particularly selling
expenses, and working capital (principally inventory purchases), as well as capital
expenditures, stock repurchases and dividends, and the development of operations in new
markets. We have generally relied on cash flow from operations to fund operating
activities, and we have at times incurred long-term debt in order to fund strategic
transactions and stock repurchases.
We
typically generate positive cash flow from operations due to favorable gross margins and
the variable nature of selling expenses, which constitute a significant percentage of
operating expenses. We generated $114.1 million in cash from operations in 2005, compared
to $130.4 million in 2004. This decrease in cash generated from operations is due to the
timing of inventory purchases in 2005 compared to 2004, the timing of payments for income
taxes and other liabilities accrued at the end of 2004 and 2005, and lower net income in
2005 compared to 2004.
As
of December 31, 2005, working capital was $149.1 million compared to $117.4 million as of
December 31, 2004. Our working capital increased primarily due to the increase in cash and
cash equivalents. Cash and cash equivalents at December 31, 2005 were $155.4 million
compared to $109.9 million at December 31, 2004. Our cash balance was positively impacted
by $121.3 million in cash flows from operations during 2005, as well as by $6.2 million
from the exercise of employee stock options, $30.0 million of new debt and $10.2 million
of net proceeds on investment sales. The additions to our cash balance were offset by the
use of approximately $30.9 million for capital expenditures, $24.6 million for repurchase
of shares of our common stock, $25.4 million for the payment of dividends and $17.1
million for the repayment of debt.
Capital
expenditures in 2005 totaled $30.9 million, and we anticipate capital expenditures of
approximately $40 million to $45 million for 2006. These capital expenditures are
primarily related to:
|
|
|
the
build-out of manufacturing facilities and additional retail stores in China, as well as
other leasehold improvements in our various markets; |
|
|
|
purchases
of Scanners; and |
|
|
|
purchases of
computer systems and software. |
-55-
We
currently have long-term debt pursuant to various credit facilities and other borrowings.
The following table summarizes these long-term debt arrangements as of December 31, 2005:
Facility or Arrangement(1) | |
Original Principal Amount | |
Balance as of December 31, 2005(2) | |
Interest Rate | |
Repayment terms | |
|
|
|
|
|
|
|
|
|
|
2000 Japanese yen denominated notes |
|
9.7 billion yen |
|
6.9 billion yen ($58.8 million as of December 31, 2005) |
|
3.0% |
|
Notes due October 2010, with annual principal payments that began in October 2004. |
|
|
|
|
|
|
| |
| |
| |
| |
| |
| |
2003 $125.0 million multi-currency uncommitted shelf facility: | |
| |
| |
| |
| |
| |
U.S. dollar denominated: | |
$50.0 million | |
$50.0 million | |
4.5% | |
Notes due April 2010 with annual principal payments beginning April 2006. | |
| |
| |
| |
| |
| |
| |
$25.0 million | |
$15.0 million | |
4.0% | |
Notes due April 2008 with annual principal payments that began in October 2004. | |
|
|
|
|
|
| |
| |
| |
| |
| |
Japanese yen denominated: | |
3.1 billion yen | |
3.1 billion yen ($26.4 million as of December 31, 2005) | |
1.7% | |
Notes due April 2014, with annual principal payments beginning April 2008. | |
|
|
|
|
|
| |
| |
| |
| |
| |
2004 $25.0 million revolving credit facility | |
N/A | |
$0 | |
N/A | |
Credit facility expires May 2007 | |
(1) |
Each of the credit facilities and arrangements listed in the table are
secured by guarantees issued by our material domestic subsidiaries and by
pledges of 65% to 100% of the outstanding stock of our material foreign
subsidiaries. |
(2) |
The current portion of our long-term debt (i.e. becoming due in the next 12
months) includes $11.9 million of the balance on our 2000 Japanese yen
denominated notes and $15.0 million of the balance on our U.S. dollar
denominated debt under the 2003 multi-currency uncommitted shelf facility. |
Our
board of directors has approved a stock repurchase program authorizing us to repurchase
our outstanding shares of Class A common stock on the open market or in private
transactions. The repurchases are used primarily for our equity incentive plans and
strategic initiatives. During the year ended December 31, 2005, we repurchased
approximately 1.2 million shares of Class A common stock under this program for an
aggregate amount of approximately $24.6 million. Currently, approximately $52.5 million is
available under the stock repurchase program for repurchases.
During
each quarter of 2005, our board of directors declared cash dividends of $0.09 per share on
our Class A common stock. These quarterly cash dividends totaled approximately $25.2
million and were paid during 2005 to stockholders of record in 2005. In February 2006, the
board of directors declared a dividend to be paid in March 2006 of $0.10 per share for
Class A common stock. Currently, we anticipate that our board of directors will continue
to declare quarterly cash dividends and that the cash flows from operations will be
sufficient to fund our future dividend payments. However, the declaration of dividends is
subject to the discretion of our board of directors and will depend upon various factors,
including our net earnings, financial condition, cash requirements, future prospects and
other factors deemed relevant by our board of directors.
-56-
We
believe we have sufficient liquidity to be able to meet our obligations on both a
short-term and long-term basis. We currently believe that existing cash balances together
with future cash flows from operations and existing lines of credit will be adequate to
fund our cash needs. The majority of our historical expenses have been variable in nature
and, as such, a potential reduction in the level of revenue would reduce our cash flow
needs. In the event that our current cash balances, future cash flow from operations and
current lines of credit are not sufficient to meet our obligations or strategic needs, we
would consider raising additional funds in the debt or equity markets or restructuring our
current debt obligations. Additionally, we would consider realigning our strategic plans
including a reduction in capital spending, stock repurchases or dividend payments.
Contractual Obligations
and Contingencies
The
following table sets forth payments due by period for fixed contractual obligations as of
December 31, 2005 (U.S. dollars in thousands):
|
Total | |
2006 | |
2007-2008 | |
2009-2010 | |
Thereafter | |
|
| |
| |
| |
| |
| |
Long-term debt obligations(1) |
|
$ 150,240 |
|
$ 26,757 |
|
$ 57,293 |
|
$ 51,072 |
|
$ 15,118 |
|
Capital lease obligations | |
|
|
|
|
|
|
|
|
|
|
Operating lease obligations(2) | |
45,667 |
|
13,645 |
|
19,292 |
|
10,845 |
|
1,885 |
|
Purchase obligations | |
65,707 |
|
43,238 |
|
15,663 |
|
5,940 |
|
866 |
|
Other long-term liabilities reflected
on the balance sheet(3) | |
|
|
|
|
|
|
|
|
|
|
Total | |
$ 261,614 |
|
$ 83,640 |
|
$ 92,248 |
|
$ 67,857 |
|
$ 17,869 |
|
(1) |
Long-term debt excludes estimated interest payments under these obligations
since a significant portion of our long-term debt is Japanese yen denominated.
We anticipate interest expense on this long-term debt to be similar to our 2005
interest expense, which was $5.6 million. In February 2005, we made an
additional borrowing under our shelf facility in Japanese yen denominated senior
notes in the amount of 3.1 billion yen (see Note 8 to the Consolidated Financial
Statements). |
(2) |
Operating leases include corporate office and warehouse space with two entities
that are owned by certain officers and directors of our company who are also
founding shareholders. Total payments under these leases were $3.7 million for
the year ended December 31, 2005 with remaining long-term obligations under
these leases of $19.8 million. |
(3) |
Other long-term liabilities reflected on the balance sheet do not constitute fixed contractual obligations and primarily consist of
long-term tax related balances, which totaled $41.7 million as of December 31,
2005. |
-57-
In 1999, we implemented a duty valuation methodology with respect to the importation of certain products into Japan. The Valuation Department
of the Yokohama customs authority reviewed and approved this methodology at that time, and it has been reviewed on several occasions by the audit division
of the Japan customs authority since then. In connection with recent audits, the Yokohama customs authorities have assessed us additional duties and
penalties on these products imported into Japan from October 2002 to October 2004, based on a different valuation methodology than that which was
previously approved. We have disputed this assessment. We have also disputed the amount of duties we were required to pay on products imported from
November of 2004 to June of 2005. The total amount assessed or in dispute is approximately $25.0 million as of December 31, 2005, net of any recovery of
consumption taxes. Effective July 1, 2005, we implemented some modifications to our business structure in Japan and in the United States that we believe
will eliminate any further customs valuation disputes with respect to product imports in Japan after that time.
Because the valuation methodology we used with respect to the products in dispute was reviewed and approved by the Japan customs authority, we
believe the assessments are improper and have filed letters of protest with Yokohama customs authority with respect to this entire amount. The Yokohama
customs authority has not accepted our letters of protest to date, and to follow proper administrative procedures, we have filed appeals with the Japan
Ministry of Finance. To the extent necessary, we plan to continue to file protests and appeals within the appropriate governmental channels concerning
this issue. We may also choose to use the judicial court system in Japan if necessary to bring this issue to a resolution. In order to file our letters
of protest, we were required to pay the $25.0 million in customs duties and assessments, the amount of which we recorded in "Other Assets" in our
Consolidated Balance Sheet. We have filed requests for refunds for this entire amount along with our letters of protest. To the extent that we are
unsuccessful in recovering the amounts assessed and paid, we will be required to take a corresponding charge to our earnings.
Seasonality and
Cyclicality
In
addition to general economic factors, we are impacted by seasonal factors and trends such
as major cultural events and vacation patterns. For example, most Asian markets celebrate
their respective local New Year in the first quarter, which generally has a negative
impact on that quarter. We believe that direct selling in Japan, the United States and
Europe is also generally negatively impacted during the third quarter, when many
individuals, including our distributors, traditionally take vacations.
We
have experienced rapid revenue growth in certain new markets following commencement of
operations. This initial rapid growth has often been followed by a short period of stable
or declining revenue, then followed by renewed growth fueled by product introductions, an
increase in the number of active distributors and increased distributor productivity. The
contraction following initial rapid growth has been more pronounced in certain new
markets, due to other factors such as business or economic conditions or distributor
distractions outside the market.
Distributor Information
The
following table provides information concerning the number of active and executive
distributors as of the dates indicated. Active distributors are those distributors and
preferred customers who were resident in the countries in which we operated and purchased
products for resale or personal consumption directly from us during the three months ended
as of the date indicated. Executive distributors are active distributors who have achieved
required monthly personal and group sales volumes as well as full-time sales
representatives in China who have completed a qualification process and receive a salary,
labor benefits and bonuses based on their personal sales efforts.
-58-
|
As of December 31, 2003 | |
As of December 31, 2004 | |
As of December 31, 2005 | |
|
Active | |
Executive | |
Active | |
Executive | |
Active | |
Executive | |
|
|
|
|
|
|
|
North Asia |
|
322,000 |
|
17,013 |
|
337,000 |
|
16,637 |
|
340,000 |
|
16,129 |
|
Greater China | |
187,000 |
|
5,991 |
|
229,000 |
|
8,827 |
|
191,000 |
|
7,134 |
|
North America | |
113,000 |
|
2,861 |
|
134,000 |
|
3,099 |
|
136,000 |
|
3,443 |
|
South Asia/Pacific | |
69,000 |
|
2,175 |
|
74,000 |
|
2,076 |
|
81,000 |
|
2,043 |
|
Other Markets | |
34,000 |
|
1,091 |
|
46,000 |
|
1,377 |
|
55,000 |
|
1,722 |
|
Total | |
725,000 |
|
29,131 |
|
820,000 |
|
32,016 |
|
803,000 |
|
30,477 |
|
Quarterly Results
The
following table sets forth selected unaudited quarterly data for the periods shown (U.S.
dollars in millions, except per share amounts):
|
2004 | |
2005 | |
|
1st
Quarter | |
2nd
Quarter | |
3rd
Quarter | |
4th
Quarter | |
1st
Quarter | |
2nd
Quarter | |
3rd
Quarter
| |
4th Quarter |
|
|
|
|
|
|
|
|
|
Revenue |
|
$ 264.0 |
|
$ 284.2 |
|
$ 283.3 |
|
$ 306.4 |
|
$ 289.3 |
|
$ 310.1 |
|
$ 290.8 |
|
$ 290.7 |
|
Gross profit | |
220.1 |
|
236.7 |
|
235.7 |
|
254.2 |
|
239.7 |
|
256.1 |
|
239.3 |
|
239.7 |
|
Operating income | |
23.8 |
|
35.0 |
|
33.6 |
|
33.4 |
|
28.8 |
|
37.0 |
|
30.0 |
|
27.3 |
|
Net income | |
14.5 |
|
20.3 |
|
20.9 |
|
22.0 |
|
17.7 |
|
22.8 |
|
17.7 |
|
15.8 |
|
Net income per share: | |
Basic | |
0.20 |
|
0.28 |
|
0.30 |
|
0.32 |
|
0.25 |
|
0.33 |
|
0.25 |
|
0.22 |
|
Diluted | |
0.20 |
|
0.28 |
|
0.29 |
|
0.31 |
|
0.25 |
|
0.32 |
|
0.25 |
|
0.22 |
|
Recent Accounting
Pronouncements
In December 2004, the Financial Accounting Standards Board issued SFAS No. 123R, Share-Based Payment, which requires the expensing of employee
options beginning the first fiscal year that begins after June 15, 2005. Consequently, we will begin expensing employee options during the first quarter
of 2006 and anticipate recording an additional stock option expense of approximately $2.0 million per quarter in 2006. Through 2005, we continued to
account for stock-based compensation granted to employees according to the provisions of APB Opinion No. 25.
Currency Risk and
Exchange Rate Information
A
majority of our revenue and many of our expenses are recognized primarily outside of the
United States, except for inventory purchases, which are primarily transacted in U.S.
dollars from vendors in the United States. The local currency of each of our
subsidiaries primary markets is considered the functional currency. All revenue and
expenses are translated at weighted-average exchange rates for the periods reported.
Therefore, our reported revenue and earnings will be positively impacted by a weakening of
the U.S. dollar and will be negatively impacted by a strengthening of the U.S. dollar. The
Chinese government is beginning to allow the yuan to float more freely against the U.S.
dollar and other major currencies. A strengthening of the yuan would benefit our reported
revenue and profits and a weakening of the yuan would negatively impact reported revenue
and profits. In addition, in recent months we have seen a weakening of the Japanese yen
against the U.S. dollar. Any further weakening of the yen would negatively impact reported
revenue and profits. Given the uncertainty of exchange rate fluctuations, we cannot
estimate the effect of these fluctuations on our future business, product pricing and
results of operations or financial condition.
-59-
We
seek to reduce our exposure to fluctuations in foreign currency exchange rates through the
use of foreign currency exchange contracts, through intercompany loans of foreign currency
and through our Japanese yen-denominated debt. We do not use derivative financial
instruments for trading or speculative purposes. We regularly monitor our foreign currency
risks and periodically take measures to reduce the impact of foreign exchange fluctuations
on our operating results.
Our
foreign currency derivatives are comprised of over-the-counter forward contracts with
major international financial institutions. As of December 31, 2005, we had contracts with
notional amounts totaling $23.7 million with expiration dates through December 2006. All
of these contracts were denominated in Japanese yen. For the year ended December 31, 2005,
we recorded losses of $0.3 million in operating income, and gains of $5.3 million, net of
tax, in other comprehensive income related to the fair market valuation of our outstanding
forward contracts. Because of our foreign exchange contracts at December 31, 2005, the
impact of a 10% appreciation or 10% depreciation of the U.S. dollar against the Japanese
yen would not represent a material potential loss in fair value, earnings or cash flows
against these contracts. This potential loss does not consider the underlying foreign
currency transaction or translation exposures to which we are subject.
Following
are the weighted-average currency exchange rates of U.S. $1 into local currency for each
of our international or foreign markets in which revenue exceeded U.S. $5.0 million for at
least one of the quarters listed:
|
2004 | |
2005 | |
|
1st
Quarter | |
2nd
Quarter | |
3rd
Quarter | |
4th
Quarter | |
1st
Quarter | |
2nd
Quarter | |
3rd
Quarter
| |
4th Quarter |
|
|
|
|
|
|
|
|
|
Japan(1) |
|
$ 107.3 |
|
$ 109.6 |
|
$ 109.9 |
|
$ 105.6 |
|
$ 104.5 |
|
$ 107.5 |
|
$ 111.3 |
|
$ 117.3 |
|
Taiwan | |
33.3 |
|
33.3 |
|
33.9 |
|
32.9 |
|
31.5 |
|
31.4 |
|
32.3 |
|
33.4 |
|
Hong Kong | |
7.8 |
|
7.8 |
|
7.8 |
|
7.8 |
|
7.8 |
|
7.8 |
|
7.8 |
|
7.8 |
|
South Korea | |
1,171.7 |
|
1,162.0 |
|
1,154.8 |
|
1,091.6 |
|
1,022.4 |
|
1,008.4 |
|
1,029.4 |
|
1,036.0 |
|
Malaysia | |
3.8 |
|
3.8 |
|
3.8 |
|
3.8 |
|
3.8 |
|
3.8 |
|
3.8 |
|
3.8 |
|
Thailand | |
39.2 |
|
39.8 |
|
41.3 |
|
40.2 |
|
38.6 |
|
40.1 |
|
41.3 |
|
41.0 |
|
China | |
8.3 |
|
8.3 |
|
8.3 |
|
8.3 |
|
8.3 |
|
8.3 |
|
8.1 |
|
8.1 |
|
(1)
As of March 15, 2006 the exchange rate of U.S. $1 into the Japanese yen was
approximately 117.26.
Note Regarding
Forward-Looking Statements
With
the exception of historical facts, the statements contained in Managements
Discussion and Analysis of Financial Condition and Results of Operations, are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995 which reflect our current expectations and beliefs regarding
our future results of operations, performance and achievements.
These statements are subject to risks
and uncertainties and are based upon assumptions and beliefs that may not materialize.
These forward-looking statements include, but are not limited to, statements concerning:
|
|
|
our
expectation that the self-manufacture of product will result in reduced cost of goods
sold, and our plans to manufacture more products in China for export; |
|
|
|
our
plans to launch certain products, tools, initiatives and incentives in our various
markets, such as the S2 Scanner and the Nu Skin® ProDerm Skin Analyzer, and our
belief that these initiatives will positively impact our business in these markets; |
-60-
|
|
|
our
plans to augment our current business model in China with a direct selling component; |
|
|
|
our
plans to continue to invest resources in continued expansion and build-out of our infrasctructure in China; |
|
|
|
our
plans to implement certain organizational restructuring initiatives; |
|
|
|
the
expectation that we will spend $40 million to $45 million for capital expenditures during
2006; |
|
|
|
the
anticipation that we will continue to declare quarterly cash dividends and that cash
flows from operations will be sufficient to pay future dividends; |
|
|
|
our
belief that we have sufficient liquidity to be able to meet our obligations on both a
short-and long-term basis, and that existing cash together with cash flow from operations
and existing lines of credit will be adequate to fund cash needs; |
|
|
|
our
plans to continue protesting and appealing assessments by the Yokohama customs authority
for duties on products imported into Japan; and |
|
|
|
our
belief that recent modifications to our business structure in Japan and in the United
States should eliminate any further customs valuation disputes with respect to product
imports in Japan. |
In
addition, when used in this report, the words or phrases will likely result,
expect, anticipate, will continue, intend,
plan, believe and similar expressions are intended to help
identify forward-looking statements.
We
wish to caution readers that our operating results are subject to various risks and
uncertainties that could cause our actual results and outcomes to differ materially from
those discussed or anticipated. Reference is made to the risks and uncertainties described
below and factors described herein in Item 1. Business Risk Factors
(which contain a more detailed discussion of the risks and uncertainties related to our
business). We also wish to advise readers not to place any undue reliance on the
forward-looking statements contained in this report, which reflect our beliefs and
expectations only as of the date of this report. We assume no obligation to update or
revise these forward-looking statements to reflect new events or circumstances or any
changes in our beliefs or expectations. Some of the risks and uncertainties that might
cause actual results to differ from those anticipated include, but are not limited to, the
following:
|
(a) |
|
Because
a substantial majority of our sales are generated in Asia, particularly Japan,
significant variations in operating results including revenue, gross margin and
earnings from those expected could be caused by: |
|
|
|
|
continued
weakening of the Japanese yen; |
|
|
|
|
regulatory
constraints with respect to the claims we can make with respect to the efficacy of our
products and tools; |
|
|
|
|
increasing
competitive pressures; |
|
|
|
|
renewed
or sustained weakness of Asian economies or consumer confidence; |
|
|
|
|
political
unrest or uncertainty; or |
-61-
|
|
|
|
natural
disasters or epidemics. |
|
(b) |
|
Our
operations in China are subject to significant regulatory scrutiny and we have
experienced challenges in the past, including interruption of sales activities
at certain stores and minor fines being paid in some cases. Because of current
restrictions on direct selling activities, we have implemented a modified
business model for this market using retail stores and an employed sales force.
Our operations in China may be modified or otherwise harmed by regulatory
changes, subjective interpretations of laws or an inability to work effectively
with national and local government agencies. In addition, we could face risks
that any improper actions by our local sales employees, or any overseas
distributors, in violation of local laws or our policies could result in
regulatory investigations and penalties that could harm our business. |
|
(c) |
|
Towards
the end of 2005, Chinese regulators adopted anti-pyramiding and new direct
selling regulations. Although we have applied for a direct selling license and
anticipate that we will be able to obtain a direct selling license under these
regulations, there can be no assurance that we will be able to obtain such a
license. Our future growth in China could be harmed if we do not receive a
direct selling license or if the direct selling application process is delayed
further than anticipated. These new regulations are not yet well understood,
and there continues to be some confusion and uncertainty as to the meaning of
the new regulations and the specific types of restrictions and requirements
imposed under them. It is also difficult to predict how regulators will
interpret and enforce these new regulations. We anticipate that regulatory
scrutiny of companies engaged in direct selling may increase following the
implementation of these new regulations. Our business and our growth prospects
may be harmed if Chinese regulators interpret the anti-pyramiding regulations
or direct selling regulations in such a manner that our current method of
conducting business through the use of employed sales representatives or our
planned implementation of direct selling violates these regulations, including
the restrictions on the use of multi-level compensation plans for distributors.
Our business could also be harmed if regulators inhibit our ability to
concurrently operate our retail store/employed sales representative business
model and our planned direct selling business. |
|
(d) |
|
Our
ability to retain key and executive level distributors or to sponsor new
executive distributors is critical to our success. Because our products are
distributed exclusively through our distributors and we compete with other
direct selling companies in attracting distributors, our operating results
could be adversely affected if our existing and new business opportunities and
incentives, products, business tools and other initiatives do not generate
sufficient enthusiasm and economic incentive to retain our existing
distributors or to sponsor new distributors on a sustained basis. For example,
the introduction of the Scanner, changes in compensation incentives and focus
on automatic delivery programs have helped generate growth in many of our
markets. There can be no assurance that such initiatives will continue to
generate excitement among our distributors in the long-term or that planned
initiatives tied to the Scanner in markets like the United States where the
Scanner was introduced more than three years ago will be successful in
maintaining distributor activity and productivity. In addition, some
initiatives may have unanticipated negative impacts on our markets. For
example, during the past year certain modifications were made to compensation
incentives in China, Japan, and Singapore that appear not to have been as well
received by some distributors as expected, contributing to declines in
distributor numbers and revenue results. |
-62-
|
(e) |
|
Our
use of the Scanner is subject to regulatory risks and uncertainties in our
various markets. For example, in March 2003 the United States Food and Drug
Administration (the FDA) questioned its status as a non-medical
device and we subsequently filed an application with the FDA to have the
Scanner classified as a non-medical device. The FDA has not yet acted on our
application. There are various factors that could determine whether the Scanner
is a medical device, including the claims that we or our distributors make
about it. We face similar regulatory issues in other markets with respect to
the status of the Scanner as a non-medical device and the claims that can be
made in using it. For example, during the past year we faced regulatory
inquiries in Singapore, Korea and Japan regarding distributor claims with
respect to the Scanner. Although these matters have not resulted in any adverse
action against us, our revenue in any market going forward could be negatively
impacted if we face similar issues in the future or if such inquiries weaken
distributor enthusiasm surrounding the Scanner. A determination in any market
that the Scanner is a medical device or that distributors are using it to make
medical claims could negatively impact our ability to use the Scanner in such
market. In addition, if distributors make claims regarding the Scanner outside
of claims approved by us, or use it in a manner not authorized by us, this
could result in regulatory actions against our business. |
|
(f) |
|
Our
plans to introduce the Nu Skin® ProDerm skin analysis tool
in our various markets are subject to risks and uncertainties. We are currently
in the process of finalizing the hardware and software design specifications,
and if we experience difficulties or delays in completing this process that
prevent us from meeting our launch schedules, our business may be harmed. Our
plans are also subject to regulatory risks, particularly in Japan, where we are
currently working through the regulatory process for the planned introduction
of the ProDerm tool in that market. There is a risk that regulatory
authorities in Japan may impose limitations on the use of this tool and on
claims that may be made in connection with its use. Such limitations in Japan
or any other markets could weaken the ability of our distributors to utilize
this tool in building their businesses, and could dampen distributor enthusiasm
surrounding it. |
|
(g) |
|
As
we prepare to begin operations in Russia and prepare for the implementation of
direct selling regulations in China, we anticipate that some distributor
leaders in other markets will shift their focus away from their home markets
and towards business prospects in these two markets. This shift of focus of
distributor leaders can negatively impact distributor leadership and growth in
these other markets and consequently negatively impact revenue. In addition, if
Russia and China are not as successful as the distributor leaders from these
other markets anticipate, this can also dampen distributor enthusiasm. |
|
(h) |
|
The
network marketing and nutritional supplement industries are subject to various
laws and regulations throughout our markets, many of which involve a high level
of subjectivity and are inherently fact-based and subject to interpretation.
Recent negative publicity concerning certain supplements with controversial
ingredients has spurred efforts to change existing regulations or adopt new
regulations in order to impose further restrictions and regulatory control over
the nutritional supplement industry. If our existing business practices or
products, or any new initiatives or products, are challenged or found to
contravene any of these laws by any governmental agency or other third party,
or if there are any changes in regulations applicable to our business or any of
our nutritional products that limit our ability to market such products, our
revenue and profitability may be harmed. |
-63-
|
(i) |
|
Due
to the international nature of our business, we are subject from time to time
to reviews and audits by the foreign taxing authorities of the various
jurisdictions in which we conduct business throughout the world. These audits
sometimes result in challenges by such taxing authorities as to our
methodologies used in determining our income tax, duties, customs, and other
amounts owed in connection with the importation and distribution of our
products. For example, we were recently assessed by the Japan customs
authorities for additional duties on products imported into Japan, and we are
currently contesting this assessment. Audits are also often focused on whether
or not certain expenses are deductible for tax purposes in a given country.
Currently, audits are underway with respect to this issue in a number of our
markets, including Taiwan. To the extent we are unable to successfully defend
ourselves against such audits and reviews, we may be required to pay
assessments and penalties and increased duties, which may, individually or in
the aggregate, negatively impact our gross margins and operating results. |
|
(j) |
|
Production
difficulties and quality control problems could harm our business, in
particular our reliance on third party suppliers to deliver quality products in
a timely manner.Occasionally, we have experienced production
difficulties with respect to our products, including the delivery of products
that do not meet our quality control standards. These quality problems have
resulted in the past, and could result in the future, in stock outages or
shortages in our markets with respect to such products, harming our sales and
creating inventory write-offs for unusable products. |
ITEM 7A. |
|
QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
The
information required by Item 7A of Form 10-K is incorporated herein by reference from the
information contained in Item 7. Managements Discussion and Analysis of
Financial Condition and Results of Operations Currency Risk and Exchange Rate
Information and Note 15 to the Consolidated Financial Statements.
ITEM 8. |
|
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
|
1. |
|
Financial
Statements. Set forth below is the index to the Financial Statements
included in this Item 8: |
|
Page | |
|
|
|
Consolidated Balance Sheets at December 31, 2004 and 2005 |
64 |
|
|
|
|
Consolidated Statements of Income for the years
ended December 31, 2003, 2004 and 2005 |
65 |
|
|
|
|
Consolidated Statements of Stockholders' Equity
for the years ended |
66 |
|
|
|
|
Consolidated Statements of Cash Flows for the years
ended December 31, 2003, 2004 and 2005 |
67 |
|
|
|
|
Notes to Consolidated Financial Statements |
68 |
|
|
|
|
Report of Independent Registered Public Accounting Firm |
86 |
|
|
2. |
|
Financial
Statement Schedules: Financial statement schedules have been omitted
because they are not required or are not applicable, or because the required
information is shown in the financial statements or notes thereto. |
-64-
Nu Skin Enterprises, Inc.
Consolidated Balance Sheets
(U.S. dollars in thousands, except share amounts)
|
December 31, | |
|
2004 | |
2005 | |
ASSETS |
|
|
|
|
|
Current assets | |
Cash and cash equivalents | |
$ 109,865 |
|
$ 155,409 |
|
Current investments | |
10,230 |
|
|
|
Accounts receivable | |
16,057 |
|
16,683 |
|
Inventories, net | |
87,474 |
|
99,399 |
|
Prepaid expenses and other | |
44,723 |
|
36,663 |
|
| |
268,349 |
|
308,154 |
|
| |
|
|
|
|
Property and equipment, net | |
76,511 |
|
84,053 |
|
Goodwill | |
112,446 |
|
112,446 |
|
Other intangible assets, net | |
79,005 |
|
91,137 |
|
Other assts | |
73,426 |
|
83,076 |
|
Total assets | |
$ 609,737 |
|
$ 678,866 |
|
LIABILITIES AND STOCKHOLDERS' EQUITY | |
Current liabilities | |
Accounts payable | |
$ 25,182 |
|
$ 20,276 |
|
Accrued expenses | |
107,226 |
|
112,023 |
|
Current portion of long-term debt | |
18,540 |
|
26,757 |
|
| |
150,948 |
|
159,056 |
|
| |
|
|
|
|
Long-term debt | |
132,701 |
|
123,483 |
|
Other liabilities | |
29,855 |
|
41,699 |
|
Total liabilities | |
313,504 |
|
324,238 |
|
| |
|
|
|
|
Commitments and contingencies (Notes 9 and 19) | |
| |
|
|
|
|
Stockholders' equity | |
Class A common stock - 500 million shares authorized,
$.001 par value, 90.6 million shares issued; | | 91 |
|
91 |
|
Additional paid-in capital | |
165,177 |
|
180,839 |
|
Treasury stock, at cost - 20.9 million and 20.5 million shares | |
(273,721 |
) |
(284,138 |
) |
Accumulated other comprehensive loss | |
(71,606 |
) |
(67,197 |
) |
Retained earnings | |
477,912 |
|
526,537 |
|
Deferred compensation | |
(1,620 |
) |
(1,504 |
) |
| |
296,233 |
|
354,628 |
|
Total liabilities and stockholders' equity | |
$ 609,737 |
|
$ 678,866 |
|
The
accompanying notes are an integral part of these consolidated financial statements.
-65-
Nu Skin Enterprises, Inc.
Consolidated Statements of Income
(U.S. dollars in thousands, except per share amounts)
|
Year Ended December 31, |
|
|
2003 | |
2004 | |
2005 | |
|
|
|
Revenue |
|
$ 986,457 |
|
$ 1,137,864 |
|
$ 1,180,930 |
|
Cost of sales | |
176,545 |
|
191,211 |
|
206,163 |
|
|
|
|
Gross profit | |
809,912 |
|
946,653 |
|
974,767 |
|
|
|
|
Operating expenses: | |
Selling expenses | |
407,088 |
|
487,631 |
|
497,421 |
|
General and administrative expenses | |
289,925 |
|
333,263 |
|
354,223 |
|
Restructuring and other charges | |
5,592 |
|
|
|
|
|
|
|
|
Total operating expenses | |
702,605 |
|
820,894 |
|
851,644 |
|
|
|
|
Operating income | |
107,307 |
|
125,759 |
|
123,123 |
|
Other income (expense), net | |
432 |
|
(3,618 |
) |
(4,172 |
) |
|
|
|
Income before provision for income taxes | |
107,739 |
|
122,141 |
|
118,951 |
|
Provision for income taxes | |
39,863 |
|
44,467 |
|
44,918 |
|
|
|
|
Net income | |
$ 67,876 |
|
$ 77,674 |
|
$ 74,033 |
|
|
|
|
Net income per share: | |
Basic | |
$ 0.86 |
|
$ 1.10 |
|
$ 1.06 |
|
Diluted | |
$ 0.85 |
|
$ 1.07 |
|
$ 1.04 |
|
|
|
|
Weighted-average common shares outstanding (000s): | |
Basic | |
78,637 |
|
70,734 |
|
70,047 |
|
Diluted | |
79,541 |
|
72,627 |
|
71,356 |
|
The
accompanying notes are an integral part of these consolidated financial statements.
-66-
Nu Skin Enterprises, Inc.
Consolidated Statements of Stockholders' Equity
(U.S. dollars in thousands)
|
Class A
Common Stock | |
Class B
Common Stock | |
Additional
Paid in Capital | |
Treasury Stock | |
Accumulated Other
Comprehensive Loss | |
Retained
Earnings | |
Deferred
Compensation | |
Total | |
|
|
|
|
|
|
|
|
|
Balance at January 1, 2003 |
|
$ 46 |
|
$ 45 |
|
$ 149,548 |
|
$ (79,755 |
) |
$ (68,988 |
) |
$ 385,590 |
|
$ |
|
$ 386,486 |
|
|
|
|
|
|
|
|
|
|
Net income | |
|
|
|
|
|
|
|
|
|
|
67,876 |
|
|
|
67,876 |
|
Foreign currency translation adjustment | |
|
|
|
|
|
|
|
|
(1,736 |
) |
|
|
|
|
(1,736 |
) |
Net unrealized losses on foreign currency cash flow hedges | |
|
|
|
|
|
|
|
|
(3,171 |
) |
|
|
|
|
(3,171 |
) |
Less: Reclassification adjustment for realized losses in current earnings | |
|
|
|
|
|
|
|
|
3,046 |
|
|
|
|
|
3,046 |
|
Total comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
66,015 |
|
Repurchase of Class A common stock (Note 10) | |
|
|
|
|
|
|
(150,009 |
) |
|
|
|
|
|
|
(150,009 |
) |
Conversion of shares (Note 10) | |
45 |
|
(45 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Issuance of employee stock awards | |
|
|
|
|
3,113 |
|
|
|
|
|
|
|
(3,113 |
) |
|
|
Amortization of deferred compensation | |
|
|
|
|
|
|
|
|
|
|
|
|
715 |
|
715 |
|
Exercise of distributor and employee stock options (1,258,000 shares) | |
|
|
|
|
(4,025 |
) |
12,917 |
|
|
|
|
|
|
|
8,892 |
|
Cash dividends | |
|
|
|
|
|
|
|
|
|
|
(21,851 |
) |
|
|
(21,851 |
) |
Balance at December 31, 2003 | |
91 |
|
|
|
148,636 |
|
(216,847 |
) |
(70,849 |
) |
431,615 |
|
(2,398 |
) |
290,248 |
|
| |
Net income | |
|
|
|
|
|
|
|
|
|
|
77,674 |
|
|
|
77,674 |
|
Foreign currency translation adjustment | |
|
|
|
|
|
|
|
|
(1,402 |
) |
|
|
|
|
(1,402 |
) |
Net unrealized losses on foreign currency cash flow hedges | |
|
|
|
|
|
|
|
|
(2,590 |
) |
|
|
|
|
(2,590 |
) |
Less: Reclassification adjustment for realized losses in current earnings | |
|
|
|
|
|
|
|
|
3,235 |
|
|
|
|
|
3,235 |
|
Total comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
76,917 |
|
Repurchase of Class A common stock (Note 10) | |
|
|
|
|
|
|
(72,311 |
) |
|
|
|
|
|
|
(72,311 |
) |
Amortization of deferred compensation | |
|
|
|
|
|
|
|
|
|
|
|
|
778 |
|
778 |
|
Purchase of long-term assets (Note 20) | |
|
|
|
|
4,279 |
|
2,624 |
|
|
|
|
|
|
|
6,903 |
|
Reduction in carrying value of intangible asset | |
|
|
|
|
|
|
|
|
|
|
(8,750 |
) |
|
|
(8,750 |
) |
Exercise of employee stock options (1,834,000 shares) | |
|
|
|
|
3,814 |
|
12,813 |
|
|
|
|
|
|
|
16,627 |
|
Tax benefit of options exercised | |
|
|
|
|
8,448 |
|
|
|
|
|
|
|
|
|
8,448 |
|
Cash dividends | |
|
|
|
|
|
|
|
|
|
|
(22,627 |
) |
|
|
(22,627 |
) |
Balance at December 31, 2004 | |
91 |
|
|
|
165,177 |
|
(273,721 |
) |
(71,606 |
) |
477,912 |
|
(1,620 |
) |
296,233 |
|
| |
Net income | |
|
|
|
|
|
|
|
|
|
|
74,033 |
|
|
|
74,033 |
|
Foreign currency translation adjustment | |
|
|
|
|
|
|
|
|
(597 |
) |
|
|
|
|
(597 |
) |
Net unrealized gains on foreign currency cash flow hedges | |
|
|
|
|
|
|
|
|
5,278 |
|
|
|
|
|
5,278 |
|
Less: Reclassification adjustment for realized losses in current earnings | |
|
|
|
|
|
|
|
|
(272 |
) |
|
|
|
|
(272 |
) |
Total comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
78,442 |
|
Repurchase of Class A common stock (Note 10) | |
|
|
|
|
|
|
(24,638 |
) |
|
|
|
|
|
|
(24,638 |
) |
Issuance of employee stock awards | |
|
|
|
|
1,023 |
|
|
|
|
|
|
|
1,023 |
) |
|
|
Mark to market stock awards | |
|
|
|
|
(232 |
) |
|
|
|
|
|
|
232 |
|
|
|
Amortization of deferred compensation | |
|
|
|
|
|
|
|
|
|
|
|
|
907 |
|
907 |
|
Purchase of long-term assets (Note 20) | |
|
|
|
|
13,512 |
|
7,695 |
|
|
|
|
|
|
|
21,207 |
|
Exercise of employee stock options (666,000 shares) | |
|
|
|
|
(349 |
) |
6,526 |
|
|
|
|
|
|
|
6,177 |
|
Tax benefit of options exercised | |
|
|
|
|
1,708 |
|
|
|
|
|
|
|
|
|
1,708 |
|
Cash dividends | |
|
|
|
|
|
|
|
|
|
|
(25,408 |
) |
|
|
25,408 |
|
Balance at December 31, 2005 | |
$ 91 |
|
$ |
|
$ 180,839 |
|
$ (284,138 |
) |
$ (67,197 |
) |
$ 526,537 |
|
$ (1,504 |
) |
$ 354,628 |
|
The accompanying notes are an
integral part of these consolidated financial statements.
-68-
Nu Skin Enterprises, Inc.
Consolidated Statements of Cash Flows
(U.S. dollars in thousands)
|
Year Ended December 31, |
|
|
2003 | |
2004 | |
2005 | |
Cash flows from operating activities: |
|
|
|
|
|
|
|
Net income | |
$ 67,876 |
|
$ 77,674 |
|
$ 74,033 |
|
Adjustments to reconcile net income to net cash provided | |
by operating activities: | |
Depreciation and amortization | |
22,369 |
|
27,883 |
|
30,459 |
|
Amortization of deferred compensation | |
715 |
|
778 |
|
907 |
|
Loss on sale of assets | |
525 |
|
|
|
|
|
Changes in operating assets and liabilities: | |
Accounts receivable | |
3,860 |
|
(1,003 |
) |
(626 |
) |
Inventories, net | |
4,968 |
|
(4,136 |
) |
(11,925 |
) |
Prepaid expenses and other | |
11,714 |
|
21,869 |
|
15,991 |
|
Other assets | |
(7,965 |
) |
(10,372 |
) |
(5,048 |
) |
Accounts payable | |
824 |
|
6,366 |
|
(4,906 |
) |
Accrued expenses | |
1,176 |
|
10,910 |
|
22,185 |
|
Other liabilities | |
2,964 |
|
381 |
|
(6,970 |
) |
| |
Net cash provided by operating activities | |
109,026 |
|
130,350 |
|
114,100 |
|
| |
Cash flows from investing activities: | |
Purchase of property and equipment | |
(23,518 |
) |
(34,996 |
) |
(30,884 |
) |
Proceeds on investment sales | |
70,775 |
|
185,015 |
|
170,610 |
|
Purchases of investments | |
(52,800 |
) |
(195,245 |
) |
(160,380 |
) |
Purchase of long-term assets | |
|
|
(2,953 |
) |
(5,548 |
) |
| |
Net cash used in investing activities | |
(5,543 |
) |
(48,179 |
) |
(26,202 |
) |
| |
Cash flows from financing activities: | |
Payment of cash dividends | |
(21,851 |
) |
(22,627 |
) |
(25,408 |
) |
Repurchase of shares of common stock | |
(150,009 |
) |
(72,311 |
) |
(24,638 |
) |
Exercise of distributor and employee stock options | |
8,892 |
|
16,627 |
|
6,177 |
|
Payments on long-term debt | |
|
|
(16,241 |
) |
(17,074 |
) |
Proceeds from long-term debt | |
75,000 |
|
|
|
30,000 |
|
Proceeds from revolving credit facility | |
20,000 |
|
|
|
|
|
Payments on revolving credit facility | |
(20,000 |
) |
|
|
|
|
| |
Net cash used in financing activities | |
(87,968 |
) |
(94,552 |
) |
(30,943 |
) |
| |
Effect of exchange rate changes on cash | |
4,687 |
|
(322 |
) |
(11,411 |
) |
| |
Net increase (decrease) in cash and cash equivalents | |
20,202 |
|
(12,703 |
) |
45,544 |
|
| |
Cash and cash equivalents, beginning of period | |
102,366 |
|
122,568 |
|
109,865 |
|
| |
Cash and cash equivalents, end of period | |
$ 122,568 |
|
$; 109,865 |
|
$ 155,409 |
|
The
accompanying notes are an integral part of these consolidated financial statements.
-69-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
Nu
Skin Enterprises, Inc. (the Company) is a leading, global direct selling
company that develops and distributes premium-quality, innovative personal care products
and nutritional supplements that are sold worldwide under the Nu Skin and Pharmanex
brands. The Company also markets technology-related products and services under the Big
Planet brand. The Company reports revenue from five geographic regions: North Asia, which
consists of Japan and South Korea; Greater China, which consists of China, Hong
Kong, Macau and Taiwan; North America, which consists of the United States and Canada;
South Asia/Pacific, which consists of Australia, Brunei, Indonesia, Malaysia, New Zealand,
the Philippines, Singapore and Thailand; and Other Markets, which consists of Brazil,
Europe, Guatemala/Central America, Israel and Mexico (the Companys subsidiaries
operating in these countries are collectively referred to as the
Subsidiaries).
2. |
|
Summary
of Significant Accounting Policies |
Consolidation
The
consolidated financial statements include the accounts of the Company and the
Subsidiaries. All significant intercompany accounts and transactions are eliminated in
consolidation.
Use of estimates
The
preparation of these financial statements, in conformity with accounting principles
generally accepted in the United States, required management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, and disclosure of
contingent assets and liabilities, at the date of the financial statements and the
reported amounts of revenue and expenses during the reporting period. Significant
estimates include reserves for product returns, obsolete inventory and taxes. Actual
results could differ from these estimates.
Cash and cash equivalents
Cash
equivalents are short-term, highly liquid instruments with original maturities of 90 days
or less.
Current investments
Current
investments consist entirely of auction rate municipal bonds classified as
available-for-sale securities. The Company, through its dealers, purchases and sells these
securities at par value and records them at cost, which approximates fair market value due
to their variable interest rates, which typically reset every 7 to 35 days and despite the
long-term nature of their stated contractual maturities, along with the Companys
investment policy and practice to only invest in high investment grade securities, the
Company has the ability to quickly liquidate these securities. As a result, the Company
has no cumulative gross unrealized holding gains (losses) or gross realized gains (losses)
from its current investments. Interest income generated from these current investments is
recorded in other income.
-69-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
Inventories
Inventories
consist primarily of merchandise purchased for resale and are stated at the lower of cost
or market, using the first-in, first-out method. The Company had reserves for obsolete
inventory totaling $5.2 million and $5.8 million as of December 31, 2004 and 2005,
respectively.
Inventories
consist of the following (U.S. dollars in thousands):
|
December 31, |
|
|
2004 | |
2005 | |
|
|
|
Raw materials |
|
$ 16,855 |
|
$ 20,941 |
|
Finished goods | |
70,619 |
|
78,458 |
|
| |
$ ; 87,474 |
|
$ 99,399 |
|
Property and equipment
Property
and equipment are recorded at cost and depreciated using the straight-line method over the
following estimated useful lives:
|
|
|
|
|
|
Furniture and fixtures |
|
5 - 7 years |
|
Computers and equipment | |
3 - 5 years | |
Leasehold improvements | |
Shorter of estimated useful life or lease term | |
Scanners | |
3 years | |
Vehicles | |
3 - 5 years | |
Expenditures
for maintenance and repairs are charged to expense as incurred.
Goodwill and other
intangible assets
Under
the provisions of Statements of Financial Accounting Standards
(SFAS) No. 142, Goodwill and Other Intangible Assets (SFAS
142), the Companys goodwill and intangible assets with indefinite useful lives
are no longer amortized, but instead are tested for impairment at least annually. The
Companys intangible assets with finite lives are recorded at cost and are amortized
over their respective estimated useful lives to their estimated residual values and are
reviewed for impairment in accordance with SFAS No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assets (Note 5). In addition, the Company is required to
make judgments regarding and periodically assesses the useful life of its intangible
assets.
Revenue recognition
Revenue
is recognized when products are shipped, which is when title and risk of loss pass to
independent distributors who are the Companys customers. A reserve for product
returns is accrued based on historical experience totaling $2.5 million and $2.1 million
as of December 31, 2004 and 2005, respectively. The Company generally requires cash or
credit card payment at the point of sale. The Company has determined that no allowance for
doubtful accounts is necessary. Amounts received prior to shipment and title passage to
distributors are recorded as deferred revenue. The global compensation plan for the
Companys distributors generally does not provide rebates or selling discounts to
distributors who purchase its products and services. The Company classifies selling
discounts, if any, as a reduction of revenue.
-70-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
Advertising expense
Advertising
costs are expensed as incurred. Advertising expense incurred for the years ended December
31, 2003, 2004 and 2005 totaled approximately $1.4 million, $1.3 million and $2.4 million,
respectively.
Research and development
The
Companys research and development activities are conducted primarily through its
Pharmanex division. Research and development costs are expensed as incurred and totaled
$6.4 million, $7.7 million and $7.5 million in 2003, 2004 and 2005, respectively.
Income taxes
The
Company follows the liability method in accounting for income taxes. Under this method,
deferred tax assets and liabilities are determined based on the differences between
financial reporting and tax bases of assets and liabilities and are measured using the
enacted tax rates and laws that will be in effect when the differences are expected to
reverse. The Company nets deferred tax assets and deferred tax liabilities by
jurisdiction. Valuation allowances are established when necessary to reduce deferred tax
assets to the amounts expected to be ultimately realized. The Company accounts for any
income tax contingencies in accordance with SFAS No. 5, Accounting for
Contingencies.
Net income per share
Net
income per share is computed based on the weighted-average number of common shares
outstanding during the periods presented. Additionally, diluted earnings per share data
gives effect to all potentially dilutive common shares that were outstanding during the
periods presented (Note 10). Earnings per share in 2004 and 2005 were positively impacted
by the repurchase of 10.8 million shares of the Companys Class A common stock in
October 2003 and the repurchase of 3.1 million shares of the Companys Class A common
stock in July 2004.
Foreign currency
translation
Most
of the Companys business operations occur outside the United States. The local
currency of each of the Companys subsidiaries is considered its functional currency.
All assets and liabilities are translated into U.S. dollars at exchange rates existing at
the balance sheet dates, revenue and expenses are translated at weighted-average exchange
rates and stockholders equity is recorded at historical exchange rates. The
resulting foreign currency translation adjustments are recorded as a separate component of
stockholders equity in the consolidated balance sheets and transaction gains and
losses are included in other income and expense in the consolidated financial statements.
-71-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
Fair value of financial
instruments
The
carrying value of financial instruments including cash and cash equivalents, accounts
receivable, accounts payable and notes payable approximate fair values. The carrying
amount of long-term debt approximates fair value because the applicable interest rates
approximate current market rates. Fair value estimates are made at a specific point in
time, based on relevant market information.
Stock-based compensation
SFAS
No. 123, Accounting for Stock-Based Compensation (SFAS 123),
encourages, but does not require, companies to record compensation cost for stock-based
employee compensation plans based on the fair market value of options granted. The Company
has chosen to account for stock-based compensation granted to employees using the
intrinsic value method prescribed in Accounting Principles Board (APB) Opinion
No. 25, Accounting for Stock Issued to Employees, and related interpretations.
Accordingly, because the grant price equals the market price on the date of grant for
options issued by the Company, no compensation expense is recognized for stock options
issued to employees. However, stock-based compensation granted to non-employees, such as
the Companys independent distributors and consultants, is accounted for in
accordance with SFAS 123. SFAS No. 148, Accounting for Stock-Based Compensation
Transition and Disclosure (SFAS 148), which amended SFAS 123,
requires more prominent and frequent disclosures about the effects of stock-based
compensation, which have been presented herein.
In
December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No.
123R, Share-Based Payment, which requires the expensing of employee options
beginning the first fiscal year that begins after June 15, 2005. Consequently, the Company
will begin expensing employee options during its first quarter of 2006 and anticipates
recording an additional stock option expense of approximately $2.0 million per quarter in
2006. Through 2005, the Company continued to account for its stock-based compensation
granted to employees according to the provisions of APB Opinion No. 25. Had compensation
cost for the Companys stock options granted to employees been recognized based upon
the estimated fair value on the grant date under the fair value methodology prescribed by
SFAS 123, as amended by SFAS 148, the Companys net earnings and earnings per share
would have been as follows (U.S. dollars in thousands, except per share amounts):
|
December 31, |
|
|
2003 | |
2004 | |
2005 | |
|
|
|
|
Net income, as reported |
|
$ 67,876 |
|
$ 77,674 |
|
$ 74,033 |
|
Deduct: Total stock-based employee method expense
determined under fair value based method
for all awards, net of related tax effect | |
(5,274 |
) |
(6,224 |
) |
(5,823 |
) |
|
|
|
|
Pro forma net income | |
$ 62,602 |
|
$ 71,450 |
|
$ 68,210 |
|
|
|
|
|
Earnings per share: | |
Basic - as reported | |
$ 0.86 |
|
$ 1.10 |
|
$ 1.06 |
|
Basic - pro forma | |
$ 0.80 |
|
$ 1.01 |
|
$ 0.97 |
|
|
|
|
|
Diluted - as reported | |
$ 0.85 |
|
$ 1.07 |
|
$ 1.04 |
|
Diluted - pro forma | |
$ 0.79 |
|
$ 0.98 |
|
$ 0.96 |
|
-72-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
Reporting comprehensive
income
Comprehensive
income is defined as the change in equity of a business enterprise during a period from
transactions and other events and circumstances from non-owner sources, and it includes
all changes in equity during a period except those resulting from investments by owners
and distributions to owners.
Accounting for derivative
instruments and hedging activities
The
Company recognizes all derivatives as either assets or liabilities, with the instruments
measured at fair value as required by SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities (SFAS 133).
The
Companys Subsidiaries enter into significant transactions with each other and third
parties that may not be denominated in the respective Subsidiaries functional
currencies. The Company regularly monitors its foreign currency risks and seeks to reduce
its exposure to fluctuations in foreign exchange rates using foreign currency exchange
contracts and through certain intercompany loans of foreign currency.
The
Company hedges its exposure to future cash flows from forecasted transactions over a
maximum period of 12 months. Hedge effectiveness is assessed at inception and throughout
the life of the hedge to ensure the hedge qualifies for hedge accounting treatment.
Changes in fair value associated with hedge ineffectiveness, if any, are recorded in the
results of operations currently. In the event that an anticipated transaction is no longer
likely to occur, the Company recognizes the change in fair value of the derivative in its
results of operations currently.
Changes
in the fair value of derivatives are recorded in current earnings or accumulated other
comprehensive loss, depending on the intended use of the derivative and its resulting
designation. The gains and losses in accumulated other comprehensive loss stemming from
these derivatives will be reclassified into earnings in the period during which the hedged
forecasted transaction affects earnings. The fair value of the receivable and payable
amounts related to these unrealized gains and losses is classified as other current assets
and liabilities. The Company does not use such derivative financial instruments for
trading or speculative purposes. Gains and losses on certain intercompany loans of foreign
currency are recorded as other income and expense in the consolidated statements of
income.
3. |
|
Related
Party Transactions |
The
Company leases corporate office and warehouse space from two entities that are owned by
certain officers and directors of the Company. Total lease payments to these two
affiliated entities were $3.3 million, $3.6 million and $3.7 million for each of the years
ended December 31, 2003, 2004 and 2005 with remaining long-term minimum lease payment
obligations under these operating leases of $23.5 million and $19.8 million at December
31, 2004 and 2005, respectively.
-73-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
4. |
|
Property
and Equipment |
Property
and equipment are comprised of the following (U.S. dollars in thousands):
|
December 31, |
|
|
2004 | |
2005 | |
|
|
|
Furniture and fixtures |
|
$ 41,121 |
|
$ 44,769 |
|
Computers and equipment | |
84,598 |
|
88,619 |
|
Leasehold improvements | |
41,121 |
|
45,663 |
|
Scanners | |
28,327 |
|
37,363 |
|
Vehicles | |
3,021 |
|
3,140 |
|
| |
198,188 |
|
219,554 |
|
Less: accumulated depreciation | |
(121,677 |
) |
(135,501 |
) |
| |
$ 76,511 |
|
$ 84,053 |
|
Depreciation
of property and equipment totaled $18.3 million, $22.5 million and $24.7 million for the
years ended December 31, 2003, 2004 and 2005, respectively, which includes amortization
expense relating to the Scanners of approximately $1.0 million, $4.9 million and $7.9
million for the years ended December 31, 2003, 2004 and 2005, respectively.
5. |
|
Goodwill
and Other Intangible Assets |
Goodwill
and other intangible assets consist of the following (U.S. dollars in thousands):
|
Carrying Amount at
December 31, |
|
Goodwill and indefinite life intangible assets: | |
2004 | |
2005 | |
|
|
|
Goodwill |
|
$ 112,446 |
|
$ 112,446 |
|
Trademarks and trade names | |
24,599 |
|
24,599 |
|
| |
$ 137,045 |
|
$ 137,045 |
|
|
December 31, 2004 | |
December 31, 2005 | |
|
Finite life intangible assets: | |
Gross Carrying
Amount | |
Accumulated
Amortization | |
Gross Carrying
Amount | |
Accumulated
Amortization | |
Weighted-average
Amortization Period | |
|
|
|
|
|
|
Scanner technology |
|
$ 23,840 |
|
$ 1,099 |
|
$ 42,435 |
|
$ 3,304 |
|
18 years |
|
Developed technology |
|
22,500 |
|
8,490 |
|
22,500 |
|
9,314 |
|
20 years |
|
Distributor network | |
11,598 |
|
5,576 |
|
11,598 |
|
6,078 |
|
15 years | |
Trademarks | |
12,203 |
|
5,640 |
|
12,345 |
|
6,255 |
|
15 years | |
Other | |
20,828 |
|
15,758 |
|
19,873 |
|
17,262 |
|
5 years | |
| |
$ 90,969 |
|
$ 36,563 |
|
$ 108,751 |
|
$ 42,213 |
|
15 years | |
Amortization
of finite-life intangible assets totaled $4.1 million, $5.4 million and $5.7 million for
the years ended December 31, 2003, 2004 and 2005, respectively. Annual estimated
amortization expense is expected to approximate $7.0 million for each of the five
succeeding fiscal years.
-74-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
Goodwill
and indefinite life intangible assets are not amortized, rather they are subject to annual
impairment tests. Annual impairment tests were completed resulting in no impairment
charges for any of the periods shown. Finite life intangibles are amortized over their
useful lives unless circumstances occur that cause the Company to revise such lives or
review such assets for impairment.
Other
assets consist of the following (U.S. dollars in thousands):
|
December 31, |
|
|
2004 | |
2005 | |
|
|
|
Deferred taxes |
|
$ 34,856 |
|
$ 31,804 |
|
Deposits for noncancelable operating leases | |
11,636 |
|
13,397 |
|
Deposit for customs assessment (Note 19) | |
11,820 |
|
22,853 |
|
Other | |
15,114 |
|
15,022 |
|
| |
$ 73,426 |
|
$ 83,076 |
|
Accrued
expenses consist of the following (U.S. dollars in thousands):
|
December 31, | |
|
|
2004 | |
2005 | |
|
|
|
Accrued commission payments to distributors |
|
$ 43,845 |
|
$ 41,820 |
|
Income taxes payable | |
6,612 |
|
8,880 |
|
Other taxes payable | |
5,521 |
|
15,649 |
|
Accrued payroll and payroll taxes | |
11,435 |
|
11,405 |
|
Accrued contingent payable (Note 20) | |
8,217 |
|
|
|
Other accruals | |
31,596 |
|
34,269 |
|
| |
$ 107,226 |
|
$ 112,023 |
|
The
Company maintains a $25.0 million revolving credit facility that expires in May 2007.
Drawings on this revolving credit facility may be used for working capital, capital
expenditures and other purposes including repurchases of the Companys outstanding
shares of Class A common stock. As of December 31, 2005, there were no outstanding
balances under this revolving credit facility.
The
Company also has a $125.0 million multi-currency private uncommitted shelf facility with
Prudential Investment Management, Inc. As of December 31, 2005, the Company had $91.4
million outstanding under its shelf facility, $15.0 million of which is included in the
current portion of long-term debt. $65.0 million of this long-term debt is U.S. dollar
denominated, bears interest of approximately 4.5% per annum and is amortized in two
tranches over five and seven years. The remaining $26.4 million as of December 31, 2005,
is Japanese yen-denominated senior promissory notes in the aggregate principal amount of
3.1 billion Japanese yen, which were issued on February 7, 2005. The notes bear interest
of 1.7% per annum, with interest payable semi-annually. The interest payments on the notes
began April 30, 2005. The final maturity date of the notes is April 20, 2014 and principal
payments are required annually beginning on April 30, 2008 in equal installments of 445.7
million Japanese yen.
-75-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
The
Companys long-term debt also includes the long-term portion of Japanese yen
denominated ten-year senior notes issued to the Prudential Insurance Company of America in
2000. The notes bear interest at an effective rate of 3.0% per annum and are due October
2010, with annual principal payments that began in October 2004. As of December 31, 2005,
the outstanding balance on the notes was 6.9 billion Japanese yen, or $58.8 million, $11.8
million of which is included in the current portion of long-term debt. The Japanese notes
and the revolving and shelf credit facilities are secured by guarantees issued by our
material subsidiaries or by pledges of 65% to 100% of the outstanding stock of our
material subsidiaries.
Interest
expense relating to the long-term debt totaled $3.2 million, $5.9 million and $5.5 million
for the years ended December 31, 2003, 2004 and 2005, respectively.
The
notes and shelf facility contain other terms and conditions and affirmative and negative
financial covenants customary for credit facilities of this type. As of December 31, 2005,
the Company is in compliance with all financial covenants under the notes and shelf
facility.
Maturities
of all long-term debt at December 31, 2005, based on the year-end exchange rate, are as
follows (U.S. dollars in thousands):
Year Ending December 31, |
|
|
|
|
|
2006 |
|
$ 26,757 |
|
2007 | |
26,757 |
|
2008 | |
30,536 |
|
2009 | |
25,536 |
|
2010 | |
25,536 |
|
Thereafter | |
15,118 |
|
Total | |
$ 150,240 |
|
The
Company leases office space and computer hardware under noncancelable long-term operating
leases including related party leases (see Note 3). Most leases include renewal options of
at least three years. Minimum future operating lease obligations at December 31, 2005 are
as follows (U.S. dollars in thousands):
Year Ending December 31, |
|
|
|
|
|
2006 |
|
$ 13,645 |
|
2007 | |
11,103 |
|
2008 | |
8,189 |
|
2009 | |
5,537 |
|
2010 | |
5,308 |
|
Thereafter | |
1,885 |
|
Total | |
$ 45,667 |
|
Rental
expense for operating leases totaled $24.2 million, $25.9 million and $30.5 million for
the years ended December 31, 2003, 2004 and 2005, respectively.
-76-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
The
Companys authorized capital stock consists of 25 million shares of preferred stock,
par value $.001 per share, 500 million shares of Class A common stock, par value $.001 per
share and 100 million shares of Class B common stock, par value $.001 per share. The
shares of Class A common stock and Class B common stock are identical in all respects,
except for voting rights and certain conversion rights and transfer restrictions, as
follows: (1) each share of Class A common stock entitles the holder to one vote on matters
submitted to a vote of the Companys stockholders and each share of Class B common
stock entitles the holder to ten votes on each such matter; (2) stock dividends of Class A
common stock may be paid only to holders of Class A common stock and stock dividends of
Class B common stock may be paid only to holders of Class B common stock; (3) if a holder
of Class B common stock transfers such shares to a person other than a permitted
transferee, as defined in the Companys Certificate of Incorporation, such shares
will be converted automatically into shares of Class A common stock; and (4) Class A
common stock has no conversion rights; however, each share of Class B common stock is
convertible into one share of Class A common stock, in whole or in part, at any time at
the option of the holder. All outstanding Class B shares have been converted to Class A
shares.
Weighted-average common
shares outstanding
The
following is a reconciliation of the weighted-average common shares outstanding for
purposes of computing basic and diluted net income per share (in thousands):
|
Year Ended December 31, |
|
|
2003 | |
2004 | |
2005 | |
|
|
|
|
Basic weighted-average common shares outstanding |
|
78,637 |
|
70,734 |
|
70,047 |
|
Effect of dilutive securities: | |
Stock awards and options | |
904 |
|
1,893 |
|
1,309 |
|
Diluted weighted-average common shares outstanding | |
79,541 |
|
72,627 |
|
71,356 |
|
For
the years ended December 31, 2003, 2004 and 2005, other stock options totaling 2.9
million, 0.6 million and 2.1 million, respectively, were excluded from the calculation of
diluted earnings per share because they were anti-dilutive.
Repurchases of common
stock
Since
August 1998, the board of directors has authorized the Company to repurchase up to $160.0
million of the Companys outstanding shares of Class A common stock on the open
market or in private transactions. The repurchases are used primarily for the
Companys equity incentive plans and strategic initiatives. During the years ended
December 31, 2003, 2004 and 2005, the Company repurchased approximately 0.8 million, 0.1
million and 1.2 million shares of Class A common stock for an aggregate price of
approximately $8.4 million, $1.3 million and $24.6 million, respectively, under these
repurchase programs. Between August 1998 and December 31, 2005, the Company had
repurchased a total of approximately 10.0 million shares of Class A common stock under
this repurchase program for an aggregate price of approximately $107.5 million.
Additionally,
in October 2003, the Company repurchased approximately 10.8 million shares of Class A
common stock from certain members of the Companys original stockholder group for
approximately $141.6 million, which included $1.6 million of related expenses. These
stockholders also sold approximately 6.2 million additional shares of Class A common stock
to third-party investors. The Company financed the repurchase with $45.0 million from
existing cash balances, approximately $20.0 million from its revolving credit facility,
which was repaid prior to December 31, 2003 and $75.0 million in new long-term debt drawn
under the $125.0 million shelf facility.
-77-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
On
July 30, 2004, the Company purchased approximately 3.1 million shares of common stock from
members of its original stockholder group for an aggregate purchase price of $71.0
million, or $22.62 per share. These stockholders also sold 1.5 million shares to
third-party investors.
Conversion of common stock
During
2003, the holders of the Class B common stock converted approximately 45.4 million shares
of Class B common stock to Class A common stock, respectively. The conversion of 45.4
million shares of Class B common stock in 2003 was part of the repurchase transaction
described above. As of December 31, 2004, all outstanding Class B common stock had been
converted to Class A common stock.
11. |
|
Equity
Incentive Plans |
During
the year ended December 31, 1996, the Companys board of directors adopted the Nu
Skin Enterprises, Inc., 1996 Stock Incentive Plan (the 1996 Stock Incentive
Plan). The 1996 Stock Incentive Plan provides for granting of stock awards and
options to purchase common stock to executives, other employees, independent consultants
and directors of the Company and its Subsidiaries. On February 7, 2003, the board of
directors authorized and the shareholders approved an amendment to the plan increasing the
number of shares available for grant from 8.0 million to 13.0 million. As of December 31,
2005, approximately 11.0 million shares or options have been granted.
The
deferred compensation at December 31, 2005 represents the following restricted stock
awards:
|
|
|
A
restricted stock award of 250,000 shares of the Companys Class A common stock
granted to the Companys Chief Executive Officer and President in 2003, which vests
over four years; |
|
|
|
A
restricted stock award of up to 25,000 shares of the Companys Class A common stock
granted to an employee of the Company in June of 2005 with a 4-year cliff vest and a
maximum value limited to $1.0 million. The value of the award fluctuates based on the
Companys stock price and as a result the deferred compensation expense is
re-measured and adjusted each quarter for this award; and |
|
|
|
A
restricted stock award of up to 20,000 shares of the Companys Class A common stock
granted to an employee of the Company in June of 2005 with a 4-year cliff vest and a
maximum value limited to $0.5 million. The value of the award fluctuates based on the
Companys stock price and as a result, the deferred compensation expense is
re-measured and adjusted each quarter for this award. |
The
Company is amortizing the deferred compensation expense ratably over the respective
vesting period of each award. The combined compensation expense for all of the foregoing
restricted stock awards totaled $0.7 million, $0.8 million and $0.9 million for the years
ended December 31, 2003, 2004 and 2005, respectively.
-78-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
A
summary of the Companys stock option plans as of December 31, 2003, 2004 and 2005
and changes during the years then ended, is presented below:
|
2003 | |
2004 | |
2005 | |
|
Shares (in 000s) | |
Weighted-average
Exercise Price | |
Shares (in
000s) | |
Weighted-average
Exercise Price | |
Shares (in
000s) | |
Weighted-average
Exercise Price | |
|
|
|
|
|
|
|
Outstanding - beginning of year |
|
6,994.6 |
|
$ 10.41 |
|
6,941.9 |
|
$ 11.46 |
|
6,593.1 |
|
$ 14.03 |
|
Granted at fair value | |
1,728.1 |
|
10.80 |
|
1,355.2 |
|
22.15 |
|
1,379.8 |
|
22.04 |
|
Exercised | |
(1,289.8 |
) |
6.82 |
|
(1,655.3 |
) |
9.97 |
|
(666.4 |
) |
9.17 |
|
Forfeited/canceled | |
(491.0 |
) |
6.34 |
|
(48.7 |
) |
12.46 |
|
(544.3 |
) |
18.87 |
|
Outstanding - end of year | |
6,941.9 |
|
11.46 |
|
6,593.1 |
|
14.03 |
|
6,762.2 |
|
15.99 |
|
|
|
|
|
|
|
|
Options exercisable at year-end | |
3,292.7 |
|
$ 11.37 |
|
3,374.0 |
|
$ 11.89 |
|
3,533.5 |
|
$ 13.05 |
|
The
following table summarizes information concerning outstanding and exercisable options at
December 31, 2005:
|
Options Outstanding | |
Options Exercisable | |
Exercise Price Range | |
Shares (in 000s) | |
Weighted-average Exercise Price | |
Weighted-average Years Remaining | |
Shares (in 000s) | |
Weighted-average Exercise Price | |
|
|
|
|
|
|
$0.92 to $5.75 |
|
61.3 |
|
$ 5.26 |
|
2.79 |
|
61.3 |
|
$ 5.26 |
|
$6.50 to $11.00 | |
1,482.2 |
|
8.38 |
|
5.95 |
|
1,180.0 |
|
8.15 |
|
$11.37 to $16.00 | |
1,924.1 |
|
12.30 |
|
6.55 |
|
1,415.5 |
|
12.39 |
|
$16.95 to $28.50 | |
3,294.6 |
|
21.76 |
|
7.99 |
|
876.7 |
|
21.25 |
|
| |
6,762.2 |
|
15.99 |
|
7.09 |
|
3,533.5 |
|
13.05 |
|
The
fair value for these options was estimated at the date of grant using a Black-Scholes
option-pricing model with the following weighted-average assumptions:
|
2003 | |
2004 | |
2005 | |
|
|
|
|
|
|
|
|
Risk-free interest rate |
|
2.7% |
|
2.8% |
|
3.9% |
|
Expected life | |
3.8 years |
|
3.9 years |
|
6.2 years |
|
Expected volatility | |
54.2% |
|
45.4% |
|
52.6% |
|
Expected dividend yield | |
2.5% |
|
1.9% |
|
1.6% |
|
The
weighted-average grant date fair values of options granted during 2003, 2004 and 2005 were
$3.92, $7.27 and $10.43, respectively.
Effective February 1, 2000, the Company's board of directors adopted the Employee Stock Purchase Plan (the "Purchase Plan"), which provides for
the issuance of a maximum of 200,000 shares of Class A common stock. Eligible employees can have up to 15% of their earnings withheld, up to certain
maximums, to be used to purchase shares of the Company's Class A common stock on every April 30, July 31, October 31 or January 31 (the "Purchase Date").
The price of the Class A common stock purchased under the Purchase Plan will be equal to 85% of the lower of the fair market value of the Class A common
stock on the commencement date of each three-month offering period or Purchase Date. During 2005, approximately 36,000 shares were purchased at prices
ranging from $14.31 to $18.87 per share. At December 31, 2005, approximately 74,925 shares were available under the Purchase Plan for future issuance.
-79-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
Consolidated
income before provision for income taxes consists of the following for the years ended
December 31, 2003, 2004 and 2005 (U.S. dollars in thousands):
|
2003 | |
2004 | |
2005 | |
|
|
|
|
|
|
|
|
U.S. |
|
$ 102,341 |
|
$ 85,013 |
|
$ 70,344 |
|
Foreign | |
5,398 |
|
37,128 |
|
48,607 |
|
Total | |
$ 107,739 |
|
$ 122,141 |
|
$ 118,951 |
|
The
provision for current and deferred taxes for the years ended December 31, 2003, 2004 and
2005 consists of the following (U.S. dollars in thousands):
|
2003 | |
2004 | |
2005 | |
|
|
|
|
|
|
|
|
Current |
|
|
|
|
|
|
|
Federal | |
$ 1,709 |
|
$ (10,702 |
) |
$ 1,572 |
|
State | |
3,029 |
|
553 |
|
1,880 |
|
Foreign | |
57,573 |
|
21,742 |
|
21,495 |
|
| |
62,311 |
|
11,593 |
|
24,947 |
|
| |
Deferred | |
Federal | |
16,641 |
|
16,805 |
|
14,821 |
|
State | |
676 |
|
1,256 |
|
(278 |
) |
Foreign | |
(39,765 |
) |
14,813 |
|
5,428 |
|
| |
(22,448 |
) |
32,874 |
|
19,971 |
|
Provision for income taxes | |
$ 39,863 |
|
$ 44,467 |
|
$ 44,918 |
|
The
Companys foreign taxes paid are high relative to foreign operating income and the
Companys U.S. taxes paid are low relative to U.S. operating income due largely to
the flow of funds among the Companys Subsidiaries around the world. As payments for
services, management fees, license arrangements and royalties are made from the
Companys foreign affiliates to its U.S. corporate headquarters, these payments often
incur withholding and other forms of tax that are generally creditable for U.S. tax
purposes. Therefore, these payments lead to increased foreign effective tax rates and
lower U.S. effective tax rates. Variations (or shifts) occur in the Companys foreign
and U.S. effective tax rates from year to year depending on several factors including the
impact of global transfer prices and the timing and level of remittances from foreign
affiliates.
-80-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
The
principal components of deferred taxes are as follows (U.S. dollars in thousands):
|
Year Ended December 31, | |
|
2004 | |
2005 | |
|
|
|
Deferred tax assets: |
|
|
|
|
|
Inventory differences | |
$ 2,373 |
|
$ 3,303 |
|
Foreign tax differential | |
13,417 |
|
|
|
Accrued expenses not deductible until paid | |
26,059 |
|
17,020 |
|
Withholding tax | |
1,088 |
|
1,428 |
|
Minimum tax credit | |
18,228 |
|
16,428 |
|
Net operating losses | |
6,448 |
|
6,767 |
|
Foreign outside basis in controlled foreign corporation | |
7,664 |
|
14,651 |
|
Capitalized research and development | |
10,668 |
|
15,087 |
|
Other | |
2,771 |
|
3,964 |
|
Gross deferred tax assets | |
87,477 |
|
76,434 |
|
Deferred tax liabilities: | |
Exchange gains and losses | |
7,210 |
|
9,164 |
|
Pharmanex intangibles step-up | |
15,961 |
|
15,009 |
|
Amortization of intangibles | |
4,567 |
|
3,325 |
|
Prepaid expenses | |
5,153 |
|
11,665 |
|
Other | |
5,426 |
|
6,003 |
|
Gross deferred tax liabilities | |
38,317 |
|
45,166 |
|
Valuation allowance | |
(1,239 |
) |
(2,214 |
) |
Deferred taxes, net | |
$ 49,160 |
|
$ 31,268 |
|
The components
of deferred taxes, net on a jurisdiction basis are as follows (U.S. dollars in thousands):
|
Year Ended December 31, |
|
|
2004 | |
2005 | |
|
|
|
Net current deferred tax assets |
|
$ 22,215 |
|
$ 13,987 |
|
Net noncurrent deferred tax assets | |
34,856 |
|
31,804 |
|
Total net deferred tax assets | |
57,071 |
|
45,791 |
|
|
|
|
|
Net current deferred tax liabilities | |
8 | |
|
Net noncurrent deferred tax liabilities | |
7,903 |
|
14,523 |
|
Total net deferred tax liabilities | |
7,911 |
|
14,523 |
|
Deferred taxes, net | |
$ 49,160 |
|
$ 31,268 |
|
The
Companys deferred tax assets as of December 31, 2005 and 2004 were reduced by a
valuation allowance relating to tax benefits of certain foreign subsidiaries with
operating losses where it is more likely than not, that the deferred tax assets will not
be realized. The Company has available foreign net operating losses that begin expiring in
2006.
The
Company is subject to regular audits by federal, state and foreign tax authorities. These
audits may result in proposed assessments that may result in additional tax liabilities.
-81-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
The
actual tax rate for the years ended December 31, 2003, 2004 and 2005 compared to the
statutory U.S. Federal tax rate is as follows:
|
Year Ended December 31, |
|
|
2003 | |
2004 | |
2005 | |
|
|
|
|
Income taxes at statutory rate |
|
35.00 |
% |
35.00 |
% |
35.00 |
% |
Foreign tax differential | |
(1.80 |
) |
3.11 |
|
|
|
Non-deductible expenses | |
.16 |
|
.21 |
|
.55 |
|
Branch remittance gains and losses | |
(.38 |
) |
(.32 |
) |
.23 |
|
Distributor stock options and employee stock awards | |
1.94 |
|
|
|
|
|
Permanently reinvested controlled foreign corporation income | |
|
|
(2.89 |
) |
|
|
Other | |
2.08 |
|
1.30 |
|
1.98 |
|
| |
37.00 |
% |
36.41 |
% |
37.76 |
% |
The
increase in the effective tax rate in 2005 compared to 2004 was due to an increase in the
amount of nondeductible executive compensation, reconciliation of U.S. and foreign income
tax payable amounts and other nondeductible expenses related to equity compensation. This
decrease in the effective tax rate in 2004 compared to 2003 was due to the Companys
election to permanently reinvest a portion of the Companys earnings from its foreign
operations. The Company anticipates the remittance of these earnings to be postponed
indefinitely. Such earnings would be subject to U.S. taxation if repatriated to the U.S.
13. |
|
Employee
Benefit Plan |
The
Company has a 401(k) defined contribution plan which permits participating employees to
defer up to a maximum of 15% of their compensation, subject to limitations established by
the Internal Revenue Code. Employees who work a minimum of 1,000 hours per year, who have
completed at least one year of service and who are 21 years of age or older are qualified
to participate in the plan. The Company matches 100% of the first 2% and 50% of the next
2% of each participants contributions to the plan. Participant contributions are
immediately vested. Company contributions vest based on the participants years of
service at 25% per year over four years. The Company recorded compensation expense of $1.1
million, $1.3 million and $1.4 million for the years ended December 31, 2003, 2004 and
2005, respectively, related to its contributions to the plan.
The
Company has a defined benefit pension plan for its employees in Japan. All employees of Nu
Skin Japan, after certain years of service, are entitled to pension plan benefits when
they terminate employment with Nu Skin Japan. The accrued pension liability was $3.7
million, $4.4 million and $4.5 million as of December 31, 2003, 2004 and 2005,
respectively. Although Nu Skin Japan has not specifically funded this obligation, Nu Skin
Japan believes it maintains adequate cash balances for this defined benefit pension plan.
The Company recorded pension expense of $0.7 million, $0.8 million and $0.8 million for
the years ended December 31, 2003, 2004 and 2005, respectively.
14. |
|
Executive
Deferred Compensation Plan |
The
Company has an executive deferred compensation plan for select management personnel. Under
this plan, the Company currently makes a contribution of 10% of each participants
salary. In addition, each participant has the option to defer a portion of their
compensation up to a maximum of 100% of their compensation. Participant contributions are
immediately vested. Company contributions vest based on the earlier of: (a) attaining 60
years of age; (b) continuous employment of 20 years; or (c) death or disability. The
Company recorded compensation expense of $0.6 million, $0.7 million and $0.7 million for
the years ended December 31, 2003, 2004 and 2005, respectively, related to its
contributions to the plan. The Company had accrued $4.5 million and $5.5 million as of
December 31, 2004 and 2005, respectively, related to the Executive Deferred Compensation
Plan.
-82-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
15. |
|
Derivative
Financial Instruments |
At
December 31, 2004 and 2005, the Company held forward contracts designated as foreign
currency cash flow hedges with notional amounts totaling approximately $82.0 million and
$23.7 million, respectively, to hedge forecasted foreign-currency-denominated intercompany
transactions. All such contracts were denominated in Japanese yen. As of December 31, 2004
and 2005, $3.2 million of net unrealized loss and $1.8 million of net unrealized gain, net
of related taxes, respectively, were recorded in accumulated other comprehensive loss. The
contracts held at December 31, 2005, have maturities through December 2006, and
accordingly, all unrealized gains and losses on foreign currency cash flow hedges included
in accumulated other comprehensive loss will be recognized in current earnings over the
next 12 months. The pre-tax net losses on foreign currency cash flow hedges recorded in
current earnings were $5.3 million, $5.0 million and $0.3 million for the years ended
December 31, 2003, 2004 and 2005, respectively.
During
2003, 2004 and 2005, the Company did not have any gains or losses related to hedging
ineffectiveness. Additionally, no component of gains and losses was excluded from the
assessment of hedging effectiveness. During 2003, 2004 and 2005, the Company did not have
any gains or losses reclassified into earnings as a result of the discontinuance of cash
flow hedges.
16. |
|
Supplemental
Cash Flow Information |
Cash
paid for interest totaled $2.7 million, $4.6 million and $5.6 million for the years ended
December 31, 2003, 2004 and 2005, respectively. The increase in cash paid for interest in
2004, compared to prior years, was due to the additional debt discussed in Note 8. Cash
paid for income taxes totaled $26.6 million, $7.3 million and $15.9 million for the years
ended December 31, 2003, 2004 and 2005, respectively. The increase in cash paid for income
taxes in 2005, compared to prior years, was due primarily to the timing of tax payments in
foreign jurisdictions.
The Company operates in a
single operating segment by selling products to a global network of independent distributors that operates in a seamless
manner from market to market, except for its operations in Mainland China. In Mainland China, the Company utilizes an employed sales force to sell its
products through fixed retail locations. Selling expenses are the Company's largest expense comprised of the commissions to its worldwide independent
distributors as well as remuneration to its Mainland China sales employees paid on product sales. The Company manages its business primarily by managing
its global sales force. The Company does not use profitability reports on a regional or divisional basis for making business decisions. However, the
Company does recognize revenue in five geographic regions: North Asia, Greater China, North America, South Asia/Pacific and Other Markets.
-83-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
Revenue
generated in each of these regions is set forth below (U.S. dollars in thousands):
|
Year Ended December 31, |
|
Revenue: |
2003 | |
2004 | |
2005 | |
|
|
|
|
North Asia |
|
$ 612,840 |
|
$ 640,110 |
|
$ 649,377 |
|
Greater China | |
135,535 |
|
229,802 |
|
236,681 |
|
North America | |
127,599 |
|
145,714 |
|
154,153 |
|
South Asia/Pacific | |
75,816 |
|
81,742 |
|
86,673 |
|
Other Markets | |
34,667 |
|
40,496 |
|
54,046 |
|
Total | |
$ 986,457 |
|
$ 1,137,864 |
|
$ 1,180,930 |
|
Revenue generated
by each of the Companys three product lines is set forth below (U.S. dollars in
thousands):
|
Year Ended December 31, |
|
Revenue: |
2003 | |
2004 | |
2005 | |
|
|
|
|
Pharmanex |
|
$ 472,107 |
|
$ 567,190 |
|
$ 667,671 |
|
Nu Skin | |
476,150 |
|
548,052 |
|
484,281 |
|
Big Planet | |
38,200 |
|
22,622 |
|
28,978 |
|
Total | |
$ 986,457 |
|
$ 1,137,864 |
|
$ 1,180,930 |
|
Additional
information as to the Companys operations in the most significant geographical areas
is set forth below (U.S. dollars in thousands):
|
Year Ended December 31, |
|
Revenue: |
2003 | |
2004 | |
2005 | |
|
|
|
|
Japan |
|
$ 558,654 |
|
$ 579,504 |
|
$ 562,031 |
|
United States | |
113,340 |
|
135,710 |
|
144,555 |
|
Mainland China | |
38,470 |
|
105,576 |
|
102,214 |
|
|
|
December 31, |
|
Long-lived assets: |
| |
2004 | |
2005 | |
|
|
|
|
Japan |
|
|
|
$ 10,556 |
|
$ 14,234 |
|
United States | |
|
|
50,137 |
|
37,235 |
|
Mainland China | |
|
|
12,896 |
|
15,104 |
|
18. |
|
Restructuring
and Other Charges |
In
2003, the Company recorded restructuring and other charges of $5.6 million. These expenses
consisted primarily of severance and other compensation charges.
-84-
19. |
|
Commitments
and Contingencies |
The Company is subject to governmental regulations pertaining to product formulation, labeling and packaging, product claims and advertising and to the
Company's direct selling system. The Company is also subject to the jurisdiction of numerous foreign tax and customs authorities. Any assertions or
determination that either the Company or the Company's distributors is not in compliance with existing statutes, laws, rules or regulations could
potentially have a material adverse effect on the Company's operations. In addition, in any country or jurisdiction, the adoption of new statutes, laws,
rules or regulations or changes in the interpretation of existing statutes, laws, rules or regulations could have a material adverse effect on the Company
and its operations. Although management believes that the Company is in compliance, in all material respects, with the statutes, laws, rules and
regulations of every jurisdiction in which it operates, no assurance can be given that the Company's compliance with applicable statutes, laws, rules and
regulations will not be challenged by foreign authorities or that such challenges will not have a material adverse effect on the Company's financial
position or results of operations or cash flows. The Company and its Subsidiaries are defendants in litigation and proceedings involving various matters.
In the opinion of the Company's management, based upon advice of its counsel handling such litigation and proceedings, adverse outcomes, if any, will not
likely result in a material effect on the Company's consolidated financial condition, results of operations or cash flows.
The Company is subject to regular audits by federal, state and foreign tax authorities. These audits may result in additional tax liabilities. The
Company accounts for such contingent liabilities in accordance with SFAS No. 5, "Accounting for Contingencies" and believes it has appropriately provided
for income taxes for all years. Several factors drive the calculation of our tax reserves. Some of these factors include: (i) the expiration of various
statutes of limitations; (ii) changes in tax law and regulations; (iii) issuance of tax rulings; and (iv) settlements with tax authorities. Changes in any
of these factors may result in adjustments to the Company's reserves, which would impact its reported financial results. The Financial Accounting
Standards Board is currently considering changes to accounting for uncertain tax positions. Because the nature and extent of these changes are not fully
known, the Company is not able to predict the impact on its tax contingency reserves, if any.
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
In 1999, the Company implemented a duty valuation methodology with respect to the importation of certain products into Japan. The Valuation
Department of the Yokohama customs authority reviewed and approved this methodology at that time, and it has been reviewed on several occasions by the
audit division of the Japan customs authority since then. In connection with recent audits, the Yokohama customs authorities have assessed the Company
additional duties and penalties on these products imported into Japan from October 2002 to October 2004, based on a different valuation methodology than
that which was previously approved. The Company has disputed this assessment. The Company has also disputed the amount of duties it was required to pay
on products imported from November of 2004 to June of 2005. The total amount assessed or in dispute is approximately $25.0 million as of December 31,
2005, net of any recovery of consumption taxes. Effective July 1, 2005, The Company implemented some modifications to its business structure in Japan and
in the United States that it believes will eliminate any further customs valuation disputes with respect to product imports in Japan after that time.
Because the valuation methodology the Company used with respect to the products in dispute was reviewed and approved by the Japan customs authority,
the Company believes the assessments are improper and has filed letters of protest with Yokohama customs authority with respect to this entire amount. The
Yokohama customs authority has not accepted the Company's letters of protest to date, and to follow proper administrative procedures the Company has filed
appeals with the Japan Ministry of Finance. To the extent necessary, the Company plans to continue to file protests and appeals within the appropriate
governmental channels concerning this issue. The Company may also choose to use the judicial court system in Japan if necessary to bring this issue to a
resolution. In order to file its letters of protest, the Company was required to pay the $25.0 million in customs duties and assessments, the amount of
which it recorded in "Other Assets" in its Consolidated Balance Sheet. The Company has filed requests for refunds for this entire amount along with its
letters of protest. To the extent that the Company is unsuccessful in recovering the amounts assessed and paid, the Company will be required to take a
corresponding charge to its earnings.
-85-
Nu Skin Enterprises, Inc.
Notes to Consolidated Financial Statements
In Taiwan, the Company is currently subject to an audit by tax authorities with respect to the deductibility of distributor commission expenses in
that market. In order avoid the running of the statute of limitations with respect to the 1999 and 2000 tax years, the Taiwan tax authorities have
disallowed the Company's commission expense deductions for those years and assessed the Company a total of approximately $18.7 million. The Company is
contesting this assessment and is in discussions with the tax authorities in an effort to resolve this matter. Based on its understanding of this matter,
management does not believe that it is probable that the Company will incur a loss relating to this matter and accordingly has not provided any related reserves.
20. |
|
Purchase
of LongTerm Assets |
In March 2002, the Company acquired the exclusive rights to a new light-source technology related to measuring the level of certain antioxidants.
The acquisition consisted of cash payments of $4.8 million (including acquisition costs) and the issuance of 106,667 shares of the Company's Class A common
stock valued at approximately $0.9 million. In addition, the acquisition included contingent payments of up to $8.5 million of cash and up to 1.2 million
shares of the Company's Class A common stock if certain development and revenue targets are met. In 2004, some of these specific development and revenue
targets were met resulting in contingent payments owed of approximately $5.1 million of cash (of which $2.1 million was paid in 2005) and 525,000 shares
(of which 262,500 shares were issued in 2005) of the Company's Class A common stock valued at approximately $13 million. During the first half of 2005,
all of the remaining specific development and revenue targets were met. As a result, the Company made the final contingent payments of approximately $3.4
million of cash and 675,000 shares of the Company's Class A common stock valued at approximately $15.2 million. The total payments of $8.5 million of cash
and the value of the 1.2 million shares of stock have been added to the carrying value of other finite lived intangible assets.
Quarterly
cash dividends for the years ended December 31, 2004 and 2005 totaled $22.6 million and
$25.4 million, respectively. In February 2006, the board of directors declared a quarterly
cash dividend of $0.10 per share for all classes of common stock to be paid on March 22,
2006 to stockholders of record on March 3, 2006.
On March 7, 2006, the Company acquired Caroderm Inc. for $4.0 million. As a result of the acquisition, the Company acquired Caroderm's license to
use the Scanner technology within the professional medical community. As the sole asset of Caroderm was its
license and field of use rights with respect to the Scanner technology, all the consideration paid will be allocated to that asset and amortized over the
period of the remaining license agreements related to the Scanner.
-86-
In addition, the Company recently announced plans to implement a restructuring initiative during the first half of 2006 designed to (i) eliminate
organizational redundancies, (ii) revamp administrative support functions, (iii) prioritize investments to favor profitable initiatives and markets, and
(iv) increase efficiencies in the supply chain process. In connection with this initiative, the Company expects to incur employee severance costs of
approximately $10 to $20 million and $5 million related to various other streamlining intitiatves. Additionally, in February 2006, as a result of the
Company's launch of and transition to its second-generation BioPhotonic Scanner, the Company determined it would be necessary to write down the book value
of the existing inventory of the prior model of the Scanner of approximately $20 million. The Company anticipates that approximately $10 to $20 million of
the restructuring charges will result in future cash expenditures.
-87-
Report of Independent
Registered Public Accounting Firm
To the Board of Directors and
Stockholders of Nu Skin Enterprises, Inc.:
We have completed integrated audits
of Nu Skin Enterprises, Inc.s 2005 and 2004 consolidated financial statements and of
its internal control over financial reporting as of December 31, 2005 and an audit of its
2003 consolidated financial statements in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Our opinions, based on our audits, are
presented below.
Consolidated financial
statements
In our opinion, the accompanying consolidated
balance sheets and the related consolidated statements of income, of stockholders
equity and of cash flows present fairly, in all material respects, the financial position
of Nu Skin Enterprises, Inc. and its subsidiaries at December 31, 2005 and 2004, and the
results of their operations and their cash flows for each of the three years in the period
ended December 31, 2005 in conformity with accounting principles generally accepted in the
United States of America. These financial statements are the responsibility of the
Companys management. Our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in accordance
with the standards of the Public Company Accounting Oversight Board (United States). 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 of financial
statements includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.
Internal control over
financial reporting
Also, in our opinion,
managements assessment, included in the accompanying Management Report on Internal
Control over Financial Reporting appearing in Item 9A, that the Company maintained
effective internal control over financial reporting as of December 31, 2005 based on
criteria established in Internal Control Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated,
in all material respects, based on those criteria. Furthermore, in our opinion, the
Company maintained, in all material respects, effective internal control over financial
reporting as of December 31, 2005, based on criteria established in Internal Control
Integrated Framework issued by the COSO. The Companys management is
responsible for maintaining effective internal control over financial reporting and for
its assessment of the effectiveness of internal control over financial reporting. Our
responsibility is to express opinions on managements assessment and on the
effectiveness of the Companys internal control over financial reporting based on our
audit. We conducted our audit of internal control over financial reporting in accordance
with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about
whether effective internal control over financial reporting was maintained in all material
respects. An audit of internal control over financial reporting includes obtaining an
understanding of internal control over financial reporting, evaluating managements
assessment, testing and evaluating the design and operating effectiveness of internal
control, and performing such other procedures as we consider necessary in the
circumstances. We believe that our audit provides a reasonable basis for our opinions.
-88-
A companys internal control
over financial reporting is a process designed to provide reasonable assurance regarding
the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles. A
companys internal control over financial reporting includes those policies and
procedures that (i) pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the assets of the
company; (ii) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with generally
accepted accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of the
company; and (iii) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the companys assets
that could have a material effect on the financial statements.
Because of its inherent limitations,
internal control over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to the risk
that controls may become inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.
/s/
PricewaterhouseCoopers LLP
PricewaterhouseCoopers LLP
Salt Lake City, Utah
March 16, 2006
-89-
ITEM 9. |
|
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE |
None.
ITEM 9A. |
|
CONTROLS AND PROCEDURES |
Evaluation
of Disclosure Controls and Procedures. Under the supervision and with the
participation of our management, including our Chief Executive Officer and Chief Financial
Officer, we evaluated the effectiveness of the design and operation of our disclosure
controls and procedures (as such term is defined in Rule 13a-15(e) under the Securities
Exchange Act of 1934 (the Exchange Act)). Disclosure controls and procedures
are the controls and other procedures that we designed to ensure that we record, process,
summarize and report in a timely manner the information we must disclose in reports that
we file with or submit to the Securities and Exchange Commission under the Exchange Act.
Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer
concluded that our disclosure controls and procedures were effective as of the end of the
period covered by this report.
Changes
in Internal Control over Financial Reporting. During the fourth quarter of 2005,
there was no change in our internal control over financial reporting (as such term is
defined in Rule 13a-15(f) under the Exchange Act) that has materially affected, or is
reasonably likely to materially affect, our internal control over financial reporting.
Management
Report On Internal Control over Financial Reporting. Our management is
responsible for establishing and maintaining adequate internal control over financial
reporting. Internal control over financial reporting is defined in Rule 13a-15(f) under
the Exchange Act as a process designed by, or under the supervision of, our principal
executive and principal financial officers and effected by our board of directors,
management and other personnel, to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of financial statements for external purposes
in accordance with accounting principles generally accepted in this United States of
America and includes those policies and procedures that:
|
|
|
pertain
to the maintenance of records that, in reasonable detail, accurately and fairly reflect
the transactions and dispositions of our assets; |
|
|
|
provide
reasonable assurance that transactions are recorded as necessary to permit preparation of
financial statements in accordance with accounting principles generally accepted in this
United States of America, and that our receipts and expenditures are being made only in
accordance with authorization of management and directors; and |
|
|
|
provide
reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use or disposition of our assets that could have a material effect on the
financial statements. |
Because
of its inherent limitations, internal control over financial reporting may not prevent or
detect misstatements. Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become inadequate because of changes in
conditions, or that the degree of compliance with the policies or procedures may
deteriorate.
-90-
Under
the supervision and with the participation of our management, including our principal
executive and principal financial officers, we assessed, as of December 31, 2005, the
effectiveness of our internal control over financial reporting. This assessment was based
on criteria established in the framework in Internal Control-Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on
our assessment, our management concluded that our internal control over financial
reporting was effective as of December 31, 2005.
Our
assessment of the effectiveness of our internal control over financial reporting as of
December 31, 2005 has been audited by PricewaterhouseCoopers LLP, an independent
registered public accounting firm, as stated in their report which is included in this
Annual Report on Form 10-K.
ITEM 9B. |
|
OTHER INFORMATION |
Richard King Severance Arrangement
On March 2, 2006, we agreed to a
severance arrangement with Richard King, who was serving as our Chief Information Officer, in connection with his
anticipated termination of employment. The severance arrangement provides that Mr. King will
continue to be employed until June 9, 2006, at which time his employment will terminate
and he will be paid a lump sum severance payment of $137,108.
The foregoing does not constitute a
complete summary of the terms of the severance arrangement with Mr. King, and reference
is made to the complete text of the severance letter, which is attached as Exhibit 10.59
to this report and incorporated by reference in this Item 9B.
Lori Bush Severance Arrangement
On March 10, we entered into a
severance arrangement with Lori Bush, who had previously been serving as the President
of our Nu Skin division. The severance arrangement provides for the following: (i)
termination of employment as of March 31, 2006; (ii) severance payment of $800,000,
payable in monthly installments over an 18-month period, during which time Ms. Bush may
not work for a competing direct selling company; (iii) a mutual release and waiver of
claims related to Ms. Bush's employment; and (iv) the at-will consulting engagement of
Ms. Bush as chair of the Nu Skin Personal Care Scientific Advisory Board, with an annual
retainer of $25,000 per year.
The foregoing does not constitute a
complete summary of the terms of the severance arrangement with Ms. Bush, and reference
is made to the complete text of the severance letter, which is attached as Exhibit 10.60
to this report and incorporated by reference in this Item 9B.
Caroderm Acquisition
On March 7, 2006, we entered into an
Agreement and Plan of Merger (the "Merger Agreement") through our wholly-owned subsidiary
Nu Skin International, Inc. ("NSI"), by and among NSI, Pharmanex License Acquisition
Corporation, a wholly-owned subsidiary of NSI, Caroderm Inc. ("Caroderm"), and certain
shareholders of Caroderm. Pursuant to the Merger Agreement, Caroderm was merged with and
into Pharmanex and the total consideration payable by us in connection with the Merger is
$4,000,000. Prior to the merger, Caroderm and we each owned a license to the technology
utilized in the Scanner permitting mutually
exclusive fields of use. Caroderm's license permitted the use of the Scanner technology
within the professional medical community. As a result of the merger, we acquired
Caroderm's license and field of use.
-91-
It is also contemplated that our
existing license with respect to the Scanner technology, which has been filed previously
with the Securities Exchange Commission as a material contract, will be amended to
include the following field of use:
"FIELD OF USE" shall mean the use of
the licensed technology for the non-invasive measurement of carotenoids and similar or
related compounds in human skin including related research; however, the above filed of
use does not include the use of the technology for identifying, imaging, locating, and/or
diagnosing skin lesions or skin malignancies in human patients. The above field of use
does not include veterinary applications; however, it is agreed that licensee may use
laboratory, in vitro, and in vivo animal model methods to research, develop and validate
licensed products and licensed processes. For avoidance of doubt, human skin is defined
as the continuous external membrane (integument) enveloping the body and consisting of
the epidermis and dermis, hair, nails, sebaceous glands, sweat glands, and mammary
glands; the skin does not include mucosal tissue such as the lining of the mouth.
The foregoing does not constitute a
complete summary of the terms of the Merger Agreement, and reference is made to the
complete text of the Merger Agreement, which is attached as Exhibit 10.58 to this report
and incorporated by reference in this Item 9B.
Team Elite Travel Policy
On March 13, 2006, Compensation
Committee of our Board of Directors adopted a travel policy with respect to the annual
Team Elite distributor trip. It is currently our practice to conduct an annual
international trip for those independent distributors that have achieved "Team Elite" status
within our distributor compensation plan. Certain members of our senior management
accompany Team Elite members on this trip in an effort promote contact and relationship
building between senior management and Team Elite members. Members of company management
are often accompanied by their spouses in an effort to promote a family atmosphere at
these events. In recognition of this, we adopted a policy providing that we will pay for
travel, lodging, and certain other costs for the spouses of certain senior managers
attending the Team Elite trip.
PART III
The
information required by Items 10, 11, 12, 13 and 14 of Part III is hereby incorporated by
reference to our Definitive Proxy Statement filed or to be filed with the Securities and
Exchange Commission for our 2005 Annual Meeting of Stockholders.
-92-
PART IV
ITEM 15. |
|
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
Documents filed as part of this Form
10-K:
1. |
|
Financial Statements. See Index to Consolidated Financial Statements
under Item 8 of Part II. |
2. |
|
Financial Statement Schedules. See Index to Consolidated Financial
Statements under Item 8 of Part II. |
3. |
|
Exhibits: References to the Company shall mean Nu Skin Enterprises, Inc. Exhibits preceeded by an asterisk
(*) are management contracts or compensatory plans or arrangements. |
-93-
Exhibit Number |
|
Exhibit Description |
3.1 |
|
Amended
and Restated Certificate of Incorporation of the Company (incorporated by reference to
Exhibit 3.1 to the Company's Registration Statement on Form
S-1 (File No. 333-12073) (the "Form S-1")). |
3.2 |
|
Certificate
of Amendment to the Amended and Restated Certificate of Incorporation (incorporated
by reference to Exhibit 3.2 to the Companys Annual Report on Form 10-K for the year
ended December 31, 2003). |
3.3 |
|
Certificate
of Designation, Preferences and Relative Participating, Optional and Other Special Rights
of Preferred Stock and Qualification, Limitations and Restrictions Thereof (incorporated
by reference to Exhibit 3.2 to the Companys Annual Report on Form 10-K for the year
ended December 31, 2004). |
3.4 |
|
Amended
and Restated Bylaws of the Company (incorporated by reference to Exhibit 3.2 to the
Company's Form S-1). |
4.1 |
|
Specimen
Form of Stock Certificate for Class A Common Stock (incorporated by reference to Exhibit
4.1 to the Company's Registration Statement on Form S-3
(File No. 333-90716)). |
4.2 |
|
Specimen
Form of Stock Certificate for Class B Common Stock (incorporated by reference to Exhibit
4.2 to the Company's Form S-1). |
10.1 |
|
Note
Purchase Agreement dated October 12, 2000, by and between the Company and The Prudential
Insurance Company of America. |
10.2 |
|
First
Amendment to Note Purchase Agreement between the Company and The Prudential
Insurance Company of America dated May 1, 2002 (incorporated
by reference to Exhibit No. 10.3 to the Company's Quarterly Report on Form 10-Q for the
quarter ended June 30, 2002). |
10.3 |
|
Second
Amendment to Note Purchase Agreement, dated as of October 31, 2003 between the Company
and The Prudential Insurance Company of America (incorporated by reference to Exhibit
10.3 to the Companys Annual Report on Form 10-K for the year ended December 31,
2003). |
10.4 |
|
Third
Amendment to Note Purchase Agreement, dated as of May 18, 2004, between the Company and
The Prudential Insurance Company of America (incorporated by reference to Exhibit 10.2 to
the Companys Quarterly Report on Form 10-Q for the quarter ended June 30, 2004).
|
-94-
Exhibit Number |
|
Exhibit Description |
10.5 |
|
Pledge
Agreement dated October 12, 2000, by and between the Company and State Street Bank and
Trust Company of California, N.A., acting in its capacity as
collateral agent. |
10.6 |
|
Pledge
Amendments executed by the Company dated December 31, 2003 (incorporated by reference to
Exhibit 10.5 to the Companys Annual Report on Form 10-K for the year ended December
31, 2003). |
10.7 |
|
Pledge
Agreement dated as of January 31, 2005 by and among Nu Skin Asia Investment, Inc., a
wholly-owned subsidiary of the Company, and U.S. Bank National Association, as agent for
and on behalf of the Benefited Parties under the Amended and Restated Collateral Agency
and Intercreditor Agreement (referred to below) (incorporated by reference to Exhibit
99.3 to the Companys Current Report on Form 8-K/A filed on March 10, 2005). |
10.8 |
|
Collateral
Agency Agreement dated October 12, 2000, by and between the Company, State Street Bank
and Trust Company of California, N.A., as Collateral Agent, and the lenders and
noteholders party thereto. |
10.9 |
|
Amendment
to Collateral Agency and Intercreditor Agreement dated May 10, 2000, among State Street
Bank and Trust Company of California, N.A., as Collateral Agent, The Prudential Insurance
Company of America, as Senior Noteholder and ABN AMRO Bank N.V., as Senior Lender
(incorporated by reference to Exhibit 10.5 to the Companys Quarterly Report on Form
10-Q for the quarter ended June 30, 2001). |
10.10 |
|
Amended
and Restated Collateral Agency and Intercreditor Agreement, dated as of August 26, 2003,
by and among Nu Skin Enterprises, Inc. and various of its subsidiaries, U.S. Bank
National Association, as Collateral Agent, and various lending institutions (incorporated
by reference to Exhibit No. 10.2 to the Companys Quarterly Report on Form 10-Q for
the quarter ended September 30, 2003). |
10.11 |
|
Credit
Agreement dated as of May 10, 2001 among the Company, various financial institutions, and
Bank of America, N.A., as Administrative Agent (incorporated by reference to Exhibit 10.4
to the Companys Quarterly Report on Form 10-Q for the quarter ended June 30, 2001). |
10.12 |
|
First
Amendment to the Credit Agreement dated December 14, 2001 dated May 10, 2001 among the
Company, various financial institutions, and Bank of America, N.A. as Administrative
Agent (incorporated by reference to Exhibit 10.43 of the Companys Annual Report on
Form 10-K for the year ended December 31, 2001). |
10.13 |
|
Second
Amendment to Credit Agreement, dated as of October 22, 2003 between the Company, various
financial institutions, and Bank of America, N.A. as Administrative Agent (incorporated
by reference to Exhibit 10.11 to the Companys Annual Report on Form 10-K for the
year ended December 31, 2003). |
-95-
Exhibit Number |
|
Exhibit Description |
10.14 |
|
Third
Amendment to the Credit Agreement, dated as of May 10, 2004, among the Company, various
financial institutions, and Bank One, N.A. (incorporated by reference to Exhibit 10.1 to
the Companys Quarterly Report on Form 10-Q for the quarter ended June 30, 2004). |
10.15 |
|
Shareholders
Agreement among the Company, Dató Mohd Nadzmi Bin Mohd Sulleh and Kiow Kim Yoon
Frankie Kiow dated effective as of September 25, 2001 (incorporated by reference to
Exhibit 10.46 of the Companys Annual Report on Form 10-K for the year ended
December 31, 2001). |
10.16 |
|
Master
Lease Agreement dated January 16th 2003 by and between the Company and Scrub Oak, LLC
(incorporated by reference to Exhibit 10.28 to the Companys Annual Report on Form
10-K for the year ended December 31, 2002). |
10.17 |
|
Amendment
No. 1 to the Master Lease Agreement, effective as of July 1, 2003, between Nu Skin
International Inc. and Scrub Oak, LLC (incorporated by reference to Exhibit 10.2 to
the Companys Quarterly Report on Form 10-Q for the quarter ended September 30,
2003). |
10.18 |
|
Master
Lease Agreement dated January 16, 2003 by and between the Company and Aspen Country, LLC
(incorporated by reference to Exhibit 10.29 to the Companys Annual Report on Form
10-K for the year ended December 31, 2003). |
10.19 |
|
Amendment
No. 1 to the Master Lease Agreement, effective as of July 1, 2003, between Nu Skin
International Inc. and Aspen Country, LLC (incorporated by
reference to Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the quarter
ended September 30, 2003). |
*10.20 |
|
Form
of Indemnification Agreement entered into by and among the Company and certain of its
officers and directors (incorporated by reference to Exhibit 10.1 to the Companys
Form S-1). |
*10.21 |
|
Form
of Indemnification Agreement to be entered into between the Company and certain of its
officers and directors (incorporated by reference to Exhibit 10.2 to the Companys
Quarterly Report on Form 10-Q for the quarter ended June 30, 2005). |
-96-
Exhibit Number |
|
Exhibit Description |
*10.22 |
|
Amendment
in Total and Complete Restatement of Deferred Compensation Plan. (incorporated by
reference to Exhibit 10.34 to the Company's Annual Report on
Form 10-K for the year ended December 31, 2004). |
*10.23 |
|
Form
of Deferred Compensation Plan (New Form) with amendment (incorporated by reference to
Exhibit 10.35 to the Companys Annual Report on Form 10-K for the year ended
December 31, 2004). |
*10.24 |
|
Form
of Amendment to the Deferred Compensation Plan (incorporated by reference to Exhibit 99.3
to the Companys Current Report on Form 8-K filed December 19, 2005). |
*10.25 |
|
Amendment
in Total and Complete Restatement of NSI Compensation Trust (incorporated by reference to
Exhibit 10.36 to the Companys Annual Report on Form 10-K for the year ended
December 31, 2004). |
*10.26 |
|
Nu
Skin Enterprises, Inc. Deferred Compensation Plan dated December 12, 2005 (incorporated
by reference to Exhibit 99.1 to the Companys Current Report on Form 8-K filed
December 19, 2005). |
*10.27 |
|
Nu
Skin Enterprises, Inc. Nonqualified Deferred Compensation Trust dated December 12, 2005
(incorporated by reference to Exhibit 99.2 to the Companys Current Report on Form
8-K filed December 19, 2005). |
*10.28 |
|
Second
Amended and Restated Nu Skin Enterprises, Inc. 1996 Stock Incentive Plan. |
*10.29 |
|
Amendment
No. 1 to the Second Amended and Restated Nu Skin Enterprises, Inc. 1996 Stock Incentive
Plan (incorporated by reference to Exhibit 10.1 to the
Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2003). |
*10.30 |
|
Base
Form of Master Stock Option Agreement (incorporated by reference to Exhibit 10.44 to the
Companys Annual Report on Form 10-K for the year ended December 31, 2002). |
*10.31 |
|
Form
of Stock Option Agreement (Directors) (incorporated by reference to Exhibit 10.4 to the
Companys Annual Report on Form 10-K for the year ended December 31, 2001). |
*10.32 |
|
Summary
Description of Nu Skin Japan Director Retirement Allowance Plan (incorporated by
reference to Exhibit 10.49 to the Companys Annual Report on Form 10-K for the year
ended December 31, 2001). |
*10.33 |
|
Employment
Letter with Truman Hunt (incorporated by reference to Exhibit 10.49 to the Companys
Annual Report on Form 10-K for the year ended December 31, 2002). |
-97-
Exhibit Number |
|
Exhibit Description |
*10.34 |
|
Amendment
to Employment Letter with M. Truman Hunt dated September 22, 2005 and Amendment to
provisions of the Companys Executive Incentive Plan with respect to Mr. Hunt
(incorporated by reference to Exhibit 10.1 to the Companys Quarterly Report on Form
10-Q for the quarter ended September 30, 2005). |
*10.35 |
|
Letter
of Understanding with Corey Lindley effective August 8, 2002 (incorporated by reference
to Exhibit 10.49 to the Companys Annual Report on Form 10-K for the year ended
December 31, 2002). |
*10.36 |
|
Letter
of Understanding with Corey Lindley effective December 22, 2003 (Supplementing Letter of
Understanding effective August 8, 2002) (incorporated by reference to Exhibit 10.47 to
the Companys Annual Report on Form 10-K for the year ended December 31, 2003). |
*10.37 |
|
Amendment
to Letter of Understanding with Corey Lindley as of March 25, 2005 (incorporated by
reference to Exhibit 10.3 to the Companys Quarterly Report on Form 10-Q for the
quarter ended March 31, 2005). |
10.38 |
|
Amended
and Restated Registration Rights Agreement, dated as of September 18, 2003, by and among
Nu Skin Enterprises, Inc., Sandra N. Tillotson, The Sandra
N. Tillotson Family Trust and the Purchasers signatory thereto (incorporated by reference
to Exhibit 4.7 to the Company's Registration Statement on
Form S-3 (File No. 333-109836)). |
10.39 |
|
Private
Shelf Agreement, dated as of August 26, 2003, between Nu Skin Enterprises, Inc. and
Prudential Investment Management, Inc. (the "Private Shelf
Agreement") (incorporated by reference to Exhibit 10.2 to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2003). |
10.40 |
|
First
Amendment to Private Shelf Agreement, dated as of October 31, 2003 between the Company
and Prudential Investment Management, Inc. (incorporated by reference to Exhibit 10.53 to
the Companys Annual Report on Form 10-K for the year ended December 31, 2003). |
-98-
Exhibit Number |
|
Exhibit Description |
10.41 |
|
Second
Amendment to Private Shelf Agreement, dated as of May 18, 2004, between the Company,
Prudential Investment Management, Inc., and the holders of the Series A Senior Notes and
Series B Senior Notes issued under the Private Shelf Agreement (incorporated by reference
to Exhibit 10.3 to the Companys Quarterly Report on Form 10-Q for the quarter ended
June 30, 2004). |
10.42 |
|
Third
Amendment to Private Shelf Agreement dated June 13, 2005 between the Company, Prudential
Investment Management, Inc. and certain other lenders (incorporated by reference to
Exhibit 10.1 to the Companys Quarterly Report on Form 10-Q for the quarter ended
June 30, 2005). |
10.43 |
|
Series
A Senior Notes Nos. A-1 to A-5 and Series B Senior Notes B-1 to B-5 issued October 31,
2003 by the Company to Prudential Investment Management, Inc. and/or its affiliates
pursuant to the Private Shelf Agreement (incorporated by reference to Exhibit 10.54 to
the Companys Annual Report on Form 10-K for the year ended December 31, 2003). |
10.44 |
|
Series
C Senior Notes Nos. C-1 and C-2 issued February 7, 2005 by the Company to Prudential
Investment Management, Inc. and/or its affiliates pursuant to the Private Shelf Agreement
(incorporated by reference to Exhibit 99.2 to the Companys Current Report on Form
8-K filed February 8, 2005). |
10.45 |
|
Stock
Repurchase Agreement, dated as of October 22, 2003, between the Company and certain of
its shareholders (incorporated by reference to Exhibit 10.1 to the Companys Current
Report on Form 8-K filed November 10, 2003). |
10.46 |
|
Registration
Rights Agreement dated as of October 22, 2003, by and among the Company and certain
third-party purchasers of the Companys stock shareholders (incorporated by
reference to Exhibit 10.1 to the Companys Current Report on Form 8-K filed November
10, 2003). |
10.47 |
|
Form
of Lock-up Agreement executed by certain of the Companys shareholders (incorporated
by reference to Exhibit 10.1 to the Companys Current Report on Form 8-K filed
November 10, 2003). |
10.48 |
|
Registration
Rights Agreement, dated as of July 26, 2004, by and among the Company and the Purchasers
signatory thereto (incorporated by reference to Exhibit 4.6 to the Companys
Registration Statement on Form S-3 filed August 23, 2004 (File No. 333-118495)). |
-99-
Exhibit Number |
|
Exhibit Description |
10.49 |
|
Stock
Repurchase Agreement, dated as of July 27, 2004, by and among the Company and the Selling
Stockholders signatory thereto (incorporated by reference to Exhibit 4.8 to the Companys
Registration Statement on Form S-3 filed August 23, 2004 (File No. 333-118495)). |
*10.50 |
|
Nu
Skin International, Inc. 1997 Key Employee Death Benefit Plan (incorporated by reference
to Exhibit 10.59 to the Company's Annual Report on Form 10-K
for the year ended December 31, 2003). |
*10.51 |
|
Nu
Skin Enterprises, Inc. 2005 Executive Incentive Plan (incorporated by reference to
Exhibit 99.1 to the Company's Current Report on Form 8-K
filed February 9, 2005). |
*10.52 |
|
Restricted
Stock Purchase Agreement, dated as of January 17, 2003, between the Company and Truman
Hunt (incorporated by reference to Exhibit 10.61 to the Companys Annual Report on
Form 10-K for the year ended December 31, 2003). |
*10.53 |
|
Employment
Letter with Robert Conlee effective November 26, 2003 (incorporated by reference to
Exhibit 3.2 to the Companys Annual Report on Form 10-K for the year ended December
31, 2003). |
*10.54 |
|
Summary
of Non-management Director compensation. |
*10.55 |
|
Form of Contingent
Stock Award Agreement (Director Award). |
10.56 |
|
Amended
and Restated Patent License Agreement, dated as of March 7, 2002 by and between the
University of Utah Research Foundation and Nutriscan, Inc. and Interpretive Memorandum of
Understanding, dated as of November 30, 2001 (incorporated by reference to Exhibit 10.65
to the Companys Annual Report on Form 10-K for the year ended December 31, 2004). |
*10.57 |
|
Nu
Skin Enterprises, Inc. Senior Executive Benefits Policy (incorporated by reference to
Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q
for the quarter ended June 30, 2005). |
10.58 |
|
Agreement
and Plan of Merger among Nu Skin International, Inc., Pharmanex License Acquisition
Corporation, Caroderm, Inc. and certain shareholders of
Caroderm, Inc. dated as of March 7, 2006. |
*10.59 |
|
Severance
letter with Richard King dated March 2, 2006. |
*10.60 |
|
Severance
letter with Lori Bush dated March 10, 2006. |
*10.61 |
|
Summary
of Team Elite Travel Policy. |
21.1 |
|
Subsidiaries
of the Company. |
23.1 |
|
Consent
of PricewaterhouseCoopers LLP |
-100-
Exhibit Number |
|
Exhibit Description |
31.1 |
|
Certification
by M. Truman Hunt, President and Chief Executive Officer, pursuant to Rule 13a-14(a) of
the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002. |
31.2 |
|
Certification
by Ritch N. Wood, Chief Financial Officer, pursuant to Rule 13a-14(a) of the Securities
Exchange Act of 1934, as adopted pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002. |
32.1 |
|
Certification
by M. Truman Hunt, President and Chief Executive Officer, pursuant to Section 1350,
Chapter 63 of Title 18, United States Code, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002. |
32.2 |
|
Certification
by Ritch N. Wood, Chief Financial Officer, pursuant to Section 1350, Chapter 63 of Title
18, United States Code, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002. |
-102-
SIGNATURE
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized on March 17, 2006.
|
|
|
NU SKIN ENTERPRISES, INC.
|
|
|
|
By: /s/ Ritch N. Wood
Ritch N. Wood,
Chief Financial Officer
|
-103-
Exhibit Number |
|
Exhibit Description |
3.1 |
|
Amended
and Restated Certificate of Incorporation of the Company (incorporated by reference to
Exhibit 3.1 to the Company's Registration Statement on Form
S-1 (File No. 333-12073) (the "Form S-1")). |
3.2 |
|
Certificate
of Amendment to the Amended and Restated Certificate of Incorporation (incorporated
by reference to Exhibit 3.2 to the Companys Annual Report on Form 10-K for the year
ended December 31, 2003). |
3.3 |
|
Certificate
of Designation, Preferences and Relative Participating, Optional and Other Special Rights
of Preferred Stock and Qualification, Limitations and Restrictions Thereof (incorporated
by reference to Exhibit 3.2 to the Companys Annual Report on Form 10-K for the year
ended December 31, 2004). |
3.4 |
|
Amended
and Restated Bylaws of the Company (incorporated by reference to Exhibit 3.2 to the
Company's Form S-1). |
4.1 |
|
Specimen
Form of Stock Certificate for Class A Common Stock (incorporated by reference to Exhibit
4.1 to the Company's Registration Statement on Form S-3
(File No. 333-90716)). |
4.2 |
|
Specimen
Form of Stock Certificate for Class B Common Stock (incorporated by reference to Exhibit
4.2 to the Company's Form S-1). |
10.1 |
|
Note
Purchase Agreement dated October 12, 2000, by and between the Company and The Prudential
Insurance Company of America. |
10.2 |
|
First
Amendment to Note Purchase Agreement between the Company and The Prudential
Insurance Company of America dated May 1, 2002 (incorporated
by reference to Exhibit No. 10.3 to the Company's Quarterly Report on Form 10-Q for the
quarter ended June 30, 2002). |
10.3 |
|
Second
Amendment to Note Purchase Agreement, dated as of October 31, 2003 between the Company
and The Prudential Insurance Company of America (incorporated by reference to Exhibit
10.3 to the Companys Annual Report on Form 10-K for the year ended December 31,
2003). |
10.4 |
|
Third
Amendment to Note Purchase Agreement, dated as of May 18, 2004, between the Company and
The Prudential Insurance Company of America (incorporated by reference to Exhibit 10.2 to
the Companys Quarterly Report on Form 10-Q for the quarter ended June 30, 2004).
|
-103-
Exhibit Number |
|
Exhibit Description |
10.5 |
|
Pledge
Agreement dated October 12, 2000, by and between the Company and State Street Bank and
Trust Company of California, N.A., acting in its capacity as
collateral agent. |
10.6 |
|
Pledge
Amendments executed by the Company dated December 31, 2003 (incorporated by reference to
Exhibit 10.5 to the Companys Annual Report on Form 10-K for the year ended December
31, 2003). |
10.7 |
|
Pledge
Agreement dated as of January 31, 2005 by and among Nu Skin Asia Investment, Inc., a
wholly-owned subsidiary of the Company, and U.S. Bank National Association, as agent for
and on behalf of the Benefited Parties under the Amended and Restated Collateral Agency
and Intercreditor Agreement (referred to below) (incorporated by reference to Exhibit
99.3 to the Companys Current Report on Form 8-K/A filed on March 10, 2005). |
10.8 |
|
Collateral
Agency Agreement dated October 12, 2000, by and between the Company, State Street Bank
and Trust Company of California, N.A., as Collateral Agent, and the lenders and
noteholders party thereto. |
10.9 |
|
Amendment
to Collateral Agency and Intercreditor Agreement dated May 10, 2000, among State Street
Bank and Trust Company of California, N.A., as Collateral Agent, The Prudential Insurance
Company of America, as Senior Noteholder and ABN AMRO Bank N.V., as Senior Lender
(incorporated by reference to Exhibit 10.5 to the Companys Quarterly Report on Form
10-Q for the quarter ended June 30, 2001). |
10.10 |
|
Amended
and Restated Collateral Agency and Intercreditor Agreement, dated as of August 26, 2003,
by and among Nu Skin Enterprises, Inc. and various of its subsidiaries, U.S. Bank
National Association, as Collateral Agent, and various lending institutions (incorporated
by reference to Exhibit No. 10.2 to the Companys Quarterly Report on Form 10-Q for
the quarter ended September 30, 2003). |
10.11 |
|
Credit
Agreement dated as of May 10, 2001 among the Company, various financial institutions, and
Bank of America, N.A., as Administrative Agent (incorporated by reference to Exhibit 10.4
to the Companys Quarterly Report on Form 10-Q for the quarter ended June 30, 2001). |
10.12 |
|
First
Amendment to the Credit Agreement dated December 14, 2001 dated May 10, 2001 among the
Company, various financial institutions, and Bank of America, N.A. as Administrative
Agent (incorporated by reference to Exhibit 10.43 of the Companys Annual Report on
Form 10-K for the year ended December 31, 2001). |
10.13 |
|
Second
Amendment to Credit Agreement, dated as of October 22, 2003 between the Company, various
financial institutions, and Bank of America, N.A. as Administrative Agent (incorporated
by reference to Exhibit 10.11 to the Companys Annual Report on Form 10-K for the
year ended December 31, 2003). |
-104-
Exhibit Number |
|
Exhibit Description |
10.14 |
|
Third
Amendment to the Credit Agreement, dated as of May 10, 2004, among the Company, various
financial institutions, and Bank One, N.A. (incorporated by reference to Exhibit 10.1 to
the Companys Quarterly Report on Form 10-Q for the quarter ended June 30, 2004). |
10.15 |
|
Shareholders
Agreement among the Company, Dató Mohd Nadzmi Bin Mohd Sulleh and Kiow Kim Yoon
Frankie Kiow dated effective as of September 25, 2001 (incorporated by reference to
Exhibit 10.46 of the Companys Annual Report on Form 10-K for the year ended
December 31, 2001). |
10.16 |
|
Master
Lease Agreement dated January 16th 2003 by and between the Company and Scrub Oak, LLC
(incorporated by reference to Exhibit 10.28 to the Companys Annual Report on Form
10-K for the year ended December 31, 2002). |
10.17 |
|
Amendment
No. 1 to the Master Lease Agreement, effective as of July 1, 2003, between Nu Skin
International Inc. and Scrub Oak, LLC (incorporated by reference to Exhibit 10.2 to
the Companys Quarterly Report on Form 10-Q for the quarter ended September 30,
2003). |
10.18 |
|
Master
Lease Agreement dated January 16, 2003 by and between the Company and Aspen Country, LLC
(incorporated by reference to Exhibit 10.29 to the Companys Annual Report on Form
10-K for the year ended December 31, 2003). |
10.19 |
|
Amendment
No. 1 to the Master Lease Agreement, effective as of July 1, 2003, between Nu Skin
International Inc. and Aspen Country, LLC (incorporated by
reference to Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the quarter
ended September 30, 2003). |
*10.20 |
|
Form
of Indemnification Agreement entered into by and among the Company and certain of its
officers and directors (incorporated by reference to Exhibit 10.1 to the Companys
Form S-1). |
*10.21 |
|
Form
of Indemnification Agreement to be entered into between the Company and certain of its
officers and directors (incorporated by reference to Exhibit 10.2 to the Companys
Quarterly Report on Form 10-Q for the quarter ended June 30, 2005). |
-105-
Exhibit Number |
|
Exhibit Description |
*10.22 |
|
Amendment
in Total and Complete Restatement of Deferred Compensation Plan. (incorporated by
reference to Exhibit 10.34 to the Company's Annual Report on
Form 10-K for the year ended December 31, 2004). |
*10.23 |
|
Form
of Deferred Compensation Plan (New Form) with amendment (incorporated by reference to
Exhibit 10.35 to the Companys Annual Report on Form 10-K for the year ended
December 31, 2004). |
*10.24 |
|
Form
of Amendment to the Deferred Compensation Plan (incorporated by reference to Exhibit 99.3
to the Companys Current Report on Form 8-K filed December 19, 2005). |
*10.25 |
|
Amendment
in Total and Complete Restatement of NSI Compensation Trust (incorporated by reference to
Exhibit 10.36 to the Companys Annual Report on Form 10-K for the year ended
December 31, 2004). |
*10.26 |
|
Nu
Skin Enterprises, Inc. Deferred Compensation Plan dated December 12, 2005 (incorporated
by reference to Exhibit 99.1 to the Companys Current Report on Form 8-K filed
December 19, 2005). |
*10.27 |
|
Nu
Skin Enterprises, Inc. Nonqualified Deferred Compensation Trust dated December 12, 2005
(incorporated by reference to Exhibit 99.2 to the Companys Current Report on Form
8-K filed December 19, 2005). |
*10.28 |
|
Second
Amended and Restated Nu Skin Enterprises, Inc. 1996 Stock Incentive Plan. |
*10.29 |
|
Amendment
No. 1 to the Second Amended and Restated Nu Skin Enterprises, Inc. 1996 Stock Incentive
Plan (incorporated by reference to Exhibit 10.1 to the
Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2003). |
*10.30 |
|
Base
Form of Master Stock Option Agreement (incorporated by reference to Exhibit 10.44 to the
Companys Annual Report on Form 10-K for the year ended December 31, 2002). |
*10.31 |
|
Form
of Stock Option Agreement (Directors) (incorporated by reference to Exhibit 10.4 to the
Companys Annual Report on Form 10-K for the year ended December 31, 2001). |
*10.32 |
|
Summary
Description of Nu Skin Japan Director Retirement Allowance Plan (incorporated by
reference to Exhibit 10.49 to the Companys Annual Report on Form 10-K for the year
ended December 31, 2001). |
*10.33 |
|
Employment
Letter with Truman Hunt (incorporated by reference to Exhibit 10.49 to the Companys
Annual Report on Form 10-K for the year ended December 31, 2002). |
-106-
Exhibit Number |
|
Exhibit Description |
*10.34 |
|
Amendment
to Employment Letter with M. Truman Hunt dated September 22, 2005 and Amendment to
provisions of the Companys Executive Incentive Plan with respect to Mr. Hunt
(incorporated by reference to Exhibit 10.1 to the Companys Quarterly Report on Form
10-Q for the quarter ended September 30, 2005). |
*10.35 |
|
Letter
of Understanding with Corey Lindley effective August 8, 2002 (incorporated by reference
to Exhibit 10.49 to the Companys Annual Report on Form 10-K for the year ended
December 31, 2002). |
*10.36 |
|
Letter
of Understanding with Corey Lindley effective December 22, 2003 (Supplementing Letter of
Understanding effective August 8, 2002) (incorporated by reference to Exhibit 10.47 to
the Companys Annual Report on Form 10-K for the year ended December 31, 2003). |
*10.37 |
|
Amendment
to Letter of Understanding with Corey Lindley as of March 25, 2005 (incorporated by
reference to Exhibit 10.3 to the Companys Quarterly Report on Form 10-Q for the
quarter ended March 31, 2005). |
10.38 |
|
Amended
and Restated Registration Rights Agreement, dated as of September 18, 2003, by and among
Nu Skin Enterprises, Inc., Sandra N. Tillotson, The Sandra
N. Tillotson Family Trust and the Purchasers signatory thereto (incorporated by reference
to Exhibit 4.7 to the Company's Registration Statement on
Form S-3 (File No. 333-109836)). |
10.39 |
|
Private
Shelf Agreement, dated as of August 26, 2003, between Nu Skin Enterprises, Inc. and
Prudential Investment Management, Inc. (the "Private Shelf
Agreement") (incorporated by reference to Exhibit 10.2 to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2003). |
10.40 |
|
First
Amendment to Private Shelf Agreement, dated as of October 31, 2003 between the Company
and Prudential Investment Management, Inc. (incorporated by reference to Exhibit 10.53 to
the Companys Annual Report on Form 10-K for the year ended December 31, 2003). |
-107-
Exhibit Number |
|
Exhibit Description |
10.41 |
|
Second
Amendment to Private Shelf Agreement, dated as of May 18, 2004, between the Company,
Prudential Investment Management, Inc., and the holders of the Series A Senior Notes and
Series B Senior Notes issued under the Private Shelf Agreement (incorporated by reference
to Exhibit 10.3 to the Companys Quarterly Report on Form 10-Q for the quarter ended
June 30, 2004). |
10.42 |
|
Third
Amendment to Private Shelf Agreement dated June 13, 2005 between the Company, Prudential
Investment Management, Inc. and certain other lenders (incorporated by reference to
Exhibit 10.1 to the Companys Quarterly Report on Form 10-Q for the quarter ended
June 30, 2005). |
10.43 |
|
Series
A Senior Notes Nos. A-1 to A-5 and Series B Senior Notes B-1 to B-5 issued October 31,
2003 by the Company to Prudential Investment Management, Inc. and/or its affiliates
pursuant to the Private Shelf Agreement (incorporated by reference to Exhibit 10.54 to
the Companys Annual Report on Form 10-K for the year ended December 31, 2003). |
10.44 |
|
Series
C Senior Notes Nos. C-1 and C-2 issued February 7, 2005 by the Company to Prudential
Investment Management, Inc. and/or its affiliates pursuant to the Private Shelf Agreement
(incorporated by reference to Exhibit 99.2 to the Companys Current Report on Form
8-K filed February 8, 2005). |
10.45 |
|
Stock
Repurchase Agreement, dated as of October 22, 2003, between the Company and certain of
its shareholders (incorporated by reference to Exhibit 10.1 to the Companys Current
Report on Form 8-K filed November 10, 2003). |
10.46 |
|
Registration
Rights Agreement dated as of October 22, 2003, by and among the Company and certain
third-party purchasers of the Companys stock shareholders (incorporated by
reference to Exhibit 10.1 to the Companys Current Report on Form 8-K filed November
10, 2003). |
10.47 |
|
Form
of Lock-up Agreement executed by certain of the Companys shareholders (incorporated
by reference to Exhibit 10.1 to the Companys Current Report on Form 8-K filed
November 10, 2003). |
10.48 |
|
Registration
Rights Agreement, dated as of July 26, 2004, by and among the Company and the Purchasers
signatory thereto (incorporated by reference to Exhibit 4.6 to the Companys
Registration Statement on Form S-3 filed August 23, 2004 (File No. 333-118495)). |
-109-
Exhibit Number |
|
Exhibit Description |
10.49 |
|
Stock
Repurchase Agreement, dated as of July 27, 2004, by and among the Company and the Selling
Stockholders signatory thereto (incorporated by reference to Exhibit 4.8 to the Companys
Registration Statement on Form S-3 filed August 23, 2004 (File No. 333-118495)). |
*10.50 |
|
Nu
Skin International, Inc. 1997 Key Employee Death Benefit Plan (incorporated by reference
to Exhibit 10.59 to the Company's Annual Report on Form 10-K
for the year ended December 31, 2003). |
*10.51 |
|
Nu
Skin Enterprises, Inc. 2005 Executive Incentive Plan (incorporated by reference to
Exhibit 99.1 to the Company's Current Report on Form 8-K
filed February 9, 2005). |
*10.52 |
|
Restricted
Stock Purchase Agreement, dated as of January 17, 2003, between the Company and Truman
Hunt (incorporated by reference to Exhibit 10.61 to the Companys Annual Report on
Form 10-K for the year ended December 31, 2003). |
*10.53 |
|
Employment
Letter with Robert Conlee effective November 26, 2003 (incorporated by reference to
Exhibit 3.2 to the Companys Annual Report on Form 10-K for the year ended December
31, 2003). |
*10.54 |
|
Summary
of Non-management Director compensation. |
*10.55 |
|
Form of Contingent
Stock Award Agreement (Director Award). |
10.56 |
|
Amended
and Restated Patent License Agreement, dated as of March 7, 2002 by and between the
University of Utah Research Foundation and Nutriscan, Inc. and Interpretive Memorandum of
Understanding, dated as of November 30, 2001 (incorporated by reference to Exhibit 10.65
to the Companys Annual Report on Form 10-K for the year ended December 31, 2004). |
*10.57 |
|
Nu
Skin Enterprises, Inc. Senior Executive Benefits Policy (incorporated by reference to
Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q
for the quarter ended June 30, 2005). |
10.58 |
|
Agreement
and Plan of Merger among Nu Skin International, Inc., Pharmanex License Acquisition
Corporation, Caroderm, Inc. and certain shareholders of
Caroderm, Inc. dated as of March 7, 2006. |
*10.59 |
|
Severance
letter with Richard King dated March 2, 2006. |
*10.60 |
|
Severance
letter with Lori Bush dated March 10, 2006. |
*10.61 |
|
Summary
of Team Elite Travel Policy. |
21.1 |
|
Subsidiaries
of the Company. |
23.1 |
|
Consent
of PricewaterhouseCoopers LLP |
-108-
Exhibit Number |
|
Exhibit Description |
31.1 |
|
Certification
by M. Truman Hunt, President and Chief Executive Officer, pursuant to Rule 13a-14(a) of
the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002. |
31.2 |
|
Certification
by Ritch N. Wood, Chief Financial Officer, pursuant to Rule 13a-14(a) of the Securities
Exchange Act of 1934, as adopted pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002. |
32.1 |
|
Certification
by M. Truman Hunt, President and Chief Executive Officer, pursuant to Section 1350,
Chapter 63 of Title 18, United States Code, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002. |
32.2 |
|
Certification
by Ritch N. Wood, Chief Financial Officer, pursuant to Section 1350, Chapter 63 of Title
18, United States Code, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002. |
-109-