Medifast Inc Q2 FY2022 Earnings Call

Good afternoon. And welcome to Medifast Second Quarter 2022 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Reed Anderson with ICR. Please go ahead.

Good afternoon, and welcome to Medifast second quarter 2022 earnings conference call. On the call with me today are Dan Chard, Chairman and Chief Executive Officer; and Jim Maloney, Chief Financial Officer. By now, everyone should have access to the earnings release for the quarter ended June 30, 2022 that went out this afternoon at approximately 4:05 PM Eastern Time. If you have not received the release, it is available on the Investor Relations portion of Medifast’s website. This call is being webcast and a replay will be available on the company’s website. Before we begin, we would like to remind everyone that the prepared remarks contain forward-looking statements and management may make additional forward-looking statements in response to your questions. The words believe, expect, anticipate and other similar expressions generally identify forward-looking statements. These statements do not guarantee future performance, and therefore, undue reliance should not be placed upon them. Actual results could differ materially from those projected in any forward-looking statements. All of the forward-looking statements contained herein speak only as of the date of this call. Medifast assumes no obligation to update any forward-looking projections that may be made in today’s release or call. And with that, I would like to turn the call over to Medifast’s Chairman and Chief Executive Officer, Dan Chard.

Thank you, Reed, and good afternoon, everyone. Thank you for taking the time to be with us. On the call with me today is Jim Maloney, our Chief Financial Officer. I'll start with an overview of the second quarter and the continued evolution of our business, then Jim will run through our financial results in more detail. Second quarter results were strong with revenue up 15% to $453 million, another company record, driven by continued growth in the number of OPTAVIA Coaches. Active earning coach numbers reached 68,000 in the second quarter, a 14.9% increase versus a year ago, and up 6.4% sequentially from the first quarter of 2022. Revenue per active earning coach, which is a measure of productivity of coaches supporting customers, was $6,667, slightly above levels in the prior year period and up 2% sequentially. Moving to our financial results, earnings per share of $3.87 on an adjusted basis were better than expected and just below the $3.96 we reported in the second quarter of 2021, reflecting the impact of some short-term transitional factors on near-term gross margins. We've seen impressive results from our essential start customer acquisition program, which launched in March of 2022 and extended through May 10th. The program was highly effective in attracting a new cohort of customers in the first and second quarters. We first leveraged a program similar to this in April of 2020 at the height of the pandemic to attract new customers to OPTAVIA and to reactivate lapsed customers who were interested in reengaging with the coach and the OPTAVIA program. The data and learning we gathered from the original cohort provided valuable insights that were integrated into this year's program. The benefit of programs such as these is that they create new and engaged customers, a portion of whom become new coaches who go through the coach-directed training program, and they, in turn, extend their reach to additional new customers. This creates a highly effective flywheel that drives the growth and rhythm of our business. While we achieved our customer acquisition objectives during the quarter, clearly, the macro environment has become more challenging for global businesses over the past several months, largely reflecting the impact of rising inflation-related factors, which is putting more pressure on consumer spending. While we remain confident in the long-term strength of our business, we're not immune to these near-term pressures. In the latter part of the quarter, we saw some moderation in our customer retention curves that impacted our growth trends and our revenue outlook for the remainder of the year. We are tracking these trends closely as we move through the third quarter and taking some intentional steps to mitigate the impact. This includes the launch of a coach accelerator bonus program to promote new coach sponsoring and client acquisition. This program is a variation on the business builder program we have traditionally used during the second half of the year, and we believe this initiative will be beneficial to customer retention as we move through the year. Clearly, the world has experienced a range of macroeconomic uncertainties that have impacted businesses, including ours over the last number of years. Generally speaking, following these moments of disruption, we have seen retention rates return to historical norms within two to three quarters. Early indications from the data in Q3 are that we are seeing stabilization in retention rates, and we're looking to drive a return to more normal levels as we move through the year. Cost pressures relating to raw materials and transportation are also impacting short-term margins, and we are reducing our full-year 2022 profit outlook accordingly. The disruptive economic environment is unfolding rapidly, and with the ongoing impact of rising inflation and waning consumer sentiment, economic growth remains uncertain. However, the global health crisis remains a long-standing issue that continues to drive consumer focus and spending. Despite the challenges of the macroeconomic environment, we still expect to deliver growth and capture additional market share this year, generating high levels of profitability and excess cash flow. While the current environment is certainly turbulent and unsettling for capital-intensive businesses, our variable cost structure allows us to adapt quickly to the changing business environment. With that in mind, we have already made adjustments to our manufacturing, distribution, and customer support infrastructure to reflect our revised outlook. With these adjustments, along with other profit improvement initiatives currently underway, we believe we will be able to effectively adjust to achieve our long-term profitability goal of a 15% operating margin. Despite the short-term pressures, as a business, we remain confident in our ability to drive long-term value. The $100 million accelerated share repurchase program we recently announced provides strong evidence of our confidence and our commitment to continue the growth of the company and our steadfast belief in the strength of our strategy. One of the many reasons for our confidence is the clear differentiation of our model. We do not offer a one-size-fits-all approach, but instead, our OPTAVIA Coaches provide customized support to customers who want to transform their health. Personal coaching is offered within a supportive community and is underpinned by clinically proven plans that help support lifelong change. This is a special sauce that makes OPTAVIA such a powerful force for transformational change, and our initiatives in the field underpin that. We believe that there is a significant opportunity to increase the productivity and reach of our coaches, and we are currently working on several initiatives designed to enhance that effort. Since the launch of our new business model through the OPTAVIA brand in 2017, productivity as measured by revenue per active earning coach has increased over 50%. Our OPTAVIA coaches have leveraged our powerful customer-facing brand and reformulated product line to support their coaching services. They have used social media and video conferencing to share the OPTAVIA message. Business coaches, in turn, recruit and train new coaches who use our data and technology platforms to support their customer bases. Our expanded supply chain capacity and capabilities bring deeper consistency to customer service and give coaches the confidence they need to continue focusing on building their businesses efficiently and effectively. Digital capabilities continue to be a high priority for the business, helping to drive deeper engagement and seamless connectivity across our OPTAVIA community of coaches and customers. The OPTAVIA app, which supports customers on their health transformation journey continued to show strong momentum in the second quarter, with downloads increasing 13% sequentially to 158,000. Total number of users was up 24% over the same period, reaching 288,000, with the number of new users increasing by 10%. The new meal tracking feature went live in the second quarter, and we continue to expand our lean and green catalog to include 170 unique recipes. Coaches have continued to increase their usage of the OPTAVIA Connect app in the second quarter as we rolled out several new features to enhance their ability to serve and engage with our customers. We now have over 25% of our coaches leveraging the app to support their business. This app acts as a complement to the desktop app that a majority of our coaches used to efficiently manage their customers. Over time, we anticipate that these two complementary technology platforms will be increasingly effective in supporting the continued productivity of our coaches. The impact of our growth was visibly demonstrated last month at our annual OPTAVIA Convention in Atlanta. Attendance was outstanding with over 17,000 attendees participating in person and virtually. The OPTAVIA Convention features keynote addresses from company executives and independent OPTAVIA coach leaders, as well as field-led education sessions and panel discussions. For the second consecutive year, the company offered a coach-led education session in Spanish, as we continue to expand into Hispanic-centric segments inside the United States. We were able to more than double the participation in that session versus last year. This is an important benchmark in our expansion strategy, which focuses on building out the Hispanic segment in the United States in anticipation of future international expansion supported by US-based coach leadership and Spanish-speaking support infrastructure. As previously communicated, our customer support call center network now has a global footprint, providing multilingual support from the United States, Guatemala, Colombia, and the Philippines. With the continued expansion of our coach support infrastructure and the potential for future expansion into other international markets, including Spanish-speaking markets, there's clearly huge potential outside the US domestic market for many years to come. We're proud of what we have already achieved over the course of the past few years, rising to become the current leader in revenue in the $7 billion weight management category. It's a testament to the strength and effectiveness of our model and galvanizing people in their determination to achieve their health goals. However, we continue to set significantly greater goals for ourselves. We are expanding our efforts into the broader health and wellness arena and leveraging our current market leadership position to drive further growth. We recently made several key additions to our scientific advisory board that will be instrumental in targeting important segments within the $230 billion health and wellness industry. Three new individuals joined our Scientific Advisory Board, bringing significant expertise in health-focused technology and behavioral health areas that are closely aligned with our growth initiatives around digital engagement. Our investments in technology and infrastructure continue to position us for consistent growth. This includes our new distribution center in Fort Worth, Texas, which is on track for completion and automation by the end of this year. We anticipate that our push on manufacturing and fulfillment capacity will achieve our goal of supporting a $2.5 billion annual revenue business by the end of the year. We remain confident in our long-term mid-teens revenue growth and 15% operating margin targets. To deliver those results, we will continue to focus on attracting and supporting customers with our personalized habit of health coaching model, coupled with incremental gains from entering new demographic segments and penetrating the broader health and wellness market, as well as through international expansion. I'll conclude my remarks with an update on corporate social responsibility activities. I'm proud to say that Medifast, along with our coach community, has hit a new milestone providing the equivalent of 11 million nutritious meals to kids in need through our partnership with No Kid Hungry. At the same time, the unfortunate events in Ukraine have continued to impact millions of people globally. To support those affected by the crisis, we committed to donating OPTAVIA fuelings to assist the humanitarian efforts caused by the Ukrainian conflict through our nonprofit partners. Our thoughts go out to the people affected by this crisis. We are working with our non-profit partners to determine the amount of additional donations of OPTAVIA fuelings in the second half of 2022. We have also made substantial progress on the healthy habits for all curriculum, modeled after the habits of health and developed in partnership with former educators and subject matter experts. In July, the curriculum launched to a network of teachers nationwide providing lesson plans that help teach kindergarten through fifth-grade students how to create healthy habits. Our hope is that students will continue to be inspired to share what they have learned with their family, friends, and neighbors, creating a ripple effect that will transform and enrich lives and ultimately create healthier communities one healthy habit at a time. In conclusion, the second quarter was another step towards our long-term goals. We remain focused on our mission of transforming people's lives for the better, helping them be successful in achieving and maintaining their healthy weight and learning other healthy habits, setting a stage for significant expansion into the broader $230 billion health and wellness market. Our compelling business model continues to be supported by an experienced leadership team and dedicated employees and 68,000 passionate OPTAVIA coaches focused on enhancing lives one healthy habit at a time. With a strong balance sheet and a robust capital allocation strategy, we believe that we are well-positioned to drive value for stockholders and confident in the future. With that, let me now turn the call over to Jim Maloney, who will walk you through the financial results.

Thank you, Dan. Good afternoon, everyone. Revenue in the second quarter of 2022 increased 15% to $453.3 million from $394.2 million in the second quarter of 2021. We ended the quarter with approximately 68,000 active earning OPTAVIA coaches, an increase of 14.9% from the second quarter of 2021. Average revenue per active earning OPTAVIA Coach for the second quarter was $6,667, slightly above year-earlier levels and up sequentially. Coach growth and productivity continued to rise in the quarter driven by successful customer acquisition program and growth in the number of customers supported by each coach. Gross profit for the second quarter of 2022 increased 9.5% to $321.7 million compared to $293.7 million in the prior year period, reflecting strong revenue growth, partially offset by increased costs of sales. Gross profit margin was 71% in the second quarter of 2022 versus 74.5% in the comparable prior-year period. The 350 basis point decline in gross profit margin was attributable to the customer acquisition program run in the quarter and the elevated product and labor expenses as a result of continued inflationary pressures. SG&A expenses for the second quarter of 2022 increased 17.4% to $272.7 million compared to $232.3 million for the second quarter of 2021. SG&A as a percentage of revenue increased 124 basis points year-over-year to 60.2% versus 58.9% in the second quarter of 2021. Non-GAAP adjusted SG&A increased $31 million to $263.3 million, and non-GAAP adjusted SG&A as a percent of revenue decreased 84 basis points year-over-year to 58.1%. The increase in non-GAAP SG&A was primarily due to higher OPTAVIA Coach compensation expense, incremental costs related to the continued investment in information technology and distribution, and increased credit card fees resulting from higher sales. Income from operations decreased 20.3% compared to the prior year period, or $12.5 million to $49 million, primarily as a result of increased SG&A expenses, partially offset by increased gross profit. Income from operations as a percentage of revenue was 10.8% for the second quarter of 2022, compared to 15.6% in the same period of 2021. Non-GAAP adjusted income from operations, which excludes the Ukrainian donation, decreased $3 million to $58.4 million. Non-GAAP adjusted income from operations as a percentage of revenue was 12.9%, a decrease of 270 basis points from the year-ago period. The effective tax rate was 19.8% for the second quarter of 2022, compared to 23.4% in the prior year's second quarter. The decrease in the effective tax rate was primarily driven by a tax benefit for donations in the quarter, partially offset by a minimal increase in various other items. The non-GAAP effective tax rate was 23.9% as compared to 23.4% in the prior year period. Net income in the second quarter of 2022 was $39.1 million, or $3.42 per diluted share, compared to net income of $47 million, or $3.96 per diluted share in the prior year's second quarter. The non-GAAP adjusted net income was $44.3 million, or $3.87 per diluted share. As Dan mentioned a minute ago, the company announced an accelerated share repurchase agreement on June 1 to repurchase $100 million of the company's outstanding common stock with approximately 480,000 shares repurchased as of June 30, 2022, with the final settlement expected no later than October 2022. Additionally, on June 16th, the company's Board of Directors declared a quarterly cash dividend of $18.6 million, or $1.64 per share, which is payable on August 8th, 2022, to the stockholders of record on June 28th, 2022. This represents a 15.5% per share increase compared to the second quarter of the prior year. Turning to our balance sheet, we believe our financial position remains strong with $61.1 million in cash, cash equivalents and investment securities and $27 million in debt as of June 30, 2022, compared to $109.5 million in cash, cash equivalents and investment securities and no debt at December 31, 2021. The change in net cash is largely attributable to execution of the accelerated stock repurchase program announced on June 1. I will now turn to our guidance for the full year 2022. Dan discussed the macroeconomic environment has become challenging over the past several months, and we have recently experienced some moderation in customer retention and accordingly have decreased our second half of the year outlook. We expect full-year revenue in the range of $1.58 billion to $1.66 billion and diluted non-GAAP EPS to be in the range of $12.70 to $14.10. Again, we believe that we, along with our 68,000 Coaches, will be able to navigate the macroeconomic environment in the coming quarters. So we are confident in our long-term growth targets in the mid-teens. We also believe we will be able to achieve a 15% operating margin in the long-term, despite short-term margin pressures this year from continued investment in technology and supply chain infrastructure along with inflation. Our guidance assumes a 24.25% to 25.25% effective tax rate. If you are attempting to develop a financial model for the remainder of 2022, from a topline basis, we believe Q3 2022 will have a mid-teen double-digit decline year-over-year because of the moderation in customer retention. We expect slight growth in Q4 as we start to build momentum for 2023. Finally, as a reminder, several weeks ago, the OPTAVIA convention was held and will increase SG&A expenses in Q3 2022. In closing, we remain confident in the strength of our model to drive consistent growth and profitability and are well-positioned to capitalize on the significant opportunities that lie ahead. As we look to the future, we focus on building long-term value for stockholders as evidenced by our recent capital allocation activities, further demonstrating our confidence in our outlook while enhancing lives one healthy habit at a time.

Hi, morning. It's Chris Neamonitis for Steph. Thanks for taking the questions. I just want to take a look kind of stepping off the second quarter. Obviously, you just mentioned Jim, that the guidance calls for double-digit declines in the third quarter. So, maybe help us reconcile how that works and maybe a little more color in terms of the step change following a pretty strong 15% growth quarter? Can you maybe just talk about the trends you saw in kind of pretty big step function down?

Thanks for the question, Chris. The reason we are highlighting a double-digit decline in Q3 is based on historical macro events. During the pandemic, we observed a drop in customer retention rates at the onset, which took about six months to recover completely. However, we identified deeper issues in the early months, and things improved over time. Although the current situation is different from the pandemic, early data from Q3 indicates that retention rates are stabilizing, which is encouraging and suggests we can return to more normal levels of retention later this year.

Chris, looking at it from a slightly different perspective but in line with what Jim mentioned, our business model relies on attracting a significant number of new clients. We successfully achieved this in the first and second quarters, which was evident in our upward guidance following Q1 and the ongoing increase in product demand during Q2. The decline we experienced was tied to earlier discussions about a sort of shock to the system, as consumers started to feel the impact of inflation. As a result, many of the customers we previously acquired did not return after their initial month. Additionally, even some members of those earlier customer groups did not repeat their engagement when we anticipated they would. This situation has led to considerable downward pressure on the productivity of our active earning coaches, as there are fewer clients in the system. To counter this change, we need to restore the business rhythm, starting with client acquisition. Our current strategy encourages existing coaches to sponsor new coaches and attract a fresh client base. The reduced performance in Q3 reflects our efforts to reset the productivity that was affected by the macro disruption impacting our retention rates.

Yes. So Chris, when you think of our customer acquisition program that occurred from March through May, we actually saw better-than-anticipated results during that timeframe. So we can conclude that it's really not a demand issue; health and wellness is still a need for consumers, and it's really the macro environment that is causing this moderation in retention rates. So hopefully, that's helpful.

That is. I guess, on specialty intrigued, just given kind of previous commentary around the acquisition program being so strong and repeat order rates holding up in line with historical. So I think you're saying that there was, in fact, a deviation from kind of that high 70%, mid-70% repeat order rates. But, I guess, looking forward, right to the back half of the year into 2023. What gives you confidence that these, kind of, repeat order rates will improve if, kind of, the underpinning reason is the macro? I think about if we move into a, kind of, a prolonged period of a tougher macro, what gives you confidence that you and the coach base can kind of overcome this?

I think the best example we have of going through a macro event like this is the pandemic that happened two years ago. What we saw in those initial months were an adjustment to consumer sentiment as they faced something they hadn't faced before. We think that's what we're seeing now. We observed that in the early phases or the early months of Q1 and the first part of the second quarter, our retention curves held just like they normally would in a normal year. It wasn't until the news started getting bad, and they start filling, I think probably the simplest way of thinking about it is the effect when you put gas in your tank or when you go buy groceries. So what we believe is that, there will be some adjustments made, including decisions on how you spend, and what the consumer spends on health and wellness should be prioritized higher again, and that'll bring back our product, our service, and our ability to grow back into focus. Yes. The guidance reflects what we observed in the latter part of Q2 because we currently lack sufficient data for Q3 to project for the remainder of the year. However, as Dan mentioned, we are confident that retention will normalize back to typical levels, taking into account what we have experienced with previous macro events.

Just one other important point that we are closely monitoring, which is also reflected in our programming. Typically, in such environments, the appeal of a coaching business tends to increase. We believe this will hold true for us as well. Therefore, we are closely observing how our conversion rates perform in this environment. The current program we have in place reflects this belief and is helping to facilitate progress. We are actively making adjustments in response to changes in consumer spending, as we have done in the past, whether due to macro disruptions or operational initiatives. These adjustments will enable the business to return to a more normalized state. The confidence you’re hearing regarding the return is based on the trends we are monitoring and our historical success in adjusting the business, restoring attraction, supporting clients with their plans, converting coaches, and consistently developing the business as we have achieved in the past.

This concludes our question-and-answer session. I will now turn the conference back over to Dan Chard for any closing remarks.

I'd like to thank all of you who have joined, including employees, coaches, and OPTAVIA clients. I just want to end with a few closing comments. As I said, while we experienced headwinds in the changing macro environment during the quarter, we've quickly made the adjustments to reflect the new market dynamics. We have a stated mission to expand our business in the broader $230 billion health and wellness segment by leveraging the Habits of Health Transformational System. We believe that our outsized share and leadership in the United States in the weight management category segment is reflective in our access and expanding beyond those who simply want to lose weight. We're actively building new segments in the United States with a particular focus on the Hispanic segment, and we view this as preparation for future steps on international expansion. Lastly, we continue to invest in technology that we believe will support our long-term productivity of our coaches. We look forward to sharing the results of our current quarter and our progress against our long-term goals as we move through this quarter and have our next earnings release. Thank you, everyone, for joining.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.