Earnings Call Transcript - USNA Q4 2023

Operator, Operator

Hello, and welcome to USANA Health Sciences Fourth Quarter and Fiscal Year 2023 Earnings Call. My name is Melissa, and I will be your coordinator for today’s event. Please note, this conference is being recorded. I’ll now turn the call over to Andrew Masuda. Please go ahead.

Andrew Masuda, Coordinator

Thank you, Melissa, and good morning, everyone. We appreciate you joining us to review our fourth quarter and fiscal year 2023 results. Today's conference call is being broadcast live via webcast and can be accessed directly from our website at ir.usana.com. Shortly following the call, a replay will be available on our website. As a reminder, during the course of this conference call, management will make forward-looking statements regarding future events or the future financial performance of our company. Those statements involve risks and uncertainties that could cause actual results to differ perhaps materially from the results projected in such forward-looking statements. Examples of these statements include those regarding our strategies and outlook for fiscal year 2024, as well as uncertainty related to the economic and operating environment around the world, our operations and financial results. We caution you that these statements should be considered in conjunction with disclosures, including specific risk factors and financial data contained in our most recent filings with the SEC. I'm joined by our President and CEO, Jim Brown; our Chief Financial Officer, Doug Hekking; as well as other executives. Yesterday, after the market closed, we announced our fourth quarter and fiscal year results and posted our management commentary document to the company's website. We'll now hear brief remarks from Jim before opening the call for questions.

Jim Brown, CEO

Thank you, Andrew, and good morning, everyone. USANA delivered fourth quarter operating results that exceeded our expectations as our sales force responded positively to an incentive offering in several of our key markets. Notably, our Greater China region delivered double-digit sequential growth in active customers. We are pleased with our year-end results and the adoption of this incentive, particularly because the operating environment in many of our markets in 2023 was challenging as inflation and other economic factors adversely impacted consumer behavior and our ability to generate top line momentum. Despite this environment, we delivered fourth quarter net sales and diluted EPS above expectations. We ended the year with $330 million in cash and essentially debt-free as we continue to generate strong free cash flow. We officially launched operations in India, the company's 25th global market at the end of fiscal 2023, which is a significant milestone for USANA following years of preparation. And we continue to make meaningful progress on several strategic initiatives that are foundational for USANA's future growth. We begin fiscal 2024 with a renewed focus on executing our global growth strategy, which is generating consistent active customer growth. The initiatives that drive this strategy include increasing engagement with our associate leaders to accelerate associate and customer growth, enhancing our incentive opportunities for our sales leaders that are actively generating customer and sales growth, building and expanding our operations in India, product innovation and development, and pursuing additional acquisition opportunities. I'll briefly provide additional details on our initiative to increase engagement with our associate leaders. While 2023 was a year of reengaging with our associate leaders in a live setting, in 2024, we'll be doubling down on engaging, training, and educating our associates with a focus on growing active associates globally. While overall customer growth is always our goal, we recognize that our business model relies upon our independent distributors to market and sell our products. For this reason, we are renewing our focus on associate growth in 2024. USANA offers best-in-class nutritional supplements. And this year, we'll be collaborating with our associates to help them effectively communicate this product differentiation message. Additionally, we plan to roll out more updates to our existing digital tools, which will help our associates with the necessary onboarding, training, communication, and marketing resources essential for growing and managing their business. In closing, USANA remains well positioned for long-term success in the global health and wellness market. I'm confident that our successful execution of our strategies will expand our business and drive sustainable long-term growth in net sales and earnings. With that, I'll now ask the operator to please open the lines for questions.

Operator, Operator

And our first question is from Anthony Lebiedzinski with Sidoti & Company.

Anthony Lebiedzinski, Analyst

Certainly a nice job with the fourth quarter results. Good to see China doing better. So just curious, I guess, kind of big picture maybe first. So as you start 2024 now, you're a little bit more than a month into the current fiscal year. Just wondering if you could just give us a sense as to like which countries do you think other than China are doing better? And maybe conversely, where do you see the weakest pressure points?

Doug Hekking, CFO

Anthony, this is Doug. I think it's pretty early in the game. I think the pattern that you see has been fairly consistent. I think we put a little color in our management commentary document talking about kind of the initial response we saw to a promotion to offset the Lunar New Year holiday. And so we're pretty encouraged by what we saw there, and we reported in the first quarter. But outside of there, I think we're still kind of watching and evaluating the impact through the Lunar New Year. So it's a little bit early, but we'll definitely look to give some color on that after the first quarter.

Anthony Lebiedzinski, Analyst

Understood. Okay. And then so as far as pricing, so last year, you guys had some customers buying ahead of price increases, which impacted your first quarter in '23. So what can we expect as far as pricing this year? And could we perhaps see a repeat of that? Or just not looking to do anything like you did last year as far as pricing?

Jim Brown, CEO

Yes. I would not expect that, and that's why we've called it out. I think the adjustment we did last year on pricing and we've been pretty tepid in the several years before as far as how we've approached it, we probably had on average, somewhere in that 4% to 5% on a global basis last year. You definitely won't see that this year. And the response last year was above and beyond what we typically see just because of having a little bit bigger adjustment. And we're definitely not moving as fast as we've seen others have. So we've been very conscientious in working with our sales leadership and how we approach that, but you won't see the same magnitude. And I think that's why it's appropriate to call both that out and the response to the immunity boost that we saw at the end of the fourth quarter and the first quarter of '23.

Anthony Lebiedzinski, Analyst

And then also, can you just talk about the spending that you've planned for India and one of your acquisitions, Rise Bar, as far as how should we think about as far as, I don't know if you want to put a dollar amount on that or maybe just help us understand as far as what the return on that additional spending will be and kind of the expectation as far as the timing of that?

Doug Hekking, CFO

Yes. I'll begin, and then Jim can add in. This year, we plan to invest significantly. With Rise Bar, we wanted to establish a solid foundation for integration and other initiatives. We see great potential in this area. The team has put together commercial plans, so this coming year will focus on investment, meaning we won't be generating profit just yet, but we expect strong sales growth. India is similar; we launched there towards the end of last year and aim to start earlier this year. The costs for opening events and celebrations have been deferred to 2024. We recognize the long-term importance of this market and want to ensure we start off strong, engaging leaders and making a positive impact. Between these two categories, we anticipate a net negative operating margin of around $4 million to $5 million due to sales, but we believe this investment is worthwhile and will yield significant benefits in the future. Jim, do you have anything to add?

Jim Brown, CEO

Yes, Doug, called me out. But quite honestly, I don't know exactly what else to put out there. I mean, this is an investment time for both businesses, and we expect it to basically be flat or down from a profit standpoint this year. And we're looking forward to what they do in the future. But again, we just want to get the momentum moving in 2024.

Anthony Lebiedzinski, Analyst

That's very helpful color. And then lastly, before I pass it on to others. So your balance sheet obviously continues to be strong. It looks like you have more cash than you need to run the business. So how should we think about the capital allocation priorities for you guys?

Doug Hekking, CFO

Well, I think it remains very similar to what we’ve done in the past. I think we always look to go back and invest organically into our direct selling business and really lean into that. After that, I think we’ve been talking for several quarters now about activity in M&A, and we always have several opportunities that we’ve evaluated and are moving down the path. And then in the past, we’ve been pretty heavily invested in share repurchase programs, but those things are balanced. It’s a quarterly discussion with the Board of Directors, and it’s a very open discussion. We’re trying to evaluate the opportunities at the stage that they’re at and invest accordingly. Just for context at our current level of business, I would say, to operate in an environment without debt, we probably need roughly $100 million given some of the liquidity dynamics and where the cash is held ballpark, and then you can gauge from there, which always becomes a little bit of a waiting game with repatriating cash back from China.

Operator, Operator

Our next question is from Linda Bolton-Weiser with D.A. Davidson.

Linda Bolton-Weiser, Analyst

Yes, hello. So I was wondering, just on the cost side first, I guess. You had mentioned that freight costs were down year-over-year in the quarter. Is that a sustainable comparison now going forward for the next few quarters? Can we expect for that freight cost to continue to be down year-over-year?

Jim Brown, CEO

Yes, I'd say it's sustainable, and it will be down year-over-year. We haven't really gone out and got better freight costs or any of that, but it's just a stabilization of everything after COVID, and we can depend on the rates as well as the lead times and transit times, and we're not expediting shipments like we had to do to make sure that we didn't go on back order through the ups and downs of COVID.

Doug Hekking, CFO

Yes. I would also say one of the things that will help out is the ops team has done a really good job locating the inventory in market to help us have a little bit more of a shock absorber with any change in demand. The strategic efforts of the procurement and supply chain teams, along with the stability of the supply chain in general, contribute positively here. It really is, like Jim said, the absence of airfreight, which is the significant difference.

Jim Brown, CEO

You can see it, too, Linda, in our level of inventory right now, that $65 million amount where back up a few years ago, we were at $100 million just because we couldn't depend on stuff and we had to stock up. I think that will remain around that same amount. That just again is a testament to our operational teams managing the business better and having the dependability of the logistics companies now.

Linda Bolton-Weiser, Analyst

Okay. Great. And then I was just curious about Malaysia and the Philippines because you mentioned that the promotional initiative helps Malaysia, and Malaysia was up 7% local currency, that's good. But then Philippines was still so weak. Did you try the same promotion in the Philippines and it just didn't work or what is the difference here between the Malaysia and the Philippines performance?

Doug Hekking, CFO

Yes. The markets are very unique. Brent Neidig is in here, and I'll let him chime in. I think he can go back and give a pretty articulate response. The Philippines is a great market with people who are very entrepreneur-minded. I think the COVID environment has hit that market particularly hard. The operating environment is what it is at this point. We're obviously optimistic there, but there's still work to be done. Brent?

Brent Neidig, Executive

Hi, Linda. Doug mentioned it, the parameters of the promotion were quite similar across markets, but each market responded differently. That depends on several factors. One is the socioeconomic environment; I think the Philippines has been hit harder than Malaysia, which is one of the primary indicators of why they didn't respond as effectively as Malaysia did.

Linda Bolton-Weiser, Analyst

Okay. And then in Mainland China, so that was better performance there. But I guess I'm curious about the active customers being up 5% year-over-year, but local currency sales were still down slightly. Is that just like an average ticket per customer is sort of lower or how do I interpret that information?

Doug Hekking, CFO

Yes. I would say I think currency has played a little bit of a role year-over-year, and that's been a pretty hefty impact year-on-year when you look at the full year. Remember, our customer count is primarily a quarterly metric. And so as you look at the full year, you have to take that into consideration. But I think we've been pretty pleased with the resilience of China. And I know Brent and the team that we have there are optimistic, and we've done many things differently that we see as encouraging opportunities for us to look at in our other businesses.

Brent Neidig, Executive

I'd say it's also a function of the promotions that we ran and the different incentives that we've had that perhaps the spend per customer has slightly been down. We are okay with that. Our ultimate goal is to attract and retain consumers and customers. As we see that active customer number increase, to us that's a good long-term indicator that we want to continue to build on that momentum.

Linda Bolton-Weiser, Analyst

Well, let me just ask one more thing. In terms of the cadence of promotions in 2024, so I guess you've mentioned doing something here in the first quarter. But beyond that, what would be the plan? Are you going to pull back on these big promotional events or still do them periodically? What's the plan there?

Doug Hekking, CFO

Yes, at a high level. I think 2023 was a little bit lighter than we had been historically, but we are coming off three years of a heavy promotional cadence during the COVID years, and it depended on where the individual markets were at. I think you'll see us tick up from where we were in '23. We’re in a sales culture. You're always going to have incentives and promotions. To Brent's point, we are looking to go back and do those things that will help us gain traction and sustainable growth going forward. Brent?

Brent Neidig, Executive

The direction we're moving for 2024 is to really look market by market and ensure that we have the right incentive structure and package for each individualized market. In the past, some of these larger promotions have been global in nature, and they've been effective to a degree, but sometimes they don't resonate as well in certain markets. The intention going forward is to really identify what's going to motivate and incentivize our local sales leaders and ensure that we're supporting them the best way that we can.

Operator, Operator

Our next question is from Susan Anderson with Canaccord Genuity.

Susan Anderson, Analyst

Just really quick, it sounds like on the transportation costs, you don't really expect any increases. I'm just curious about the Suez Canal and how you're navigating things there. We've heard maybe some slight increases transportation providers are trying to pass through.

Walter Noot, Executive

Yes. If you look at our transportation costs, the biggest extensive cost in the past has been airfreight. I think those costs have gone up slightly, but most of our routes are not around the Suez Canal. We really haven't had those issues.

Doug Hekking, CFO

But to your point, that is something that we've watched. We've seen port strikes in the past, and some of these things definitely have an effect, so it is something that we're monitoring, and we'll update if we start seeing it have an impact on our business.

Susan Anderson, Analyst

Okay. Great. And then I guess, so back to Linda's question on China, it sounds like it's just more fluctuations in currency. I guess are you seeing that consumer there feel a little bit more pressured from a macro perspective and pulling back on your products at all?

Brent Neidig, Executive

Yes, it's Brent. The Chinese consumer, when you look at the larger macroeconomic data such as housing and other factors that are weighing into that, the consumer definitely is suppressed. In many categories, they have drawn back. I think the wellness space is quite resilient. The Chinese consumer is still very focused on wellness. So speaking specifically for USANA, we haven't really seen much fluctuation in that regard, which has been optimistic. Who knows what the future will hold, but we still are quite optimistic in the wellness space. Regardless of what happens from a socioeconomic factor, we think it's still pretty resilient.

Susan Anderson, Analyst

Okay. Great. And then I guess just really quick on pricing for 2024. It looks like there was a slight benefit this quarter. Should we expect that to continue in 2024?

Doug Hekking, CFO

Yes. What you heard narrated in the fourth quarter is just the year-over-year comparison from the adjustments that we made towards the end of the first quarter, beginning of the second quarter in '23. The adjustments we have planned this year are going to be meaningfully less than what we did in '23. I don't think you'll see much inflection point relative to our P&L from adjustments in prices. We'll be pretty targeted, looking at specific products with certain attributes that we have to address. As a whole, definitely, we won't be making the same lean into it that we did in '23.

Susan Anderson, Analyst

Okay. Great. And then last question just on M&A. I guess, is there any color you can give on kind of either products or categories that you're thinking about or holes in the portfolio that you would like to fill?

Jim Brown, CEO

Yes, this is Jim. We’re always looking at M&A in the wellness industry, and that’s kind of our focus that we have on product lines and everything that matches within that. I was just talking this morning to Walter, and they have a queue of six or seven companies that are interesting. Again, they’re all in the wellness area. We always look for companies that are healthy and we want to help them continue to grow. M&A is an interesting activity where no matter how eager you are to get in, you’ve got to find the right deals that resonate with the company and make a smart decision, and it just takes time to evaluate those.

Operator, Operator

Our next question is from Ivan Feinseth with Tigress Financial Partners.

Ivan Feinseth, Analyst

Congratulations on the strong year-end finish. I have two questions. One, on the sales incentives that you got some great results on. Can you give some details on that? And what do you find works best? And what have you experienced that has not worked well?

Doug Hekking, CFO

Yes. I think Brent captured it well. When we do something that's more far-reaching, as was the case in the fourth quarter, that promotion was available in most markets. That same type of approach doesn't work in every market. The particular one we ran in the fourth quarter was really rewarding growth in sales to new customers. In a market like China, which has a very entrepreneurial spirit and a strong belief in the health and wellness space, such initiatives resonate well. We've looked at value proposition promotions here or there, and those are received well. However, typically, when you do those, those are marketing to your existing customer base, and you're not seeing an inflection in customer counts. It really is a balancing act. To Brent's point, we hear different feedback from our sales leaders, and we work with them to align accordingly. Anything else, Brent? You good? All right, I think we're good.

Ivan Feinseth, Analyst

Second, given the current market dynamics surrounding GLP medications that reduce food consumption, have you been progressing in your thoughts about addressing those market opportunities?

Jim Brown, CEO

Ivan, we think the same way, quite honestly. We see this as an opportunity for people to need nutritionals to balance out as they're eating less. We have a great product offering, and we'll look at products that align well with that new market being created. It is a huge opportunity for people who are taking those medications and having success with them. We see that as an opportunity, and our R&D teams will look at products to support that.

Ivan Feinseth, Analyst

Do you feel that confident you'll continue to develop these products in-house? Or will this be part of your M&A strategy or both?

Jim Brown, CEO

Yes, I would say both. But initially in-house, we're working on that now, and it takes time to develop the right products and test them. From an M&A standpoint, if we find someone in that space or whatever, we'll definitely consider them. One of the areas to ensure we broaden our reach when we do M&A is to avoid competing with ourselves. If we can develop it ourselves, considering our premium products, we do a great job, and we can do it better. That's what USANA is.

Doug Hekking, CFO

Yes, I would say our current product offering specifically addresses the needs of people looking for better nutrition. While we are open to opportunities in mergers and acquisitions, we are well positioned to pursue this on our own. Discussions are ongoing, and we want to approach it responsibly, enhancing individuals' health and wellness journeys.

Operator, Operator

And our next question is from Doug Lane with Water Tower Research.

Doug Lane, Analyst

I just have a couple of quick questions on China, I'm following up on the discussion here. You've got a direct selling model in China. Should we view the active customer count as a leading indicator going forward?

Doug Hekking, CFO

I think you always should. We always try to give some color to the activity in the quarter for perspective. Typically, when you have a higher level of activity in bringing on new customers during the quarter, you're not going to have that same level stick, and that's why we give some context. It’s not disproportionate to what the average numbers are, but there is an elevated customer acquisition. So I think it provides a clearer view. We've been transparent throughout our history in how we communicate that.

Doug Lane, Analyst

No, it's very helpful. I always sort of base my models off the customer count, figuring that that's really directionally where the business is going. But I just wanted to double-check. I thought that you did run the direct selling business in China, right? BabyCare?

Walter Noot, Executive

Yes, that's accurate, Doug.

Doug Lane, Analyst

Yes. Many companies in this sector follow different models in China due to the complexity of the regulations. I also wanted to discuss how the overall regulatory environment in China is affecting your business.

Brent Neidig, Executive

Yes. During COVID, it was an interesting environment for those three years where the country was pretty much locked down, and no one from USANA was able to travel into the country. What happened is many of the regulators did not matter what they oversaw; they really were repositioned to help fight COVID. So many of the historical meetings and interactions we would have had with government agencies went quiet during COVID because they were focused on fighting COVID. Now that COVID's passed and things are more or less back to normal, we've started to reengage with government agencies. I'd say it's very typical to what it was like before COVID. There's a good working relationship and understanding between both sides. As long as you're complying with the regulatory framework that has been laid out, we have no reason to be anything but optimistic about the future, enabling us to continue to grow and develop our business there.

Doug Lane, Analyst

And you're back to holding meetings at the same pace pre-COVID or the same magnitude pre-COVID in China?

Brent Neidig, Executive

Yes. We have returned to our meeting cadence and size, which was severely restricted during the COVID era. In April, we have our China convention coming up, and that’s actually going to be held in Mainland China. We haven’t done that in several years. We’ve had a very large response, and we’re very optimistic about that event. We’ll continue to hold events at a very regular cadence throughout the year.

Operator, Operator

As we have no further questions, I would like to turn it back over to Andrew Masuda for any closing remarks.

Andrew Masuda, Coordinator

Thank you for your questions and for your participation on today's conference call. If you have any remaining questions, please feel free to contact Investor Relations at (801) 954-7210. Thank you very much.

Operator, Operator

That concludes today's conference. You may now disconnect. Hosts, you may stay on the line.