USANA Health Sciences, Inc. (NYSE:USNA) Q4 2022 Earnings Call Transcript

USANA Health Sciences, Inc. (NYSE:USNA) Q4 2022 Earnings Call Transcript February 8, 2023

Operator: Good day and welcome to today’s USANA Health Sciences Fourth Quarter Earnings Conference Call. This meeting is being recorded. At this time, I’d like to hand the call over to Andrew Masuda. Please go ahead, sir.

Andrew Masuda: Thank you and good morning, everyone. We appreciate you joining us to review our fourth quarter and year end 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 2023 as well as uncertainty related to the impact of the COVID-19 pandemic to our business, 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 am joined by our CEO and Chairman of the Board, Kevin Guest; our President, 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 2022 results and posted our management commentary document on the company’s website. We will now hear brief remarks from Kevin and Jim before opening the call for questions.

Kevin Guest: Thank you, Andrew and good morning everyone. We appreciate you joining us. USANA reported fourth quarter and fiscal 2022 results that were largely in line with our preliminary results announced on January 5. Fiscal 2022 presented a challenging operating environment for USANA. As with many companies, global inflationary pressure continued to negatively impact our materials and supply chain costs as well as our consumers’ purchasing behavior across several key markets. In particular, the operating environment in Mainland China continues to be difficult to navigate. During the final two weeks of fiscal 2022, we saw an increase in demand for certain of our products following the Chinese government’s unexpected easing of its COVID-19 policy.

While we are encouraged by this increase in demand, it is still too early to forecast long-term consumer demand in this critical market, particularly given the seasonality we experienced during the Chinese New Year holiday, which recently ended. That said, we anticipate that we will begin to see more normalized €“ a more normalized operating environment in China during 2023 and remain confident in our long-term growth opportunity in this key market. Notwithstanding the challenges we have seen in China and many of our other markets, USANA’s business has remained financially and operationally strong and is strategically positioned for future growth. Importantly, the company’s focus on health and wellness has never been more relevant as consumers around the world are more focused on their well-being now more than ever.

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We made progress throughout the year on several strategic initiatives, including various digital commerce initiatives to support our business, new market expansion, the launch of our affiliate program in select markets and the completion of 2 acquisitions. As we begin 2023, our top priority remains generating long-term sustainable growth in active customers. While our associates did well in adjusting to a virtual selling environment, it’s become more and more evident that in-person meetings and events are an invaluable catalyst to building relationships and generating excitement and positive momentum in our business. Consequently, one of our key priorities this year is to return to live sales meetings and events where possible. We have planned events in South Korea and Macau, China in the first half of the year with attendance at each event expected to be very strong, particularly given the absence of these events over the last several years.

Additional strategies for this year include offering new incentive opportunities for our sales force increasing our readiness for new market expansion, growing the two companies we acquired in 2022 and evaluating additional acquisition opportunities. I’d like to now turn the call over to USANA’s President, Jim Brown, for his comments on our key 2023 operational strategies.

Jim Brown: Thank you, Kevin and good morning everyone. Although generating customer engagement and growth is our top priority in 2023, we are also focused on cost and margin management. In particular, we will concentrate on strategically managing inventory, adjusting our sales promotion strategy to emphasize more local and regional offerings and fewer global offerings, implementing price adjustments to mitigate our increased cost structure and the current operating environment and capturing other operational efficiencies throughout our worldwide business. As a reminder, we made a strategic decision 2 years ago to build inventory levels to mitigate supply chain and stock out risks. As the supply chain has become more stabilized, the risk in this regard is lower, and we have meaningfully reduced inventory.

We will, however, continue to closely manage and monitor our inventory to ensure we’re able to deliver the best possible customer experience in a cost efficient manner. In closing, we are optimistic that the successful execution of all of our strategies will allow us to build sequentially on our fourth quarter results in 2023 and position USANA to return to year-over-year growth in 2024. With that, I’ll now ask the operator to please open the lines for questions.

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Q&A Session

Operator: Thank you, sir. Our first question comes from Linda Bolton-Weiser from D.A. Davidson. Please go ahead.

Linda Bolton-Weiser: Yes. Hello. Good morning. So I was wondering if €“ so the €“ obviously, the China sales in the fourth quarter performance was a lot better than we had projected originally. And you talked about the pickup in the last couple of weeks. Can you talk about what you are seeing more recently? Like has the pickups continued? And specifically, can you say anything about like how January was in terms of the performance there in China?

Doug Hekking: Yes. Linda, this is Doug. And so obviously, with what we saw at the end of the year was really kind of in response to the complete change in really COVID policy in the market. And so we saw those two weeks pick up. We saw a little bit of that trickle. But we are just coming out of Chinese New Year and it’s kind of what we had in our remarks that we just €“ we are waiting to go back and see how this normalize and kind of what that level is. We are obviously optimistic with the market and we think them shifting forward. The opening of the market is positive, but it does create some transitionary adjustments that we will have to make and our consumers will have to make in the market. So we are still trying to evaluate what that looks like.

Jim Brown: And we have Brent in here who oversees our China market. Any other color or perspective there, Brent?

Brent Neidig: Yes, you said it great there, Doug. December was very strong with the change in the COVID policy and we saw that demand go into January. But as Doug mentioned, Chinese New Year hit at the end of January. And every year, there is always a slowing that’s associated with that. And similarly, we saw that same slowing. So time will tell as we come out of Chinese New Year and into February and March to see what demand is going to normalize out.

Linda Bolton-Weiser: Okay. And then I guess when I just look at the results, again, versus what I was expecting, I guess the Southeast Asian piece that was quite a bit worse there. Can you just kind of talk about €“ I mean are there both COVID impacts still going on, coupled with just macro business or is that just specific stuff with your business that’s going on in Malaysia and Philippines, I guess I’d be interested in? Thanks.

Doug Hekking: Yes. Let me start that off and I have Jim and Kevin maybe comment on top is, within that area, obviously, in Southeast Asia, COVID has hit us particularly hard. I think Philippines and Malaysia are kind of key examples of that. The other issue playing into the performance both sequentially and year-over-year in the fourth quarter in that region, is that we didn’t €“ we were not promotion-heavy. It was an atypical quarter for us with the level of promotional activity and it was a choice by us just relative to all the things that have been kind of pushed and encouraged and incented. And it was just a choice by us. And so what we think going forward and what we are hearing from the leadership in the market, maybe Jim talk about that, is pretty positive.

Jim Brown: I mean we started really traveling again into the third and fourth quarters of last year and the leadership in the markets from the events that we went at are excited and planning on really starting off the new year growing, and that’s why we’re so positive on this year. But just like Doug said, usually in the fourth quarter, it’s a little slower we didn’t have as many promotions planned by us. We were very promotional heavy the first part of the year because of COVID, and we kind of wanted to bring that down to a more normalized run rate.

Linda Bolton-Weiser: Okay. And then when €“ you talked about in the €“ just the gross margin performance in the quarter. You mentioned an inventory valuation negative impact in the quarter. Is that kind of a one-time thing in nature or do you think that will continue or just can you give a little more color on that?

Doug Hekking: Yes. And it was both the quarter and the year. I mean I think the year, just from carrying more inventory, it creates some exposure, some risk and just making those decisions. And so we’ve dealt with that some of that risk as far as making adjustments to inventory where necessary. But we think, and you heard in Jim’s prepared remarks, that a lot of the instability of the supply chain and how we’re having to react has definitely stabilized, and it bodes well going forward. The operations team under Walter Noot’s direction has really done a great job really managing the inventory. And so I think we’re in a good spot now. And I think we will see a little bit less, I guess, friction costs relative to that strategy.

Linda Bolton-Weiser: Okay. Let’s see. I guess in my model, I had that actually, you made good progress. I think the inventory was $67 million in the third quarter. What was the inventory at the end of the year?

Doug Hekking: It was about flat. And I would remind you that we made a small accounting change in the third quarter. We have a small piece, about $3 million, that we have in long-term. And so you’d probably have to layer that up to have to be comparable to past years. I think with the change in strategy during the COVID period, we’ve looked at that a little bit different and kind of worked with our accounts to be on the same page there, but there is about $3 million in long-term, there and so you’re about flat. So you’re really €“ the number is about that 70%, 71% range. And we’re peaking out about pretty close to $100 million in inventory. So we think this is meaningful progress. And the group has done a great job adapting a relatively short period of time.

Linda Bolton-Weiser: Okay. Thank you. And then €“ so you’ve talked about this affiliate €“ before I go on to that, can I just ask, in terms of the outlook for 2023, I mean do you have any projection as to like if the working capital line will be a positive or negative influence on cash flow?

Jim Brown: Just because of some of the spin-up and some of the timing of the payments, we definitely saw bolstered operating cash flows in the fourth quarter. And so you’ll see that drag just as it kind of corresponds. And a lot of that is because a lot of inventory came, and sales really pretty robust at the end of the year. And so you had some time where we generated revenue but hadn’t actually paid commissions. There is a little bit of a delay between when we generate sales to pay the commissions. We have accrued liabilities there. But I think it will be a little bit of a drag, but that really is kind of the isolated event that would cause that.

Linda Bolton-Weiser: Okay. And then just in terms of the outlook for 2023, I mean you’re still kind of figuring in some inflationary cost pressures. Is there any way of quantifying like those pressures like in millions of dollars that you’re figuring in for 2023?

Doug Hekking: Yes. I mean I think we’ve just seen overall, as we’ve gone back and have positions that have left come on board, they are coming in at a much higher rate. We’ve had to go back and address many of the key areas, I think, particularly in the production environment and select positions outside of their materials, probably the biggest from just the overall framework of our P&L in mark €“ China obviously has a little bit different because they are doing all their sourcing locally and into production locally. The rest of the world, we’ve probably seen in that 5% to 8% pressure on change in material costs. And like I said, as we get a little bit more stabilization, we think there is some opportunity to negotiate and look for alternative sourcing as well. But we’re definitely proactive there. I think stability and kind of executing and having the stuff to run our businesses is first priority, though.

Linda Bolton-Weiser: Okay. And just along those lines, can you remind us what your price €“ excuse me, what your pricing strategy has been and what you took in 2022 and then maybe what you might plan for 2023 on the pricing front?

Doug Hekking: Yes. We’re still rolling out 2023. So I’ll probably hold off now. I think what we’ve done in the last several years is we’ve probably definitely operated below where the inflationary pressures were, just having some unknown out there and when it would come back. And so we’re definitely looking for price adjustments that would reflect some of the current cost pressures that we’re seeing and trying to do. Obviously, we want to do as little as possible. Just in the environment in the direction from Kevin and Jim is just really being thoughtful and we’re working with the local sales leadership in each of the markets to arrive at that. But it will be probably a clip above. And we’ve been in that 2% range the last couple of years, and it will probably be a little bit above there.

Linda Bolton-Weiser: Okay. Thank you. And then finally, on the €“ you have talked about this affiliate program. Can you just talk about kind of how you’re approaching that rollout and what the pace is? And is it just a matter of going country by country and rolling it out or region by region? Like kind of what’s the general plan with that?

Jim Brown: Yes, sure. We actually rolled out the affiliate program for the Americas in November. It was considered a soft launch, and then we had a full launch just a few weeks ago in January. We’re going to look at that over the next few months to make a determination of where we’re going to roll it out. We have plans to do it. It’s mostly going to be country by country, not regions. And it’s going to be the countries that we also €“ we see affiliate programs. And we know we’re getting feedback from the field that they want a simpler way to earn with a faster way to earn, and that’s how we will approach it. And we will go through 2023, some in the second half and then into 2024. We’re ready for it. But again, we want to see how it’s working and then you see if we need to make any adjustments to the program itself before we roll it out completely.