THOMSON REUTERS STREETEVENTS
EDITED TRANSCRIPT
HLF- HERBALIFE LTD at Barclays Back to School Conference
EVENT DATE/TIME: SEPTEMBER 06, 2012/ 07:00PM GMT
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CORPORATE PARTICIPANTS
John DeSimone Herbalife Ltd – CFO
CONFERENCE CALL PARTICIPANTS
Brian Wang Barclays Capital – Analyst
PRESENTATION
Brian Wang – Barclays Capital – Analyst
Alright, everyone, I think we’re going to try to get started now, please. Alright, great. Thank you. For those of you who don’t know me, my name is Brian Wang. I cover the healthy living space at Barclays. We’re very honored to be welcoming Herbalife to our conference today.
The company has experienced tremendous growth over the past several years, mostly attributable to their transition to a daily consumption model versus selling bulk orders previously. It is truly a global company with operations in over 80 countries, and only about 20% of sales actually coming from the US We initiated on the company a few months ago with an overweight rating, and believe it’s still in its early stages of growth.
So, I won’t take any more of their time. With us today, we have the CFO, John DeSimone, and VP of Investor Relations, Amy Greene. John.
John DeSimone – Herbalife Ltd –CFO
Thank you, Brian. Before we get started, I want to let everybody know there are Formula 1 shakes being passed out. Please try one. It is this product line in its various flavors and formulations represents about 30% of our volume. So, it gives you a good idea of who Herbalife is if you’re already not familiar with us.
I’ll start the presentation with the Safe Harbor Statement. For those listening on the webcast, this statement is available on our website at www.herbalife.com/ir.
This is an outline – this first page is an outline of our presentation today, and we’ll recap with the same slide. We’re going to work first with a summary of our business, and our recent performance. By recent, I mean the last five years. So, a broad of scope in just the last couple quarters.
We’ll talk about what is driving our growth, and of course, that starts with the product, and that’s why we have samples here. Our products are very relevant today. It is a weight management base product line. It’s relevant because we address a true mega-trend, which is the increasing obesity in the world. We also – anti-aging is something that’s very relevant, and as people age they gain weight, so they work together. So, we’ll talk a little bit about that and lay out our product line. I think most importantly we’ll talk about daily consumption.
So, we have a set of products, no different than a lot of other companies. The way we go to market with those products through our independent distributors is very unique, and it’s changed significantly over the last ten years. It’s gone from traditional direct selling to something that we call, daily consumption. And daily consumption, we define as a business model where a distributor and a customer – their customer interacts frequently. And we’re going to dig a little deeper on that concept.
We’ll also present some new – recently new, consumption related metrics. As a result of some of the questions that have come up on the company over the last three or four months, we’ve released new data that supports statements we’ve made publicly in past.
And then you’ll see city by city – so when you talk about daily consumption that’s the main driver of growth. When we get to city by city, we’re going to talk about a strategy of taking daily consumption deeper into the marketplaces in the communities that we’re already in. And then we’ll talk about the infrastructure that’s required to support that city by city strategy.
And then, we’ll focus more on recent performance, and the strong financial performance that the company has been able to enjoy for a few years in a row now.
The first slide looks at EPS, earnings per share, from 2008 through last year, and last 12 months Q2 2012. A couple of points. We did have a stock split in 2011. So the numbers have been adjusted for the stock split. I would say that some of the key takeaways are this has been a very consistent earnings growth model with the one exception of 2009, when the economy collapsed and the dollar strengthened dramatically. On a constant currency basis, we actually had both sales and EPS growth in 2009 during the very difficult economic climate.
In 2010, in the second quarter of 2010, we had an inflection point in this business. From 2010 to current – excuse me – we’ve had nine straight quarters of double-digit growth. Eight of those quarters have exceeded 16% and five of those quarters have exceeded 20%. That inflection point really was a result of the economic climate difficulties in 2009 that caused more distributors to adopt the daily consumption method of operation, and have success. And that success has helped other distributors switch to this daily consumption model. So, we’ll talk about that at length in a few slides.
From EPS to cash flow, this slide has two key points. The first is that net income and free cash flow is almost identical in this business. Free cash flow equals net income. It’s a very good proxy for free cash flow, which is unusual in a fast-growing company. And the second point is, we return that cash flow to our shareholders in the form of buybacks and dividends. We do overweight the return total buyback because of our growth trajectory, and what we believe in a long runway in front of us.
Since 2007, we have purchased through July – these statistics are through June with our earnings call that we had at the end of July. We also announced that we purchased shares in July. For – since 2007 through July, we’ve repurchased $1.5 billion in stock at an average price of $28 per share. That exhausted what was the authorized amount at the time. Since that point in time in July, the Board has authorized an additional $1 billion in share repurchase. We have not – as of the last earnings call, we have not executed on that yet, but it certainly is our intention to do so with the five year authorization. So, we continue to expect to buy back shares in the future, in addition to our dividend of $1.20 per share now per year.
A couple other additional points. We entered in a new credit agreement, or amended our current credit agreement. Our current credit agreement prior to July was a $700 million credit facility. We extended that with a $500 million term note, so we have $1.2 billion in the credit facility right now available. We had drawn down $555 million of that at the end of the second quarter. So, we still have $650 million available and unused. And we have a $1 billion buyback authorization that’s unused, and we will use that as we see fit, based on the facts and circumstances, any given time.
In general, we try to buy back a reason – a small amount of shares on a routine basis, and then leave some dry powder for a potential overreaction in the stock, which is something we considered that happened in May, when the stock, again we believe, overreacted. We jumped in the market in a big way with dry powder, and we repurchased $430 million, almost $430 million, of stock between May and the end of July as a result of that dislocation. And we expect to use the new authorization in a similar fashion, meaning, a routine piece, and dry powder for an overreaction.
This next slide, slide 6, looks at our capital structure, which is a very conservative capital structure. Total debt to EBITDA was 0.9 times in 2008. Despite the fact that were returned all of our earnings to shareholders in buyback and dividend, total debt to EBITDA at the end of June was 0.8. it’s almost the same it was in 2008.
Same thing for net debt and EBITDA, and then free cash flow as a percent of – divided by total debt. So, you can see the very conservative balance sheet, a lot of opportunity to lever up, if we feel necessary, with some limitations because of where we’re incorporated, but we’re working on overcoming that. So, some broad – a broad look at some financial metrics over a longer period of time.
Now, we’ll talk a little bit about the business. Herbalife is a nutrition weight management company. It’s not a weight management supplement company. It is a weight management food company. Two-thirds of our product in food, and you’ll see that on the next page.
We are thirty-two year old company. I think that’s incredibly important for a multi-level marketing director sales company. Longevity is an indication of credibility. There are companies that get in the industry that have rapid growth and decline. It’s called a pop and drop. They have a rapid growth and then decline quickly also. So, that longevity is an important point for investors from a confidence standpoint into the business model.
We are in 84 countries. We’ll probably be in around 110 in five years, but the biggest opportunity for Herbalife is still to go deeper in the countries that we already operate in. The countries we operate in represent more than 75% of the world’s population. The countries we do not operate in – the opportunity is a little more difficult to get at. They’re countries where our products are required to be sold in pharmacies, or where distributors can’t sell if they’re not – or if they are immigrants, things like that. So, we’ll talk about new countries, but the real opportunity is in going deeper in the countries that we’re already in.
$2.8 billion in revenue the last 12 months, which just puts it in perspective on the size of the company for those who are not familiar with us. And then, we are a direct selling company. It’s a multi-level model – it’s a multi-level marketing model. I think the legacy of the company, and the terminology we use is a little confusing to people, and we will change that over the next few month. But, we call everybody who signs up with us a distributor. And that’s a legacy issue, because when the company was founded thirty-two year ago, the company only sold the product in case packs. So, you really were a distributor.
In the nineties, they broke that down and were able to sell individual canisters. And, we now sell individual servings through clubs. So, we’re getting close to the consumer, and a lot of people that sign up with the company now are, in fact, just consumers. But we still call them distributors, and I think that’s been a – a point of confusion. Most of our distributors, as they’re known today, have no downline, have never had a downline, and they’re just single-level distributors. And I think that’s important, because that’s clearly misunderstood in the marketplace. At least it was three month ago.
And then there are, of course, sales builders. We’re a push-oriented company. Some of our growth, certainly most of our growth, comes from our distributors that are building organizers, and those that, we call them supervisors or sales leaders, and they represent around 20% of our distributor base.
Moving on to our product portfolio, almost 63% of our sales comes from weight management products. Half of that, about 30% of our sales, come from the meal replacement shakes. So, we are not a contentious oriented weight supplement company. It’s not a magic pill. You take a pill, don’t eat for thirty days. That’s a very unhealthy way to lose weight. We are about a low calorie delivery form of a meal, of proteins, carbohydrates, micronutrients, and so forth. So, it’s a distinction from a traditional direct selling company. And, like I said, two-thirds of our product is classified as food, and not as traditional supplements.
When you move over to tradition – what we call targeted nutrition, that is, more akin to what you would think of as a traditional supplement. It’s condition specific product – something for heart health. Still not always a supplement. Some of those products are considered food also, and the number one product in that category is a product called Niteworks that represents around 15% of that category, or around a little over 3% of the company’s sales. It’s a company founded on nitric oxide developed by the only Nobel Laureate in nutrition. He develops products for us, and that’s our number one – number five selling product in the company, number one in that category.
Moving on to sports and energy, it’s a very under penetrated category for us. We’re new to that category. We launched a completely new sports line last year in the US, and a little – in some European countries, and we’re globalizing it this year and next. It is a great opportunity for us. We brand through sports. We brand around a healthy, active lifestyle. The teams and the players that wear our name on their chest don’t use the products, because they don’t need to lose weight. So, we are authenticating that branding by creating a line of products for those athletes.
What’s interesting is, we are seeing business models be developed around that sports product line. That sports product line, the reason why it’s a slow build, it’s a different consumer than we have today. So, it’s not just running a new product through our current pipeline. It’s defining new customer, and, in fact, new distributors that can sell, and are familiar with selling that product. But it is a good long-term opportunity.
And then outer nutrition is skin care. We’re pretty under penetrated and underrepresented there. That is a long-term opportunity for us also. We’re working on that category.
When we look at how our products are sold, I think this is one of the more important elements of our growth drivers over the last three plus years, which is the product is positioned as a meal, and a meal replacement. And when I talk about daily consumption, you’ll understand better how it’s positioned.
But it’s important to understand that when a consumer is buying a Herbalife shake, the selling proposition to that consumer is a replacement spend. Don’t buy McDonald’s. don’t buy some other fast food. Come to Herbalife and save money, whereas traditionally you think of a supplement as being a discretionary spend, which is a challenge in a very difficult economic climate. But as a replacement spend, it’s positioned as a savings for better nutrition. So, it’s an important element that’s helping to drive our growth.