Herbalife seems to be emerging from shadow of investigation

By Hank Schultz

- Last updated on GMT

Related tags Revenue Herbalife

Herbalife seems to be emerging from shadow of investigation
Network marketing giant Herbalife reported better-than-expected profitability on its second quarter 2015 earnings despite currency fluctuations that depressed overall net sales.  The company also said that the negative publicity surrounding a reported Federal Trade Commission investigation seems to be dissipating.

The company has been dealing with both the fallout from the reported investigation and the public relations pressure applied by activist investor Bill Ackman, who through his investment company Pershing Square Capital has taken a short position on Herbalife stock valued at as much as $1 billion.  Despite the pressure and despite having seen its stock price rise and plunge preciptiously in recent years, over the past five years the company's share price has increase from about $28 in August of 2010 to more than $61 today.

Partly in response to Ackman’s charges that the company’s business model represented an illegal pyramid scheme, Herbalife changed the way distributors are qualified, calling the new scheme the “4K qualification” method.  Herbalife president Desmond Walsh said this method has now been fully incorporated into the company’s culture.

“The sense is that things are returning to growth, that a lot of the noise has subsided. Our Member leaders . . . have acclimatized to the marketing plan changes, they have successfully implemented new trainings in their organizations in relation to income and product claims. So overall, there's very much a sense that the tide is turning and that good things lie ahead,”​ Walsh told analysts in an earnings call that was posted in transcript form on the site seekingalpha.com​.

The company has responded in other ways, too.  Ackman has attacked Herbalife for its reliance on the concept of "nutrition clubs," a marketing model in which individual distributors have rented storefront-type locations (and in some cases higher end retail space) as venues to help build their individual sales networks. Ackman alleged this was a predatory practice, and often left individual distributors, many of whom do not have a business background that would help them evaluate costs in a business, holding the bag for leases on property that was not generating revenue.  At the time the company vigorously defended the nutrition club concept. In the transcript of the company's Q2 2014 earnings call presentation for example, the term "nutrition clubs" appeared 14 times.  Herbalife seems to be deemphasizing the concept, however.  In this quarter's earnings call, the concept was only mentioned twice.

Investments in R&D, manufacturing

Herbalife CEO Michael Johnson said that during the quarter the company announced an expansion at its Winston-Salem, NC R&D and manufacturing facility that will bring 300 new jobs to the plant by the end of 2018 in addition to 500 new jobs that will have been created there by the end of 2015. The total additional investment in the plant will be about $140 million, he said.

In addition, Herbalife continues to expand in China, he said.

“We're also moving forward with establishing a third manufacturing facility in China. Construction in Nanjing is scheduled to begin next quarter with a target date for initial production in the second half of 2016,”​ Johnson said.

New product launches

Johnson said the company has partnered with soccer superstar Cristiano Ronaldo on the launch of a new sports nutrition product called CR7 Drive that will be part of the Herbalife 24 sports nutrition line. Partnering with athletes and teams has been a longstanding part of the company’s marketing plans.

Earnings details

Herbalife reported second quarter net sales of $1.2 billion. Local currency net sales grew by 1%, while reported net sales declined 11% primarily due to the continuing unfavorable impact of currency exchange rates. Adjusted1 ​earnings for the quarter were $1.24 per diluted share compared to $1.55 per diluted share for the same period in 2014. On a reported basis, second quarter net income was $82.8 million, or $0.97 per diluted share, compared to $119.5 million, or $1.31 per diluted share for the same period in 2014. Second quarter 2015 diluted EPS was negatively impacted by a $0.412​ currency fluctuation.

For the quarter ended June 30, 2015, the company generated $197.6 million in net operating cash flow, and invested $16.2 million in capital expenditures.

The company is raising its adjusted diluted EPS guidance for the year to a range of $4.50 to $4.70, from the previous range of $4.30 to $4.60.

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