SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
-----------------
FORM 10-K/A
Amendment No. 1
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 1997
------------------------------
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [NO FEE REQUIRED]
For the transition period from ______________ to ______________
Commission file number 001-12421
Nu Skin Asia Pacific, Inc.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 87-0565309
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification No.)
75 West Center Street, Provo, Utah 84601
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code (801) 345-6100
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which Registered
- ------------------- -----------------------------------------
Class A Common Stock New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
(Title of Class)
(Title of Class)
<PAGE>
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
----- -----
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
As of March 5, 1998, the aggregate market value of the voting stock (Class
A and Class B Common Stock) held by non-affiliates of the Company was
$648,973,642. For purposes of this calculation, voting stock held by officers,
directors, and corporate affiliates has been excluded.
As of March 5, 1998, 11,835,737 shares of the Company's Class A Common
Stock, $.001 par value per share, 70,280,759 shares of the Company's Class B
Common Stock, $.001 par value per share, and no shares of the Company's
Preferred Stock, $.001 par value per share, were outstanding.
Portions of the Company's 1997 Annual Report (the "1997 Annual Report") to
security holders to be furnished to the Securities and Exchange Commission (the
"Commission") pursuant to Rule 14a-3(b) in connection with Registrant's 1998
Annual Meeting of Stockholders scheduled to be held on or about May 5, 1998 (the
"1998 Annual Meeting"), are attached hereto as Exhibit 13, and are incorporated
herein by reference into Parts II and IV of this Annual Report on Form 10-K
(this "Report").
Portions of the Company's Definitive Proxy Statement (the "Proxy
Statement") to be filed with the Commission pursuant to Regulation 14A in
connection with the 1998 Annual Meeting are incorporated herein by reference
into Part III of this Report.
Certain Exhibits filed with the Company's Registration Statement on Form
S-1 (Registration No. 333-12073), as amended on Post Effective Amendment No. 1
to the Company's Registration Statement filed on September 3, 1997 (Registration
No. 333-12073), and Company's Annual Report on Form 10-K for the year ended
December 31, 1996 are incorporated herein by reference into Part IV of this
Report.
<PAGE>
NU SKIN ASIA PACIFIC, INC.
1997 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
Page
PART I....................................................................... 1
ITEM 1. BUSINESS................................................... 1
ITEM 2. PROPERTIES.................................................41
ITEM 3. LEGAL PROCEEDINGS..........................................42
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS........42
PART II......................................................................43
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS................................43
ITEM 6. SELECTED FINANCIAL DATA....................................43
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS........................43
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA................43
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.......................43
PART III.....................................................................44
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.........44
ITEM 11. EXECUTIVE COMPENSATION.....................................46
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT.................................................53
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.............56
PART IV......................................................................60
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8-K...................................................60
<PAGE>
PART I
ITEM 1. BUSINESS
General
Nu Skin Asia Pacific, Inc. ("Nu Skin Asia Pacific" or the "Company"), is a
network marketing company involved in the distribution and sale of premium
quality, innovative personal care and nutritional products. The Company is the
exclusive distribution vehicle for Nu Skin International, Inc. ("NSI") in the
countries of Japan, Taiwan, Hong Kong (including Macau), South Korea, Thailand
and the Philippines, where the Company currently has operations, and in
Indonesia, Malaysia, the People's Republic of China ("PRC"), Indonesia,
Singapore and Vietnam, where Nu Skin operations have not commenced. The
Company's products are specifically designed for the network marketing
distribution channel. The Company markets its personal care products under the
trademark "Nu Skin" and its nutritional products under the trademark "Interior
Design Nutritionals" ("IDN"). The Nu Skin personal care product lines include
facial care, body care, hair care and color cosmetics, as well as specialty
products such as sun protection, oral hygiene and fragrances. The IDN product
lines include nutritional supplements, nutritious and healthy snacks, sports and
fitness nutritional products, health solutions and botanical supplements.
The Company was incorporated in Delaware on September 4, 1996. On November
20, 1996, the stockholders (the "Original Stockholders") of Nu Skin Japan
Company, Limited ("Nu Skin Japan"), Nu Skin Taiwan, Inc. ("Nu Skin Taiwan"), Nu
Skin Hong Kong, Inc. ("Nu Skin Hong Kong"), Nu Skin Korea, Inc. ("Nu Skin
Korea") and Nu Skin Personal Care (Thailand), Inc. ("Nu Skin Thailand")
(together the "Original Subsidiaries") contributed their shares of capital stock
to the capital of the Company in a transaction (the "Reorganization ") intended
to qualify under Section 351 of the Internal Revenue Code of 1986, as amended
(the "Code"), in exchange for shares of the Company's Class B Common Stock, par
value $.001 per share (the "Class B Common Stock"). As a result of the
Reorganization, each of the Original Subsidiaries became a wholly-owned
subsidiary of the Company. Unless otherwise noted, references to "Nu Skin Asia
Pacific" or the "Company" mean Nu Skin Asia Pacific, Inc., including the
Subsidiaries. The "Subsidiaries" means Nu Skin Japan, Nu Skin Taiwan, Nu Skin
Hong Kong, Nu Skin Korea, Nu Skin Thailand, and Nu Skin Philippines, Inc. ("Nu
Skin Philippines") collectively. Until September 30, 1994, the Company's fiscal
year ended on September 30 of each year. As of October 1, 1994, the Company
changed its fiscal year end to December 31 of each year, beginning with the
fiscal year ended December 31, 1995.
In November 1996, the Company and certain Original Stockholders sold a
total of 10,465,000 shares of the Company's Class A Common Stock, par value
$.001 per share (the "Class A Common Stock" and together with the Class B Common
Stock the "Common Stock"), in underwritten public offerings (the "Underwritten
Offerings"). In addition, in December 1996, the Company, NSI and certain of
NSI's affiliates offered to qualifying NSI independent distributors and
employees, in non-underwritten offerings (the "Rule 415 Offerings", and together
with the Underwritten Offerings, the "Offerings") certain options and shares of
Class A Common Stock pursuant to Rule 415 under the Securities Act of 1933, as
amended (the "1933 Act").
NSI, founded in 1984 and based in Provo, Utah, is engaged in selling
personal care and nutritional products and, together with its affiliates,
comprises one of the largest network marketing organizations in the world. NSI
provides a high level of support services to the Company, including product
development, marketing and other managerial support services. Since distributor
agreements are entered into between NSI and distributors, all of the
distributors who generate revenue for the Company are distributors of NSI who
are licensed to the Company pursuant to agreements between NSI and the Company's
Subsidiaries. On February 27, 1998, the Company entered into a Stock Acquisition
Agreement with the Stockholders of NSI and certain affiliates of NSI to acquire
all of the capital stock of NSI and certain affiliates of NSI. See "Recent
Developments."
Nu Skin(R), Interior Design Nutritionals(TM), IDN(R), a logo consisting of
an image of a gold fountain with the words "Nu Skin" below it, and a logo
consisting of the stylized letters "IDN" in black and red are trademarks of NSI
which are licensed to the Company. The italicized product names used in this
Annual Report on Form 10-K are product names and also, in certain cases,
trademarks and are the property of NSI. All other tradenames and trademarks
appearing in this Annual Report on Form 10-K are the property of their
respective holders.
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<PAGE>
In this Annual Report on Form 10-K, references to "dollars" and "$" are to
United States dollars, and the terms "United States" and "U.S." mean the United
States of America, its states, territories, possessions and all areas subject to
its jurisdiction. References to "yen" and "(Y)" are to Japanese yen, and
references to "won" are to South Korean won. References to "baht" are to Thai
baht. References, if any, to the "NT$" are to New Taiwanese dollars and
references, if any, to the "HK$" are to Hong Kong dollars.
Note Regarding Forward-Looking Statements
Certain statements made herein under the captions "Business-Country
Profiles," and "Risk Factors," are "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995 (the "Reform
Act"). In addition, when used in this Report the words or phrases "will likely
result," "expects," "intends," "will continue," "is anticipated," "estimates,"
"projects," "Management believes," "the Company believes" and similar
expressions are intended to identify "forward-looking statements" within the
meaning of the Reform Act.
Forward-looking statements include plans and objectives of management for
future operations, including plans and objectives relating to the products and
the future economic performance of each country in which the Company operates
and financial results of the Company. These forward-looking statements involve
risks and uncertainties and are based on certain assumptions that may not be
realized. Actual results and outcomes may differ materially from those discussed
or anticipated. The forward-looking statements and associated risks set forth
herein relate to the: (i) proposed NSI Acquisition, (ii) expansion of the
Company's market share in its current markets; (iii) Company's entrance into new
markets (iv) development of new products and new product lines tailored to
appeal to the particular needs of consumers in specific markets; (v) stimulation
of product sales by introducing new products; (vi) opening of new offices,
walk-in distribution centers and distributor support centers in certain markets;
(vii) promotion of distributor growth, retention and leadership through local
initiatives; (viii) upgrading of the Company's technological resources to
support distributors; (ix) obtaining of regulatory approvals for certain
products, including LifePak; (x) stimulation of product purchases by inactive
distributors through direct mail campaigns; (xi) retention of the Company's
earnings for use in the operation and expansion of the Company's business; (xii)
development of brand awareness and loyalty; (xiii) enhancing of the Company's
Global Compensation Plan; (xiv) diversifying of the Company's revenue base and
markets, (xv) seeking of cost reductions from vendors; and (vxi) establishment
of local manufacturing.
All forward-looking statements are subject to known and unknown risks and
uncertainties, including those discussed under the caption "Risk Factors"
herein, that could cause actual results to differ materially from historical
results and those presently anticipated or projected. The Company wishes to
caution readers not to place undue reliance on any such forward-looking
statements, which speak only as of the date made. The Company wishes to further
advise readers that the important factors listed under the caption "Risk
Factors" could affect the Company's financial performance and could cause the
Company's actual results for future periods to differ materially from any views
or statements expressed with respect to future periods. Important factors and
risks that might cause such differences include, but are not limited to (a)
factors related to the Company's reliance upon independent distributors of NSI,
(b) fluctuations in foreign currency values relative to the U.S. dollar, (c)
adverse economic and business conditions in the Company's markets, especially
South Korea and Thailand, (d) the possibility the proposed NSI Acquisition may
not be consummated, (e) the potential effects of adverse publicity, including
adverse publicity regarding the Company and other direct selling companies in
South Korea and the Company's other markets, (f) the potential negative impact
of distributor actions, (g) seasonal and cyclical trends, (h) variations in
operating results, (i) government regulation of direct selling activities in the
PRC, Malaysia and other existing and future markets, (j) government regulation
of products and marketing, (k) import restrictions, (l) other regulatory issues,
including regulatory action against the Company or its distributors in any of
the Company's markets and particularly in South Korea, (m) the Company's
reliance on certain distributors, (n) the potential divergence of interests
between distributors and the Company, (o) management of the Company's growth,
(p) the effects on operations of the NSI distributor equity program, (q) the
introduction of the Scion product line in the Philippines and Aloe-MX in Japan,
(r) market acceptance in South Korea and other markets of LifePak and LifePak
Trim, the Company's core IDN nutritional supplements, (s) the acceptance of new
distributor walk-in centers in Japan, Thailand and Taiwan, (t) acceptance of
modifications to the Company's sales compensation plan in the Philippines, (u)
the Company's ability to renegotiate or adjust vendor relationships, (v) the
Company's ability to establish local manufacturing capability, (w) risks
inherent in the importation, regulation and sale of personal care and
nutritional products in the Company's markets, (x) the Company's ability to
successfully enter new markets such as Poland and Brazil and introduce new
products in addition to
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<PAGE>
those already referenced above, (y) the Company's ability to manage growth and
deal with the possible adverse effect on the Company of the change in the status
of Hong Kong, (z) the potential conflicts of interest between the Company and
NSI, (aa) control of the Company by the Original Stockholders, (bb) the
anti-takeover effects of dual classes of common stock, (cc) the Company's
reliance on and the concentration of outside manufacturers, (dd) the Company's
reliance on the operations of and dividends and distributions from the
Subsidiaries, (ee) taxation and transfer pricing issues, (ff) the potential
increase in distributor compensation expense, (gg) product liability issues, and
(hh) competition in the Company's existing and future markets.
In light of the significant uncertainties inherent in forward-looking
statements, the inclusion of any such statement should not be regarded as a
representation by the Company or any other person that the objectives or plans
of the Company will be achieved. The Company disclaims any obligation or intent
to update any such factors or forward-looking statements to reflect future
events or developments. See "Risk Factors."
Recent Developments
On February 27, 1998, the Company entered into a Stock Acquisition
Agreement (the "Acquisition Agreement") with the stockholders of NSI and certain
affiliates of NSI (the "NSI Stockholders") to acquire (the "NSI Acquisition")
all of the capital stock of NSI and certain affiliates of NSI (the "Acquired
Entities"). The consideration to be paid by the Company to the NSI Stockholders
will consist of shares of Series A Preferred Stock, par value $.001 per share,
of the Company (the "Series A Preferred Stock") in an amount determined as set
forth below, the assumption of the Acquired Entities' S Distribution Notes (as
defined below) payable to the NSI Stockholders in the amount of approximately
$180 million (taking into account the Acquired Entities' S Distribution Notes in
the amount of approximately $136.2 million as of December 31, 1997 and
additional Acquired Entities' S Distribution Notes covering undistributed
earnings for the period commencing January 1, 1998 and ending on the closing
date of the NSI Acquisition) and, contingent upon NSI and the Company meeting
certain earnings growth targets, up to $25 million in cash per year over the
next four years. In addition, the Acquisition Agreement provides that if the
Acquired Entities' S Distribution Notes for the above-referenced periods do not
equal or exceed $180 million, the Company will pay each NSI Stockholder in cash
or in the form of promissory notes the difference between (i) $180 million and
(ii) the aggregate principal amount of the Acquired Entities' S Distribution
Notes multiplied by each NSI Stockholder's proportional ownership interest in
the outstanding capital stock of NSI. The Acquisition Agreement provides that
the number of shares of Series A Preferred Stock to be delivered to the NSI
Stockholders shall be determined by dividing $70 million by the average closing
price of the Class A Common Stock for the 20 consecutive trading days ending
five trading days prior to the closing of the NSI Acquisition.
Collectively, the NSI Stockholders and their affiliates own beneficially
all of the outstanding shares of the Class B Common Stock. In addition, several
of the NSI Stockholders are directors and/or executive officers of the Company.
Effective as of December 31, 1997, NSI contributed certain assets relating
to the right to distribute NSI products in the United States to Nu Skin USA,
Inc. ("Nu Skin USA"), a newly created corporation wholly owned by the NSI
Stockholders, in exchange for all of the common stock of Nu Skin USA. The Nu
Skin USA common stock was then distributed to the NSI Stockholders. In addition,
effective as of December 31, 1997, NSI and the other Acquired Entities declared
distributions to their then existing stockholders (consisting solely of the NSI
Stockholders) that included all of such Acquired Entities' previously earned and
undistributed S corporation earnings through such date (the "Acquired Entities'
S Corporation Distribution"). As of December 31, 1997, such Acquired Entities'
aggregate undistributed S corporation earnings were approximately $136.2
million. The Acquired Entities' S Corporation Distribution was distributed in
the form of promissory notes due December 31, 2004 and bearing interest at 8.0 %
per annum (the "Acquired Entities' S Distribution Notes"). The Acquired
Entities' S Corporation Distribution Notes are held entirely by the NSI
Stockholders. In addition, the Acquired Entities will declare distributions to
then existing stockholders that include all of such Acquired Entities'
previously earned and undistributed S corporation earnings through the date of
closing of the NSI Acquisition. As discussed above, the obligation to repay the
Acquired Entities' S Distribution Notes to the NSI Stockholders will be assumed
by the Company in connection with the NSI Acquisition.
The Acquired Entities consist of NSI, Nu Skin International Management
Group, Inc., ("NSIMG") and the NSI affiliates operating in Europe, Australia and
New Zealand, including Nu Skin Europe, Inc.; Nu Skin U.K., Ltd.(domesticated
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<PAGE>
in Delaware under the name Nu Skin U.K., Inc.); Nu Skin Germany, GmbH
(domesticated in Delaware under the name Nu Skin Germany, Inc.); Nu Skin France,
SARL (domesticated in Delaware under the name Nu Skin France, Inc.); Nu Skin
Netherlands, B.V. (domesticated in Delaware under the name Nu Skin Netherlands,
Inc.); Nu Skin Italy, (SRL) (domesticated in Delaware under the name Nu Skin
Italy, Inc.); Nu Skin Spain, S.L. (domesticated in Delaware under the name Nu
Skin Spain, Inc.); Nu Skin Belgium, N.V. (domesticated in Delaware under the
name Nu Skin Belgium, Inc.); Nu Skin Personal Care Australia, Inc.; Nu Skin New
Zealand, Inc.; Nu Skin Brazil, Ltda. (domesticated in Delaware under the name Nu
Skin Brazil, Inc.); Nu Skin Argentina, Inc.; Nu Skin Chile, S.A. (domesticated
in Delaware under the name Nu Skin Chile, Inc.); Nu Skin Poland Spa.
(domesticated in Delaware under the name Nu Skin Poland, Inc.); and Cedar
Meadows, L.C. The NSI Stockholders continue to own as private entities the NSI
affiliates operating in the United States, Canada, Mexico, Guatemala and Puerto
Rico, including Nu Skin USA, Inc.; Nu Skin Canada, Inc.; Nu Skin Mexico S.A. de
C.V. (domesticated in Delaware under the name Nu Skin Mexico, Inc.); Nu Skin
Guatemala, S.A. (domesticated in Delaware under the name Nu Skin Guatemala,
Inc.); and Nu Skin Puerto Rico, Inc. (collectively, the "Retained Entities").
The following chart illustrates the organizational structure of the
Company and the Retained Entities immediately after the NSI Acquisition.
[Organizational Chart]
-4-
<PAGE>
Through its acquisition of NSI, the Company will obtain ownership and
control of the Nu Skin trademarks and tradenames, the Nu Skin Global
Compensation Plan, distributor lists and related intellectual property and
know-how (collectively, the "Intellectual Property"). The Company, through NSI,
intends to continue to license the Intellectual Property and, through NSIMG,
intends to continue to provide management support services to the Acquired
Entities on substantially the same terms as existed prior to the NSI
Acquisition. In connection with the NSI Acquisition, the Company anticipates,
through NSI and NSIMG, entering into new agreements with Nu Skin USA, Inc. and
revised agreements with the other Retained Entities on terms substantially
similar to its agreements with the Acquired Entities, pursuant to which NSI will
continue to license the Intellectual Property and the exclusive right to sell Nu
Skin personal care and nutritional products in the United States, Canada,
Mexico, Guatemala and Puerto Rico to the Retained Entities and NSIMG will
continue to provide management support services to the Retained Entities.
Upon completion of the NSI Acquisition, the Company and its subsidiaries
will own and distribute Nu Skin products in 18 markets worldwide. The Company
will also hold the rights to all future Nu Skin markets.
Country Profiles
The following table sets forth the Company's revenue and the total number
of active distributors for each of the countries in which the Company operated
for the years ended December 31, 1995, 1996 and 1997. This table should be
reviewed in connection with the information presented under the caption
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," incorporated herein by reference to the Company's 1997 Annual
Report, sections of which are filed herewith as Exhibit 13, which discusses the
costs associated with generating the aggregate revenue presented. The Company
did not commence operations in the Philippines until February 1998.
Year Ended December 31,
-----------------------------------------
COUNTRY 1995 1996 1997
- -------- --------- --------- ---------
(dollars in thousands)
Revenue:
Japan.................... $ 231,540 $ 380,044 $ 599,375
Taiwan................... 105,415 154,564 168,568
South Korea(1)........... -- -- 74,207
Thailand(2).............. -- -- 22,834
Hong Kong................ 17,046 17,037 21,267
Year Ended December 31,
-----------------------------------------
1995 1996 1997
--------- --------- ---------
Active Distributors(3)(4):
Japan.................... 147,000 215,000 297,000
Taiwan................... 75,000 91,000 86,000
South Korea(1)........... -- 57,000 21,000
Thailand(2).............. -- -- 11,000
Hong Kong................ 14,000 14,000 15,000
------- ------- -------
Total.............. 236,000 377,000 430,000
------- ------- -------
- ------------------
(1) The Company commenced operations in South Korea in February 1996.
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<PAGE>
(2) The Company commenced operations in Thailand in March 1997.
(3) The term "Active Distributors" includes only those distributors who
purchased products from the Company during the three months ended as of the
date indicated.
(4) Numbers are rounded to the nearest thousand.
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The following table sets forth certain estimated economic and demographic
data in each of the Company's markets for the years presented. Although the
Company believes that the following table provides a useful basis for evaluating
the relative size and growth of the economies and populations of the countries
in which the Company operates, no assurance can be given that economic or
population data in a particular country will indicate what the Company's results
of operations will be in that country. In addition, the following data does not
reflect the economic decline that commenced in certain of the Company's markets
in 1997. The listed data was not available from the referenced source as of
March 5, 1998.
1996 1996 GDP 1996 GDP Real GDP
Population (in billions per capita Growth
Country (in millions) of $) (in $) 1996/1995 (%)
- ------- ------------- ------------ ----------- -------------
Japan............... 125.5 $4,575.2 $36,456 3.6%
Taiwan.............. 21.5 270.5 12,583 5.6
South Korea......... 45.3 497.6 10,984 6.9
Hong Kong........... 6.3 158.7 25,108 4.6
Thailand............ 61.8 185.0 2,993 6.7
Philippines......... 72.0 83.2 1,156 5.5
- -----------
Source: World Information Services; Country Data Forecasts, March 1997.
Japan. The Company, through its subsidiary Nu Skin Japan, commenced
operations in Japan in April 1993. According to the World Federation of Direct
Selling Associations ("WFDSA"), the direct selling channel in Japan generated
sales of approximately $30 billion of goods and services in 1996, making Japan
the largest direct selling market in the world. Management believes that as many
as six million people are involved in direct selling businesses in Japan. Direct
selling is well-understood in Japan and is governed by detailed government
regulation. See "Risk Factors--Government Regulation of Direct Selling
Activities" and "--Government Regulation of Products and Marketing; Import
Restrictions."
A great deal of the Company's success to date can be directly attributed
to the growth of its Japanese business in recent years. Significant revenue was
recognized from the outset of the Company's operations in Japan due to the
immediate attention given to the market by leading NSI distributors from around
the world. Japan has continued to post strong financial results for the Company,
with revenue increasing by approximately 58% in U.S. dollars and 75% in local
currency for 1997 compared to 1996 and by approximately 64% in U.S. dollars and
90% in local currency for 1996 compared to 1995. Management believes that the
increase from 1996 to 1997 was primarily the result of the growth in executive
distributors in Japan during this period and the increasing demand for IDN
products, which accounted for 38% of revenue for the period. Furthermore, given
the size of the direct selling market, management believes that there is still
significant opportunity for revenue growth in this market. However, a variety of
factors including, without limitation, economic conditions in Asia generally and
Japan specifically may hinder revenue growth. As of December 31, 1997, Nu Skin
Japan offered 68 of the 90 Nu Skin personal care products and 15 of the 40 IDN
products, including LifePak and LifePak Trim, the core IDN nutritional
supplements. Nu Skin Japan also offered 4 popular skin lightening products, 7
additional face care products, and Aloe-MX, an Aloe vera-based nutritional drink
designed specifically for Japanese consumers.
In support of the Company's growth strategy, Nu Skin Japan intends to (i)
focus on internal country development by supporting the recently opened Fukuoka
walk-in center and considering opening offices in additional Japanese cities,
thereby increasing consumer awareness and enhancing the Company's image, (ii)
expand development capacity to develop more products that are particularly
suited to the Japanese market, (iii) continue to expand the current product
offerings in Japan to include additional Nu Skin personal care and IDN products,
(iv) enhance corporate support of distributors by upgrading information
technology resources, (v) expand warehousing and distribution support
facilities, and (vi) continue to build brand name recognition through
sponsorship from time to time of major events such as the NBA Supergames in 1997
and the Nippon Yacht Squadron in the America's Cup 2000 Regatta.
Taiwan. The Company, through its subsidiary Nu Skin Taiwan, commenced
operations in Taiwan in January 1992. According to the WFDSA, the direct selling
channel in Taiwan generated approximately $1.7 billion in sales of goods and
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<PAGE>
services in 1996, of which approximately 43% were nutritional products.
Approximately two million people (approximately 10% of the population) are
estimated to be involved in direct selling. Because a large percentage of its
population is involved in direct selling activities, the Taiwan government
regulates direct selling activities to a significant extent. For example, the
Taiwan government has enacted tax legislation aimed at ensuring proper tax
payments by distributors on their transactions with end consumers. See "Risk
Factors--Government Regulations of Direct Selling Activities" and "--Government
Regulation of Products and Marketing; Import Restrictions."
Revenue growth in Taiwan has averaged 41% per year since the commencement
of operations in 1992. The Company believes that the 1997 increase in sales was
primarily due to (i) the opening of walk-in centers in various Taiwanese cities,
(ii) increased distributor training and recognition, and (iii) increased product
offerings. The Company believes that Nu Skin Taiwan was the largest direct
selling company in Taiwan in 1997. As of December 31, 1997, Nu Skin Taiwan
offered 72 of the 90 Nu Skin personal care products and 11 of the 40 IDN
products.
In support of the Company's growth strategy, Nu Skin Taiwan intends to (i)
capitalize on the size of the nutritional supplements market by locally sourcing
LifePak to more competitively price this core IDN product and expanding the
current product offerings in Taiwan to include additional Nu Skin personal care
and IDN products, (ii) focus more resources on product development specifically
for the Taiwan market, and (iii) enhance corporate support of distributors by
upgrading information technology resources.
Hong Kong. The Company, through its subsidiary Nu Skin Hong Kong,
commenced operations in Hong Kong in September 1991. According to the WFDSA, the
direct selling channel in Hong King generated approximately $78 million in sales
of goods and services in 1995. Hong Kong represents an important market in the
structure of the Asian region because it serves as the location of the Company's
regional office and is an important base of operations for many of the Company's
most successful distributors, whose downline distributor networks extend into
other Asian markets. As of December 31, 1997, Nu Skin Hong Kong offered 86 of
the 90 Nu Skin personal care products and 18 of the 40 IDN products.
Hong Kong became a Special Administrative Region (SAR) of the PRC
effective July 1, 1997. Although the Company has not perceived any material
impact resulting from the integration, further integration of the Hong Kong
economy and political system with the economy and political system of the PRC
could have an impact on the Company's business in Hong Kong. See "Risk
Factors--Possible Adverse Effect on the Company of the Change in the Status of
Hong Kong."
In February 1995, Macau, a Portuguese colony scheduled to become an SAR of
the PRC in 1999, was opened as a new market. Revenue figures for Macau are
combined with those of Hong Kong. Macau represents the smallest of the Company's
markets in population with just under 500,000 residents. The Company's Macau
office operates under the direction of Nu Skin Hong Kong.
In support of the Company's growth strategy, Nu Skin Hong Kong intends to
(i) promote distributor growth, retention and leadership development through
local initiatives, (ii) capitalize on the size of the nutritional supplements
market by promoting the premium LifePak nutritional supplement, (iii) expanding
the current product offerings in Hong Kong to include additional Nu Skin
personal care and IDN products, and (iv) stimulate purchases from inactive
distributors through direct mail campaigns.
South Korea. The Company, through its subsidiary Nu Skin Korea, commenced
operations in South Korea in February 1996. According to the WFDSA, the direct
selling channel in South Korea generated approximately $1.8 billion in sales of
goods and services in 1996. South Korea's direct sales legislation, which went
into effect in July 1995, requires companies to comply with numerous provisions,
such as local registration, reporting of certain operating results and
dissemination to distributors of certain information regarding the laws. Nu Skin
Korea was among the first foreign-owned firms to register and begin operations
under the new direct selling legislation. See "Risk Factors--Government
Regulations of Direct Selling Activities" and "--Government Regulation of
Products and Marketing; Import Restrictions."
Management believes that Nu Skin Korea was one of the largest direct
sellers in the country during this time period. As of December 31, 1997, Nu Skin
Korea offered 52 of the 90 Nu Skin personal care products and 1 of the 40 IDN
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<PAGE>
products. Additionally, Nu Skin Korea offered various shades of Nu Colour
MoistureShade Liquid Finish designed specifically for Korean consumers.
The Company had sales in South Korea of approximately $122 million and $74
million for 1996 and 1997, respectively. The Company believes that the revenue
decline in South Korea during the second half of 1997, although partially
reflective of the business cycle experienced by the Company in other new
markets, was primarily the result of other factors specific to South Korea.
These other factors include a general collapse of the South Korean economy,
volatility in the South Korean won and activities by the South Korean government
and campaigns by a coalition of consumer protection and trade organizations
against producers of luxury and foreign goods, in general, and certain network
marketing companies, in particular, that resulted in negative media attention.
Management believes that the media attention has negatively impacted the
business environment generally. See "--Potential Effects of Adverse Publicity."
Additionally, the recent economic decline in South Korea has resulted in reduced
consumer spending on foreign goods. Further, the devaluation of the Korean won
has suppressed reported U.S. dollar revenues.
In support of the Company's growth strategy, Nu Skin Korea intends to (i)
engage in the local manufacturing of certain products to alleviate concerns
about the high level of goods being imported into South Korea by the Company,
(ii) engage in targeted promotional and public relations activities designed to
address concerns regarding the current business environment for direct selling
companies, (iii) promote the development of local distributor leadership,
including focused training efforts, compensation plan modifications and the
introduction of distributor productivity programs, and (iv) build the local
distributor support infrastructure.
Thailand. The Company, through its subsidiary, Nu Skin Thailand, commenced
operations in Thailand on March 13, 1997. According to the WFDSA, direct sales
in 1996 totaled $800 million in Thailand, making it the fourteenth largest
direct selling market worldwide. The Company's opening in Thailand was supported
by more than 200 of NSI's highest ranking distributors, many of whom are from
Taiwan and other Asian markets. As of December 31, 1997, Nu Skin Thailand
offered 31 of the 90 Nu Skin personal care products and none of the IDN
products. Initial revenue growth in the first half of 1997 slowed dramatically
in the second half of 1997 due primarily to economic turmoil in Thailand which
led to a significant devaluation of the Thai baht and a general slowdown in
consumer spending for foreign goods.
In Thailand, the Company intends to (i) systematically introduce
additional Nu Skin personal care products including locally sourced products at
a value price, (ii) promote the Company's brand image through public relations
efforts, including the endorsement of Nu Skin personal care products by the
1995-1996 Miss Thailand, and (iii) train new distributors in the most effective
methods of marketing the Company's products and in becoming effective leaders
within NSI's global distributor compensation plan (the "Global Compensation
Plan") framework.
Philippines. The Company, through its subsidiary Nu Skin Philippines,
commenced operations in the Philippines on February 4, 1998. The opening was
supported by over 150 of NSI's highest ranking distributors. Nu Skin Philippines
currently offers 26 of the 90 personal care products, none of the IDN products
and 11 personal care products that are manufactured in the Philippines under the
brand name Scion. The locally produced Scion personal care product line is
priced to appeal to a broader demographic segment of the population than Nu Skin
premium products. The Company intends to focus on establishing a stable
distributor base prior to implementing product line enhancements. In addition,
the Company also has implemented an enhancement to the Global Compensation Plan
to provide greater incentives for distributors at low executive levels in this
country with relatively low per capita income.
New Market Opportunities
The Company has developed a low cost, disciplined approach to opening new
markets. Each market opening is preceded by a thorough analysis of economic and
political conditions, regulatory standards and other business, tax and legal
issues. Prior to a market opening, the Company's management team, in conjunction
with NSI support personnel, local legal counsel and tax advisors, works to
obtain all necessary regulatory approvals and establish facilities capable of
meeting distributor needs. This approach, combined with the Global Compensation
Plan which motivates distributors to sponsor and train other distributors to
sell products in new markets, has enabled the Company to quickly and
successfully open new markets.
-9-
<PAGE>
The Company has the right to be the exclusive distributor of NSI products
in Indonesia, Malaysia, the PRC, Singapore and Vietnam. The Company believes
that these countries collectively represent significant markets for future
expansion; however, no assurance can be given that Nu Skin operations will ever
be commenced in these counties. Generally, the Company, as a matter of policy,
does not announce the timing of its opening of new markets.
There are, however, significant risks and uncertainties associated with
the Company's expansion into these countries. The regulatory and political
climate in these potential markets is such that a replication of the Company's
current operating structure cannot be guaranteed. For example, Malaysia has
governmental guidelines that have the effect of limiting foreign ownership of
direct selling companies operating in Malaysia to no more than 30%. In addition,
because the Company's personal care and nutritional product lines are generally
positioned as premium product lines, the market potential for the Company's
product lines in relatively less developed countries, such as the PRC and
Vietnam, remains to be determined. Modifications to each product line may be
needed to accommodate the market conditions in each country, while maintaining
the integrity of the Company's products. No assurance can be given that the
Company will be able to obtain necessary regulatory approvals to commence
operations in these new markets, or that, once such approvals are obtained, the
Company and NSI, upon which the Company is largely dependent for product
development assistance, will be able to successfully reformulate Nu Skin
personal care and IDN product lines in any of the Company's new markets to
attract local consumers. Given existing regulatory environments and economic
conditions, the Company's entrance into Singapore and Vietnam is not anticipated
in the short to mid-term. See "Risk Factors--Entering New Markets" and
"--Government Regulation of Products and Marketing; Import Restrictions."
The following table sets forth certain estimated economic and demographic
data in each of the countries for which the Company has an exclusive license but
in which the Company has not commenced Nu Skin operations. Although the Company
believes that the following table provides a useful basis for evaluating the
relative size and growth of the economies and populations of the countries in
which the Company intends to operate, no assurance can be given that economic or
population data in a particular country will indicate what the Company's results
of operations, if any, will be in that country.
1996 1996 GDP 1996 GDP Real GDP
Population (in billions per capita Growth
Country (in millions) of $) (in $) 1996/1995 (%)
- ------- ------------- ------------ ----------- -------------
Indonesia.............. 197.4 $224.5 $1,137 7.8%
Malaysia............... 20.5 97.2 4,751 8.2
PRC.................... 1,236.0 808.2 654 9.7
Singapore.............. 3.0 93.2 30,771 7.0
Vietnam................ 76.3 26.1 342 9.3
- -------------------
Source: World Information Services; Country Data Forecasts, March 1997.
Indonesia. Although historically not open to foreign investment
opportunities, in the mid 1990's, Indonesia experienced an emphasis on
deregulation and private enterprise and an average annual growth in GDP of 6%
from 1985 to 1994. The Indonesian Direct Selling Association reports that there
are 750,000 participants in direct selling in the country. During the latter
part of 1997, Indonesia experienced a significant devaluation in its local
currency and significant economic turmoil. Due to these recent factors,
management believes that immediate expansion into this market is not in the
Company's best interest.
Malaysia. According to the WFDSA, more than $760 million in goods and
services were sold through the direct selling channel in Malaysia in 1996. There
are currently numerous direct selling companies operating in Malaysia. In
October 1995, the Company's business permit applications were denied by the
Malaysian government as the result of activities by certain NSI distributors
before required government approvals could be secured. See "Risk
Factors--Potential Negative Impact of Distributor Actions" and "--Potential
Effects of Adverse Publicity." Management is continuing to evaluate the time
frame in which it will reapproach the Malaysian market.
-10-
<PAGE>
PRC. With the PRC's large population and the Company's success in the
neighboring and Chinese-speaking countries of Hong Kong and Taiwan, management
believes that the PRC may be an attractive market for the Company. However, the
PRC has proven to be a particularly difficult market for foreign corporations
due to its extensive government regulation and historical political tenets, and
no assurance can be given that the Company will be able to establish Nu Skin
operations in the PRC using the Company's business model or otherwise. The
Company believes that entering the PRC may require the successful establishment
of a joint venture enterprise with a Chinese partner and the establishment of a
local manufacturing presence. These initiatives would likely require a
significant investment over time by the Company. The Company believes that the
PRC national regulatory agency responsible for direct selling periodically
reviews the regulation of multi-level marketing. Management is aware of recent
media and other reports in the PRC reporting an increasing desire on the part of
senior government officers to curtail or even abolish direct selling and
multi-level marketing activities. These views may lead to changes in applicable
regulations. The Company believes that PRC regulators are currently not issuing
direct selling or multi-level marketing licenses and may take action restricting
or rescinding currently licensed direct selling businesses. The Company is
actively working on these and other issues including joint ventures and
potential marketing alternatives related to possible Nu Skin operations in the
PRC. It is not known when or whether the Company will be able to implement in
the PRC business models consistent with those used by the Company in other
markets. The Company will likely have to apply for licenses on a province by
province basis, and the repatriation of the Company's profits will be subject to
restrictions on currency conversion and the fluctuations of the government
controlled exchange rate. In addition, because distribution systems in the PRC
are greatly fragmented, the Company may be forced to use business models
significantly different from those used by the Company in more developed
countries. The lack of a comprehensive legal system, the uncertainties of
enforcement of existing legislation and laws, and potential revisions of
existing laws could have an adverse effect on the Company's proposed business in
the PRC. See "Risk Factors--Entering New Markets."
Singapore. In Singapore, relatively high levels of GDP per capita indicate
that the country enjoys strong consumer buying power and a dynamic market
structure similar to, yet smaller than, Hong Kong. Although direct selling
activities are permitted, currently network marketing is not allowed in
Singapore. Accordingly, the Company's entrance into Singapore is not anticipated
in the short to mid-term. See "--Government Regulation--Regulation of Products
and Marketing; Import Restrictions."
Vietnam. The Company believes that there is little or no direct selling
activity in Vietnam. However, the country is moving towards a market-based
economy and has recently adopted a freely convertible currency. The Company
anticipates that the increase in free enterprise will help to develop the direct
selling channel. However, given existing regulatory, environmental and economic
conditions, the Company's entrance into Vietnam is not anticipated in the short
to mid-term.
Southeast Asian and South Korean Economic Crisis
During 1997, economic and in some cases political conditions in Southeast
Asia and South Korea continued to decline. The region currently labors under
declining stock and currency markets, mounting bad bank debt, bankruptcies
involving some of its largest business enterprises, excess capacity, decreasing
demand for foreign goods and political unrest. These conditions are most
significantly reflected in the Company's operating results in South Korea and
Thailand. The Company has announced initiatives in each of its existing markets
to promote and sustain growth. These initiatives include increasing the local
production of products, supplementary product offerings with more moderately
priced goods, and enhancing the sales compensation plan to provide for greater
commission payouts at lower qualifying levels. No assurances can be given that
these initiatives will be successful. See " --Country Profiles" herein and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations-- Outlook" incorporated herein by reference to the Company's 1997
Annual Report, sections of which are filed herewith as Exhibit 13.
Distribution System
Overview of Distribution System. The foundation of the Company's sales
philosophy and distribution system is network marketing. Under most network
marketing systems, distributors purchase products for retail sale and personal
consumption. Pursuant to the Global Compensation Plan, products are sold
exclusively to or through independent distributors
-11-
<PAGE>
who are not employees of the Company or NSI. Distributors contract directly with
NSI, and NSI makes such distributors available to the Company through Licensing
and Sales Agreements. See "--Relationship with NSI."
Network marketing is an effective vehicle to distribute the Company's
products because (i) a consumer can be educated about a product in person by a
distributor, which is more direct than the use of television and print
advertisements; (ii) direct sales allow for actual product testing by a
potential consumer; (iii) the impact of distributor and consumer testimonials is
enhanced; and (iv) as compared to other distribution methods, distributors can
give customers higher levels of service and attention, by, among other things,
delivering products directly to a consumer and following up on sales to ensure
proper product usage and customer satisfaction, and to encourage repeat
purchases. Under most network marketing systems, independent distributors
purchase products for resale and for personal consumption.
Direct selling as a distribution channel has been enhanced in the past
decade due to advancements in communications, including telecommunications, and
the proliferation of the use of videos and fax machines. Direct selling
companies can now produce high quality videos for use in product education,
demonstrations and sponsoring sessions that project a desired image for the
Company and the product line. Management believes that high quality sales aids
play an important role in the success of distributor efforts. For this reason,
NSI maintains an in-house staff of video production personnel and video and
audio cassette duplication equipment for timely and cost-effective production of
sales materials. These facilities and expertise are available for the Company's
use. Management is committed to fully utilizing current and future technological
advances to continue enhancing the effectiveness of direct selling.
NSI's network marketing program differs from many other network marketing
programs in several respects. First, the Global Compensation Plan allows NSI
distributors to develop a seamless global network of downline distributors.
Second, NSI's order and fulfillment systems eliminate the need for distributors
to carry significant levels of inventory. Third, the Global Compensation Plan is
among the most financially rewarding plans offered to distributors by network
marketing companies, and can result in commissions to distributors aggregating
up to 58% of a product's wholesale price. On a global basis, commissions have
averaged approximately 42% of revenue from commissionable sales over the last
eight years. Because the Company licenses the right to use the Global
Compensation Plan from NSI, the structure of the plan, including commission
rates, is largely under the control of NSI. See "Risk Factors--Increase in
Distributor Compensation Expense."
The Company's revenue is directly dependent upon the efforts of
distributors. Growth in sales volume requires an increase in the productivity of
distributors and/or growth in the total number of distributors. Because the
distributors have contracted directly with NSI, the Company primarily relies on
NSI to enforce distributor policies and procedures. There can be no assurance
that the productivity or number of distributors will be sustained at current
levels or increased in the future. See "Risk Factors--Reliance Upon Independent
Distributors of NSI." Furthermore, the Company estimates that, as of December
31, 1997, approximately 300 distributorships worldwide comprised NSI's Hawaiian
Blue Diamond and Blue Diamond executive distributor levels, which are NSI's two
highest executive distributor levels and, together with their extensive downline
networks, account for substantially all of the Company's revenue. Consequently,
the loss of such a high-level distributor or another key distributor, together
with a group of leading distributors in such distributor's downline network, or
the loss of a significant number of distributors for any reason, could adversely
affect the Company's results of operations. See "Risk Factors--Reliance on
Certain Distributors; Potential Divergence of Interests between Distributors and
the Company."
Sponsoring. The Company relies solely on NSI distributors to sponsor new
distributors. While the Company provides, at cost, product samples, brochures,
magazines and other sales materials, distributors are primarily responsible for
educating new distributors with respect to products, the Global Compensation
Plan, and how to build a successful distributorship.
The sponsoring of new distributors creates multiple levels in the network
marketing structure. Persons whom a distributor sponsors are referred to as
"downline" or "sponsored" distributors. If downline distributors also sponsor,
they create additional levels in the structure, but their downline distributors
remain part of the same downline network
-12-
<PAGE>
as their original sponsoring distributor. See "Risk Factors--Reliance on Certain
Distributors; Potential Divergence of Interests between Distributors and the
Company."
Sponsoring activities are not required of distributors. However, because
of the financial incentives provided to those who succeed in building a
distributor network that consumes and resells products, the Company believes
that most of its distributors attempt, with varying degrees of effort and
success, to sponsor additional distributors. Generally, distributors invite
friends, family members and acquaintances to sales meetings where Company
products are presented and where the Global Compensation Plan is explained.
People are often attracted to become distributors after using Company products
and becoming regular retail customers. Once a person becomes a distributor, he
or she is able to purchase products directly from the Company at wholesale
prices for resale to consumers or for personal consumption. The distributor is
also entitled to sponsor other distributors in order to build a network of
distributors and product users.
A potential distributor must enter into a standard distributor agreement
with NSI which obligates the distributor to abide by NSI's policies and
procedures. Additionally, in all countries except Japan, a new distributor is
required to enter into a product purchase agreement with the Company's local
subsidiary, which governs product purchases. In Japan, Taiwan, Hong Kong and the
Philippines, distributors are also required to purchase a starter kit, which
includes NSI's policies and procedures, for between $55 and $85, which
essentially represents the cost of producing the starter kit. In South Korea and
Thailand, distributors are not required to purchase a starter kit.
Global Compensation Plan. Management believes that one of the Company's
key competitive advantages is the Global Compensation Plan, which it licenses
from NSI. Distributors receive higher levels of commissions as they advance
under the Global Compensation Plan. The Global Compensation Plan is seamlessly
integrated across all markets in which Nu Skin personal care and IDN products
are sold, which allows distributors to receive commissions for global product
sales, rather than merely local product sales. This seamless integration means
that the Company's distributor base has global reach and that the knowledge and
experience resident in current distributors can be used to build distributor
leadership in new markets. Outside of the Company's markets, NSI currently has
affiliated operations in the U.S., the United Kingdom, Puerto Rico, Canada,
Australia, New Zealand, Ireland, Germany, France, the Netherlands, Belgium,
Italy, Spain, Austria, Portugal, Mexico and Guatemala. Allowing distributors to
receive commissions at the same rate for sales in foreign countries as for sales
in their home country is a significant benefit to distributors because they are
not required to establish new distributorships or requalify for higher levels of
commissions within each new country in which they begin to operate, which is
frequently the case under the compensation plans of the Company's major
competitors. Under the Global Compensation Plan, a distributor is paid
consolidated monthly commissions in the distributor's home country, in local
currency, for product sales in that distributor's global downline distributor
network. Current and future distributor lists have been licensed by NSI to the
Company pursuant to Licensing and Sales Agreements. See "--Relationship with
NSI."
The Global Compensation Plan allows an individual the opportunity to
develop a business, the success of which is based upon that individual's level
of commitment, time, enthusiasm, personal skills, contacts, and motivation. For
many, a distributorship is a very small business, in which products may be
purchased primarily for personal consumption and for resale to relatively few
customers. For others, a distributorship becomes a full-time occupation.
High Level of Distributor Incentives. Based upon its knowledge of network
marketing distributor compensation plans, the Company believes that the Global
Compensation Plan is among the most financially rewarding plans offered to
distributors by network marketing companies. There are two fundamental ways in
which distributors can earn money: (i) through retail markups, for which the
Company recommends a range from 43% to 60%; and (ii) through a series of
commissions on product sales, which can result in commissions to distributors
aggregating up to 58% of such product's wholesale price. On a global basis,
however, commissions have averaged approximately 42% of revenue from
commissionable sales over the last eight years. See "Risk Factors--Increase in
Distributor Compensation Expense."
Each product carries a specified number of sales volume points.
Commissions are based on total personal and group sales volume points per month.
Sales volume points are essentially based upon a product's wholesale cost, net
of any point of sale taxes. As a distributor's retail business expands and as he
or she successfully sponsors other distributors into the business who in turn
expand their own businesses, he or she receives a higher percentage of
commissions.
-13-
<PAGE>
Once a distributor becomes an executive, the distributor can begin to take
full advantage of the benefits of commission payments on personal and group
sales volume. To achieve executive status, a distributor must submit a
qualifying letter of intent and achieve specified personal and group sales
volumes for a four-month period of time. To maintain executive status, a
distributor must generally also maintain specified personal and group sales
volumes each month. An executive's commissions increase substantially as
multiple downline distributors achieve executive status. In determining
commissions, the number of levels of downline distributors that can be included
in an executive's group increases as the number of executive distributorship
directly below the executive increases.
As of the dates indicated below, the Company had the following number of
executive distributors.
Total Number of Executive Distributors
As of December 31,
----------------------------------------------
Executive Distributors 1993 1994 1995 1996 1997
------ ------ ------ ------ ------
Japan............................ 2,459 3,613 4,017 10,169 15,756
Taiwan........................... 1,170 2,093 3,014 5,098 4,342
South Korea...................... -- -- -- 4,675 898
Thailand......................... -- -- -- -- 308
Hong Kong........................ 275 377 519 541 641
Total...................... 3,907 6,083 7,550 20,483 21,945
On a monthly basis, the Company and NSI evaluate requests for exceptions
to the Global Compensation Plan. While the general policy is to discourage
exceptions, management believes that the flexibility to grant such exceptions is
critical in retaining distributor loyalty and dedication. In each market,
distributor services personnel evaluate each such instance and make appropriate
recommendations to NSI.
Distributor Support. The Company is committed to providing high level
support services tailored to the needs of its distributors in each market. The
Company meets the needs and builds the loyalty of its distributors with
personalized distributor service, a support staff that assists distributors as
they build networks of downline distributors, and a liberal product return
policy. Because many distributors have only a limited number of hours each week
to concentrate on their Nu Skin business, management believes that maximizing a
distributor's efforts through effective support of each distributor has been and
will continue to be important to the success of the Company.
Through training meetings, annual conventions, distributor focus groups,
regular telephone conference calls and personal contacts with distributors, the
Company seeks to understand and satisfy the needs of each distributor. The
Company provides walk-in, telephonic and computerized product fulfillment and
tracking services that result in user-friendly, timely product distribution. In
addition, the Company is committed to evaluating new ideas in technology and
services, such as automatic product reordering, that the Company can provide to
distributors. The Company currently utilizes voicemail, teleconferencing and fax
services. Global Internet access (including Company and product information,
ordering abilities and group and personal sales volume inquiries) is anticipated
to be provided to distributors in the future. Each walk-in center maintains
meeting rooms which distributors may utilize in training and sponsoring
activities.
Rules Affecting Distributors. NSI's standard distributor agreement,
policies and procedures, and compensation plan contained in every starter and/or
introductory kit outline the scope of permissible distributor marketing
activities. The Company's distributor rules and guidelines are designed to
provide distributors with maximum flexibility and opportunity within the bounds
of governmental regulations regarding network marketing. Distributors are
independent contractors and are thus prohibited from representing themselves as
agents or employees of NSI or the Company. Distributors are obligated to present
the Company's products and business opportunity ethically and professionally.
Distributors agree that the presentation of the Company's business opportunity
must be consistent with, and limited to, the product claims
-14-
<PAGE>
and representations made in literature distributed by the Company. No medical
claims may be made regarding the products, nor may distributors prescribe any
particular product as suitable for any specific ailment. Even though sponsoring
activities can be conducted in many countries, distributors are prohibited from
conducting marketing activities outside of countries in which NSI and the
Company conduct business and are not allowed to export products from one country
to another. See "Risk Factors--Potential Negative Impact of Distributor
Actions."
Distributors must represent that the receipt of commissions is based on
substantial efforts. Exhibiting commission statements or checks is prohibited.
Sales aids such as videotapes, promotional clothing, pens, stationary and other
miscellaneous items must be produced or pre-approved by the Company or NSI.
Distributors may not use any form of media advertising to promote
products. Products may be promoted only by personal contact or by literature
produced or approved by the Company. Generic business opportunity advertisements
(without using either the Company or the NSI names) may be placed in accordance
with certain guidelines in some countries. NSI logos and names may not be
permanently displayed on physical premises. Distributors may not use NSI
trademarks or other intellectual property of NSI without NSI's consent.
Products may not be sold, and the business opportunity may not be
promoted, in traditional retail environments such as food markets, pharmacies
and drugstores. Nor may business be conducted at conventions, trade shows, flea
markets, swap meets, and similar events. Distributors who own or are employed by
a service-related business such as a doctor's office, hair salon, or health
club, may make products available to regular customers as long as products are
not displayed visibly to the general public in such a way as to attract the
general public into the establishment to purchase products.
Generally, distributors can receive commission bonuses only if, on a
monthly basis (i) the distributor achieves at least 100 points (approximately
U.S. $100) in personal sales volume, (ii) the distributor documents retail sales
to at least five retail customers, (iii) the distributor sells and/or consumes
at least 80% of personal sales volume, and (iv) the distributor is not in
default of any material policies or procedures.
NSI systematically reviews alleged reports of distributor misbehavior. If
NSI determines that a distributor has violated any of the distributor policies
or procedures, it may either terminate the distributor's rights completely or
impose sanctions such as warnings, probation, withdrawal or denial of an award,
suspension of privileges of a distributorship, fines or penalties, withholding
commissions until specified conditions are satisfied, or other appropriate
injunctive relief. Distributor terminations based on violations of NSI's
policies and procedures have aggregated less than 1% of the Company's
distributor force since inception. Distributors may voluntarily terminate their
distributorship at any time.
Payment. Distributors generally pay for products prior to shipment.
Accordingly, the Company carries no accounts receivable from distributors.
Distributors typically pay for products in cash, by wire transfer, and by credit
cards. Cash, which represents a large portion of all payments, is received by
order takers in the distribution center when orders are personally picked up by
a distributor.
Product Summary
The Company offers products in two distinct categories: personal care
products, marketed under the trademark "Nu Skin," and nutritional products,
marketed under the trademark "Interior Design Nutritionals" (IDN). The Company
is entitled to distribute NSI products in specified Asian countries pursuant to
a Regional Distribution Agreement. See "--Relationship with NSI" and "Risk
Factors--Relationship with and Reliance on NSI; Potential Conflicts of
Interest." NSI markets 90 different personal care and 40 different nutritional
products, of which 85 and 24, respectively, were available in at least one of
the Company's current markets as of December 31, 1997. Nearly all products sold
by the Company are purchased from NSI, with the exception of a line of 11
personal care products which are produced locally in Japan as well as a line of
11 personal care products which are produced locally in the Philippines. In
addition to products, the Company
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<PAGE>
offers a variety of sales aids, including items such as starter kits,
introductory kits, brochures, product catalogs, videotape and personal care
accessories. See "Risk Factors--Product Liability."
The following chart indicates how many of the Nu Skin personal care and
IDN products were available as of December 31, 1997, in each of the Company's
current markets.
<TABLE>
<CAPTION>
Nu Skin Personal Care and IDN Product Offerings
Total Products Offered
Products ---------------------------------------------
Offered by Hong South
Product Categories/Product Lines NSI Japan Taiwan Kong Korea Thailand
--------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Nu Skin Personal Care:
Facial Care.............................. 20 14(1) 13 18 13 10
Body Care................................ 12 10 9 12 9 9
Hair Care................................ 14 13 13 14 12 10
Color Cosmetics.......................... 13 13 13 13 8(2) -
Specialty................................ 31 18 24 29 10 2
-- -- -- -- -- --
Total................................ 90 68 72 86 52 31
== == == == == ==
Nutritional Supplements.................. 17 7 4 4 1 -
Nutritious and Healthy Snacks............ 7 3 4 6 - -
Sports and Fitness Nutritional Products.. 1 - - - - -
Health Solutions......................... 3 - - - - -
Botanical Supplements.................... 8 4 3 8 - -
-- -- -- -- -- --
Total................................ 40 15 11 18 1 -
== == == == == ==
- ------------------
<FN>
(1) In Japan, the Company also sells 11 locally sourced personal care products.
(2) In South Korea, the Company also sells one locally sourced color cosmetic
product.
</FN>
</TABLE>
Presented below are the dollar amount and percentage of revenue of each of
the two product categories and other sales aid revenue for the years ended
December 31, 1995, 1996 and 1997.
Revenue by Product Category
Year Ended Year Ended Year Ended
December 31, 1995 December 31, 1996 December 31, 1997
----------------- ----------------- -----------------
$ % $ % $ %
Product Category --------- ------ --------- ------ --------- ------
Nu Skin Personal care.. $ 303,387 84.6% $ 493,609 72.8% $ 569,156 63.9%
IDN.................... 23,959 6.7 138,593 20.4 272,402 30.6
Sales aids............. 31,263 8.7 46,394 6.8 48,990 5.5
--------- ------ --------- ------ --------- ------
Total............ $ 358,609 100.0% $ 678,596 100.0% $ 890,548 100.0%
========= ====== ========= ====== ========= ======
Nu Skin Personal Care Products
The Company's current Nu Skin personal care products category is divided
into the following lines: facial care, body care, hair care and color cosmetics,
as well as specialty products, such as sun protection, oral hygiene and
fragrances. Each of the Subsidiaries markets a variety of the 90 personal care
products currently offered by NSI. The Company also offers product sets that
include a variety of products in each product line as well as small, sample-size
packages to facilitate product sampling by potential consumers. The product sets
are especially popular during the opening phase of a new country, where
distributors and consumers are anxious to purchase a variety of products, and
during holiday and gift giving seasons in each market. The Company anticipates
the introduction of additional personal care products into each market, based on
the likelihood of the particular product's success in the market as well as
applicable regulatory approvals. See "Risk Factors--Government Regulation of
Products and Marketing; Import Restrictions."
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The Nu Skin personal care products offered in Taiwan and Hong Kong are
substantially the same formulations of the products offered by NSI in the U.S.
In Japan and South Korea, however, most of the products have been reformulated
to satisfy certain regulatory requirements with respect to product ingredients
and preservatives and to meet the preferences of Japanese and South Korean
consumers.
The following is a brief description of each line within the personal care
product category offered by the Company as of December 31, 1997:
Facial Care. The goal of the facial care line is to allow users to cleanse
thoroughly without causing dryness and to moisturize with effective humectants
that allow the skin to attract and retain vital water. The Company's facial care
line currently consists of 20 different products: Cleansing Lotion, Facial
Scrub, Exfoliant Scrub, Facial Cleansing Bar, Clay Pack, pH Balance Facial
Toner, NaPCA Moisturizer, Rejuvenating Cream, Celltrex (called Hylatrex in Japan
and South Korea), Intensive Eye Complex, HPX Hydrating Gel, Face Lift and
Activator (two formulas for sensitive and normal skin), Jungamals Lip Balm,
Clarifex Cleansing Scrub, Clarifex Mud, Alpha Extra Face, Nu Colour Eye Makeup
Remover, MHA Revitalizing Lotion, MHA Revitalizing Lotion with SPF 15 and
Interim MHA Diminishing Gel. In addition, Nu Skin Japan also offers a line of
four popular skin lightening products and seven additional facial care products
designed particularly for Japanese consumers.
Body Care. The Company's line of body care products relies on premium
quality ingredients to cleanse and condition skin. The cleansers are uniquely
formulated without soap, and the moisturizers contain light but effective
humectants and emollients. The Company's body care line currently consists of 12
products: Antibacterial Body Cleansing Gel, Liquid Body Lufra, Body Smoother,
Hand Lotion, NaPCA Moisture Mist, Body Bar, Body Cleansing Gel, Enhancer,
Jungamals Crazy Crocodile Cleaner, Alpha Extra Body, MHA Revitalzing Body Lotion
and Dermatic Effects Body Contouring Lotion.
Hair Care. The Company's hair care line, HairFitness, is designed to meet
the needs of people with all types of hair and hair problems. Focusing on the
condition of the scalp and its impact on hair quality, the Company's hair care
products use water-soluble conditioners like panthenol to reduce build-up on the
scalp and to promote healthy hair. HairFitness includes 12 products featuring
ceregen, a revolutionary wheat hydrocolloid complex of conditioning molecules
that have been shown to have dramatic hair repair and moisture control aspects:
3 in 1 Shampoo, Moisturizing Shampoo, Balancing Shampoo, Vital Shampoo, Deep
Clarifying Shampoo, Glacial Therapy, Weightless Conditioner, Luxurious
Conditioner, Conditioning Detangler Spray, Styling Gel, Holding Spray and Mousse
(Styling Foam). The Company also carries Dermanator Shampoo and Jungamals Tiger
Tangle Tamer Shampoo.
Color Cosmetics. In the latter part of 1995, the Company introduced Nu
Colour, a new line of color cosmetics, in Hong Kong, Taiwan and Japan. Nu Colour
was introduced in South Korea during 1997. The Nu Colour line consists of 13
products with 105 SKU's including MoistureShade Liquid Finish (10),
MoistureShade Pressed Powder (8), Blush (9), Eye Shadow (10), Mascara (2),
Eyeliner (7), Lip Liner (10), Lipstick (32), DraMATTEics Lip Pencils (6), Lip
Gloss, Creme Concealer (5), Finishing Powder and Brow Pencil (4).
Specialty Products. Epoch is a unique line of ethnobotanical personal care
products created in cooperation with well known ethnobotanists. These products,
which unite natural compounds used by indigenous cultures with advanced
scientific ingredients, include Glacial Marine Mud, Deodorant with Citrisomes,
Polishing Bar, LeafClean Hand Wash, Everglide Foaming Shave Gel, Desert Breeze
Aftershave, Post Shave Lotion for Women, Infusions Herbal Bath, Emulsions and
Firewalker Foot Cream. Epoch was launched in August 1996 in Hong Kong, in
October 1996 in Taiwan, in February 1997 in Japan and in December 1997 in South
Korea and Thailand. Nu Skin Korea and Nu Skin Thailand currently offer only one
Epoch product, Glacial Marine Mud. Glacial Marine Mud is exclusively licensed to
NSI for sale in the direct selling channel.
Nutriol, a line of products exclusively licensed to NSI for sale in the
direct selling channel and manufactured in Europe, consists of five products:
Nutriol Hair Fitness Preparation, Nutriol Shampoo, Nutriol Mascara, Nutriol Nail
and Nutriol Eyelash. Nutriol represents a product designed to replenish the
hair's vital minerals and elements. Each Nutriol product uses
mucopolysaccharide, a patented ingredient.
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The Company's line of Sunright products is designed to provide a variety
of sun screen protection with non-irritating and non-greasy products. The sun
protection line includes a sun preparation product that prepares the skin for
the drying impact of the sun, five sun screen alternatives with various levels
of SPF, and a sun screen lip balm. In the Asian market, the Company's sun care
line is currently available in Hong Kong, Japan, Taiwan, South Korea and
Thailand. At present, Sunright Lip Balm is not available in Japan. Currently,
Sunright Prime Pre & Part Sun Moisturizer and Sunright Lip Balm are not
available in Taiwan and South Korea. Nu Skin Thailand currently offers only one
Sunright product.
AP-24, a line of oral health care products which incorporates anti-plaque
technology designed to help prevent plaque build-up 24 hours a day, is
exclusively licensed to the Company, together with the associated trademark, for
sale in the direct selling channel under the trademark AP-24. This product line
includes AP-24 Anti-Plaque Toothpaste, AP-24 Anti-Plaque Mouthwash, AP-24 Triple
Action Dental Floss, AP-24 Anti-Plaque Breath Spray and the recently introduced
AP-24 Whitening Flouride Toothpaste. These products are currently available in
Hong Kong and Taiwan. The AP-24 oral health care products for kids are designed
to make oral care fun for children and includes Jungamal's Tough Tusk Toothpaste
and Jungamal's Fluffy Flamingo Floss.
The Company offers a men's and a women's fragrance under the Nu Skin
trademark Safiro. The Company also offers a Nail Care Kit.
Product Sets. The Company currently offers product sets that include a
sampling of products from a given product line. These package configurations are
intended to encourage increased product trials.
Interior Design Nutritionals
The IDN product category is comprised of 40 products in the following
lines: nutritional supplements, nutritious and healthy snacks, sports and
fitness nutritional products, health solutions and botanical supplements. IDN is
designed to promote healthy, active lifestyles and general well-being through
proper diet, exercise and nutrition. Although less developed in the Asian market
than the Nu Skin personal care category, each of the Subsidiaries, except Nu
Skin Thailand, markets a variety of the IDN products offered by NSI. Nu Skin
Korea currently offers only one IDN product, LifePak. In the United States, the
IDN division is an official licensee of the U.S. Olympic Committee. In South
Korea, LifePak is the official nutritional supplement of the Korean Olympic
Committee
The Company believes that the nutritional supplement market is expanding
in Asia because of changing dietary patterns, a health-conscious population and
reports supporting the benefits of using vitamin and mineral nutritional
supplements. This product line is particularly well suited to network marketing
because the average consumer is often uneducated regarding nutritional products.
The Company believes that network marketing is a more efficient method than
traditional retailing channels in educating consumers regarding the benefits of
nutritional products. Because of the numerous over-the-counter vitamin and
mineral supplements in Asia, the Company believes that individual attention and
testimonials by distributors will provide information and comfort to a potential
consumer.
IDN products generally require reformulation to satisfy the strict
regulatory requirements of each Asian market. While each product's concept and
positioning are generally the same, regulatory differences between U.S. and
Asian markets result in some product ingredient differences. See "Risk
Factors--Government Regulation of Products and Marketing." In addition, Asian
preferences and regulations favor tablets instead of gel caps, which are
typically used in the U.S.
The following is a brief description of each of the IDN product lines:
Nutritional Supplements. LifePak and LifePak Trim, the core IDN
nutritional supplements, are designed to provide an optimum mix of nutrients
including vitamins, minerals, antioxidants and phytonutrients (natural chemical
extracts from plants). The introduction of LifePak in Japan in October 1995
resulted in a significant increase in revenue and currently represents
approximately 24% of the Company's revenue in Japan. LifePak was launched in
Taiwan, Hong Kong and South Korea in October 1996, January 1997 and August 1997,
respectively.
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<PAGE>
Additional nutritional supplements include: Vitox, which incorporates beta
carotene and other important vitamins for overall health; Metabotrim, which
provides B vitamins and chromium chelate; Optimum Omega, a pure source of omega
3 fatty acids; Image HNS, an all-around vitamin and antioxidant supplement; and
Optigar Q, a blend of co-enzyme Q10 and deodorized garlic. The Company also
offers FibreNet, FibreNet Plus and Diene-O-Lean as a part of its nutritional
supplement offerings. The IDN Masters Wellness Supplement provides nutrition
specifically for an aging generation. Jungamals Children's Chewables combine
natural flavors and colors and contain a unique blend of antioxidants, chelated
minerals, and vitamins specifically tailored for children. NutriFi contains four
grams of soluble and insoluble fibers per serving in a powder that can be added
to liquids and foods to supplement the recommended daily amounts of fiber.
As an enhancement to the core IDN nutritional supplements, LifePak and
LifePak Trim, NSI introduced LifePak Women and LifePak Prime. These products
address the more specific nutritional needs of women and the aging generation.
Also launched by NSI were Life Essentials, a lower cost, more general
nutritional supplement, and Nightime Complex with Melatonin, a sleep aid. The
Company is currently evaluating the feasibility of introducing these nutritional
supplements into its markets.
Nutritious and Healthy Snacks. As part of the Company's mission to promote
a healthy lifestyle and long-term wellness, IDN includes Fiberry Fat-Free Snack
Bars and Appeal Lite, a nutritional drink containing chelated minerals and
vitamins. The Company also offers Breakbars and Pocket Fuel, nutritious snacks
which provide carbohydrates, protein and fiber. In addition, the Company offers
a number of other nutritional drinks. Splash C with juice crystals is a healthy
beverage providing significant doses of vitamins C and E as well as calcium in
each serving. Real fruit juice crystals are added to create orange or lemon
flavor. Aloe-MX, a nutritional aloe vera beverage drink, was specifically
produced for the Japanese market and introduced in October of 1997.
Sports and Fitness Nutritional Products. To cater to health conscious
individuals with active lifestyles, the IDN Sports Nutrition System offers a
comprehensive, flexible program for individuals who desire to optimize
performance on an individual basis. The system includes LifePak, OverDrive, a
sports supplement licensed by the U.S. Olympic Committee that features
antioxidants, B vitamins and chromium chelate, GlycoBar energy bars, and
SportaLyte performance drink to help supply the necessary carbohydrates,
electrolytes and chelated minerals to optimize performance. Amino Build is a low
fat high protein drink mix that is designed to replace nutrients before and
after workouts. ProGRAM-16 protein bars are designed to provide nutritional
support for individuals seeking optimal performance during high-intensity
effort.
Health Solutions. IDN products include customized supplementation
addressing the specialized interests of health conscious individuals. These
supplements include Cartilage Formula which contains an advanced blend of
glucosamine to help maintain normal structure and function of healthy joints,
Eye Formula which contains significant levels of beta-carotene, vitamins C and E
to help maintain the normal structure and function of healthy eyes, and St.
John's Wart Complex which provides a balanced formula to support general health
and emotional well-being.
Botanical Supplements. Botanical supplements are designed for those who
seek the benefits of natural herb and plant extracts. These supplements include
Botanagar, Botanavox, Botanaflor, Botanazyme, BotanaEase, BotanaGuard,
Botanavive and Botaname. Each supplement addresses a range of issues, including:
alertness, digestive maintenance, dietary health support, regular sleep habits,
weight management and antioxidant support.
Sales Aids
The Company provides an assortment of sales aids to facilitate the sales
of its products. Sales aids include videotapes, promotional clothing, pens,
stationery, business cards, brushes, combs, cotton pads, tissues, and other
miscellaneous items to help create consumer awareness of the Company and its
products. Sales aids are priced at the Company's approximate cost and are not
commissionable items (i.e., distributors do not receive commissions on purchases
of sales aids).
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Product Guarantees
The Company believes that it is among the most consumer protective
companies in the direct selling industry. For 30 days from the date of purchase,
the Company's product return policy allows a retail purchaser to return any
product to the distributor through whom the product was purchased for a full
refund. After 30 days from the date of purchase, the return privilege is in the
discretion of the distributor. Because distributors may return unused and
resalable products to the Company for a refund of 90% of the purchase price for
one year, they are encouraged to provide consumer refunds beyond 30 days. In
addition, the product return policy is a material aspect of the success of
distributors in developing a retail customer base. The Company's experience with
actual product returns has averaged less than 3.5% of annual revenue through
1997.
Product Development and Production
Product Development Philosophy. The Company is committed to building its
brand name and distributor and customer loyalty by selling premium quality,
innovative personal care and nutritional products that appeal to broad markets.
This commitment is illustrated by the Company's personal care products slogan
"All of the Good and None of the Bad" and its nutritional products slogan
"Adding Life to Years." The Company's product philosophy is to combine the best
of science and nature and to include in each of its products the highest quality
ingredients. For example, Nu Skin personal care products do not contain soaps
and other harsh cleansers that can dry and irritate skin, undesirable oils such
as lanolin, elements known to be irritating and pore clogging, volatile alcohols
such as ethyl alcohol, and conditioning agents that leave heavy residues. This
philosophy has led to the Company being one of the only personal care companies
in Japan to disclose every ingredient to consumers. This philosophy has also led
to the Company's commitment to avoid any ingredients in nutritional supplements
that are reported to have any long-term addictive or harmful effects, even if
short-term effects may be desirable. Independent distributors need to have
confidence that they are distributing the best products available in order to
have a sense of pride in their association with the Company and to have products
that are distinguishable from "off the shelf" products. NSI and the Company are
committed to developing and providing quality products that can be sold at an
attractive retail price and allow the Company to maintain reasonable profit
margins.
NSI is also committed to constantly improving its evolving product
formulations to incorporate innovative and proven ingredients into its product
line. Whereas many consumer product companies develop a formula and stay with
that formula for years, and sometimes decades, NSI believes that it must stay
current with product and ingredient evolution to maintain its reputation for
innovation to retain distributor and consumer attention and enthusiasm. For this
reason, NSI continuously evaluates its entire line of products for possible
enhancements and improvements.
In addition, the Company believes that timely and strategic product
introductions are critical to maintaining the growth of independent distribution
channels. Distributors become enthusiastic about new products and are generally
excited to share new products with their customer base. An expanding product
line helps to attract new distributors and generate additional revenues.
NSI maintains a laboratory and a staff of approximately 90 individuals
involved in product development. NSI also relies on an advisory board comprised
of recognized authorities in various disciplines. In addition, NSI and the
Company evaluate a significant number of product ideas that are presented by
distributors and other outside sources. NSI believes that strategic
relationships with certain vendors also provide important access to innovative
product concepts. The Company will continue to develop products tailored to
appeal to the particular needs of the Company's markets.
Historically, one of the reasons for the success of the Nu Skin personal
care product lines has been their gender neutral positioning. This product
positioning substantially expands the size of the traditional skin and hair care
market. NSI's IDN product lines have historically been positioned to be age
neutral. However, with a substantial distributor and user base established, the
Company believes that it can further increase its market share in both the
personal care and the nutritional products categories by introducing age and
gender specific products, additional vitamin products targeted to seniors, and
personal care products targeted to either men or women.
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Production. Although the Company is investigating the possibility of
manufacturing certain products within specific markets, virtually all of the
Company's products are currently sourced through NSI and are produced by
manufacturers unaffiliated with NSI. The Company currently has little or no
direct contact with these manufacturers. The Company's profit margins and its
ability to deliver its existing products on a timely basis are dependent upon
the ability of NSI's outside manufacturers to continue to supply products in a
timely and cost-efficient manner. Furthermore, the Company's ability to enter
new markets and sustain satisfactory levels of sales in each market is dependent
in part upon the ability of suitable outside manufacturers to reformulate
existing products, if necessary to comply with local regulations or market
environments, for introduction into such markets. Finally, the development of
additional new products in the future will likewise be dependent in part on the
services of suitable outside manufacturers.
The Company currently acquires products or ingredients from sole suppliers
or suppliers that are considered by the Company to be the superior suppliers of
such ingredients. The Company believes that, in the event it is unable to source
any products or ingredients from its current suppliers, the Company could
produce such products or replace such products or substitute ingredients without
great difficulty or prohibitive increases in the cost of goods sold. However,
there can be no assurance that the loss of such a supplier would not have a
material adverse effect on the Company's business and results of operations.
With respect to products purchased by the Company from NSI, NSI currently
relies on two unaffiliated manufacturers to produce approximately 70% and 80% of
its personal care and nutritional products, respectively. NSI has a written
contract with the primary supplier of the Company's personal care products that
expires at the end of 2000. An extension to such contract is currently being
negotiated. NSI does not currently have a written contract with the primary
supplier of the Company's nutritional products. The Company believes that in the
event NSI's relationship with any of its key manufacturers is terminated, NSI
will be able to find suitable replacement manufacturers. However, there can be
no assurance that the loss of either manufacturer would not have a material
adverse effect on the Company's business and results of operations. See "Risk
Factors--Reliance on and Concentration of Outside Manufacturers."
Relationship With NSI
As of March 5, 1998, approximately 98% of the combined voting power of the
outstanding shares of Common Stock was held by the shareholders of NSI and their
affiliates. As a result, when acting as stockholders of the Company, these
shareholders of NSI and their affiliates will consider the short-term and
long-term impact of all stockholder decisions on the consolidated financial
results of NSI and the Company. See "Risk Factors--Relationships with and
Reliance on NSI; Potential Conflicts of Interest." In addition, the Company has
entered into distribution, trademark/tradename license, licensing and sales, and
management services agreements (the "Operating Agreements") with NSI and NSIMG,
summary descriptions of which are set forth below. Such summaries are qualified
in their entirety by reference to the Operating Agreements in effect and as they
may be amended from time to time. In the future the Company may enter into
amendments to the Operating Agreements or additional agreements with NSI or
NSIMG. The Company is almost completely dependent on the Operating Agreements to
conduct its business, and in the event NSI is unable or unwilling to perform its
obligations under the Operating Agreements, or terminates the Operating
Agreements as provided therein, the Company's business and results of operations
will be adversely affected. See "Risk Factors--Relationship with and Reliance on
NSI; Potential Conflicts of Interest."
The South Korean Operating Agreements differ in various minor ways from
the Company's other Operating Agreements. With the exception of the minor
modification of certain terms, the Operating Agreements described below will
remain in effect following consummation of the NSI Acquisition.
Distribution Agreements. The Company has entered into a regional
distribution agreement (the "Regional Distribution Agreement") with NSI, through
Nu Skin Hong Kong, pursuant to which NSI has granted to the Company the
exclusive right to sell and distribute Nu Skin personal care and IDN products
and sales aids in the Company's markets. Nu Skin Japan, Nu Skin Taiwan, Nu Skin
Korea, Nu Skin Thailand and Nu Skin Philippines have each entered into wholesale
distribution agreements (the "Wholesale Distribution Agreements") with Nu Skin
Hong Kong, pursuant to which each such Subsidiary has been granted the right to
sell and distribute Nu Skin personal care and IDN products in its respective
country.
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The following discussion summarizes the terms of the Regional Distribution
Agreement and the Wholesale Distribution Agreements for each of the
Subsidiaries, other than the Wholesale Distribution Agreement for Nu Skin Korea,
which is discussed below.
The Company has the right to purchase any Nu Skin personal care or IDN
products, subject to unavailability due to local regulatory requirements. See
"--Government Regulation." Purchases are made by submission of a purchase order
to NSI, which NSI must accept unless it has insufficient inventory to fill the
order. In determining whether it has sufficient inventory to fill a given order,
NSI is required to treat the Company on a parity basis with its other
affiliates.
The prices for products are governed by a price schedule which is subject
to change by NSI from time to time upon at least 30 days advance notice. NSI
pays ordinary freight and the Company pays handling, excise taxes and customs
duties on the products the Company orders. In order to assist NSI in planning
its inventory and pricing, the Company is required to provide NSI with certain
business plans and reports of its sales and prices to independent distributors.
The Company, through its subsidiary Nu Skin Hong Kong, purchases virtually
all of its products from NSI. Nu Skin Hong Kong pays for its purchases from NSI
under the Regional Distribution Agreement in U.S. dollars, while the other
Subsidiaries pay for their purchases from Nu Skin Hong Kong under the Wholesale
Distribution Agreements in their local currency. Nu Skin Hong Kong therefore
bears significant currency exchange risk as a result of purchases from NSI on
behalf of the other Subsidiaries. See "Risk Factors--Currency Risks."
The Company is responsible for paying for and obtaining government
approvals and registrations necessary for importation of Nu Skin personal care
and IDN products into its markets. In addition, the Company is responsible for
obtaining any government approvals, including any filings and notifications,
necessary for the effectiveness of the Regional Distribution Agreement and the
Wholesale Distribution Agreements or for the parties performance thereunder. See
"Risk Factors--Government Regulation of Products and Marketing; Import
Restrictions."
NSI is generally responsible for paying for the research, development and
testing of the products sold to the Company, including any product
reformulations needed to comply with local regulatory requirements. NSI warrants
as to the merchantability of, and its title to, such products. NSI has further
indemnified the Company from losses and liability relating to claims arising out
of alleged or actual defects in the design, manufacture or content of its
products. NSI is required to maintain insurance covering claims arising from the
use of its products and to cause each Subsidiary to be a named insured on such
insurance policy. See "Risk Factors--Product Liability."
The Company is prohibited from selling Nu Skin personal care and IDN
products outside of the countries for which it has an exclusive distribution
license, except that the Company may sell certain Nu Skin personal care and IDN
products to NSI affiliates in Australia and New Zealand. In addition, the
Company is prohibited from selling products which directly or indirectly compete
with Nu Skin personal care and IDN products in any country without NSI's prior
consent, which consent will not be unreasonably withheld or delayed. The Company
may sell non-competing products without restriction.
The Company may manufacture products which do not compete with Nu Skin
personal care and IDN products without restriction but may not manufacture
products which compete directly or indirectly with Nu Skin personal care and IDN
products without NSI's prior consent, which consent will not be unreasonably
withheld or delayed. Any products manufactured by the Company carrying an NSI
trademark will be subject to the Trademark/Tradename License Agreements with NSI
described below and will require the payment to NSI of certain royalties as set
forth therein. If NSI discontinues a product that the Company would like to
continue to sell, the Company may elect to manufacture the product itself or
through a third party manufacturer unless NSI has a competing product. In this
event, NSI has agreed to license the product formulation and any associated
trademarks and tradenames to the Company pursuant to the Trademark/Tradename
License Agreements described below.
When the Company determines to commence operations using its business
model in Indonesia, Malaysia, the PRC, Singapore or Vietnam, NSI has agreed
under the Regional Distribution Agreement to enter into new Trademark/Tradename
License Agreements and Licensing and Sales Agreements substantially similar to
those described below.
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Trademark/Tradename License Agreements. The following discussion
summarizes the terms of the Trademark/Tradename License Agreements for each of
the Subsidiaries. Pursuant to the Trademark/Tradename License Agreements, NSI
has granted to each Subsidiary an exclusive license to use in its market the Nu
Skin and IDN trademarks, the individual product trademarks used on Nu Skin
personal care and IDN products and any NSI tradenames. Each of the Subsidiaries
may thus use the licensed trademarks and tradenames on products and commercial
materials not purchased from NSI, including locally sourced products and
commercial materials and products and commercial materials manufactured by such
Subsidiary and may grant a sub-license, with the consent of NSI, for the
licensed trademarks and tradenames in its market. In addition, each Subsidiary
has the right to export such products and commercial materials into other
Company markets with NSI's consent, which consent shall not be unreasonably
withheld or delayed.
The Company pays a royalty to NSI for use of the licensed trademarks and
tradenames on products, starter and introductory kits and commercial materials
not purchased from NSI, including locally sourced products and commercial
materials and products and commercial materials manufactured by the Company. The
royalty is paid monthly and is equal to 5% of the Company's revenues from such
products and commercial materials for such month generally and a total of 8%
where NSI owns the formula or has exclusive rights in the subject market for
such products or commercial materials.
NSI is responsible for securing and maintaining trademark registrations in
the territory covered by each Trademark/Tradename Agreement. NSI has agreed to
take such actions as the Company may reasonably request to protect its and the
Company's rights to the licensed trademarks from infringement and related claims
and has indemnified the Company from losses and liability resulting from such
claims.
Licensing and Sales Agreements. Currently, all distributor agreements are
entered into between the distributor and NSI rather than with the Company.
Therefore, the Company does not own the distributor lists or the distribution
system, the Global Compensation Plan, copyrights and related intangibles.
Consequently, each of the Subsidiaries has entered into a Licensing and Sales
Agreement with NSI. The following discussion summarizes the terms of the
Licensing and Sales Agreement for each of the Subsidiaries, other than the
Licensing and Sales Agreement for Nu Skin Korea where the intercompany
agreements are modified to comply with local regulations.
The Licensing and Sales Agreements include a license to the Company to use
the distributor lists, the Global Compensation Plan, know how, distributor
system and related intellectual property exclusively in its markets. The Company
pays a license fee to NSI of 4% of the Company's revenue from product sales
(excluding starter and introductory kits) to NSI distributors for the use of
such licensed property. The Company may not grant a sublicense for the licensed
property.
The Company is required to use the Global Compensation Plan to distribute
any products, except as NSI may agree to modify the plan in accordance with
local requirements. The Company must comply with all policies implemented by NSI
under the Global Compensation Plan. This is necessary to ensure global
consistency in NSI's operations. The Company must also employ all NSI policies
relating to commissions payable to, and other relationships with, NSI
distributors.
The Company and the Subsidiaries are contractually obligated to pay a
distributor commission expense of 42% of commissionable product sales. The
Licensing and Sales Agreements provide that the Company is to satisfy this
obligation by paying commissions owed to local distributors. In the event that
these commissions exceed 42% of commissionable product sales, the Company is
entitled to receive the difference from NSI. In the event that the commissions
paid are lower than 42%, the Company must pay the difference to NSI. Under this
formulation, the Company's total commission expense is fixed at 42% of
commissionable product sales in each country. The 42% figure has been set on the
basis of NSI's experience over the past eight years which indicates that actual
commissions paid in a given year together with the cost of administering the
Global Compensation Plan average approximately 42% of commissionable product
sales for such year. In the event that actual commissions payable to
distributors from sales in the Company's markets vary from these historical
results, whether as a result of changes in distributor behavior or changes to
the Global Compensation Plan or in the event that NSI's cost of administering
the Global Compensation Plan increases or decreases, the Licensing and Sales
Agreements provide that the settlement of distributor commission expense between
the Company and NSI may be modified to more accurately reflect actual results.
See "Risk Factors--Potential Increase in Distributor Compensation Expense."
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In addition to payments to local distributors, the Company is generally
responsible for distributor support and relations within Japan, Taiwan, Hong
Kong, South Korea, Thailand and the Philippines. The Company has agreed to use
its best efforts to support the development of NSI's distributor network in its
markets by purchasing starter or introductory kits from NSI and selling them to
potential NSI distributors.
NSI has agreed to take such actions as the Company may reasonably request
to protect its and the Company's rights to the property licensed under the
Licensing and Sales Agreements from infringement and related claims and has
indemnified the Company from losses and liability resulting from such claims.
Both NSI and the Company are required to maintain insurance coverage adequate to
insure their assets and financial stability. NSI is responsible for ensuring
that the property licensed under the Licensing and Sales Agreements complies
with local laws and regulations, including direct selling laws. See "Risk
Factors--Government Regulation of Direct Selling Activities."
Management Services Agreements. The following discussion summarizes the
terms of the Management Services Agreements which each of the Subsidiaries have
entered into with NSIMG. Pursuant to the Management Services Agreements, NSIMG
has agreed to provide a variety of management and support services to each
Subsidiary. These services include management, legal, financial, marketing and
distributor support/training, public relations, international expansion, human
resources, strategic planning, product development and operations administration
services. Most of NSI's senior management personnel and most employees who deal
with international issues are employees of NSIMG.
Generally, the management and support services are provided by employees
of NSI and NSIMG acting through NSIMG either (i) on a temporary basis in a
specific consulting role or (ii) on a full-time basis in a management position
in the country in which the services are required. The Management Services
Agreements do not cover the services of many of the Company's executive
officers. See "Management--Executive Compensation."
General Provisions. The Operating Agreements are each for a term ending on
December 31, 2016, and, after December 31, 2001, will be subject to
renegotiation in the event that members of the families of, or trusts or
foundations established by or for the benefit of the Original Stockholders on a
combined basis no longer beneficially own a majority of the combined voting
power of the outstanding shares of common stock of the Company or of NSI. Each
Operating Agreement is subject to termination by either party in the event of:
(i) a material breach by the other party which remains uncured for a period of
60 days after notice thereof; (ii) the bankruptcy or insolvency of the other
party; or (iii) entry of a judgment by a court of competent jurisdiction against
the other party in excess of $25,000,000. Each Operating Agreement to which NSI
is a party and each Operating Agreement to which NSIMG is a party is further
subject to termination by NSI or NSIMG, respectively, upon 30 days notice in the
event of a change of control of the Subsidiary party thereto and by such
Subsidiary upon 30 days notice in the event of a change of control of NSI or
NSIMG, respectively. Each Operating Agreement provides that neither party may
assign its rights thereunder without the consent of the other party. Each
Operating Agreement is governed by Utah law. Any dispute arising under an
Operating Agreement is to be settled by arbitration conducted in Utah in
accordance with the applicable rules of the American Arbitration Association, as
supplemented by the commercial arbitration procedures for international
commercial arbitration.
Mutual Indemnification Agreement. The Company and NSI have entered into a
mutual indemnification agreement pursuant to which NSI has agreed to indemnify
the Company for certain claims, losses and liabilities relating to the
operations of the Subsidiaries prior to the Reorganization and the Company has
agreed to indemnify NSI for certain claims, losses and liabilities relating to
the operations of the Subsidiaries after the Reorganization.
Competition
Personal Care and Nutritional Products. The markets for personal care and
nutritional products are large and intensely competitive. The Company competes
directly with companies that manufacture and market personal care and
nutritional products in each of the Company's product categories and product
lines. The Company competes with other companies in the personal care and
nutritional products industry by emphasizing the value and premium quality of
the Company's products and the convenience of the Company's distribution system.
Many of the Company's competitors have much
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greater name recognition and financial resources than the Company. In addition,
personal care and nutritional products can be purchased in a wide variety of
channels of distribution. While the Company believes that consumers appreciate
the convenience of ordering products from home through a sales person or through
a catalog, the buying habits of many consumers accustomed to purchasing products
through traditional retail channels are difficult to change. The Company's
product offerings in each product category are also relatively small compared to
the wide variety of products offered by many other personal care and nutritional
product companies. There can be no assurance that the Company's business and
results of operations will not be affected materially by market conditions and
competition in the future.
Network Marketing Companies. The Company also competes with other direct
selling organizations, some of which have a longer operating history and higher
visibility, name recognition and financial resources. The leading network
marketing company in the Company's existing markets is Amway Corporation and its
affiliates. The Company competes for new distributors on the basis of the Global
Compensation Plan and its premium quality products. Management envisions the
entry of many more direct selling organizations into the marketplace as this
channel of distribution expands over the next several years. The Company has
been advised that certain large, well-financed corporations are planning to
launch direct selling enterprises which will compete with the Company in certain
of its product lines. There can be no assurance that the Company will be able to
successfully meet the challenges posed by this increased competition. See "Risk
Factors--Competition."
Government Regulation
Direct Selling Activities. Direct selling activities are regulated by
various governmental agencies. These laws and regulations are generally intended
to prevent fraudulent or deceptive schemes, often referred to as "pyramid" or
"chain sales" schemes, that promise quick rewards for little or no effort,
require high entry costs, use high pressure recruiting methods and/or do not
involve legitimate products. In Japan, the Company's distribution system is
regulated under the "Door-to-Door" Sales Law, which requires the submission of
specific information concerning the Company's business and products and which
provides certain cancellation and cooling-off rights for consumers and new
distributors. In Taiwan, the Fair Trade Law (and the Enforcement Rules and
Supervisory Regulations of Multi-Level Sales) requires the Company to comply
with registration procedures and also provides distributors with certain rights
regarding cooling-off periods and product returns. The Company also complies
with South Korea's strict Door-to-Door Sales Act, which requires, among other
things, the regular reporting of revenue, the registration of distributors
together with the issuance of a registration card, and the maintaining of a
current distributor registry. This law also limits the amount of sponsoring
bonuses that a registered multi-level marketing company can pay to its
distributors to 35% of revenue in a given month. In Thailand and the
Philippines, currently there are no laws (other than general fair trade laws)
directly regulating direct selling or multi-level marketing activities. See
"Risk Factors--Potential Effects of Adverse Publicity" and "--Government
Regulation of Direct Selling Activities."
Based on research conducted in opening its existing markets (including
assistance from local counsel), the nature and scope of inquiries from
government regulatory authorities and the Company's history of operations in
such markets to date, the Company believes that its method of distribution is in
compliance in all material respects with the laws and regulations relating to
direct selling activities of the countries in which the Company currently
operates. Even though management believes that laws governing direct selling are
generally becoming more permissive in certain Asian countries, many countries,
including Singapore, one of the Company's potential markets, currently have laws
in place that would prohibit the Company and NSI from conducting business in
such markets. There can be no assurance that the Company will be allowed to
conduct business in each of the new markets or continue to conduct business in
each of its existing markets licensed from NSI. See "Risk Factors--Entering New
Markets."
Regulation of Products and Marketing. The Company and NSI are subject to
or affected by extensive governmental regulations not specifically addressed to
network marketing. Such regulations govern, among other things, (i) product
formulation, labeling, packaging and importation, (ii) product claims and
advertising, whether made by the Company, NSI or NSI distributors, (iii) fair
trade and distributor practices, (iv) taxes, transfer pricing and similar
regulations that affect foreign taxable income and customs duties, and (v)
regulations governing foreign companies generally.
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The Japanese MOHW requires the Company to possess an import business
license and to register each personal care product imported into Japan.
Packaging and labeling requirements are also specified. The Company has had to
reformulate many products to satisfy MOHW regulations. In Japan, nutritional
foods, drugs and quasi-drugs are all strictly regulated. The chief concern
involves the types of claims and representations that can be made regarding the
efficacy of nutritional products. The Company's successful introduction of IDN
nutritional supplements in Japan was achieved by utilizing the combined efforts
of NSI's technical staff as well as external consultants.
In Taiwan, all "medicated" cosmetic and pharmaceutical products require
registration. Non-medicated cosmetic products, such as shampoo and hair
conditioner, require no registration.
In Hong Kong, cosmetic products not classified as "drugs" nor as
"pharmaceutical products" are not subject to statutory registrations, packaging
and labeling requirements apart from the Trade Descriptions Ordinance. In Macau,
"pharmaceutical" products are strictly regulated; general products are not
subject to registration requirements.
In South Korea, the Company is subject to and has obtained the mandatory
certificate of confirmation as a qualified importer of cosmetics under the
Pharmaceutical Affairs Law as well as additional product approvals for each of
the 45 categories of cosmetic products which it imports. Each new cosmetic
product undergoes a 60-day post-customs inspection where, in addition to
compliance with ingredient requirements, each product is inspected for
compliance with South Korean labeling requirements.
In Thailand, personal care products are regulated by the Food and Drug
Association, and all of the initial Nu Skin personal care products to be
introduced in Thailand have qualified for simplified registration procedures
under Thai law.
In the Philippines, personal care products are regulated by the Bureau of
Food and Drug, and all of the initial NSI personal care products to be
introduced in the Philippines have qualified for simplified registration
procedures under Philippine law.
Regulation of Potential Markets. Each of the proposed new markets will
present additional unique difficulties and challenges. The PRC, for example, has
proven to be a particularly difficult market for foreign corporations due to its
extensive government regulation and the historical political tenets, and no
assurance can be given that the Company will be able to establish Nu Skin
operations in the PRC using the Company's business model or otherwise. The
Company believes that entering the PRC may require the successful establishment
of a joint venture enterprise with a Chinese partner and the establishment of a
local manufacturing presence. These initiatives would likely require a
significant investment over time by the Company. The Company believes that the
PRC national regulatory agency responsible for direct selling periodically
reviews the regulation of multi-level marketing. Management is aware of recent
media and other reports in the PRC reporting an increasing desire on the part of
senior government officers to curtail or even abolish direct selling and
multi-level marketing activities. These views may lead to changes in applicable
regulations. The Company believes that PRC regulators are currently not issuing
direct selling or multi-level marketing licenses and may take action restricting
or rescinding currently licensed direct selling businesses. The Company is
actively working on these and other issues including joint ventures and
potential marketing alternatives related to possible Nu Skin operations in the
PRC. It is not known when or whether the Company will be able to implement in
the PRC business models consistent with those used by the Company in other
markets. The Company will likely have to apply for licenses on a province by
province basis, and the repatriation of the Company's profits will be subject to
restrictions on currency conversion and the fluctuations of the government
controlled exchange rate. In addition, because distribution systems in the PRC
are greatly fragmented, the Company may be forced to use business models
significantly different from those used by the Company in more developed
countries. The lack of a comprehensive legal system, the uncertainties of
enforcement of existing legislation and laws, and potential revisions of
existing laws could have an adverse effect on the Company's proposed business in
the PRC. See "Risk Factors--Entering New Markets."
The other potential new markets also present significant regulatory,
political and economic obstacles to the Company. In Singapore, for example,
network marketing is currently illegal and is not permitted under any
circumstances. Although the Company believes that this restriction will
eventually be relaxed or repealed, no assurance can be given that such
regulation will not remain in place and that the Company will not be permanently
prevented from initiating sales in
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Singapore. In addition, Malaysia has governmental guidelines that have the
effect of limiting foreign ownership of direct selling companies operating in
Malaysia to no more than 30%. There can be no assurance that the Company will be
able to properly structure Malaysian operations to comply with this policy. In
October of 1995, the Company's business permit applications were denied by the
Malaysian government as a result of activities by certain NSI distributors.
Therefore, the Company believes that although significant opportunities exist to
expand its operations into new markets, there can be no assurance that these or
other difficulties will not prevent the Company from realizing the benefits of
this opportunity.
Other Regulatory Issues. As a U.S. entity operating through subsidiaries
in foreign jurisdictions, the Company is subject to foreign exchange control and
transfer pricing laws that regulate the flow of funds between the Subsidiaries
and the Company as well as the flow of funds to NSI for product purchases,
management services, and contractual obligations such as the payment of
distributor commissions. In South Korea, in particular, the Company has come
under the scrutiny of regulators because of the manner in which the Company and
Nu Skin Korea implement the Global Compensation Plan. Pursuant to the Global
Compensation Plan, Nu Skin Korea currently pays commissions to distributors in
South Korea on both their local and foreign product sales. Similarly,
commissions on product sales in South Korea by other distributors are paid by
their local NSI affiliate. The Company believes that it operates in compliance
with all applicable foreign exchange control and transfer pricing laws. However,
there can be no assurance that the Company will continue to be found to be
operating in compliance with foreign exchange control and transfer pricing laws,
or that such laws will not be modified, which, as a result, may require changes
in the Company's operating procedures.
As is the case with most companies which operate in the Company's product
segment, NSI and the Company have from time to time received inquiries from
various government regulatory authorities regarding the nature of their
businesses and other issues such as compliance with local direct selling,
customs, taxation, foreign exchange control, securities and other laws. Although
to date none of these inquiries has resulted in a finding materially adverse to
the Company or NSI, adverse publicity resulting from inquiries into NSI's
operations by certain government agencies in the early 1990's, stemming in part
out of inappropriate product and earnings claims by distributors, materially
adversely affected NSI's business and results of operations. There can be no
assurance that the Company or NSI will not face similar inquiries in the future,
which, either as a result of findings adverse to the Company or NSI or as a
result of adverse publicity resulting from the instigation of such inquiries,
could have a material adverse effect on the Company's business and results of
operations. See "Risk Factors--Potential Effects of Adverse Publicity."
The Subsidiaries are periodically subject to reviews and audits by various
governmental agencies, particularly in new markets, where the Company has
experienced high rates of growth. In early 1997, the South Korean Ministry of
Trade, Industry and Energy commenced an examination of the largest foreign and
domestic owned network marketing companies in South Korea, including Nu Skin
Korea. The purposes of the examination were stated to be to monitor how
companies are operating and to audit current business practices. In addition, Nu
Skin Korea has been subject to an audit by the South Korean Customs Service.
Management believes that this audit was precipitated largely as a result of Nu
Skin Korea's rapid growth and its position as the largest importer of cosmetics
and personal care products in South Korea as well as by recent South Korean
trade imbalances. The Customs Service has reviewed a broad range of issues
relating to the operations of Nu Skin Korea, with a focus on reviewing customs
valuation issues and intercompany payments.
The Customs Service resolved certain issues related to its audit without
imposing sanctions. The intercompany payment issue was referred to various other
government agencies, which have also recently concluded their reviews and found
no wrong-doing and imposed no fines, sanctions or other restrictions. The import
valuation issues, which management considers to be routine in light of the
Company's extensive import and export activities, were referred to the valuation
division of the Customs Service. See "Risk Factors--Potential Negative Impact of
Distributor Actions." Management believes that other major importers of cosmetic
products and foreign-owned direct selling companies have also been the focus of
regulatory reviews by South Korean authorities.
Businesses which are more than 50% owned by non-citizens are not permitted
to operate in Thailand unless they have an Alien Business Permit, which is
frequently difficult to obtain. The Company is currently operating under the
Treaty of Amity and Economic Relations between Thailand and the United States
(the "Treaty of Amity"). Under the Treaty of Amity,
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an Alien Business Permit is not required if a Thailand business is owned by an
entity organized in the United States, a majority of whose owners are U.S.
citizens or entities. From time to time, it has been reported that certain
Thailand government officials have considered supporting the termination of the
Treaty of Amity. The Company could face particular difficulties in continuing
operations in Thailand if the Treaty of Amity were terminated and the Company
were forced to obtain an Alien Business Permit.
Based on the Company's and NSI's experience and research (including
assistance from counsel) and the nature and scope of inquiries from government
regulatory authorities, the Company and NSI believe that they are in material
compliance with all regulations applicable to them. Despite this belief, either
the Company or NSI could be found not to be in material compliance with existing
regulations as a result of, among other things, the considerable interpretative
and enforcement discretion given to regulators or misconduct by independent
distributors. In 1994, NSI and three of its distributors entered into a consent
decree with the Federal Trade Commission (the "FTC") with respect to its
investigation of certain product claims and distributor practices, pursuant to
which NSI paid approximately $1 million to settle the FTC investigation. In
August 1997, NSI reached a settlement with the FTC with respect to certain
product claims and its compliance with the 1994 consent decree, pursuant to
which settlement NSI paid $1.5 million to the FTC. During 1997, NSI also
voluntarily agreed to recall and rewrite virtually all of its sales and
marketing materials to address FTC concerns. In February 1998, the State of
Pennsylvania filed a lawsuit against NSI and one of its affiliates Big Planet,
Inc. ("Big Planet"), alleging violations of Pennsylvania law. In early March
1998, NSI and Big Planet agreed to suspend for 30 days all sales and recruitment
efforts related to Big Planet's potential electricity marketing program. Big
Planet also volunteered certain other restrictions on its business. NSI's
primary business of distributing personal care and nutritional products was
unaffected by the lawsuit. These events were reported in certain media.
Any assertion or determination that either the Company, NSI or any NSI
distributors are not in compliance with existing laws or regulations could have
a material adverse effect on the Company's business and results of operations.
In addition, in any country or jurisdiction, the adoption of new laws or
regulations or changes in the interpretation of existing laws or regulations
could generate negative publicity and/or have a material adverse effect on the
Company's business and results of operations. The Company cannot determine the
effect, if any, that future governmental regulations or administrative orders
may have on the Company's business and results of operations. Moreover,
governmental regulations in countries where the Company plans to commence or
expand operations may prevent, delay or limit market entry of certain products
or require the reformulation of such products. Regulatory action, whether or not
it results in a final determination adverse to the Company or NSI, has the
potential to create negative publicity, with detrimental effects on the
motivation and recruitment of distributors and, consequently, on the Company's
sales and earnings. See "Risk Factors--Potential Effects of Adverse Publicity"
and "--Entering New Markets."
Employees
As of December 31, 1997, the Company had approximately 1,000 full-time and
part-time employees. None of the employees is represented by a union or other
collective bargaining group. The Company believes its relationship with its
employees is good, and does not currently foresee a shortage in qualified
personnel needed to operate the business. Each Subsidiary is directed by an
experienced manager.
Risk Factors
There are certain significant risks facing the Company, many of which are
substantial in nature. Stockholders and prospective stockholders in the Company
should consider carefully the following risks and information in conjunction
with the other information contained herein. The risk factors set forth below
relate to the Company's business prior to the contemplated NSI Acquisition.
Certain of these factors may be impacted by the proposed NSI Acquisition;
however, no assurance can be given that the NSI Acquisition will be consummated.
See "Recent Developments."
Reliance Upon Independent Distributors of NSI. The Company distributes its
products exclusively through independent distributors who have contracted
directly with NSI to become distributors. Consequently, the Company does
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not contract directly with distributors but licenses its distribution system and
distributor force from NSI. Distributor agreements with NSI are voluntarily
terminable by distributors at any time. The Company's revenue is directly
dependent upon the efforts of these independent distributors, and any growth in
future sales volume will require an increase in the productivity of these
distributors and/or growth in the total number of distributors. As is typical in
the direct selling industry, there is turnover in distributors from year to
year, which requires the sponsoring and training of new distributors by existing
distributors to maintain or increase the overall distributor force and motivate
new and existing distributors. The Company experiences seasonal decreases in
distributor sponsoring and product sales in some of the countries in which the
Company operates because of local holidays and customary vacation periods. The
size of the distribution force can also be particularly impacted by general
economic and business conditions and a number of intangible factors such as
adverse publicity regarding the Company or NSI, or the public's perception of
the Company's products, product ingredients, NSI's distributors or direct
selling businesses in general. Historically, the Company has experienced
periodic fluctuations in the level of distributor sponsorship (as measured by
distributor applications). However, because of the number of factors that impact
the sponsoring of new distributors, and the fact that the Company has little
control over the level of sponsorship of new distributors, the Company cannot
predict the timing or degree of those fluctuations. There can be no assurance
that the number or productivity of the Company's distributors will be sustained
at current levels or increased in the future. In addition, the number of
distributors as a percentage of the population in a given country or market
could theoretically reach levels that become difficult to exceed due to the
finite number of persons inclined to pursue a direct selling business
opportunity. This is of particular concern in Taiwan, where industry sources
have estimated that up to 10% of the population is already involved in some form
of direct selling.
Since distributor agreements are entered into between NSI and
distributors, all of the distributors who generate revenue for the Company are
distributors of NSI. See "--Relationship with and Reliance on NSI; Potential
Conflicts of Interest." Because distributors are independent contractors of NSI,
neither NSI nor the Company is in a position to provide the same level of
direction, motivation and oversight as either would with respect to its own
employees. The Company relies on NSI to enforce distributors policies and
procedures. Although NSI has a compliance department responsible for the
enforcement of the policies and procedures that govern distributor conduct, it
can be difficult to enforce these policies and procedures because of the large
number of distributors and their independent status, as well as the impact of
regulations in certain countries that limit the ability of NSI and the Company
to monitor and control the sales practices of distributors.
Currency Risks. The Company's foreign-derived sales and selling, general
and administrative expenses are converted to U.S. dollars for reporting
purposes. Consequently, the Company's reported earnings are significantly
impacted by changes in currency exchange rates, generally increasing with a
weakening dollar and decreasing with a strengthening dollar. In addition, the
Company purchases inventory from NSI in U.S. dollars and assumes currency
exchange rate risk with respect to such purchases. Local currency in Japan,
Taiwan, Hong Kong, South Korea, Thailand and the Philippines is generally used
to settle non-inventory transactions with NSI. Given the uncertainty of the
extent of exchange rate fluctuations, the Company cannot estimate the effect of
these fluctuations on its future business, product pricing, results of
operations or financial condition. However, because nearly all of the Company's
revenue is realized in local currencies and the majority of its cost of sales is
denominated in U.S. dollars, the Company's gross profits will be positively
affected by a weakening in the U.S. dollar and will be negatively affected by a
strengthening in the U.S. dollar.
The Company believes that a variety of complex factors impact the value of
local currencies relative to the U.S. dollar including, without limitation,
interest rates, monetary policies, political environments, and relative economic
strengths. The Company has been subject to exceptionally high volatility in
currency exchange rates in certain markets during 1997. In order to partially
offset the anticipated effect of these currency fluctuations, the Company
implemented a price increase on certain of its products of between 5% and 9% on
average in 1997. There can be no assurance that future currency fluctuations
will not result in similar concerns or adversely affect the performance of the
price of the Class A Common Stock. Although the Company tries to reduce its
exposure to fluctuations in foreign exchange rates by using hedging
transactions, such transactions may not entirely offset the impact of currency
fluctuations. Accordingly, in the face of a strengthening of the U.S. dollar,
the Company's earnings will be adversely affected. The Company does not use
hedging transactions for trading or speculative purposes. See "Management's
Discussion and Analysis of Financial
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Condition and Results of Operations," incorporated herein by reference to the
Company's 1997 Annual Report, sections of which are filed herewith as Exhibit
13--Currency Fluctuation and Exchange Rate Information."
Risks Related to the Proposed NSI Acquisition. The Company believes that
the proposed NSI Acquisition will offer opportunities for long-term efficiencies
in operations that should positively affect future results of the combined
operations of the Company and the Acquired Entities. However, no assurances can
be given whether or when such efficiencies will be realized. In addition, the
combined companies will be more complex and diverse than the Company
individually, and the combination and continued operation of their distinct
business operations will present difficult challenges for the Company's
management due to the increased time and resources required in the management
effort. While management and the Board of Directors of the Company believe that
the combination can be effected in a manner which will increase the value of the
Company and the Acquired Entities, no assurance can given that such realization
of value will be achieved. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations," incorporated herein by reference
to the Company's 1997 Annual Report, sections of which are filed herewith as
Exhibit 13.
Although the parties to the NSI Acquisition have entered into definitive
agreements, the closing of the NSI Acquisition is subject to the timely
satisfaction of certain conditions contained in the Acquisition Agreement.
Although the Company currently expects that such closing conditions will be
satisfied or waived, there can be no assurance that the closing of the NSI
Acquisition will occur. Such conditions include, among others, the receipt of an
opinion from the Company's independent public accountants with respect to
certain tax matters of the NSI Acquisition, the receipt of all necessary
consents and approvals from governmental officials and other third parties and
the absence of any material adverse change in the business or operations of the
Acquired Entities.
Potential Effects of Adverse Publicity. The size of the distribution force
and the results of the Company's operations can be particularly impacted by
adverse publicity regarding the Company or NSI, or their competitors, including
publicity regarding the legality of network marketing, the quality of the
Company's products and product ingredients or those of its competitors,
regulatory investigations of the Company or the Company's competitors and their
products, distributor actions and the public's perception of NSI's distributors
and direct selling businesses generally.
In 1991 and 1992, NSI was the subject of investigations by various
regulatory agencies of eight states. All of the investigations were concluded
satisfactorily. However, the publicity associated with the investigations
resulted in a material adverse impact on NSI's results of operations. The denial
by the Malaysian government in 1995 of the Company's business permit
applications due to distributor actions resulted in adverse publicity for the
Company. See"--Potential Negative Impact of Distributor Actions." In South
Korea, publicity generated by a coalition of consumer groups targeted at a
competitor of the Company negatively impacted the Company's operations in 1997.
In addition, the South Korean government and certain consumer and trade
organizations have expressed concerns which have attracted media attention
regarding South Korean consumption of luxury and foreign products, in general.
The Company believes that the adverse publicity resulting from these claims and
media campaigns has adversely affected and may continue to adversely affect the
direct selling industry and the Company's South Korean operations. See
"--Seasonality and Cyclicality; Variations in Operating Results." The State of
Pennsylvania recently filed an action against NSI for alleged violations of
Pennsylvania law relating to activities of Nu Skin distributors promoting a
business called Big Planet. The filing of the action precipitated certain
negative media coverage just may have an impact on the operations of the Company
and its affiliates. There can be no assurance that the Company will not be
subject to adverse publicity in the future as a result of regulatory
investigations or actions, whether of the Company or its competitors,
distributor actions, actions of competitors or other factors, or that such
adverse publicity will not have a material adverse effect on the Company's
business or results of operations. See "--Government Regulation of Direct
Selling Activities," "--Government Regulation of Products and Marketing; Import
Restrictions," "--Other Regulatory Issues" and "--Entering New Markets."
Potential Negative Impact of Distributor Actions. Distributor actions can
negatively impact the Company and its products. From time to time, the Company
receives inquiries from regulatory agencies precipitated by distributor actions.
For example, in October 1995, the Company's business permit applications were
denied by the Malaysian government as the result of activities by certain NSI
distributors before required government approvals could be secured. NSI
subsequently
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terminated the distributorship rights of some of the distributors involved and
elected to withdraw from the Malaysian market for a period of time. The denial
by the Malaysian government of the Company's business permit applications
resulted in adverse publicity for the Company. See "--Other Regulatory Issues."
Distributor activities in other countries in which the Company has not commenced
operations may similarly result in an inability to secure, or delay in securing
required regulatory and business permits. See "Business--New Market
Opportunities." In addition, the publicity which can result from a variety of
potential distributor activities such as inappropriate earnings claims, product
representations or improper importation of Nu Skin products from other markets,
can make the sponsoring and retaining of distributors more difficult, thereby
negatively impacting sales. See "--Potential Effects of Adverse Publicity."
Furthermore, the Company's business and results of operations could be adversely
affected if NSI terminates a significant number of distributors or certain
distributors who play a key role in the Company's distribution system. There can
be no assurance that these or other distributor actions will not have a material
adverse effect on the Company's business or results of operations. The recent
action filed by the State of Pennsylvania against the Company resulted from
improper distributor actions. See "--Potential Effects of Adverse Publicity."
Seasonality and Cyclicality; Variations in Operating Results. While
neither seasonal nor cyclical variations have materially affected the Company's
results of operations to date, the Company believes that its rapid growth may
have overshadowed these factors. Accordingly, there can be no assurance that
seasonal or cyclical variations will not materially adversely affect the
Company's results of operations in the future.
The direct selling industry in Asia is impacted by certain seasonal trends
such as major cultural events and vacation patterns. For example, sales are
generally affected by local New Year celebrations in Japan, Taiwan, Hong Kong,
South Korea and Thailand, which occur in the Company's first quarter. Management
believes that direct selling in Japan is also generally negatively impacted
during August, when many individuals traditionally take vacations.
Generally, the Company has experienced rapid revenue growth in each new
market from the commencement of operations. In Japan, Taiwan and Hong Kong, the
initial rapid revenue growth was followed by a short period of stable or
declining revenue followed by renewed growth fueled by new product
introductions, an increase in the number of active distributors and increased
distributor productivity. The Company's operations in South Korea experienced a
significant decline in 1997 which was due in part to a business cycle common to
new markets opened by the Company but which was due primarily to general
economic turmoil and adverse business conditions. See "--Potential Effects of
Adverse Publicity." An additional factor which the Company believes has
contributed to revenue decline in South Korea is the focus of key distributors
on other recently-opened markets, including Thailand.
In addition, the Company may experience variations in its results of
operations, on a quarterly basis as new products are introduced and new markets
are opened. There can be no assurance that current revenue and productivity
trends will be maintained in any of these markets or that future results of
operations will follow historical performance.
Government Regulation of Direct Selling Activities. Direct selling
activities are regulated by various governmental agencies. These laws and
regulations are generally intended to prevent fraudulent or deceptive schemes,
often referred to as "pyramid" or "chain sales" schemes, that promise quick
rewards for little or no effort, require high entry costs, use high pressure
recruiting methods and/or do not involve legitimate products. In Japan, the
Company's distribution system is regulated under the "Door-to-Door" Sales Law,
which requires the submission of specific information concerning the Company's
business and products and which provides certain cancellation and cooling-off
rights for consumers and new distributors. Management has been advised by
counsel that in some respects Japanese laws are becoming more restrictive with
respect to direct selling in Japan. In Taiwan, the Fair Trade Law (and the
Enforcement Rules and Supervisory Regulations of Multi-Level Sales) requires the
Company to comply with registration procedures and also provides distributors
with certain rights regarding cooling-off periods and product returns. The
Company also complies with South Korea's strict Door-to-Door Sales Act, which
requires, among other things, the regular reporting of revenue, the registration
of distributors together with the issuance of a registration card, and the
maintaining of a current distributor registry. This law also limits the amount
of commissions that a registered multi-level marketing company can
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pay to its distributors to 35% of revenue in a given month. In Thailand and the
Philippines, general fair trade laws impact direct selling and multi-level
marketing activities.
Based on research conducted in opening its existing markets (including
assistance from local counsel), the nature and scope of inquiries from
government regulatory authorities and the Company's history of operations in
such markets to date, the Company believes that its method of distribution is in
compliance in all material respects with the laws and regulations relating to
direct selling activities of all of the countries in which the Company currently
operates. Many countries, however, including Singapore, one of the Company's
potential markets, currently have laws in place that would prohibit the Company
and NSI from conducting business in such markets. There can be no assurance that
the Company will be allowed to conduct business in each of the new markets or
continue to conduct business in each of its existing markets licensed from NSI.
See "--Entering New Markets."
Government Regulation of Products and Marketing; Import Restrictions. The
Company and NSI are subject to or affected by extensive governmental regulations
not specifically addressed to network marketing. Such regulations govern, among
other things, (i) product formulation, labeling, packaging and importation, (ii)
product claims and advertising, whether made by the Company, NSI or NSI
distributors, (iii) fair trade and distributor practices, (iv) taxes, transfer
pricing and similar regulations that affect foreign taxable income and customs
duties, and (v) regulations governing foreign companies generally.
With the exception of a small percentage of revenues in Japan, virtually
all of the Company's sales historically have been derived from products
purchased from NSI. All of those products historically have been imported into
the countries in which they were ultimately sold. The countries in which the
Company currently conducts business impose various legal restrictions on
imports. In Japan, the Japanese Ministry of Health and Welfare ("MOHW") requires
the Company to possess an import business license and to register each personal
care product imported into the country. Packaging and labeling requirements are
also specified. The Company has had to reformulate many products to satisfy MOHW
regulations. In Japan, nutritional foods, drugs and quasi-drugs are all strictly
regulated. The chief concern involves the types of claims and representations
that can be made regarding the efficacy of nutritional products. In Taiwan, all
"medicated" cosmetic and pharmaceutical products require registration. In Hong
Kong and Macau, "pharmaceutical" products are strictly regulated. In South
Korea, the Company is subject to and has obtained the mandatory certificate of
confirmation as a qualified importer of cosmetics under the Pharmaceutical
Affairs Law as well as additional product approvals for each of the 45
categories of cosmetic products which it imports. Each new cosmetic product
undergoes a 60-day post-customs inspection during which, in addition to
compliance with ingredient requirements, each product is inspected for
compliance with South Korean labeling requirements. In Thailand, personal care
products are regulated by the Food and Drug Association and the Ministry of
Public Health and all of the Nu Skin personal care products introduced in this
market have qualified for simplified approval procedures under Thai law. In the
Philippines, Nu Skin products are regulated by the Bureau of Food and Drug and
all products introduced in this market have been registered. There can be no
assurance that these or other applicable regulations will not prevent the
Company from introducing new products into its markets or require the
reformulation of existing products.
The Company has not experienced any difficulty maintaining its import
licenses but has experienced complications regarding health and safety and food
and drug regulations for nutritional products. Many products require
reformulation to comply with local requirements. In addition, new regulations
could be adopted or any of the existing regulations could be changed at any time
in a manner that could have a material adverse effect on the Company's business
and results of operations. Duties on imports are a component of national trade
and economic policy and could be changed in a manner that would be materially
adverse to the Company's sales and its competitive position compared to
locally-produced goods, in particular in countries such as Taiwan, where the
Company's products are already subject to high customs duties. In addition,
import restrictions in certain countries and jurisdictions limit the Company's
ability to import products from NSI. In some jurisdictions, such as the PRC,
regulators may prevent the importation of Nu Skin and IDN products altogether.
Present or future health and safety or food and drug regulations could delay or
prevent the introduction of new products into a given country or marketplace or
suspend or prohibit the sale of existing products in such country or
marketplace.
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Other Regulatory Issues. As a U.S. entity operating through subsidiaries
in foreign jurisdictions, the Company is subject to foreign exchange control and
transfer pricing laws that regulate the flow of funds between the Subsidiaries
and the Company, as well as the flow of funds to NSI for product purchases,
management services and contractual obligations such as payment of distributor
commissions. The Company believes that it operates in compliance with all
applicable customs, foreign exchange control and transfer pricing laws. However,
there can be no assurance that the Company will continue to be found to be
operating in compliance with foreign customs, exchange control and transfer
pricing laws, or that such laws will not be modified, which, as a result, may
require changes in the Company's operating procedures.
As is the case with most network marketing companies, NSI and the Company
have from time to time received inquiries from various government regulatory
authorities regarding the nature of their business and other issues such as
compliance with local business opportunity and securities laws. Although to date
none of these inquiries has resulted in a finding materially adverse to the
Company or NSI, adverse publicity resulting from inquiries into NSI operations
by certain government agencies in the early 1990's, stemming in part out of
inappropriate product and earnings claims by distributors, materially adversely
affected NSI's business and results of operations. There can be no assurance
that the Company or NSI will not face similar inquiries in the future which,
either as a result of findings adverse to the Company or NSI or as a result of
adverse publicity resulting from the instigation of such inquiries, could have a
material adverse effect on the Company's business and results of operations. See
"--Potential Effects of Adverse Publicity."
The Subsidiaries are periodically subject to reviews and audits by various
governmental agencies, particularly in new markets, where the Company has
experienced high rates of growth. Recently, the South Korean Ministry of Trade,
Industry and Energy commenced an examination of the largest foreign and domestic
owned network marketing companies in South Korea, including Nu Skin Korea. The
purposes of the examination were stated to be to monitor how companies are
operating and to audit current business practices. In addition, Nu Skin Korea
has been subject to an audit by the South Korean Customs Service. Management
believes that this audit was precipitated largely as a result of Nu Skin Korea's
rapid growth and its position as the largest importer of cosmetics and personal
care products in South Korea as well as by recent South Korean trade imbalances.
The Customs Service reviewed a broad range of issues relating to the operations
of Nu Skin Korea, with a focus on reviewing customs valuation issues and
intercompany payments. Recently, the Customs Service has resolved certain issues
related to its audit without imposing sanctions. The intercompany payment issue
was referred to various other government agencies which have also recently
concluded their reviews and found no wrong-doing and imposed no fines, sanctions
or other restrictions. The import valuation issues, which management considers
to be routine in light of the Company's extensive import and export activities,
were referred to the valuation division of the Customs Service. The Company
continues to believe that its actions have been in compliance in all material
respects with relevant regulations. See "--Potential Negative Impact of
Distributor Actions." Management believes that other major importers of cosmetic
products are also the focus of regulatory reviews by South Korean authorities.
Businesses which are more than 50% owned by non-citizens are not permitted
to operate in Thailand unless they have an Alien Business Permit, which is
frequently difficult to obtain. The Company is currently operating under the
Treaty of Amity and Economic Relations between Thailand and the United States
(the "Treaty of Amity"). Under the Treaty of Amity, an Alien Business Permit is
not required if a Thailand business is owned by an entity organized in the
United States, a majority of whose owners are U.S. citizens or entities. From
time to time, it has been reported that certain Thailand government officials
have considered supporting the termination of the Treaty of Amity. There can be
no assurance that, if the Treaty of Amity were terminated, the Company would be
able to obtain an Alien Business Permit and continue operations in Thailand.
Based on the Company's and NSI's experience and research (including
assistance from counsel) and the nature and scope of inquiries from government
regulatory authorities, the Company believes that it is in material compliance
with all regulations applicable to the Company. Despite this belief, either the
Company or NSI could be found not to be in material compliance with existing
regulations as a result of, among other things, the considerable interpretative
and enforcement discretion given to regulators or misconduct by independent
distributors. In 1994, NSI and three of its distributors entered into a consent
decree with the United States Federal Trade Commission (the "FTC") with respect
to its investigation of certain product claims and distributor practices,
pursuant to which NSI paid approximately $1 million to settle the FTC
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investigation. In August 1997, NSI reached a settlement with the FTC with
respect to certain product claims and its compliance with the 1994 consent
decree pursuant to which settlement NSI paid $1.5 million to the FTC. In
connection with the August 1997 settlement, NSI also voluntarily agreed to
recall and rewrite virtually all of its sales and marketing materials to address
FTC concerns. In February 1998, the State of Pennsylvania filed a lawsuit
against NSI and one of its affiliates Big Planet, Inc., alleging violations of
Pennsylvania law. In early March 1998, NSI and Big Planet agreed to suspend for
30 days all sales and recruitment efforts related to Big Planet's potential
electricity marketing program. Big Planet also volunteered certain other
restrictions on its business. NSI's primary business of distributing personal
care and nutritional products was unaffected by the lawsuit. These events were
reported in certain media.
Even though neither the Company nor the Subsidiaries has encountered
similar regulatory concerns, there can be no assurances that the Company and the
Subsidiaries will not be subject to similar inquiries and regulatory
investigations or disputes and the effects of any adverse publicity resulting
therefrom. Any assertion or determination that either the Company, NSI or any
NSI distributors are not in compliance with existing laws or regulations could
potentially have a material adverse effect on the Company's business and results
of operations. In addition, in any country or jurisdiction, the adoption of new
laws or regulations or changes in the interpretation of existing laws or
regulations could generate negative publicity and/or have a material adverse
effect on the Company's business and results of operations. The Company cannot
determine the effect, if any, that future governmental regulations or
administrative orders may have on the Company's business and results of
operations. Moreover, governmental regulations in countries where the Company
plans to commence or expand operations may prevent, delay or limit market entry
of certain products or require the reformulation of such products. Regulatory
action, whether or not it results in a final determination adverse to the
Company or NSI, has the potential to create negative publicity, with detrimental
effects on the motivation and recruitment of distributors and, consequently, on
the Company's sales and earnings. See "--Potential Effects of Adverse
Publicity," "--Entering New Markets" and "Business--Government
Regulation--Regulation of Products and Marketing."
Reliance on Certain Distributors; Potential Divergence of Interests
between Distributors and the Company. The Global Compensation Plan allows
distributors to sponsor new distributors. The sponsoring of new distributors
creates multiple distributor levels in the network marketing structure.
Sponsored distributors are referred to as "downline" distributors within the
sponsoring distributor's "downline network." If downline distributors also
sponsor new distributors, additional levels of downline distributors are
created, with the new downline distributors also becoming part of the original
sponsor's "downline network." As a result of this network marketing distribution
system, distributors develop relationships with other distributors, both within
their own countries and internationally. The Company believes that its revenue
is generated from thousands of distributor networks. However, the Company
estimates that, as of December 31, 1997, approximately 300 distributorships
worldwide comprised NSI's two highest executive distributor levels (Hawaiian
Blue Diamond and Blue Diamond distributors). These distributorships have
developed extensive downline networks which consist of thousands of
sub-networks. Together with such networks, these distributorships account for
substantially all of the Company's revenue. Consequently, the loss of such a
high-level distributor or another key distributor together with a group of
leading distributors in such distributor's downline network, or the loss of a
significant number of distributors for any reason, could adversely affect sales
of the Company's products, impair the Company's ability to attract new
distributors and adversely impact earnings.
Under the Global Compensation Plan, a distributor receives commissions
based on products sold by the distributor and by participants in the
distributor's worldwide downline network, regardless of the country in which
such participants are located. The Company, on the other hand, receives revenues
based almost exclusively on sales of products to distributors within the
Company's markets. So, for example, if a distributor located in Japan sponsors a
distributor in Europe, the Japanese distributor could receive commissions based
on the sales made by the European distributor, but the Company would not receive
any revenue since the products would have been sold outside of the Company's
markets. The interests of the Company and distributors therefore diverge
somewhat in that the Company's primary objective is to maximize the amount of
products sold within the Company's markets, while the distributors' objective is
to maximize the amount of products sold by the participants in the distributors'
worldwide downline networks. The Company and NSI have observed that the
commencement of operations in a new country tends to distract the attention of
distributors from the established markets for a period of time while key
distributors begin to build their downline networks within the new country. NSI
is
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currently contemplating opening operations in additional countries outside of
the Company's markets. To the extent distributors focus their energies on
establishing downline networks in these new countries, and decrease their focus
on building organizations within the Company's markets, the Company's business
and results of operations could be adversely affected. Furthermore, the Company
itself is currently contemplating opening new markets. In the event distributors
focus on these new markets, sales in existing markets might be adversely
affected. There can be no assurance that these new markets will develop or that
any increase in sales in new markets will not be more than offset by a decrease
in sales in the Company's existing markets.
Entering New Markets. As part of its growth strategy, the Company has
acquired from NSI the right to act as NSI's exclusive distribution vehicle in
Indonesia, Malaysia, the PRC, Singapore and Vietnam. The Company has undertaken
reviews of the laws and regulations to which its operations would be subject in
Indonesia, Malaysia, the PRC, Singapore and Vietnam. Given existing regulatory
environments and economic conditions, the Company's entrance into Singapore and
Vietnam is not anticipated in the short to mid-term. The regulatory and
political climate in the other countries for which the Company has the right to
act as NSI's exclusive distributor is such that a replication of the Company's
current operating structure cannot be guaranteed. Because the Company's personal
care and nutritional product lines are positioned as premium product lines, the
market potential for the Company's product lines in relatively less developed
countries, such as the PRC and Vietnam, remains to be determined. Modifications
to each product line may be needed to accommodate the market conditions in each
country, while maintaining the integrity of the Company's products. No assurance
can be given that the Company will be able to obtain necessary regulatory
approvals to commence operations in these new markets, or that, once such
approvals are obtained, the Company and NSI, upon which the Company is largely
dependent for product development assistance, will be able to successfully
reformulate Nu Skin personal care and IDN product lines in any of the Company's
new markets to attract local consumers.
Each of the proposed new markets will present additional unique
difficulties and challenges. The PRC, for example, has proven to be a
particularly difficult market for foreign corporations due to its extensive
government regulation and historical political tenets, and no assurance can be
given that the Company will be able to establish Nu Skin operations in the PRC
using the Company's business model or otherwise. The Company believes that
entering the PRC may require the successful establishment of a joint venture
enterprise with a Chinese partner and the establishment of a local manufacturing
presence. These initiatives would likely require a significant investment over
time by the Company. The Company believes that the PRC national regulatory
agency responsible for direct selling periodically reviews the regulation of
multi-level marketing. Management is aware of recent media and other reports in
the PRC reporting an increasing desire on the part of senior government officers
to curtail or even abolish direct selling and multi-level marketing activities.
These views may lead to changes in applicable regulations. The Company believes
that PRC regulators are currently not issuing direct selling or multi-level
marketing licenses and may take action restricting or rescinding currently
licensed direct selling businesses. The Company is actively working on these and
other issues including joint ventures and potential marketing alternatives
related to possible Nu Skin operations in the PRC. It is not known when or
whether the Company will be able to implement in the PRC business models
consistent with those used by the Company in other markets. The Company will
likely have to apply for licenses on a province by province basis, and the
repatriation of the Company's profits will be subject to restrictions on
currency conversion and the fluctuations of the government controlled exchange
rate. In addition, because distribution systems in the PRC are greatly
fragmented, the Company may be forced to use business models significantly
different from those used by the Company in more developed countries. The lack
of a comprehensive legal system, the uncertainties of enforcement of existing
legislation and laws, and potential revisions of existing laws could have an
adverse effect on the Company's proposed business in the PRC.
The other potential new markets also present significant regulatory,
political and economic obstacles to the Company. In Singapore, for example,
network marketing is currently illegal and is not permitted under any
circumstances. Although the Company believes that this restriction will
eventually be relaxed or repealed, no assurance can be given that such
regulation will not remain in place and that the Company will not be permanently
prevented from initiating sales in Singapore. In addition, Malaysia has
governmental guidelines that have the effect of limiting foreign ownership of
direct selling companies operating in Malaysia to no more than 30%. There can be
no assurance that the Company will be able to properly structure Malaysian
operations to comply with this policy. In October of 1995, the Company's
business permit applications were denied by the Malaysian government as a result
of activities by certain NSI distributors. Therefore,
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the Company believes that although significant opportunities exist to expand its
operations into new markets, there can be no assurance that these or other
difficulties will not prevent the Company from realizing the benefits of this
opportunity.
Managing Growth. The Company has experienced rapid growth since operations
in Hong Kong commenced in 1991. The management challenges imposed by this growth
include entry into new markets, growth in the number of employees and
distributors, expansion of facilities necessary to accommodate growth and
additions and modifications to the Company's product lines. To manage these
changes effectively, the Company may be required to hire additional management
and operations personnel and to improve its operational, financial and
management systems.
Possible Adverse Effect on the Company of the Change in the Status of Hong
Kong. The Company has offices and a portion of its operations in Hong Kong.
Effective July 1, 1997, the exercise of sovereignty over Hong Kong was
transferred from the Government of the United Kingdom of Great Britain and
Northern Ireland (the "United Kingdom"), to the government of the PRC pursuant
to the Sino-British Joint Declaration on the Question of Hong Kong (the "Joint
Declaration"), and Hong Kong became a Special Administrative Region (SAR) of the
PRC. The Joint Declaration provided for Hong Kong to be under the authority of
the government of the PRC but Hong Kong will enjoy a high degree of autonomy
except in foreign and defense affairs, and that Hong Kong be vested with
executive, legislative and independent judicial power. The Joint Declaration
also provides that the current social and economic systems in Hong Kong will
remain unchanged for 50 years after June 30, 1997 and that Hong Kong will retain
the status of an international financial center. Although sales in Hong Kong
accounted for less than 5% of the Company's revenues for the year ended December
31, 1997, Hong Kong serves as the location for the Company's regional offices
and an important base of operations for many of the Company's most successful
distributors whose downline distributor networks extend into other Asian
markets. Any adverse effect on the social, political or economic systems in Hong
Kong resulting from this transfer could have a material adverse effect on the
Company's business and results of operations. Although the Company does not
anticipate any material adverse change in the business environment in Hong Kong
resulting from the 1997 transfer of sovereignty, the Company has formulated
contingency plans to transfer the Company's regional office to another
jurisdiction in the event that the Hong Kong business environment is so
affected.
Relationship with and Reliance on NSI; Potential Conflicts of Interest.
NSI has ownership and control of the NSI trademarks, tradenames, the Global
Compensation Plan, distributor lists and related intellectual property and
know-how (collectively, the "Licensed Property"), and licenses to the Company
rights to use the Licensed Property in certain markets. NSI and its affiliates
currently operate in 17 countries, excluding the countries in which the Company
currently operates, and will continue to market and sell Nu Skin personal care
and IDN nutritional products in these countries, as well as in additional
countries outside of the Company's markets, through the network marketing
channel. Thus, the Company cannot use the NSI trademarks to expand into other
markets for which the Company does not currently have a license without first
obtaining additional licenses or other rights from NSI. There can be no
assurance that NSI will make any additional markets available to the Company or
that the terms of any new licenses from NSI will be acceptable to the Company.
See "--Recent Developments."
NSI has licensed to the Company, through the Subsidiaries, rights to
distribute Nu Skin and IDN products and to use the Licensed Property in the
Company's markets, and NSIMG, an affiliate of NSI, will provide management
support services to the Company and the Subsidiaries, pursuant to distribution,
trademark/tradename license, licensing and sales, and management services
agreements (the "Operating Agreements"). The Company relies on NSI for research,
development, testing, labeling and regulatory compliance for products sold to
the Company under the distribution agreements, and virtually all of the
Company's revenues are derived from products and sales aids purchased from NSI
pursuant to these agreements. NSIMG provides the Company with a variety of
management and consulting services, including, but not limited to, management,
legal, financial, marketing and distributor support/training, public relations,
international expansion, human resources, strategic planning, product
development and operations administration services. Each of the Operating
Agreements (other than the distribution, trademark/tradename license and
licensing and sales agreements for Nu Skin Korea, which have shorter terms), is
for a term ending December 31, 2016, and is subject to renegotiation after
December 31, 2001, in the event that the Original Stockholders and their
affiliates, on a combined basis, no longer beneficially own a majority of the
combined voting power of the outstanding shares of Common Stock of the Company
or of the common stock of NSI. The Company is almost completely dependent on the
Operating Agreements to conduct its business, and in the event NSI is unable
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or unwilling to perform its obligations under the Operating Agreements, or
terminates the Operating Agreements as provided therein, the Company's business
and results of operations will be adversely affected. See
"Business--Relationship with NSI" and "Recent Developments."
After consummation of the Offerings and the NSI Acquisition, approximately
98% of the combined voting power of the outstanding shares of Common Stock will
be held by the Original Stockholders and certain of their affiliates.
Consequently, the Original Stockholders and certain of their affiliates will
have the ability, acting in concert, to elect all directors of the Company and
approve any action requiring approval by a majority of the stockholders of the
Company. Certain of the Original Stockholders also own 100% of the outstanding
shares of NSI. As a result of this ownership, and if the NSI Acquisition is not
consummated, the Original Stockholders who are also shareholders of NSI will
consider the short-term and the long-term impact of all stockholder decisions on
the consolidated financial results of NSI and the Company. See "--Control by
Existing Stockholders; Anti-Takeover Effects of Dual Classes of Common Stock."
The Operating Agreements were approved by the Board of Directors of the
Company, which was, except with respect to the approval of the Operating
Agreements with Nu Skin Thailand and Nu Skin Philippines, composed entirely of
individuals who were also officers and shareholders of NSI at the time of
approval. The Operating Agreements with Nu Skin Thailand and Nu Skin Philippines
were approved by a majority of the disinterested directors of the Company. In
addition, some of the executive officers of the Company are also executive
officers of NSI. It is expected that a number of the Company's executive
officers will continue to spend a portion of their time on the affairs of NSI,
for which they will continue to receive compensation from NSI.
In view of the substantial relationships between the Company and NSI,
conflicts of interest may exist or arise with respect to existing and future
business dealings, including, without limitation, the relative commitment of
time and energy by the executive officers to the respective businesses of the
Company and NSI, potential acquisitions of businesses or properties, the
issuance of additional securities, the election of new or additional directors
and the payment of dividends by the Company. There can be no assurance that any
conflicts of interest will be resolved in favor of the Company. Under Delaware
and Utah law, a person who is a director of both the Company and NSI owes
fiduciary duties to both corporations and their respective shareholders. As a
result, persons who are directors of both the Company and NSI are required to
exercise their fiduciary duties in light of what they believe to be best for
each of the companies and its shareholders.
Control by Existing Stockholders; Anti-Takeover Effect of Dual Classes of
Common Stock. Because of the relationship between the Company and NSI,
management elected to structure the capitalization of the Company in such a
manner as to minimize the possibility of a change in control of the Company
without the consent of the Original Stockholders. Consequently, the shares of
Class B Common Stock enjoy ten to one voting privileges over the shares of Class
A Common Stock until the outstanding shares of Class B Common Stock constitute
less than 10% of the total outstanding shares of Common Stock. After
consummation of the Offerings, and the NSI Acquisition, the Original
Stockholders and certain of their affiliates will collectively own 100% of the
outstanding shares of the Class B Common Stock, representing approximately 98%
of the combined voting power of the outstanding shares of Common Stock.
Accordingly, the Original Stockholders and certain of their affiliates, acting
fully or partially in concert, will have the ability to control the election of
the Board of Directors of the Company and thus the direction and future
operations of the Company without the supporting vote of any other stockholder
of the Company, including decisions regarding acquisitions and other business
opportunities, the declaration of dividends and the issuance of additional
shares of Class A Common Stock and other securities. NSI is a privately-held
company, all of the shares of which are owned prior to consummation of the NSI
Acquisition by certain of the Original Stockholders. As long as the shareholders
of NSI prior to consummation of the NSI Acquisition are majority stockholders of
the Company, assuming they act in concert, third parties will not be able to
obtain control of the Company through purchases of shares of Class A Common
Stock.
Adverse Impact on Company Income Due to Distributor Option Program. Prior
to the Underwritten Offerings, the Original Stockholders converted 1,605,000
shares of Class B Common Stock to Class A Common Stock and contributed such
shares of Class A Common Stock to the Company. The Company granted to NSI
options to purchase such shares of Class A Common Stock (the "Distributor
Options"), and NSI offered these options to qualifying distributors of NSI. The
Exercise Price
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for each Distributor Option is $5.75, which is 25% of the initial price per
share to the public of the Class A Common Stock in the Underwritten Offerings.
The Distributor Options vested December 31,1997. The shares of Class A Common
Stock underlying the Distributor Options have been registered pursuant to Rule
415 under the 1933 Act.
The Company incurred a total pre-tax non-cash compensation expense of
$19.9 million in connection with the grant of the Distributor Options. This
non-cash compensation expense resulted in a corresponding impact on net income
and net income per share.
Reliance on and Concentration of Outside Manufacturers. Virtually all the
Company's products are sourced through NSI and are produced by manufacturers
unaffiliated with NSI. The Company currently has little or no direct contact
with these manufacturers. The Company's profit margins and its ability to
deliver its existing products on a timely basis are dependent upon the ability
of NSI's outside manufacturers to continue to supply products in a timely and
cost-efficient manner. Furthermore, the Company's ability to enter new markets
and sustain satisfactory levels of sales in each market is dependent in part
upon the ability of suitable outside manufacturers to reformulate existing
products, if necessary to comply with local regulations or market environments,
for introduction into such markets. Finally, the development of additional new
products in the future will likewise be dependent in part on the services of
suitable outside manufacturers.
The Company currently acquires products or ingredients from sole suppliers
or suppliers that are considered by the Company to be the superior suppliers of
such ingredients. The Company believes that, in the event it is unable to source
any products or ingredients from its current suppliers, the Company could
produce such products or replace such products or substitute ingredients without
great difficulty or prohibitive increases in the cost of goods sold. However,
there can be no assurance that the loss of such a supplier would not have a
material adverse effect on the Company's business and results of operations.
With respect to sales to the Company, NSI currently relies on two
unaffiliated manufacturers to produce approximately 70% and 80% of its personal
care and nutritional products, respectively. NSI has a written agreement with
the primary supplier of the Company's personal care products that expires at the
end of 2000. An extension to such contract is currently being negotiated. NSI
does not currently have a written contract with the primary supplier of the
Company's nutritional products. The Company believes that in the event that
NSI's relationship with any of its key manufacturers is terminated, NSI will be
able to find suitable replacement manufacturers. However, there can be no
assurance that the loss of either manufacturer would not have a material adverse
effect on the Company's business and results of operations.
Reliance on Operations of and Dividends and Distributions from
Subsidiaries. The Company is a holding company without operations of its own or
significant assets other than ownership of 100% of the capital stock of each of
the Subsidiaries. Accordingly, an important source of the Company's income will
be dividends and other distributions from the Subsidiaries. Each of the
Subsidiaries has its operations in a country other than the United States, the
country in which the Company is organized. In addition, each of the Subsidiaries
receives its revenues in the local currency of the country or jurisdiction in
which it is situated. As a consequence, the Company's ability to obtain
dividends or other distributions is subject to, among other things, restrictions
on dividends under applicable local laws and regulations, and foreign currency
exchange regulations of the country or jurisdictions in which the Subsidiaries
operate. The Subsidiaries' ability to pay dividends or make other distributions
to the Company is also subject to their having sufficient funds from their
operations legally available for the payment of such dividends or distributions
that are not needed to fund their operations, obligations or other business
plans. Because the Company will be a stockholder of each of the Subsidiaries,
the Company's claims as such will generally rank junior to all other creditors
of and claims against the Subsidiaries. In the event of a Subsidiary's
liquidation, there may not be assets sufficient for the Company to recoup its
investment in such Subsidiary.
Taxation Risks and Transfer Pricing. The Company is subject to taxation in
the United States, where it is incorporated, at a statutory corporate federal
tax rate of 35.0% plus any applicable state income taxes. In addition, each
Subsidiary is subject to taxation in the country in which it operates, currently
ranging from a statutory tax rate of 57.9% in Japan to 16.5% in Hong Kong. The
Company is eligible to receive foreign tax credits in the U.S. for the amount of
foreign
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taxes actually paid in a given period. In the event that the Company's
operations in high tax jurisdictions such as Japan grow disproportionately to
the rest of the Company's operations, the Company will be unable to fully
utilize its foreign tax credits in the U.S., which could, accordingly, result in
the Company paying a higher overall effective tax rate on its worldwide
operations.
Because the Subsidiaries operate outside of the United States, the Company
is subject to the jurisdiction of numerous foreign tax authorities. In addition
to closely monitoring the Subsidiaries' locally based income, these tax
authorities regulate and restrict various corporate transactions, including
intercompany transfers. The Company believes that the tax authorities in Japan
and South Korea are particularly active in challenging the tax structures of
foreign corporations and their intercompany transfers. The Company is currently
undergoing a customs audit in South Korea. See "--Government Regulation of
Products and Marketing; Import Restrictions" and "--Other Regulatory Issues."
Although the Company believes that its tax and transfer pricing structures are
in compliance in all material respects with the laws of every jurisdiction in
which it operates, no assurance can be given that these structures will not be
challenged by foreign tax authorities or that such challenges or any required
changes in such structures will not have a material adverse effect on the
Company's business or results of operations.
Increase in Distributor Compensation Expense. Under the Licensing and
Sales Agreements (the "Licensing and Sales Agreements") between each of the
Subsidiaries and NSI, the Company, through its Subsidiaries, is contractually
obligated to pay a distributor commission expense of 42% of commissionable
product sales (with the exception of South Korea where, due to government
regulations, the Company uses a formula based upon a maximum payout of 35% of
commissionable product sales). The Licensing and Sales Agreements provide that
the Company is to satisfy this obligation by paying commissions owed to local
distributors. In the event that these commissions exceed 42% of commissionable
product sales, the Company is entitled to receive the difference from NSI. In
the event that the commissions paid are lower than 42%, the Company must pay the
difference to NSI. Under this formulation, the Company's total commission
expense is fixed at 42% of commissionable product sales in each country (except
for South Korea). The 42% figure has been set on the basis of NSI's experience
over the past eight years during which period actual commissions paid in a given
year together with the cost of administering the Global Compensation Plan have
ranged between 41% and 43% of commissionable product sales for such year
(averaging approximately 42%). In the event that actual commissions payable to
distributors from sales in the Company's markets vary from these historical
results, whether as a result of changes in distributor behavior or changes to
the Global Compensation Plan or in the event that NSI's cost of administering
the Global Compensation Plan increases or decreases, the Licensing and Sales
Agreements provide that the intercompany settlement figure may be modified to
more accurately reflect actual results. This could result in the Company
becoming obligated to make greater settlement payments to NSI under the
Licensing and Sales Agreements. Such additional payments could adversely affect
the Company's results of operations. Because the Company licenses the right to
use the Global Compensation Plan from NSI, the structure of the plan, including
commission rates, is under the control of NSI.
Product Liability. The Company may be subject, under applicable laws and
regulations, to liability for loss or injury caused by its products. The
Company's Subsidiaries are currently covered for product liability claims to the
extent of and under insurance programs maintained by NSI for their benefit and
for the benefit of its affiliates purchasing NSI products. Accordingly, NSI
maintains a policy covering product liability claims for itself and its
affiliates with a $1 million per claim and $1 million annual aggregate limit and
an umbrella policy with a $40 million per claim and $40 million annual aggregate
limit. Although the Company has not been the subject of material product
liability claims and the laws and regulations providing for such liability in
the Company's markets appear to have been seldom utilized, no assurance can be
given that the Company may not be exposed to future product liability claims,
and, if any such claims are successful, there can be no assurance that the
Company will be adequately covered by insurance or have sufficient resources to
pay such claims. The Company does not currently maintain its own product
liability policy.
Competition. The markets for personal care and nutritional products are
large and intensely competitive. The Company competes directly with companies
that manufacture and market personal care and nutritional products in each of
the Company's product lines. The Company competes with other companies in the
personal care and nutritional products industry by emphasizing the value and
premium quality of the Company's products and the convenience of the Company's
distribution
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system. Many of the Company's competitors have much greater name recognition and
financial resources than the Company. In addition, personal care and nutritional
products can be purchased in a wide variety of channels of distribution. While
the Company believes that consumers appreciate the convenience of ordering
products from home through a sales person or through a catalog, the buying
habits of many consumers accustomed to purchasing products through traditional
retail channels are difficult to change. The Company's product offerings in each
product category are also relatively small compared to the wide variety of
products offered by many other personal care and nutritional product companies.
There can be no assurance that the Company's business and results of operations
will not be affected materially by market conditions and competition in the
future.
The Company also competes with other direct selling organizations, some of
which have longer operating histories and higher visibility, name recognition
and financial resources. The leading network marketing company in the Company's
existing markets is Amway Corporation and its affiliates. The Company competes
for new distributors on the basis of the Global Compensation Plan and its
premium quality products. Management envisions the entry of many more direct
selling organizations into the marketplace as this channel of distribution
expands over the next several years. The Company has been advised that certain
large, well-financed corporations are planning to launch direct selling
enterprises which will compete with the Company in certain of its product lines.
There can be no assurance that the Company will be able to successfully meet the
challenges posed by this increased competition.
The Company competes for the time, attention and commitment of its
independent distributor force. Given that the pool of individuals interested in
the business opportunities presented by direct selling tends to be limited in
each market, the potential pool of distributors for the Company's products is
reduced to the extent other network marketing companies successfully recruit
these individuals into their businesses. Although management believes that the
Company offers an attractive business opportunity, there can be no assurance
that other network marketing companies will not be able to recruit the Company's
existing distributors or deplete the pool of potential distributors in a given
market.
Operations Outside the United States. The Company's revenues and most of
its expenses are recognized primarily outside of the United States. Therefore,
the Company is subject to transfer pricing regulations and foreign exchange
control, taxation, customs and other laws. The Company's operations may be
materially and adversely affected by economic, political and social conditions
in the countries in which it operates. A change in policies by any government in
the Company's markets could adversely affect the Company and its operations
through, among other things, changes in laws, rules or regulations, or the
interpretation thereof, confiscatory taxation, restrictions on currency
conversion, currency repatriation or imports, or the expropriation of private
enterprises. Although the general trend in these countries has been toward more
open markets and trade policies and the fostering of private business and
economic activity, no assurance can be given that the governments in these
countries will continue to pursue such policies or that such policies will not
be significantly altered in future periods. This could be especially true in the
event of a change in leadership, social or political disruption or upheaval, or
unforeseen circumstances affecting economic, political or social conditions or
policies. The Company is aware of news releases in South Korea, for example,
reporting comments by political figures proposing restrictions on foreign direct
sellers designed to protect the market share of local companies. There can be no
assurance that such activities, or other similar activities in the Company's
markets, will not result in passage of legislation or the enactment of policies
which could materially adversely affect the Company's operations in these
markets. In addition, the Company's ability to expand its operations into the
new markets for which it has received an exclusive license to distribute NSI
products will directly depend on its ability to secure the requisite government
approvals and comply with the local government regulations in each of those
countries. The Company has in the past experienced difficulties in obtaining
such approvals as a result of certain actions taken by its distributors, and no
assurance can be given that these or similar problems will not prevent the
Company from commencing operations in those countries. See "--Entering New
Markets."
Anti-Takeover Effects of Certain Charter, Contractual and Statutory
Provisions. The Board of Directors is authorized, subject to certain
limitations, to issue without further consent of the stockholders up to
25,000,000 shares of preferred stock with rights, preferences and privileges
designated by the Board of Directors. In addition, the Company's Certificate of
Incorporation requires the approval of 66 2/3% of the outstanding voting power
of the Class A
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Common Stock and the Class B Common Stock to authorize or approve certain change
of control transactions. See "Description of Capital Stock--Common Stock--Voting
Rights" and "--Mergers and Other Business Combinations." The Company's
Certificate of Incorporation and Bylaws also contain certain provisions that
limit the ability to call special meetings of stockholders and the ability of
stockholders to bring business before or to nominate directors at a meeting of
stockholders. See "Description of Capital Stock--Other Charter and Bylaw
Provisions." Pursuant to the 1996 Stock Incentive Plan, in the event of certain
change of control transactions the Board of Directors has the right, under
certain circumstances, to accelerate the vesting of options and the expiration
of any restriction periods on stock awards. Finally, the Operating Agreements
with NSI and NSIMG are subject to renegotiation after December 31, 2001 upon a
change of control of the Company. Any of these actions, provisions or
requirements could have the effect of delaying, deferring or preventing a change
of control of the Company. See "Business--Relationship with NSI--General
Provisions" and "Recent Developments."
The Company is subject to the provisions of Section 203 of the General
Corporation Law of the State of Delaware (the "Anti-Takeover Law") regulating
corporate takeovers. The Anti-Takeover Law prevents certain Delaware
corporations, including those whose securities are listed on the New York Stock
Exchange, from engaging, under certain circumstances, in a "business
combination" (which includes a merger of more than 10% of the corporations'
assets) with an "interested stockholder" (a stockholder who, together with
affiliates and associates, within the prior three years owned 15% or more of the
corporation's outstanding voting stock) for three years following the date that
such stockholder became an "interested stockholder," unless the "business
combination" or "interested stockholder" is approved in a prescribed manner. A
Delaware corporation may "opt out" of the Anti-Takeover Law with an express
provision in its original certificate of incorporation or an express provision
in its certificate of incorporation or bylaws resulting from a stockholders'
amendment approved by at least a majority of the outstanding voting shares. The
Company has not "opted out" of the provisions of the Anti-Takeover Law.
Absence of Dividends. The Company does not anticipate that any dividends
will be declared on its Common Stock in the immediate future. The Company
intends from time to time to re-evaluate this policy based on its net income and
its alternative uses for retained earnings, if any. Any future declaration of
dividends will be subject to the discretion of the Board of Directors of the
Company and subject to certain limitations under the General Corporation Law of
the State of Delaware. The timing, amount and form of dividends, if any, will
depend, among other things, on the Company's results of operations, financial
condition, cash requirements and other factors deemed relevant by the Board of
Directors of the Company. There can be no assurance regarding the timing or
payment of any future dividends by the Company. It is anticipated that any
dividends, if declared, will be paid in U.S. dollars. The Company, as a holding
company, will be dependent on the earnings and cash flow of, and dividends and
distributions from, the Subsidiaries to pay any cash dividends or distributions
on the Class A Common Stock that may be authorized by the Board of Directors of
the Company. See "--Reliance on Operations of and Dividends and Distributions
from Subsidiaries."
ITEM 2. PROPERTIES
In each of its current markets, the Company has established a central
office for the local administrative staff directed by a general manager. These
offices also have a training room for distributor and employee use and an
adjoining distribution center where distributors can place, pay for, and pick up
orders. In Japan, Taiwan, and South Korea additional pick up centers have been
added to provide better service to distributors and meet the increasing demand
for product. In Hong Kong, the Company maintains a distributor business center
where established distributors can use office space for training and sponsoring
activities at cost.
In addition to the Company's corporate headquarters in Provo, Utah, the
following table summarizes, as of March 5, 1998, the Company's leased office and
distribution facilities in each country where the Company currently has
operations.
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Approximate
Location Function Square Feet
- ---------- ---------- -----------
Tokyo, Japan.............. Central office/distribution center 44,000
Osaka, Japan.............. Distribution center/office 14,000
Fukuoka, Japan............ Warehouse/distribution center 12,000
Taipei, Taiwan............ Central office/distribution center 26,000
Kaohsiung, Taiwan......... Distribution center/office 10,000
Taichung, Taiwan.......... Distribution center/office 17,000
Nankan, Taiwan............ Warehouse/distribution center 37,000
Tainan, Taiwan............ Warehouse/distribution center 8,000
Causeway Bay, Hong Kong... Central office/distribution 19,000
center/distributor
business center/regional office
Tsing Yi, Hong Kong....... Warehouse 10,000
Macau..................... Distribution center/office 2,000
Seoul, South Korea........ Central office/distribution center 30,000
Seoul, South Korea........ Distribution center 7,000
Kyungki-Do, South Korea... Warehouse 16,000
Pusan, South Korea........ Distribution center 10,000
Bangkok, Thailand......... Central office/distribution center 13,000
Bangkok, Thailand......... Warehouse/distribution center 10,000
Chiang Mai, Thailand...... Distribution center 6,000
Manila, Philippines....... Central office/distribution center 10,000
Manila, Philippines....... Distribution center 5,000
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any litigation or other legal proceedings
which are expected to have a material adverse effect on its financial condition
or results of operations, nor are any such proceedings known to be contemplated.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of the security holders during
the fourth quarter of the fiscal year ended December 31, 1997.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The information required by Item 5 of Form 10-K is incorporated herein
by reference from the information contained in the section captioned "Common
Stock" in the Company's 1997 Annual Report to Stockholders, sections of which
are attached hereto as Exhibit 13.
ITEM 6. SELECTED FINANCIAL DATA
The information required by Item 6 of Form 10-K is incorporated herein
by reference from the information contained in the section captioned "Selected
Financial Data" in the Company's 1997 Annual Report to Stockholders, sections of
which are attached hereto as Exhibit 13.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information required by Item 7 of Form 10-K is incorporated herein
by reference from the information contained in the section captioned
"Management's Discussion and Analysis of Financial Condition and Results of
Operations " in the Company's 1997 Annual Report to Stockholders, sections of
which are attached hereto as Exhibit 13.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information required by Item 8 of Form 10-K is incorporated herein
by reference from the information contained in the section captioned "Financial
Statements and Supplementary Data" in the Company's 1997 Annual Report to
Stockholders, sections of which are attached hereto as Exhibit 13.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
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PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The directors and executive officers of the Company and key managers of
the Subsidiaries as of March 5, 1998 were as follows:
Name Age Position
---- --- --------
Blake M. Roney 39 Chairman of the Board
Steven J. Lund 44 President, Chief Executive Officer and
Director
Renn M. Patch 47 Chief Operating Officer
Corey B. Lindley 33 Chief Financial Officer
Michael D. Smith 52 Vice President of North Asia
Grant F. Pace 46 Vice President of Southeast Asia and China
M. Truman Hunt 38 Vice President of Legal Affairs and Investor
Relations
Keith R. Halls 40 Secretary and Director
Takashi Bamba 62 President, Nu Skin Japan
John Chou 51 President, Nu Skin Taiwan
Sandra N. Tillotson 41 Director
Brooke B. Roney 35 Director
Max L. Pinegar 66 Director
E.J. "Jake" Garn 65 Director
Paula Hawkins 71 Director
Daniel W. Campbell 43 Director
Blake M. Roney has served as Chairman of the Board since the Company's
inception. Mr. Roney is a director, the president and a shareholder of NSI and a
director and shareholder of the Subsidiaries and an executive officer of certain
of the Subsidiaries. He received a B.S. degree from Brigham Young University. He
is the brother of Brooke B. Roney.
Steven J. Lund has been President, Chief Executive Officer and a Director of
the Company since its inception. Mr. Lund is a director, executive officer and
shareholder of NSI and the Subsidiaries. Mr. Lund previously worked as an
attorney in private practice. He received a B.A. degree from Brigham Young
University and a J.D. degree from Brigham Young University's J. Reuben Clark Law
School.
Renn M. Patch has been Chief Operating Officer of the Company since its
inception. Since 1992, he has served as Vice President of Global Operations and
Assistant General Manager of NSI. From 1991 to 1992, he served as Director of
Government Affairs of NSI. Prior to joining NSI in 1991, Mr. Patch was
associated with the Washington, D.C. consulting firm of Parry and Romani
Associates. Mr. Patch earned a B.A. degree from the University of Minnesota, a
J.D. degree from Hamline University School of Law and an L.L.M. degree from
Georgetown University.
Corey B. Lindley has been Chief Financial Officer of the Company since its
inception. From 1993 to 1996, he served as Managing Director, International of
NSI. Mr. Lindley worked as the International Controller of NSI from 1991 to 1994
and lived in Hong Kong and Japan during that time. From 1990 to 1991, he served
as Assistant Director of Finance of NSI. Mr. Lindley is a Certified Public
Accountant. Prior to joining NSI in 1990, he worked for the accounting firm of
Deloitte and Touche. He earned a B.S. degree from Brigham Young University and
an M.B.A. degree from Utah State University.
Michael D. Smith has been Vice President of North Asia for the Company since
December 1997. Mr Smith was Vice President of Operations for the Company from
inception until December 1997. He also served previously as Vice President of
Asian Operations for NSI. In addition, he served as General Counsel of NSI from
1992 to 1996 and as Director of Legal Affairs
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of NSI from 1989 to 1992. He earned B.S. and M.A. degrees from Brigham Young
University and a J.D. degree from the University of Utah.
Grant F. Pace has served as Vice President Southeast Asia and China since
December 1997. From 1992 to 1997, he was Regional Vice President-Direct Selling
in the Asian region for Sara Lee and from 1988 to 1997 he was President and
Regional Managing Director, Southeast Asia for Avon Products. He received a J.D.
degree from Brigham Young University and an M.B.A. degree from Harvard
University.
M. Truman Hunt has served as Vice President of Legal Affairs and Investor
Relations since the Company's inception. He also served as Counsel to the
President of NSI from 1994 to 1996. From 1991 to 1994, Mr. Hunt served as
President and Chief Executive Officer of Better Living Products, Inc., an NSI
affiliate involved in the manufacture and distribution of houseware products
sold through traditional retail channels. Prior to that time, he was a
securities and business attorney in private practice. He received a B.S. degree
from Brigham Young University and a J.D. degree from the University of Utah.
Keith R. Halls has served as Secretary and a Director of the Company since
its inception. Mr. Halls is a director, general vice president and shareholder
of NSI and a director and shareholder of the Subsidiaries and an executive
officer of certain of the Subsidiaries. Mr. Halls is a Certified Public
Accountant. Mr. Halls received a B.A. degree from Stephen F. Austin State
University and a B.S. degree from Brigham Young University.
Takashi Bamba has served as President and/or General Manager of Nu Skin Japan
since 1993. Prior to joining Nu Skin Japan in 1993, Mr. Bamba served five years
as President and CEO of Avon Products Co., Ltd., the publicly traded Japanese
subsidiary of Avon Products, Inc. Prior to working at Avon Products Co., Ltd.,
he spent 17 years at Avon Products, Inc. He received a B.A. degree from Yokohama
National University.
John Chou has served as President and/or General Manager of Nu Skin Taiwan
since 1991. Prior to joining Nu Skin Taiwan in 1991, he spent twenty-one years
in international marketing and management with 3M Taiwan Ltd., Amway Taiwan and
Universal PR Co. Mr. Chou is a standing director of the Taiwan ROC Direct
Selling Association. He is also a member of the Kiwanis International, and the
Taiwan American Chamber of Commerce. He received a B.A. degree from Tan Kang
University in Taipei, Taiwan.
Sandra N. Tillotson has served as a Director of the Company since its
inception. Ms. Tillotson is a director, general vice president and shareholder
of NSI and a director and shareholder of the Subsidiaries and an executive
officer of certain of the Subsidiaries. She earned a B.S. degree from Brigham
Young University.
Brooke B. Roney has served as a Director of the Company since its inception.
Mr. Roney is a director, general vice president and shareholder of NSI and a
director and shareholder of the Subsidiaries and an executive officer of certain
of the Subsidiaries. He is the brother of Blake M. Roney.
Max L. Pinegar has served as a Director of the Company since September 1996.
He has also served as General Manager of NSI since 1989 and as Vice President of
NSI since 1992. He received a B.A. degree from Brigham Young University and an
M.B.A. degree from the University of Utah.
E.J. "Jake" Garn has served as a Director of the Company since March 1997.
Senator Garn has been Vice Chairman of Huntsman Corporation, one of the largest
privately-held companies in the U.S., since 1993. He currently serves as a
director for Dean Witter Funds, John Alden Life Insurance Company and Franklin
Covey & Co., Inc. From 1974 to 1993, Senator Garn was a member of the United
States Senate and served on numerous senate committees. He received a B.A.
degree from the University of Utah.
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Paula Hawkins has served as a Director of the Company since March 1997.
Senator Hawkins is the principal of Paula Hawkins & Associates, Inc., a
management consulting company. From 1980 to 1986, Senator Hawkins was a member
of the United States Senate and served on numerous senate committees.
Daniel W. Campbell has served as a Director of the Company since March 1997.
Mr. Campbell has been a Managing General Partner of EsNet, Ltd. since 1994. From
1992 to 1994, Mr. Campbell was the Senior Vice President and Chief Financial
Officer of WordPerfect Corporation and prior to that was a Partner of Price
Waterhouse LLP. He received a B.S. degree from Brigham Young University.
Blake M. Roney and Brooke B. Roney are brothers. The Company is not aware of
any other family relationships among any director, executive officer or person
nominated to become a director. The Certificate of Incorporation of the Company
contains provisions eliminating or limiting the personal liability of directors
for violations of a director's fiduciary duty to the extent permitted by the
Delaware General Corporation Law.
COMPLIANCE WITH SECTION 16(a) OFTHE SECURITIES EXCHANGE ACT OF 1934
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires
the Company's officers and directors and persons who own beneficially more than
ten percent of a registered class of the Company's equity securities to file
with the Securities and Exchange Commission and the New York Stock Exchange
initial reports of ownership and reports of changes in ownership of the
Company's equity securities. Officers, directors and greater than ten percent
beneficial owners are required to furnish the Company with copies of all Section
16(a) reports they file.
Based solely upon a review of the copies of such reports furnished to the
Company or written representations that no other reports were required, the
Company believes that during the fiscal year ended December 31, 1997 the
Company's officers, directors and greater than ten percent beneficial owners
complied with all applicable Section 16(a) filing requirements, except that each
of Messrs. Bamba, Chou, Lindley, Patch, and Smith did not timely report on Form
5 the grant of stock bonus awards made in 1996 and Mr. Pace filed a late Form 3
in connection with his commencement of employment with the Company.
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth certain information regarding the annual and
long-term compensation for services rendered in all capacities during the fiscal
years ended December 31, 1995, 1996 and 1997 of those persons who were the
Company's chief executive officer or one of the other four most highly
compensated executive officers of the Company or key managers of the
Subsidiaries during the last fiscal year (collectively, the "Named Officers").
The Company was formed in September 1996, and consequently paid no
compensation to the Named Officers during the fiscal year ended December 31,
1995 and during the first eight months of the fiscal year ended December 31,
1996. However, salary, bonus and other compensation is presented in the table
below for 1995 and until September 1996 based on payments by NSI and the
Subsidiaries and from September 1996 through 1997 based on payments by the
Company and the Subsidiaries to the Named Officers as if the Company had been in
existence during all of 1995 and 1996. During 1995, 1996 and 1997, Messrs. Bamba
and Chou were, and continue to be, employed full time as the General Managers
and/or Presidents of Nu Skin Japan and Nu Skin Taiwan, respectively, and
received all of their compensation from the Company through certain of the
Subsidiaries. During 1995, 1996 and 1997, Messrs. Lund and Patch were, and
continue to be, executive officers of NSI. The compensation presented in the
table below reflects an allocation of the time spent by Messrs. Lund and Patch
providing services to the Company and certain Subsidiaries during 1995, 1996 and
1997. During 1995 and 1996, Mr. Lindley was an employee of NSI.
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The compensation presented in the table below reflects an allocation of the time
spent by Mr. Lindley providing services to the Company during 1996. These
salaries and bonuses are in addition to any amounts received during the relevant
periods by these officers from NSI in return for their services to NSI.
Summary Compensation Table
<TABLE>
<CAPTION>
Annual Compensation
---------------------------------------------
Long-Term
Other Compensation
Annual Restricted All Other
Name and Principal Position Year Salary Bonus Compensation Stock Awards Compensation
- --------------------------- ---- ------ ----- ------------ ------------- ------------
<S> <C> <C> <C> <C> <C> <C>
Steven J. Lund............... 1997 $275,779 $227,752(1) $ -- -- $ --
President and Chief 1996 259,973 89,345(1) -- -- --
Executive Officer 1995 236,364 82,529(1) -- -- --
Takashi Bamba................ 1997 393,520 180,364(2) 180,364(3) -- 3,450(5)
President, Nu Skin Japan 1996 364,138 174,557(2) 195,401(3) 401,375(4) 3,297(5)
1995 361,028 105,563(2) 98,063(3) -- 3,297(5)
John Chou.................... 1997 253,408 84,469(2) 84,469(6) -- --
President, Nu Skin Taiwan 1996 211,000 56,232(2) 77,897(6) 401,375(4) --
1995 185,370 75,786(2) 63,730(6) -- --
Corey B. Lindley............. 1997 163,727 89,947(1) 16,373(7) -- 15,582(8)
Chief Financial Officer 1996 62,780 17,288(1) -- 401,375(4) --
1995 -- -- -- -- --
Renn M. Patch................ 1997 148,673 72,819(1) 23,788(7) -- 1,151(8)
Chief Operating Officer 1996 98,638 20,437(1) 13,800(7) 401,375(4) 5,542(8)
1995 97,175 104,765(9) 18,750(10) -- --
</TABLE>
- ----------------------
(1) Cash bonus paid to the recipient not pursuant to a formal bonus plan.
(2) Cash bonus paid during the year reported pursuant to a cash bonus long-term
incentive plan for the Presidents of the Subsidiaries.
(3) Includes deferred portion of a bonus accrued during the year reported
pursuant to a cash bonus long-term incentive plan for the Presidents of the
Subsidiaries and annual lease payments for an automobile.
(4) Employee stock bonus awards for 13,000 shares of Class A Common Stock were
granted in 1996 to each of Messrs. Bamba, Chou and Lindley by the Company
pursuant to the 1996 Stock Incentive Plan and to Mr. Patch by NSI pursuant
to its own stock incentive plan. The awards vest 25% per year beginning in
November 1997. Dividends will be paid only on shares actually issued
pursuant to employee stock bonus awards and only as, when and if declared by
the Company's Board of Directors. Employee stock bonus awards have been
valued for purposes of this table using the closing market price of the
Company's Class A Common Stock on December 31, 1996 (307/8) multiplied by
the number of shares underlying the awards.
(5) Annual premium for pension insurance policy.
(6) Includes deferred portion of a bonus accrued during the year reported
pursuant to a cash bonus long-term incentive plan for the Presidents of the
Subsidiaries and annual payments for an automobile and club dues.
(7) Includes deferred portion of a bonus accrued during the year reported not
pursuant to a formal bonus plan.
(8) Includes compensation in the form of the cash value of the use of certain
NSI-owned property and other perquisites.
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<PAGE>
(9) Noncash bonus paid to Mr. Patch, not pursuant to a formal bonus plan.
(10)Includes $16,500 of accrued deferred compensation and $2,250 of vested
deferred compensation awarded to Mr. Patch under NSI's deferred compensation
plan.
The following table sets forth certain information with respect to grants of
stock options pursuant to the Nu Skin Asia Pacific, Inc. 1996 Stock Incentive
Plan (the "1996 Stock Incentive Plan") during fiscal year 1997 to the Named
Officers.
Option Grants in Last Fiscal Year(1)
<TABLE>
<CAPTION>
Percentage Potential
of Total Realizable Value at
Options Exercise Assumed Annual
Granted to or Base Rates of Stock Price
Options Employees Price Appreciation
Granted in Fiscal per Expiration for Option Term(2)
Name (Shares) Year Share Date 5% 10%
- ---- -------- ---- ----- ---------- -------- ------
<S> <C> <C> <C> <C> <C> <C>
Steven J. Lund ........... 0 -- -- -- -- --
Takashi Bamba ............ 25,000 11.6% $20.875 10/20/07 $328,204 $831,734
John Chou ................ 25,000 11.6 20.875 10/20/07 328,204 831,734
Corey B. Lindley ......... 26,000 12.0 20.875 10/20/07 341,333 865,004
Renn M. Patch ............ 26,000 12.0 20.875 10/20/07 341,333 865,004
</TABLE>
- ----------------------
(1) Under the terms of the 1996 Stock Incentive Plan, all options granted become
exercisable in four equal annual installments beginning on the date of
grant. Options are granted for a term of ten years, subject to earlier
termination in certain events. The exercise price is equal to the fair
market value of the Class A Common Stock on the date of grant. The
Compensation Committee and/or the Board of Directors retains or retain
discretion, subject to certain restrictions, to modify the terms of
outstanding options and to reprice outstanding options.
(2) Potential gains are net of the exercise price, but before taxes associated
with the exercise. Amounts represent hypothetical gains that could be
achieved for the respective options if exercised at the end of the option
term. The assumed 5% and 10% rates of stock price appreciation are provided
in accordance with the rules of the Securities and Exchange Commission, and
do not represent the Company's estimate or projection of the future Class A
Common Stock price. Actual gains, if any, on stock option exercises are
dependent upon the future financial performance of the Company, overall
market conditions and the option holder's continued employment through the
vesting period. This table does not take into account any actual
appreciation in the price of the Class A Common Stock from the date of
grant.
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The following table sets forth certain information with respect to
unexercised options under the 1996 Stock Incentive Plan held by the Named
Officers as of December 31, 1997. No options were exercised by any of the Named
Officers in 1997.
Aggregated Option/SAR Exercises in Last Fiscal Year and Fiscal Year-End
Option/SAR Values
Value of Unexercised
Number of Unexercised Options In-the-Money Options
at December 31, 1997 at December 31, 1997(1)
----------------------------- --------------------------
Name Exercisable Unexercisable Exercisable Unexercisable
- -------------------- ----------- ------------- ----------- -------------
Steven J. Lund ..... 0 0 $ 0 $ 0
Takashi Bamba ...... 0 25,000 0 0
John Chou .......... 0 25,000 0 0
Corey B. Lindley ... 0 26,000 0 0
Renn M. Patch ...... 0 26,000 0 0
- ----------------------
(1) Based on the average of the high and low sales price of the Class A Common
Stock on the New York Stock Exchange on December 31, 1997 ($17.31), none of
the unexercised options were in the money.
Employment Agreements
Messrs. Bamba and Chou have entered into employment agreements with Nu Skin
Japan and Nu Skin Taiwan, respectively. Under these agreements, these
individuals are paid an annual salary and receive various other benefits. These
individuals are also entitled to participate in a cash bonus long-term incentive
plan.
Mr. Bamba is employed as the President of Nu Skin Japan at a 1998 annual
salary of approximately $341,000. This salary is subject to annual review. Under
the terms of his employment agreement, Mr. Bamba is entitled to reimbursement of
business-related expenses, the use of an automobile provided by Nu Skin Japan,
and participation in any retirement plan offered by Nu Skin Japan. Mr. Bamba
also has the right under his employment agreement to have Nu Skin Japan purchase
a country club membership and pay related dues, although he has not exercised
this right. Mr. Bamba is also provided with a private insurance plan paid for by
Nu Skin Japan provided the premium for such private insurance plan does not
exceed (Y)300,000 per year. Under his employment agreement, Mr. Bamba has agreed
to certain confidentiality obligations. The term of Mr. Bamba's employment is
indefinite, subject to termination by Mr. Bamba or Nu Skin Japan upon three
months' notice.
Mr. Chou is employed as the President of Nu Skin Taiwan at a 1998 annual
salary of approximately $300,000. Under the terms of his employment agreement,
Mr. Chou received a personal loan in the amount of $1 million. The loan bears no
interest and is payable upon demand if Mr. Chou ceases to be employed by Nu Skin
Taiwan or an affiliate. The loan is to be repaid by applying $100,000 of the sum
earned by Mr. Chou under the Bonus Incentive Plan per year against the loan
balance. If less than $100,000 is earned under the Bonus Incentive Plan in a
given year, $100,000 is nevertheless applied against the loan balance. If Mr.
Chou is terminated "without cause," any loan balance will be forgiven. Under the
terms of his employment agreement, Mr. Chou is also entitled to health insurance
paid for in part by Nu Skin Taiwan. Nu Skin Taiwan also provides Mr. Chou with a
monthly car allowance. The term of Mr. Chou's employment agreement currently
extends until August 2002. Under his employment agreement, Mr. Chou has agreed
to certain confidentiality and non-competition obligations.
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<PAGE>
Bonus Incentive Plan
The Company has adopted a bonus incentive plan for the Presidents of certain
of the Subsidiaries. Under the current bonus incentive plan, Messrs. Bamba and
Chou are entitled to receive an annual cash bonus based upon the prior year's
operating results of the Subsidiary for which they are responsible. Participants
in this bonus incentive plan are able to receive a bonus equal to 100% of their
respective salaries, conditioned on meeting certain performance criteria and
subject to cash availability and approval of the Board of Directors of the
Company. One half of this bonus is payable by February 15 of the year following
the year in which the bonus is earned and the remaining one half is deferred and
vests ratably over 10 years or at age 65, whichever occurs first. The Company
has not adopted a formal bonus plan for executives of the Company. The Company
has, from time to time, paid discretionary cash bonuses to executives based on
market and individual performance.
Compensation of Directors
Each director who does not receive compensation as an officer or employee of
the Company, NSI or its affiliates is entitled to receive an annual fee of
$25,000 for serving on the Board of Directors, a fee of $1,000 for each meeting
of the Board of Directors or any committee meeting thereof attended and a fee of
$1,000 for each committee meeting attended if such director is the chairperson
of that committee. Each director may be reimbursed for certain expenses incurred
in attending Board of Directors and committee meetings.
In addition, certain directors may be granted options or stock bonus awards
under the 1996 Stock Incentive Plan. On October 20, 1997, the Board of Directors
approved stock bonus awards for E.J. "Jake" Garn, Paula Hawkins and Daniel W.
Campbell of 2,500 shares of Class A Common Stock each under the 1996 Stock
Incentive Plan. All of such shares were immediately vested. Also on October 20,
1997, the Board of Directors ratified stock option grants to E.J. "Jake" Garn,
Paula Hawkins and Daniel W. Campbell to purchase 10,000 shares each of Class A
Common Stock under the 1996 Stock Incentive Plan. All options were granted with
an exercise price equal to the fair market value of the Class A Common Stock on
September 16, 1997, the date the Compensation Committee approved the grants. The
options vest on the day before the next annual meeting of stockholders following
the date of grant.
COMPENSATION COMMITTEE REPORT
Notwithstanding anything to the contrary set forth in any of the previous
filings made by the Company under the Securities Act of 1933, as amended, or the
Securities Act of 1934, as amended, that might incorporate future filings,
including, but not limited to, this Proxy Statement, in whole or in part, the
following Compensation Committee Report and the performance graph appearing
herein shall not be deemed to be incorporated by reference into any such future
filings.
This Compensation Committee Report discusses the Company's executive
compensation policies and the basis for the compensation paid to the Company's
executive officers, including its Chief Executive Officer, Steven J. Lund,
during the fiscal year ended December 31, 1997.
Compensation Policy. The Company's policy with respect to executive
compensation has been designed to:
o Adequately and fairly compensate executive officers in relation to their
responsibilities, capabilities and contributions to the Company and in a
manner that is commensurate with compensation paid by companies of
comparable size or within the Company's industry;
o Reward executive officers for the achievement of short-term operating
goals and for the enhancement of the long-term value of the Company; and
o Align the interests of the executive officers with those of the
Company's stockholders with respect to short-term operating goals and
long-term increases in the price of the Company's Common Stock.
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<PAGE>
The components of compensation paid to certain executive officers consist of
(a) base salary, (b) incentive compensation in the form of discretionary annual
bonus payments, annual bonus payments and other awards made by the Company
(through the Compensation Committee) under the Company's bonus incentive plan
for the Presidents of certain Subsidiaries and the Nu Skin Asia Pacific, Inc.
1996 Stock Incentive Plan, respectively, and (c) certain other benefits provided
to the Company's executive officers. The Compensation Committee has been
responsible for reviewing and approving cash compensation paid by the Company to
its executive officers and members of the Company's senior management team,
including bonuses and awards made under the aforementioned incentive plans,
selecting the individuals who will receive such bonuses and awards and
determining the timing, pricing and amount of all such bonuses and awards
granted.
As described above, the Company has adopted a bonus incentive plan for the
Presidents of certain of the Subsidiaries. The Company has not yet adopted a
formal bonus incentive plan for other executive officers. During 1997, bonuses
made to executive officers other than the Presidents of certain Subsidiaries
were discretionary and based on achievement of business targets and objectives.
The Company believes its incentive compensation plan for the Presidents of
certain Subsidiaries rewards those individuals when the Company and its
stockholders have benefited from achieving the Company's goals and targeted
objectives, all of which the Compensation Committee feels will dictate, in large
part, the Company's future operating results. The Compensation Committee
believes that its policy of compensating certain of its executive officers with
incentive-based compensation fairly and adequately compensates those individuals
in relation to their responsibilities, capabilities and contribution to the
Company, and in a manner that is commensurate with compensation paid by
companies of comparable size or within the Company's industry. In 1997, the
Compensation Committee engaged the consulting firm of Towers Perrin to review
and evaluate the compensation and incentive plans for the Company's executive
officers. Certain of the recommendations made by Towers Perrin have been
implemented and certain recommendations are still being considered by the
Compensation Committee.
Components of Compensation. The primary components of compensation paid by
the Company to its executive officers and senior management personnel, and the
relationship of such components of compensation to the Company's performance,
are discussed below:
Base Salary. For the fiscal year ended December 31, 1997, the Compensation
Committee reviewed and approved the base salary paid by the Company to its
executive officers and the Presidents of certain Subsidiaries. Annual
adjustments to base salaries are determined based upon a number of factors,
including the Company's performance (to the extent such performance can fairly
be attributed or related to each executive's officer's performance), as well as
the nature of each executive officer's responsibilities, capabilities and
contributions. In addition, for the fiscal year ended December 31, 1997, the
Compensation Committee reviewed the base salaries of its executive officers in
an attempt to ascertain whether those salaries fairly reflect job
responsibilities and prevailing market conditions and rates of pay. The
Compensation Committee believes that base salaries for the Company's executive
officers have been reasonable in relation to the Company's size and performance
in comparison with the compensation paid by similarly sized companies or
companies within the Company's industry.
Incentive Compensation. As discussed above, a substantial portion of the
compensation paid to the Presidents of certain of the Subsidiaries is in the
form of incentive compensation designed to reward the achievement of operating
goals. Under the terms of the bonus incentive plan for the Presidents of the
Subsidiaries and the Nu Skin Asia Pacific, Inc. 1996 Stock Incentive Plan, the
Board of Directors and the Compensation Committee have authority, within the
terms of such plans, to select the executive officers and employees who will be
granted bonuses and other awards and to determine the timing, pricing and amount
of any such bonuses or awards.
Other Benefits. The Company maintains certain other plans and arrangements
for the benefit of its executive officers. The Company believes these benefits
are reasonable in relation to the executive compensation practices of other
similarly sized companies or companies within the Company's industry.
-51-
<PAGE>
Compensation of the Chief Executive Officer. Steven J. Lund, the Company's
President and Chief Executive Officer also served during 1997 as Executive Vice
President of NSI and an officer of certain other Subsidiaries. During 1998, Mr.
Lund will continue to be an executive officer of Nu Skin USA, Inc., an affiliate
of the Company, and a portion of his compensation will be paid by that entity
and certain of its affiliates. During 1997, Mr. Lund received a portion of his
cash compensation from NSI. The amounts set forth in the table above reflect
that portion of Mr. Lund's salary and bonus which is allocated to the Company
based on the relative amount of time spent on the Company's affairs in 1997.
Conclusion. The Compensation Committee believes that the concepts discussed
above further the stockholders' interests and that officer compensation
encourages responsible management of the Company. The Compensation Committee
regularly considers the effect of management compensation on stockholder
interests. In the past, the Board of Directors based its review in part on the
experience of its own members and on information requested from management
personnel. In 1997, the Compensation Committee sought input from Towers Perrin,
an executive compensation and benefits firm regarding the Company's compensation
policies and strategies. In the future, these factors, reports of the
Compensation Committee and discussions with and information compiled by various
independent consultants retained by the Company will be used in determining
officer compensation.
COMPENSATION COMMITTEE OF THE
BOARD OF DIRECTORS
Keith R. Halls
Max L. Pinegar
Paula Hawkins
Daniel W. Campbell
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Compensation Committee is comprised of Keith R. Halls, Daniel W.
Campbell, Paula Hawkins and Max L. Pinegar. Mr. Halls is also the Secretary of
the Company. Mr. Halls has entered into a Stockholders Agreement with the
Company and certain other stockholders of the Company. See "Certain
Relationships and Transactions--Stockholders Agreement." During fiscal 1997, Mr.
Halls was an executive officer, director and stockholder of NSI, and is now an
executive officer, director and stockholder of Nu Skin USA, Inc. and various
other affiliates of the Company. During fiscal 1997, Mr. Pinegar was an employee
of NSI. Several members of the Company's Board of Directors were also directors
of NSI and have set compensation for certain executive officers of the Company
who have been or will continue to be executive officers of NSI, Nu Skin USA,
Inc. or certain of their affiliates. See "Certain Relationships and
Transactions--Acquisition of NSI," "--Operating, License and Distribution
Agreements; Certain Effects of the NSI Acquisition," "Proposal 3--Approval of
Class A Common Stock Issuable Upon Conversion of Series A Preferred Stock" and
"Interests of Certain Persons in the Proposals."
STOCK PERFORMANCE GRAPH
Set forth below is a line graph comparing the cumulative total stockholder
return (stock price appreciation plus dividends) on the Company's Class A Common
Stock with the cumulative total return of the S&P 500 Index and a market
weighted index of publicly traded peers for the period from November 22, 1996
(the date of the Company's initial public offering) through December 31, 1997.
The graph assumes that $100 is invested in each of the Class A Common Stock, the
S&P 500 Index and the index of publicly traded peers on November 22, 1996 and
that all dividends were reinvested. The publicly traded companies in the peer
group are Amway Asia Pacific, Ltd., Amway Japan, Ltd., Tupperware Corporation,
Revlon, Inc. and Avon Products.
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<PAGE>
COMPARISON OF CUMULATIVE TOTAL STOCKHOLDER RETURN
AMONG NU SKIN ASIA PACIFIC, INC.,
PEER GROUP AND BROAD MARKET
[GRAPHIC OMITTED]
Measurement Period Company S&P 500 Index Peer Group Index
------------------ ------- ------------- ----------------
November 22, 1996 $100.00 $100.00 $100.00
December 31, 1996 107.39 98.02 99.03
December 31, 1997 63.48 130.72 75.48
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information regarding the
beneficial ownership of the Company's Class A Common Stock and Class B Common
Stock as of March 2, 1998, by (i) each person (or group of affiliated persons)
who is known by the Company to own beneficially more than 5% of the outstanding
shares of the Class A Common Stock or Class B Common Stock, (ii) each of the
Company's directors, (iii) each of the Company's "Named Officers" (as defined
under "Executive Compensation"), and (iv) all executive officers and directors
and director nominees of the Company as a group. The information in this table
assumes (a) the exercise of all the options to purchase shares of Class A Common
Stock (the "Distributor Options") offered in the Company's Rule 415 Offerings
commenced in connection with the Company's initial public offering, (b) the
issuance of the 64,500 shares of Class A Common Stock pursuant to employee stock
bonus awards (which have not yet vested) offered by the Company in the Rule 415
Offerings and the shares of Class A Common Stock underlying such stock bonus
awards, (c) the issuance of the 1,250,000 stock bonus awards offered by NSI and
its affiliates excluding the Company in the Rule 415 Offerings and the shares of
Class A Common Stock underlying such stock bonus awards, (d) the exercise by an
executive officer of the Company of an option to purchase 250,825 shares of
Class A Common Stock, and (e) the exercise by certain directors and executive
officers of unvested non-qualified stock options to purchase 189,000 shares of
Class A Common Stock. The business address of the 5% stockholders is 75 West
Center Street, Provo, Utah, 84601.
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<PAGE>
Class A Class B
Common Stock(1,2) Common Stock(1,2)
---------------- -------------------
% of % of % of Voting
Name Shares Class Shares Class Power(2)
- ---- -------- ----- ----------- ----- -----------
Blake M. Roney(3) -- -- 20,414,763 29.0 28.5
Nedra D. Roney(4) -- -- 14,213,895 20.2 19.8
Sandra N. Tillotson(5) -- -- 8,554,510 12.2 11.9
Craig S. Tillotson(6) -- -- 4,402,658 6.3 6.1
R. Craig Bryson(7) -- -- 4,918,236 7.0 6.9
Steven J. Lund(8) -- -- 4,223,224 6.0 5.9
Brooke B. Roney(9) -- -- 3,425,322 4.9 4.8
Keith R. Halls(10) -- -- 894,115 1.3 1.2
Max L. Pinegar(11) 11,300 * -- -- *
Daniel W. Campbell(12) 12,500 * -- -- *
E.J. "Jake" Garn(13) 12,500 * -- -- *
Paula Hawkins(14) 12,500 * -- -- *
Renn M. Patch(15) 40,500 * -- -- *
Corey B. Lindley(16) 40,600 * -- -- *
Takashi Bamba(17) 38,000 * -- -- *
John Chou(18) 38,215 * -- -- *
BNASIA, Ltd.(19) -- -- 19,881,455 28.3 27.8
RCKASIA, Ltd.(20) -- -- 4,775,736 6.8 6.7
All directors and 535,440 4.5 37,759,803 53.7 52.7
officers as a group(16
persons) (21)
- -------------------
*Less than 1%
(1) Each share of Class B Common Stock is convertible at any time at the option
of the holder into one share of Class A Common Stock and each share of
Class B Common Stock is automatically converted into one share of Class A
Common Stock upon the transfer of such share of Class B Common Stock to any
person who is not a Permitted Transferee as defined in the Company's
Amended and Restated Certificate of Incorporation.
(2) Each share of Class A Common Stock has one vote per share, each share of
Class B Common Stock has ten votes per share, and each share of Series A
Preferred Stock generally has no voting rights.
(3) Includes shares beneficially owned or deemed to be owned beneficially by
Blake M. Roney as follows: 19,881,455 shares of Class B Common Stock as
general partner of BNASIA, Ltd., a limited partnership, and with respect to
which he shares voting and investment power with his wife Nancy L. Roney as
set forth in footnote 19 below; 357,143 shares of Class B Common Stock as
co-trustee and with respect to which he shares voting and investment power
with his wife Nancy L. Roney; and 176,165 shares of Class B Common Stock as
trustee and with respect to which he has sole voting and investment power.
(4) Includes shares beneficially owned or deemed to be owned beneficially by
Nedra D. Roney as follows: 13,913,895 shares of Class B Common Stock
directly and with respect to which she has sole voting and investment
power; and 300,000 shares of Class B Common Stock as co-trustee and with
respect to which she shares voting and investment power.
(5) Includes shares beneficially owned or deemed to be owned beneficially by
Sandra N. Tillotson as follows: 7,584,743 shares of Class B Common Stock
directly and with respect to which she has sole voting and investment
power; 424,767 shares of Class B Common Stock as trustee and with respect
to which she has sole voting and investment power; 500,000 shares of Class
B Common Stock as manager of a limited liability company and with respect
to which she has sole voting and investment power; and 45,000 shares of
Class B Common Stock as co-trustee and with respect to which she shares
voting and investment power.
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<PAGE>
(6) Includes shares beneficially owned or deemed to be owned beneficially by
Craig S. Tillotson as follows: 2,962,912 shares of Class B Common Stock
directly and with respect to which he has sole voting and investment power;
112,500 shares of Class B Common Stock as trustee and with respect to which
he has sole voting and investment power; 327,246 shares of Class B Common
Stock as co-trustee and with respect to which he shares voting and
investment power; and 1,000,000 shares of Class B Common Stock as manager
of a limited liability company and with respect to which he has sole voting
and investment power.
(7) Includes shares beneficially owned or deemed to be owned beneficially by R.
Craig Bryson as follows: 4,775,736 shares of Class B Common Stock as
general partner of RCKASIA, Ltd., a limited partnership, and with respect
to which he shares voting and investment power with his wife Kathleen D.
Bryson as set forth in footnote 20 below; and 142,500 shares of Class B
Common Stock as co-trustee and with respect to which he shares voting and
investment power with his wife Kathleen D. Bryson.
(8) Includes shares beneficially owned or deemed to be owned beneficially by
Steven J. Lund as follows: 3,144,751 shares of Class B Common Stock as
general partner of a limited partnership and with respect to which he
shares voting and investment power with his wife Kalleen Lund; 897,902
shares of Class B Common Stock as trustee and with respect to which he has
sole voting and investment power; and 180,571 shares of Class B Common
Stock as co-trustee and with respect to which he shares voting and
investment power with his wife Kalleen Lund.
(9) Includes shares beneficially owned or deemed to be owned beneficially by
Brooke B. Roney as follows: 3,362,665 shares of Class B Common Stock as
general partner of a limited partnership and with respect to which he
shares voting and investment power with his wife Denice R. Roney; and
62,657 shares of Class B Common Stock as co-trustee and with respect to
which he shares voting and investment power with his wife Denice R. Roney.
(10) Includes shares beneficially owned or deemed to be owned beneficially by
Keith R. Halls as follows: 563,258 shares of Class B Common Stock as
general partner of a limited partnership and with respect to which he
shares voting and investment power with his wife Anna Lisa Massaro Halls;
50,000 shares of Class B Common Stock as the manager of a limited liability
company and with respect to which he has sole voting and investment power;
250,000 shares of Class B Common Stock as trustee and with respect to which
he has sole voting and investment power; and 30,857 shares of Class B
Common Stock as co-trustee and with respect to which he shares voting and
investment power with his wife Anna Lisa Massaro Halls.
(11) Includes shares beneficially owned or deemed to be owned beneficially by
Max L. Pinegar as follows: 1,550 shares of Class A Common Stock directly
and with respect to which he has sole voting and investment power; and
9,750 shares of Class A Common Stock issued to Mr. Pinegar as an employee
stock bonus award which will vest ratably, according to its terms, over the
remaining term of the award.
(12) Includes shares beneficially owned or deemed to be owned beneficially by
Daniel W. Campbell as follows: 2,500 shares of Class A Common Stock
directly and with respect to which he has sole voting and investment power;
and 10,000 shares of Class A Common Stock issuable to Mr. Campbell pursuant
to a non-qualified stock option which will vest on the day before the next
annual meeting of stockholders following the date of the grant.
(13) Includes shares beneficially owned or deemed to be owned beneficially by
E.J. "Jake" Garn as follows: 2,500 shares of Class A Common Stock directly
and with respect to which he has sole voting and investment power; and
10,000 shares of Class A Common Stock issuable to Mr. Garn pursuant to a
non-qualified stock option which will vest on the day before the next
annual meeting of stockholders following the date of the grant.
(14) Includes shares beneficially owned or deemed to be owned beneficially by
Paula Hawkins as follows: 2,500 shares of Class A Common Stock directly and
with respect to which she has sole voting and investment power; and 10,000
shares of Class A Common Stock issuable to Ms. Hawkins pursuant to a
non-qualified stock option which will vest the day before the next annual
meeting of stockholders following the date of the grant.
(15) Includes shares beneficially owned or deemed to be owned beneficially by
Renn M. Patch as follows: 4,750 shares of Class A Common Stock directly and
with respect to which he has sole voting and investment power; 9,750 shares
of Class A Common Stock issued to Mr. Patch as an employee stock bonus
award which will vest ratably, according to its terms,over the remaining
term of the award; and 26,000 shares of Class A Common Stock issuable to
Mr. Patch pursuant to a non-qualified stock option which will vest ratably,
according to its terms, over four years following the date of the grant.
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<PAGE>
(16) Includes shares beneficially owned or deemed to be owned beneficially by
Corey B. Lindley as follows: 4,850 shares of Class A Common Stock directly
and with respect to which he has sole voting and investment power; 9,750 of
Class A Common Stock issued to Mr. Lindley as an employee stock bonus award
which will vest ratably, according to its terms, over the remaining term of
the award; and 26,000 shares of Class A Common Stock issuable to Mr.
Lindley pursuant to a non-qualified stock option which will vest ratably,
according to its terms, over four years following the date of the grant.
(17) Includes shares beneficially owned or deemed to be owned beneficially by
Takashi Bamba as follows: 3,250 shares of Class A Common Stock directly and
with respect to which he has sole voting and investment power; 9,750 shares
of Class A Common Stock issued to Mr. Bamba as an employee stock bonus
award which will vest ratably, according to its terms, over the remaining
term of the award; and 25,000 shares of Class A Common Stock issuable to
Mr. Bamba pursuant to a non-qualified stock option which will vest ratably,
according to its terms, over four years following the date of the grant.
(18) Includes shares beneficially owned or deemed to be owned beneficially by
John Chou as follows: 3,465 shares of Class A Common Stock directly and
with respect to which he has sole voting and investment power; 9,750 shares
of Class A Common Stock issued to Mr. Chou as an employee stock bonus award
which will vest ratably, according to its terms, over the remaining term of
the award; and 25,000 shares of Class A Common Stock issuable to Mr. Chou
pursuant to a non-qualified stock option which will vest ratably, according
to its terms, over four years following the date of the grant.
(19) Includes 19,881,455 shares of Class B Common Stock owned by BNASIA, Ltd., a
limited partnership of which Blake M. Roney and his wife Nancy L. Roney are
the general partners and who share voting and investment power.
(20) Includes 4,850,736 shares of Class B Common Stock owned by RCKASIA, Ltd., a
limited partnership of which R. Craig Bryson and his wife Kathleen D.
Bryson are the general partners and who share voting and investment power.
(21) Class A Common Stock includes: 250,825 shares subject to a stock option
which has been granted to an executive officer of the Company and which is
exercisable until January 1, 2004; 31,115 shares owned directly by certain
directors and executive officers; and 64,500 shares issued to certain
directors and executive officers as employee stock bonus awards which will
vest ratably, according to their terms, over the remaining terms of the
awards; and 189,000 shares issued to certain directors and executive
officers as non-qualified stock options which will vest either ratably,
according to their terms, over four years or, with respect to options held
by non-employee directors, the day before the next annual meeting of
stockholders following the date of grant.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
S Corporation Distribution
Prior to the Reorganization, each Subsidiary involved elected to be
treated as an "S" corporation under Subchapter S of the Code and comparable
state tax laws. On November 19, 1996, the S corporation status of such
Subsidiaries was terminated (the "S Termination Date"). Prior to the S
Termination Date, the Company declared a distribution to the Orininal
Stockholders that included all of such Subsidiaries' previously earned and
undistributed S corporation earnings through the S Termination Date (the "S
Corporation Distribution"). As of the date of the Reorganization, such
Subsidiaries' aggregate undistributed taxable S corporation earnings were $86.5
million. The S Corporation Distribution was distributed in the form of
promissory notes bearing interest at 6% per annum (the "S Distribution Notes").
On April 4, 1997, the Company paid the outstanding S Distribution Notes balances
together with the related interest expense due. The Original Stockholders, which
include Messrs. Blake M. Roney, Steven J. Lund and Keith R. Halls, who during
1997 served and continue to serve as officers and directors of the Company, were
holders of the S Distribution Notes.
Control By Original Stockholders
As of March 5, 1998, approximately 98% of the combined voting power of the
outstanding shares of Common Stock was held by the Original Stockholders and
certain of their affiliates. Consequently, as of such date, the Original
Stockholders and certain of their affiliates have the ability, acting in
concert, to elect all directors of the Company and approve any action requiring
approval by a majority of the stockholders of the Company.
-56-
<PAGE>
Acquisition of NSI
On February 27, 1998, the Company entered into the Acquisition Agreement
with the NSI Stockholders to acquire the Acquired Entities. The consideration to
be paid by the Company to the NSI Stockholders will consist of the Series A
Preferred Stock, in an amount determined as set forth below, the assumption of
the Acquired Entities' S Distribution Notes payable to the NSI Stockholders in
the amount of approximately $180 million (taking into account the Acquired
Entities' S Distribution Notes in the amount of approximately $136.2 million as
of December 31, 1997 and additional Acquired Entities' S Distribution Notes
covering undistributed earnings for the period commencing January 1, 1998 and
ending on the closing date of the NSI Acquisition) and, contingent upon NSI and
the Company meeting certain earnings growth targets, up to $25 million in cash
per year over the next four years. In addition, the Acquisition Agreement
provides that if the Acquired Entities' S Distribution Notes for the
above-referenced periods do not equal or exceed $180 million, the Company will
pay each NSI Stockholder in cash or in the form of promissory notes the
difference between (i) $180 million and (ii) the aggregate principal amount of
the Acquired Entities' S Distribution Notes multiplied by each NSI Stockholder's
proportional ownership interest in the outstanding capital stock of NSI. The
Acquisition Agreement provides that the number of shares of Series A Preferred
Stock to be delivered to the NSI Stockholders shall be determined by dividing
$70 million by the average closing price of the Class A Common Stock for the 20
consecutive trading days ending five trading days prior to the closing of the
NSI Acquisition. See "Recent Developments."
Operating, License and Distribution Agreements
NSI licenses to the Company, through the Subsidiaries, rights to
distribute NSI products and to use certain NSI property in the Company's
markets. NSIMG, an NSI affiliate, provide management support services to the
Company and the Subsidiaries, pursuant to the Operating Agreements with the
Subsidiaries. Virtually all of the products sold by the Company are purchased
from NSI pursuant to distribution agreements. The Company also manufactures
itself, or through third-party manufacturers, certain products and commercial
materials which it then sells using NSI trademarks or tradenames licensed under
trademark/tradename license agreements. In addition, the Company does not have
its own sales or distribution network but licenses the right to use NSI's
distribution network and global distributor compensation plan pursuant to
licensing and sales agreements. NSIMG also provides a broad range of management,
administrative and technical support to the Company pursuant to management
services agreements.
During the fiscal year ended December 31, 1997, NSI and NSIMG charged the
Company approximately $241.0 million and $7.3 million, respectively, for goods
and services provided to the Company under the Operating Agreements.
The Operating Agreements were approved by the original Board of Directors
of the Company, which was composed entirely of officers and shareholders of NSI.
In addition, two of the executive officers of the Company, including the Chief
Executive Officer, were also executive officers of NSI through the date of the
NSI Acquisition. During 1997 a portion of such officers' time was spent on the
affairs of NSI, for which they receive compensation from NSI, in addition to
amounts they received from the Company for services to the Company.
During 1997, Nu Skin Japan paid NSI a royalty of 8% of the revenue from
sales of products manufactured by a third party manufacturer under a license
agreement between Nu Skin Japan and NSI. In the fiscal year ended December 31,
1997, Nu Skin Japan paid NSI $3.7 million in royalties under this agreement.
During 1997, pursuant to wholesale distribution agreements, Nu Skin Hong
Kong distributed certain NSI products to Nu Skin Personal Care Australia, Inc.
and Nu Skin New Zealand, Inc., affiliates of NSI. Pursuant to these agreements,
Nu Skin Hong Kong was paid approximately $4.3 million in 1997 by Nu Skin
Personal Care Australia, Inc. and Nu Skin New Zealand, Inc.
-57-
<PAGE>
Concurrently with the Company's initial public offering, the Company
purchased from NSI for $25 million, the exclusive rights to distribute NSI
products in Thailand, Indonesia, Malaysia, the Philippines, the People's
Republic of China, Singapore and Vietnam. As of February 1, 1998, the Company
had paid all of this amount. Following the NSI Acquisition, the Company, through
its Subsidiary, NSI, will license to Nu Skin USA, Inc. and other affiliates
operating in Canada, Mexico, Puerto Rico and Guatemala, rights to distribute Nu
Skin products and to use certain intellectual property. NSIMG, a wholly-owned
subsidiary of the Company, will provide management support services to the
Retained Entities. Virtually all of the products sold by the Retained Entities
will be purchased from the Company.
The Company anticipates the above described relationships will be modified
or impacted to some degree by the NSI Acquisition. See "Recent Developments."
Stockholders Partnership
R. Craig Bryson and Craig S. Tillotson are major stockholders of the
Company and have been NSI distributors since 1984. Messrs. Bryson and Tillotson
are partners in an entity (the "Partnership") which receives substantial
commissions from NSI, including commissions on sales generated within the
Company's markets. For the fiscal year ended December 31, 1997, total
commissions paid to the Partnership on sales originating in the Company's then
open markets (Japan, Taiwan, Hong Kong, South Korea and Thailand) were
approximately $1.1 million. By agreement, NSI pays commissions to the
Partnership at the highest level of commissions available to distributors.
Management believes that this arrangement allows Messrs. Bryson and Tillotson
the flexibility of using their expertise and reputations in network marketing
circles to sponsor, motivate and train distributors to benefit NSI's distributor
force generally, without having to focus solely on their own organizations.
Stockholders Agreement
The Original Stockholders entered into a stockholders agreement with the
Company (the "Original Stockholders Agreement") immediately prior to the initial
public offering of the Company's Class A Common Stock in November 1996. Pursuant
to the Original Stockholders Agreement and in order to ensure the qualification
of the Reorganization under Section 351 of the Code, the Original Stockholders
agreed not to transfer any shares through November 28, 1997 without the consent
of the Company except for certain transfers relating to the funding of the
Distributor Options and the grant of employee stock bonus awards.
Effective as of November 28, 1997, the Original Stockholders entered into
an amended and restated stockholders agreement with the Company (the
"Stockholders Agreement"). As of March 5, 1998, the Original Stockholders and
certain of their affiliates beneficially owned shares having approximately 98%
of the combined voting power of the outstanding shares of Common Stock. The
Original Stockholders agreed not to transfer any shares they own through
November 28, 1998 (the "Initial Lock-up Period") without the consent of the
Company except for certain transfers relating to the funding of Distributor
Options and the grant of employee stock bonus awards. However, the NSI
Acquisition has effected an automatic extension of the lock-up period until one
year following the closing date of the NSI Acquisition (the "Extended Lock-up
Period").
-58-
<PAGE>
For one year following the last to expire of (i) the Initial Lock-up
Period, and (ii) the Extended Lock-up Period (the "Restricted Resale Period"),
all sales of Shares in a public resale pursuant to Rule 144 or any other exempt
transaction under the Securities Act, shall not exceed in any calendar quarter
an amount determined by multiplying (x) a percentage determined for each
Original Stockholder in accordance with each Original Stockholder's pro-rata
ownership percentage in the Company by (y) the average weekly trading volume for
the Company's Class A Common Stock on the New York Stock Exchange during the
calendar quarter immediately preceding any transfer permitted during the
Restricted Resale Period (the "Rule 144 Allotment"). In no event, however, shall
any Stockholder's Rule 144 Allotment be less than 20,000 shares per calendar
quarter with the exception of certain of the Original Stockholders' controlled
entities identified in the Stockholders Agreement whose Rule 144 Allotment for
any calendar quarter shall be equal to 5% of the shares held by such Original
Stockholder on the date of the Stockholders Agreement. The Original Stockholders
have been granted registration rights by the Company permitting each such
Original Stockholder to register his or her shares of Class A Common Stock,
subject to certain restrictions, on any registration statement filed by the
Company until such Original Stockholder has sold a specified value of shares of
Class A Common Stock.
Certain Loans
As part of his employment agreement, the Company loaned Mr. Chou $1
million. The loan bears no interest and is payable upon demand if Mr. Chou
ceases to be employed by Nu Skin Taiwan or an affiliate. The loan is to be
repaid by applying $100,000 of the sum earned by Mr. Chou under the Bonus
Incentive Plan per year against the loan balance. If less than $100,000 is
earned under the Bonus Incentive Plan in a given year, $100,000 is nevertheless
applied against the loan balance. If Mr. Chou is terminated "without cause," any
loan balance will be forgiven. See "Executive Compensation-- Employment
Agreements."
On December 10, 1997, the Company loaned $5 million (the "Original
Principal Amount") to Nedra D. Roney. This loan is secured by a pledge by Ms.
Roney of three hundred forty-nine thousand four hundred six (349,406) shares of
Class B Common Stock. The loan is payable on demand with interest on the
original principal amount at the statutory rate on the date of the loan as set
forth under the Internal Revenue Code of 1986, as amended. This loan was made in
connection with Ms. Roney's entering into the Stockholders Agreement, as
amended.
Repurchase of Class B Common Stock
On December 10, 1997, the Company repurchased in a series of private
transactions a total of 1,067,529 shares of Class B Common Stock from certain of
the Original Stockholders as follows: 281,615 shares from Kirk V. Roney; 281,614
shares from Melanie K. Roney; 214,286 shares from Rick A. Roney; 214,286 shares
from Burke F. Roney; 20,964 shares from Park R. Roney and 54,764 shares from The
MAR Trust. The Company purchased all of such shares for $14.31 per share, a
purchase price based on seventy percent (70% ) of the December 9, 1997 closing
price of the Company's Class A Common Stock as reported on the New York Stock
Exchange. These shares were repurchased in connection with the execution by such
Original Stockholders of the Stockholders Agreement and converted to Class A
Common Stock upon purchase by the Company.
-59-
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) Documents filed as part of this Form 10-K:
1. Financial Statements (pursuant to Part II, Item 8)
Report of Independent Accountants
Consolidated Balance Sheets at December 31, 1996 and 1997
Consolidated Statements of Income for the years ended
December 31, 1995, 1996 and 1997
Consolidated Statements of Stockholders' Equity for the
years ended December 31, 1995, 1996 and 1997
Consolidated Statements of Cash Flows for the years ended
December 31, 1995, 1996 and 1997
Notes to Consolidated Financial Statements
2. Financial Statement Schedules: Financial statement schedules
have been omitted because they are not required or are not
applicable, or because the required information is shown in
the financial statements or notes thereto.
3(a) Exhibits: The following Exhibits are filed with this Form
10-K:
Exhibit
Number Exhibit Description
*2.1 Stock Acquisition Agreement between Nu Skin Asia
Pacific, Inc. and each of the persons on the
signature pages thereof, dated February 27, 1998.
3.1 Amended and Restated Certificate of Incorporation of
the Company incorporated by reference to Exhibit 3.1
to the Company's Registration Statement on Form S-1
(File No. 333-12073) (the "Form S-1").
3.2 Amended and Restated Bylaws of the Company
incorporated by reference to Exhibit 3.2 to the
Company's Form S-1.
4.1 Specimen Form of Stock Certificate for Class a Common
Stock incorporated by reference to Exhibit 4.1 to the
Company's Form S-1.
4.2 Specimen Form of Stock Certificate for Class B Common
Stock incorporated by reference to Exhibit 4.2 to the
Company's Form S-1.
10.1 Form of Indemnification Agreement to be entered into
by and among the Company and certain of its officers
and directors incorporated by reference to Exhibit
10.1 to the Company's Form S-1.
-60-
<PAGE>
10.2 Form of Stockholders' Agreement by and among the
initial stockholders of the Company incorporated by
reference to Exhibit 10.2 to the Company's Form S-1.
10.3 Employment Contract, dated December 12, 1991, by and
between Nu Skin Taiwan and John Chou incorporated by
reference to Exhibit 10.3 to the Company's Form S-1.
10.4 Employment Agreement, dated May 1, 1993, by and
between Nu Skin Japan and Takashi Bamba incorporated
by reference to Exhibit 10.4 to the Company's Form
S-1.
10.5 Service Agreement, dated January 1, 1996, by and
between Nu Skin Korea and Sung-Tae Han incorporated
by reference to Exhibit 10.5 to the Company's Form
S-1.
10.6 Form of Purchase and Sale Agreement between Nu Skin
Hong Kong and NSI incorporated by reference to
Exhibit 10.6 to the Company's Form S-1.
10.7 Form of Licensing and Sales Agreement between NSI and
each Subsidiary (other than Nu Skin Korea)
incorporated by reference to Exhibit 10.7 to the
Company's Form S-1.
10.8 Form of Regional Distribution Agreement between NSI
and Nu Skin Hong Kong incorporated by reference to
Exhibit 10.8 to the Company's Form S-1.
10.9 Form of Wholesale Distribution Agreement between NSI
and each Subsidiary (other than Nu Skin Hong Kong
incorporated by reference to Exhibit 10.9 to the
Company's Form S-1.
10.10 Form of Trademark/Tradename License Agreement between
NSI and each Subsidiary incorporated by reference to
Exhibit 10.10 to the Company's Form S-1.
10.11 Form of Management Services Agreement between NSIMG
and each subsidiary incorporated by reference to
Exhibit 10.11 to the Company's Form S-1.
10.12 Form of Licensing and Sales Agreement between NSI and
Nu Skin Korea incorporated by reference to Exhibit
10.12 to the Company's Form S-1.
10.13 Form of Independent Distributor Agreement by and
between NSI and Independent Distributors in Hong
Kong/Macau incorporated by reference to Exhibit 10.13
to the Company's Form S-1.
10.14 Form of Independent Distributor Agreement by and
between NSI and Independent Distributor Agreement by
and between NSI and Independent Distributors in
Japan.
10.15 Form of Independent Distributor Agreement by and
between NSI and Independent Distributors in South
Korea incorporated by reference to Exhibit 10.15 to
the Company.
10.16 Form of Independent Distributor Agreement by and
between NSI and Independent Distributors in Taiwan
incorporated by reference to Exhibit 10.16 to the
Company.
10.17 Nu Skin Asia Pacific, Inc. 1996 Stock Incentive Plan
incorporated by reference to Exhibit 10.17 to the
Company's Form S-1.
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<PAGE>
10.18 Form of bonus Incentive Plan for Subsidiary
Presidents incorporated by reference to Exhibit 10.18
to the Company's Form S-1.
10.19 Option Agreement, by and between the Company and M.
Truman Hunt incorporated by reference to Exhibit
10.19 to the Company's Form S-1.
10.20 Form of Mutual Indemnification Agreement by and
between the Company and NSI.
10.21 Manufacturing Sublicense Agreement, dated July 27,
1995, by and between NSI and Nu Skin Japan
incorporated by reference to Exhibit 10.21 to the
Company's Form S-1.
10.22 1996 Option Agreement by and between the Company and
NSI incorporated by reference to Exhibit 10.22 to the
Company's Form S-1.
10.23 Form of Addendum to Amended and Restated Licensing
and Sales Agreement incorporated by reference to
Exhibit 10.23 to the Company's Form S-1.
10.24 Form of Administrative Services Agreement
incorporated by reference to Exhibit 10.24 to the
Company's Form S-1.
*10.25 Form of Amended and Restated Stockholders Agreement
dated as of November 28, 1997.
*10.26 Demand Promissory Note in the original principal
amount of $5,000,000 dated December 10, 1997 from
Nedra Roney payable to Nu Skin Asia Pacific, Inc.
*10.27 Stock Pledge Agreement between Nu Skin Asia Pacific,
Inc. and Nedra Roney dated as of December 10, 1997.
*10.28 Stock Purchase Agreement dated as of December 10,
1997 between Nu Skin Asia Pacific, Inc. and Kirk V.
Roney and Melanie R. Roney.
*10.29 Stock Purchase Agreement dated as of December 10,
1997 between Nu Skin Asia Pacific, Inc. and Rick A.
Roney and certain affiliates.
*10.30 Stock Purchase Agreement dated as of December 10,
1997 between Nu Skin Asia Pacific, Inc. and Burke F.
Roney.
*10.31 Stock Purchase Agreement dated December 10, 1997
between Nu Skin Asia Pacific, Inc. and Park R. Roney.
*10.32 Stock Purchase Agreement dated December 10, 1997
between Nu Skin Asia Pacific, Inc. and The MAR Trust.
13. 1997 Annual Report to Stockholders (Only items incorporated
by reference).
*21.1 Subsidiaries of the Company.
27. Financial Data Schedule.
* These Exhibits were previously filed with the Form 10-K of Nu Skin
Asia Pacific, Inc. on March 13, 1998.
(b)The Company did not file a Current Report on Form 8-K during the
last quarter of the period covered by this report.
(c)The exhibits required by Item 601 of Regulation S-K are set forth
in (a)3 above.
(d)The financial statement schedules required by Regulation S-K are
set forth in (a)2 above.
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<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, on this 19th day of
March, 1998.
NU SKIN ASIA PACIFIC, INC.
By: /s/ Corey B. Lindley
Corey B. Lindley
Its: Chief Finacial Officer (Principal
Financial and Accounting Officer)
MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Common Stock
The Company's Class A Common Stock is listed on the New York Stock
Exchange ("NYSE"). The Company's Class A Common Stock trades under the symbol
"NUS" and was listed on the NYSE on November 21, 1996. Prior to that date, there
was no public market for the Company's Class A Common Stock. The following table
is based upon information available to the Company and sets forth the range of
the high and low sales prices for the Company's Class A Common Stock for the
quarterly period from November 21, 1996, the day the Class A Common Stock was
priced in the Company's initial public offering based upon quotations on the
NYSE:
Sales Price
---------------------
Security Quarter Ended High Low
---------- --------------- ------ ---------
Class A Common Stock, December 31, 1996 (since $30.78 $23.00(1)
par value $.001 per share November 21, 1996)
March 31, 1997 $30.87 $23.00
June 30, 1997 $28.25 $23.62
September 30, 1997 $27.18 $19.31
December 31, 1997 $24.43 $16.00
-------------------
(1) Denotes the price per share in the Underwritten Offerings.
The market price of the Company's Class A Common Stock is subject to
significant fluctuations in response to variations in the Company's quarterly
operating results, general trends in the market for the Company's products and
product candidates, and other factors, many of which are not within the control
of the Company. In addition, broad market fluctuations, as well as general
economic, business and political conditions, may adversely affect the market for
the Company's Class A Common Stock, regardless of the Company's actual or
projected performance.
The closing price of the Company's Class A Common Stock on March 5,
1998 was $22.38. The approximate number of holders of record of the Company's
Class A Common Stock and Class B Common Stock as of March 5, 1998 was 958. This
number does not represent the actual number of beneficial owners of shares of
the Company's Class A Common Stock because shares are frequently held in "street
name" by securities dealers and others for the benefit of individual owners who
have the right to vote their shares.
The Company has not paid or declared any cash dividends on its Class A
Common Stock and does not anticipate doing so in the foreseeable future. The
Company currently anticipates that all of its earnings, if any, will be retained
for use in the operation and expansion of its business. Any future determination
as to cash dividends will depend upon the earnings and financial position of the
Company and such other factors as the Company's Board of Directors may deem
appropriate.
-1-
<PAGE>
SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
Three
Months
Year Ended Ended
September 30, December 31, Year Ended December 31,
--------------- ------------- ---------------------------------------
1993 1994 1994 1994 1995 1996 1997
------ ------ ------ ------ ------ ------ ------
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C> <C> <C>
Income Statement Data:
Revenue................................... $110,624 $254,637 $ 73,562 $264,440 $358,609 $678,596 $890,548
Cost of sales............................. 38,842 86,872 19,607 82,241 96,615 193,158 248,367
-------- -------- -------- -------- -------- -------- --------
Gross profit.............................. 71,782 167,765 53,955 182,199 261,994 485,438 642,181
Operating expenses:
Distributor incentives............... 40,267 95,737 27,950 101,372 135,722 249,613 346,117
Selling, general and administrative.. 27,150 44,566 13,545 48,753 67,475 105,477 139,525
Distributor stock expense............ -- -- -- -- -- 1,990 17,909
-------- -------- -------- -------- -------- -------- --------
Operating income.......................... 4,365 27,462 12,460 32,074 58,797 128,358 138,630
Other income (expense), net............... 133 443 (813) (394) 511 2,833 10,726
-------- -------- -------- -------- -------- -------- --------
Income before provision for income
taxes................................ 4,498 27,905 11,647 31,680 59,308 131,191 149,356
Provision for income taxes................ 417 10,226 2,730 10,071 19,097 49,494 55,710
-------- -------- -------- -------- -------- -------- --------
Net income................................ $ 4,081 $ 17,679 $ 8,917 $ 21,609 $ 40,211 $ 81,697 $ 93,646
======== ======== ======== ======== ======== ======== ========
Net income per share:
Basic.......................................................................... $ .51 $ 1.03 $ 1.12
Diluted........................................................................ $ .50 $ 1.01 $ 1.10
Weighted average common shares outstanding:
Basic............................................................................. 78,645 79,194 83,331
Diluted........................................................................... 80,518 81,060 85,371
</TABLE>
<TABLE>
<CAPTION>
As of September 30, As of December 31,
------------------- ------------------------------------------
1993 1994 1994 1995 1996 1997
-------- -------- -------- -------- --------- ---------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Balance Sheet Data:
Cash and cash equivalents................. $ 14,591 $ 18,077 $ 16,288 $ 63,213 $ 207,106 $ 166,305
Working capital........................... (504) 15,941 26,680 47,863 66,235 101,341
Total assets.............................. 41,394 71,565 61,424 118,228 331,715 352,449
Short term notes payable to stockholders.. -- -- -- -- 71,487 --
Short term note payable to NSI............ -- -- -- -- 10,000 10,000
Long term note payable to NSI............. -- -- -- -- 10,000 --
Stockholders' equity...................... 6,926 24,934 33,861 61,771 107,792 177,528
</TABLE>
<TABLE>
<CAPTION>
As of September 30, As of December 31,
------------------- ------------------------------------------
1993 1994 1994 1995 1996 1997
-------- -------- -------- -------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Other Information(1):
Number of active distributors............. 106,000 152,000 170,000 236,000 377,000 430,000
Number of executive distributors.......... 2,788 5,835 6,083 7,550 20,483 21,945
- ---------------------
<FN>
(1) Active distributors are those distributors who are resident in the
countries in which the Company operates and who have purchased products
during the three months ended as of the date indicated, rounded to the
nearest thousand. An executive distributor is an active distributor who has
submitted a qualifying letter of intent to become an executive distributor,
achieved specified personal and group sales volumes for a four month period
and maintained such specified personal and group sales volumes thereafter.
</FN>
</TABLE>
-2-
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following discussion of the Company's financial condition and
results of operations should be read in conjunction with the Consolidated
Financial Statements and the related notes thereto which are included in this
report.
General
Nu Skin Asia Pacific is a network marketing company involved in the
distribution and sale of premium quality, innovative personal care and
nutritional products. The Company is the exclusive distribution vehicle for Nu
Skin International, Inc. ("Nu Skin International" or "NSI") in the countries of
Japan, Taiwan, Hong Kong (including Macau), South Korea, Thailand and the
Philippines, where the Company currently has operations, and in Indonesia,
Malaysia, the PRC, Singapore and Vietnam, where Nu Skin operations have not yet
commenced. Until September 30, 1994, the Company's fiscal year ended on
September 30 of each year. As of October 1, 1994, the Company changed its fiscal
year end to December 31 of each year, beginning with the fiscal year ended
December 31, 1995.
The Company's revenue is primarily dependent upon the efforts of a
network of independent distributors who purchase products and sales materials
from the Company in their local currency and who constitute the Company's
customers. The Company recognizes revenue when products are shipped and title
passes to these independent distributors. Revenue is net of returns, which have
historically been less than 3.5% of gross sales. Distributor incentives are paid
to several levels of distributors on each product sale. The amount and recipient
of the incentive varies depending on the purchaser's position within the Global
Compensation Plan. These incentives are classified as operating expenses. The
following table sets forth revenue information for the time periods indicated.
This table should be reviewed in connection with the tables presented under
"Results of Operations" which disclose distributor incentives and other costs
associated with generating the aggregate revenue presented.
Year Ended December 31,
Date Operations ----------------------------
Country(1) Commenced 1995 1996 1997
- ------- --------- ------ ------ -----
(in millions)
Japan April 1993 $ 231.5 $ 380.0 $ 599.4
Taiwan January 1992 105.4 154.6 168.6
South Korea February 1996 -- 122.4 74.1
Thailand March 1997 -- -- 22.8
Hong Kong September 1991 17.1 17.0 21.3
Sales to NSI affiliates(2) January 1993 4.6 4.6 4.3
-------- -------- --------
$ 358.6 $ 678.6 $ 890.5
======== ======== ========
- ------------------------------
(1) Operations in the Philippines commenced in February 1998.
(2) Includes revenue from the sale of certain products to NSI affiliates in
Australia and New Zealand.
Revenue generated in Japan and Taiwan represented 67.3% and 18.9%,
respectively, of total revenue generated during 1997. The Company's South Korean
operations, which commenced in February 1996, generated 8.3% of total revenue
for 1997. The Company's Thailand operations, which commenced in March 1997
generated 2.6% of total revenue for 1997. Revenue generated in Hong Kong during
1997 represented 2.4% of total Company revenue. Operating expenses have
increased in each country with the growth of the Company's revenue.
Cost of sales primarily consists of the cost of products purchased from
NSI (in U.S. dollars) as well as duties related to the importation of such
products. Additionally, cost of sales includes the cost of sales materials sold
to distributors at or near cost. Sales materials are generally purchased in
local currencies. As the sales mix changes between product categories and sales
materials, cost of sales and gross profit may fluctuate to some degree due
primarily
-3-
<PAGE>
to varying import duty rates levied on imported product lines. In each of the
Company's current markets, duties are generally higher on nutritional products
than on personal care products. Also, as currency exchange rates fluctuate, the
Company's gross margin will fluctuate. In general, however, costs of sales move
proportionate to revenue.
Distributor incentives are the Company's most significant expense.
Pursuant to the Operating Agreements with NSI, the Company and the Subsidiaries
are contractually obligated to pay a distributor commission expense of 42.0% of
commissionable product sales (with the exception of South Korea, where, due to
government regulations, the Company uses a formula based upon a maximum payout
of 35.0% of commissionable product sales). The Licensing and Sales Agreements
provide that the Company is to satisfy this obligation by paying commissions
owed to local distributors. In the event that these commissions exceed 42.0% of
commissionable product sales, the Company is entitled to receive the difference
from NSI. In the event that the commissions paid are lower than 42.0%, the
Company must pay the difference to NSI. Under this formulation, the Company's
total commission expense is fixed at 42.0% of commissionable product sales in
each country (except for South Korea). The 42.0% figure has been set on the
basis of NSI's experience over the past eight years which indicates that actual
commissions paid and the cost of administering the Global Compensation Plan
(which have historically not exceeded 2% of revenue) together have averaged
approximately 42.0% of commissionable product sales per year during such period.
Because the Company's revenue includes sales of both commissionable and
non-commissionable items, distributor incentives as a percentage of total
revenue have ranged from approximately 36.8% to 38.9% since December 31, 1994.
Non-commissionable items consist of sales materials and starter kits as well as
sales to NSI affiliates in Australia and New Zealand.
In the fourth quarter of 1996, NSI and the Company implemented a
one-time distributor equity incentive program. This global program provided for
the granting of options to distributors to purchase 1.6 million shares of the
Company's Class A Common Stock. The number of options each distributor received
was based on his or her performance and productivity through August 31, 1997.
The options are exercisable at a price of $5.75 per share and vested on December
31, 1997. As anticipated, the Company recorded a $2.0 million charge in 1996 and
recorded additional charges in 1997 of $17.9 million for the non-cash and
non-recurring expenses associated with this program.
Selling, general and administrative expenses include wages and
benefits, rents and utilities, travel and entertainment, promotion and
advertising and professional fees, as well as license and management fees paid
to NSI and NSIMG. Pursuant to the Operating Agreements, the Company contracts
for management support services from NSIMG, for which the Company pays a fee
equal to an allocation of expenses plus 3.0% of such expenses. In addition, the
Company pays to NSI a license fee of 4.0% of the Company's revenue from sales to
distributors (excluding sales of starter kits) for the use of NSI's distributor
lists, distribution system and certain related intangibles.
Provision for income taxes is dependent on the statutory tax rates in
each of the countries in which the Company operates. Statutory tax rates in the
countries in which the Company has operations are 16.5% in Hong Kong, 25.0% in
Taiwan, 30.0% in Thailand, 30.1% in South Korea, 35.0% in the Philippines and
57.9% in Japan. However, the statutory tax rate in Japan is scheduled to be
reduced to 54.3% for fiscal years beginning in 1999 and in the Philippines the
rate is scheduled to be reduced to 34%, 33% and 32% in 1998, 1999 and 2000,
respectively. The Company operates a regional business center in Hong Kong,
which bears inventory obsolescence and currency exchange risks. Any income or
loss incurred by the regional business center is not subject to taxation in Hong
Kong. In addition, since the Reorganization, the Company is subject to taxation
in the United States, where it is incorporated, at a statutory corporate federal
tax rate of 35.0%. However, the Company receives foreign tax credits in the U.S.
for the amount of foreign taxes actually paid in a given period, which are
utilized to reduce taxes payable in the United States. See "Risk
Factors--Taxation Risks and Transfer Pricing."
On February 27, 1998, the Company entered into a Stock Acquisition
Agreement to acquire NSI and Nu Skin affiliated entities throughout Europe,
Australia and New Zealand (the "NSI Acquisition") for approximately $180 million
in assumed liabilities and $70 million in preferred stock that is anticipated to
convert to common stock upon stockholder approval. In addition, contingent on
meeting specific earnings growth benchmarks, the Company will pay up to $25
million in cash per year over four years to the selling stockholders. The Stock
Acquisition Agreement also provides that if the assumed liabilities do not equal
or exceed $180 million, the Company will pay to the selling stockholders in cash
or in the form of promissory notes the difference between $180 million and the
assumed liabilities.
-4-
<PAGE>
The NSI Acquisition is expected to be accounted for by the purchase
method of accounting, except for the portion of the Acquired Entities under the
common control of a group of stockholders, which portion will be accounted for
in a manner similar to a pooling of interests. The common control group is
comprised of the stockholders of NSI that are immediate family members.
Management believes that the NSI Acquisition will allow the Company to
diversify its markets and earnings base. Following the NSI Acquisition, the
Company will own and control the product development, marketing, and
distribution functions of its business creating a vertically integrated,
consumer products company. The NSI Acquisition will allow the Company to
increase its current markets from six Asian markets to a total of 18 markets
worldwide. The transaction makes available to the Company a number of additional
significant markets for future expansion.
-5-
<PAGE>
Results of Operations
The following tables set forth operating results and operating results
as a percentage of revenue, respectively, for the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
(in millions)
1995 1996 1997
--------- --------- ---------
<S> <C> <C> <C>
Revenue.............................................................. $ 358.6 $ 678.6 $ 890.5
Cost of sales........................................................ 96.6 193.2 248.4
--------- --------- ---------
Gross profit......................................................... 262.0 485.4 642.1
Operating expenses:
Distributor incentives.......................................... 135.7 249.6 346.1
Selling, general and administrative............................. 67.5 105.4 139.5
Distributor stock expense....................................... -- 2.0 17.9
--------- --------- ---------
Operating income..................................................... 58.8 128.4 138.6
Other income, net.................................................... .5 2.8 10.7
--------- --------- ---------
Income before provision for income taxes............................. 59.3 131.2 149.3
Provision for income taxes........................................... 19.1 49.5 55.7
--------- --------- ---------
Net income........................................................... $ 40.2 $ 81.7 $ 93.6
========= ========= =========
Unaudited supplemental data(1):
Income before pro forma provision for income taxes.............. $ 59.3 $ 131.2
Pro forma provision for income taxes............................ 22.8 46.0
--------- ---------
Net income after pro forma provision for income taxes........... $ 36.5 $ 85.2
========= =========
</TABLE>
<TABLE>
<CAPTION>
Year Ended December 31,
1995 1996 1997
--------- --------- ---------
<S> <C> <C> <C>
Revenue............................................................. 100.0% 100.0% 100.0%
Cost of sales....................................................... 26.9 28.5 27.9
--------- --------- ---------
Gross profit........................................................ 73.1 71.5 72.1
Operating expenses:
Distributor incentives......................................... 37.8 36.8 38.9
Selling, general and administrative............................ 18.8 15.5 15.6
Distributor stock expense...................................... -- .3 2.0
--------- --------- ---------
Operating income.................................................... 16.5 18.9 15.6
Other income (expense), net......................................... .1 .4 1.2
--------- --------- ---------
Income before provision for income taxes............................ 16.6 19.3 16.8
Provision for income taxes.......................................... 5.3 7.3 6.3
--------- --------- ---------
Net income.......................................................... 11.3% 12.0% 10.5%
========= ========= =========
Unaudited supplemental data(1):
Income before pro forma provision for income taxes............. 16.6% 19.3%
Pro forma provision for income taxes............................ 6.4 6.8
--------- ---------
Net income after pro forma provision for income taxes........... 10.2% 12.5%
========= =========
- -------------------
<FN>
(1) Reflects adjustment for Federal and state income taxes as if the Company
had been taxed as a C corporation rather than as an S corporation since
inception. No adjustment is necessary for 1997 because the Company has been
taxed as a C corporation for this period.
</FN>
</TABLE>
-6-
<PAGE>
1997 Compared to 1996
Revenue was $890.5 million during 1997, an increase of 31.2% from
revenue of $678.6 million recorded during 1996. This increase is primarily
attributable to several factors. First, revenue in Japan increased by $219.4
million, or 57.7%. This increase in revenue was primarily a result of continued
growth of the personal care and IDN product lines, which grew 43.8% and 94.9%,
respectively, in 1997. Additionally, revenue in Japan increased following a
distributor convention held in the first quarter of 1997 and the sponsorship of
the Japan Supergames featuring National Basketball Association stars in the
third quarter of 1997. Second, revenue in Taiwan in 1997 increased by $14.0
million, or 9.1%, from 1996 primarily as a result of growth in IDN sales
following the late 1996 introduction of LifePak, the Company's leading
nutritional supplement. Third, Nu Skin Thailand commenced operations in March
1997, and has generated revenue of $22.8 million for 1997. Fourth, revenue in
Hong Kong increased by $4.3 million during 1997 as compared to 1996, primarily
as a result of growth in IDN sales following the first quarter introduction of
LifePak. Offsetting revenue growth was the decrease in revenue in South Korea of
$48.3 million, which, was primarily due to the country's economic challenges,
currency devaluation and unfavorable media and consumer group attention toward
foreign companies in South Korea.
Gross profit as a percentage of revenue was 72.1% and 71.5% during
1997 and 1996, respectively. This increase is the result of the price increases
which became effective in June of 1997, the reduction in revenue from South
Korea, where import prices are higher than the Company's other markets, and a
modest price reduction in the cost of certain nutritional products. These
factors more than offset the negative impact of foreign currency fluctuations
during 1997.
Distributor incentives as a percentage of revenue increased from 36.8%
for 1996 to 38.9% for 1997. The primary reasons for this increase were the
reduced revenue in South Korea where commissions are capped at 35% of product
revenue versus the standard 42% of product revenue in the Company's other
markets as well as the overall decrease in the sales of non-commissionable
products.
Selling, general and administrative expenses as a percentage of
revenue slightly increased from 15.5% during 1996 to 15.6% during 1997. This
increase was primarily due to increased promotion expenses of approximately $2
million resulting from the net expense to Nu Skin Japan of sponsoring the Japan
Supergames and approximately $2 million resulting from the first quarter
distributor conventions. In addition, other general and administrative expenses
were higher in 1997 as a result of expenses of operating as a public company and
as a result of increased spending in each of the Company's markets to support
current operations. These increased costs were essentially offset as a
percentage of revenue by increased operating efficiencies as the Company's
revenue has grown.
Distributor stock expense of $17.9 million for the year ended December
31, 1997 reflects the one-time grant of the distributor stock options at an
exercise price of 25% of the initial public offering price in connection with
the Underwritten Offerings completed on November 27, 1996.
Operating income during 1997 increased to $138.6 million, an increase
of 8.0% from the $128.4 million of operating income recorded during 1996.
Operating income as a percentage of revenue decreased from 18.9% to 15.6%. This
decrease was caused primarily by higher distributor incentive expenses as a
percentage of revenue.
Other income increased by $7.9 million during 1997 as compared to
1996. The increase was primarily caused by $5.6 million of exchange gains
resulting from forward exchange contracts for the year ended December 31, 1997
and $7.8 million of unrealized exchange gains resulting from an intercompany
loan from Nu Skin Japan to Nu Skin Hong Kong for the year ended December 31,
1997. The increase was offset by exchange losses relating to intercompany
balances denominated in foreign currencies.
Provision for income taxes increased to $55.7 million during 1997
compared to $49.5 million during 1996. The effective tax rate for 1997 and 1996
was 37.3% and 37.7%, respectively. The decrease in the effective tax rate was
due to the Company's termination of its S corporation status during 1996.
-7-
<PAGE>
Net income after provision for income taxes increased by $11.9 million
to $93.6 million during 1997 compared to $81.7 million during 1996. Net income
as a percentage of revenue decreased to 10.5% for 1997 as compared to 12.0% for
1996.
1996 Compared to 1995
Revenue was $678.6 million during 1996, an increase of 89.2% from
revenue of $358.6 million recorded during 1995. This increase is primarily
attributable to several factors. First, revenue in Japan increased by $148.5
million, or 64.1%. This increase in revenue was primarily a result of the
continued success of nutritional, color cosmetics and HairFitness products,
which were introduced in October 1995. Revenue growth in Japan was partially
offset by the strengthening of the U.S. dollar relative to the Japanese yen
during 1996. Second, revenue in Taiwan increased by $49.2 million, or 46.7%,
primarily as a result of the introduction of color cosmetics and other products,
including LifePak in October 1996, along with the opening of a new distribution
and walk-in center in Nankan, Taiwan. Third, in February 1996, Nu Skin Korea
commenced operations and has generated revenue of $122.4 million for 1996.
Additionally, revenue in Hong Kong decreased by $0.1 million during 1996 as
compared to 1995, due to several leading Hong Kong distributors continuing to
focus on other Asian markets.
Gross profit as a percentage of revenue was 71.5% and 73.1% during
1996 and 1995, respectively. This decline reflected the strengthening of the
U.S. dollar, the introduction of nutritional products in Japan and the
commencement of operations in South Korea in 1996. Nutritional products are
generally subject to higher duties than other products marketed by the Company,
which yields lower gross profit as a percentage of revenue. The commencement of
operations in South Korea also impacted gross profit as a percentage of revenue
due to South Korean regulations which result in higher prices on imported
products than in other markets.
Distributor incentives as a percentage of revenue declined from 37.8%
for 1995 to 36.8% for 1996. The primary reason for this decline was increased
revenue from South Korea where local regulations limit the incentives which can
be paid to South Korean distributors.
Selling, general and administrative expenses as a percentage of
revenue declined from 18.8% during 1995 to 15.5% during 1996. This decrease was
primarily due to economies of scale gained as the Company's revenue increased.
Operating income during 1996 increased to $128.4 million, an increase
of 118.4% from the $58.8 million of operating income recorded during 1995.
Operating income as a percentage of revenue increased from 16.5% to 18.9%. This
increase was caused primarily by lower selling, general and administrative
expenses as a percentage of revenue.
Other income increased by $2.3 million during 1996 as compared to
1995. The increase was primarily caused by an increase in interest income
generated through the short-term investment of cash.
Pro forma provision for income taxes increased to $46.0 million during
1996 compared to $22.8 million during 1995. The effective tax rate decreased to
35.0% in 1996 as compared to 38.4% for 1995. The Company generated excess
foreign tax credits in 1995 which did not continue in 1996.
Net income after pro forma provision for income taxes increased by
$48.7 million to $85.2 million during 1996 compared to $36.5 million during
1995. Pro forma net income as a percentage of revenue increased to 12.5% for
1996 as compared to 10.2% for 1995.
Liquidity and Capital Resources
The Company effected the Reorganization and the Underwritten Offerings
in November 1996. During the Underwritten Offerings, the Company raised $98.8
million in net proceeds. As of the date of the Reorganization, the aggregate
undistributed taxable S corporation earnings of the Subsidiaries were $86.5
million. The Subsidiaries' earned and undistributed S corporation earnings
through the date of termination of the Subsidiaries' S corporation status were
-8-
<PAGE>
distributed in the form of the S Distribution Notes, bearing interest at 6.0%
per annum. From the proceeds of the Underwritten Offerings, $15.0 million was
used to pay a portion of the S Distribution Notes and the remaining balance of
$71.5 million was paid in April 1997.
In November 1996, the Company purchased from NSI the distribution
rights to seven new markets in the region. These markets include Thailand and
the Philippines, where operations commenced in March 1997 and February 1998,
respectively, and Indonesia, Malaysia, the PRC, Singapore and Vietnam, where Nu
Skin operations have not yet commenced. These rights were purchased for $25.0
million of which $5.0 million was paid from the proceeds of the Underwritten
Offerings and an additional $10.0 million was paid in January 1997. At December,
31, 1997, the Company had a $10.0 million short term obligation, which was paid
on January 15, 1998, related to the purchase of these rights. The remaining
proceeds of the Underwritten Offerings are being used for general corporate
purposes.
The Company generates significant cash flow from operations due to its
significant growth, high margins and minimal capital requirements. Additionally,
the Company does not extend credit to distributors, but requires payment prior
to shipping products. This process eliminates the need for accounts receivable
from distributors. During the year ended December 31, 1997, the Company
generated $92.7 million from operations compared to $121.2 million and $65.0
million during 1996 and 1995, respectively. This decrease in cash flows from
operations in 1997 is primarily due to the payment of increased foreign taxes in
excess of the U.S. corporate tax rate of 35% in 1997.
As of December 31, 1997, working capital was $101.3 million compared
to $66.2 million and $47.9 million as of December 31, 1996 and 1995,
respectively. This increase is largely due to the increased inventory balances
to support the increased sales activity and the payment of foreign taxes in
excess of the U.S. corporate tax rate of 35% in 1997. Cash and cash equivalents
at December 31, 1997 were $166.3 million compared to $207.1 million and $63.2
million at December 31, 1996 and 1995, respectively.
In December 1997, the Company loaned $5 million to a non-management
stockholder. The loan is secured by 349,406 shares of Class B Common Stock of
the Company. Interest accrues at a rate of 6.0% per annum on the loan. The loan
may be repaid by transferring to the Company the shares pledged to secure the
loan.
Historically, the Company's principal needs for funds have been for
distributor incentives, working capital (principally inventory purchases),
capital expenditures and the development of new markets. The Company has
generally relied entirely on cash flow from operations to meet its business
objectives without incurring long-term debt to unrelated third parties.
Capital expenditures, primarily for equipment, computer systems and
software, office furniture and leasehold improvements, were $7.4 million, $5.7
million and $5.4 million for 1997, 1996 and 1995, respectively. In addition, the
Company anticipates capital expenditures through 1998 of an additional $20.0
million to further enhance its infrastructure, including computer systems and
software, warehousing facilities and walk-in distributor centers in order to
accommodate future growth. The Company is currently reviewing its and principal
vendors' computer systems and software with respect to the "Year 2000" issue.
The Company believes that the capital required to modify these systems will not
be material to the Company.
As a part of the Company's and NSI's strategy to motivate distributors
with equity incentives, the Company sold to NSI an option to purchase 1.6
million shares of the Company's previously issued Class A Common Stock. NSI
initially purchased the option with a $13.1 million 10-year note payable to the
Company bearing interest at 6.0% per annum. As the number of distributor stock
options to be issued to each distributor was revised through August 31, 1997,
the note receivable from NSI was adjusted to $9.8 million. It is anticipated
that the note will be repaid as distributors begin to exercise their options
beginning in 1998.
In December 1997, the Company repurchased in private transactions a
total of 1,067,529 shares of its Class B Common Stock which were immediately
converted to Class A Common Stock and a total of 348,387 shares of Class A
Common Stock for approximately $20.3 million.
-9-
<PAGE>
Under its Operating Agreements with NSI, the Company incurs related
party payables. The Company had related party payables of $59.1 million, $46.3
million and $28.7 million at December 31, 1997, 1996 and 1995, respectively. In
addition, the Company had related party receivables of $10.7 million, $8.0
million and $1.8 million, respectively, at those dates. Related party balances
outstanding in excess of 60 days bear interest at a rate of 2% above the U.S.
prime rate. As of December 31, 1997, no material related party payables or
receivables had been outstanding for more than 60 days.
In connection with the NSI Acquisition the Company will assume up to
$180 million in debt. Management considers the Company to be liquid and able to
meet these and other Company obligations on both a short and long-term basis.
Management believes existing cash balances together with future cash flows from
operations will be adequate to fund cash needs relating to the implementation of
the Company's strategic plans.
Seasonality and Cyclicality
While neither seasonal nor cyclical variations have materially
affected the Company's results of operations to date, the Company believes that
its rapid growth may have overshadowed these factors. Accordingly, there can be
no assurance that seasonal or cyclical variations will not materially adversely
affect the Company's results of operations in the future.
The direct selling industry is impacted by certain seasonal trends
such as major cultural events and vacation patterns. For example, Japan, Taiwan,
Hong Kong, South Korea and Thailand celebrate their respective local New Year in
the Company's first quarter. Management believes that direct selling in Japan is
also generally negatively impacted during August, when many individuals
traditionally take vacations.
Generally, the Company has experienced rapid revenue growth in each
new market from the commencement of operations. In Japan, Taiwan and Hong Kong,
the initial rapid growth was followed by a short period of stable or declining
revenue followed by renewed growth fueled by new product introductions, an
increase in the number of active distributors and increased distributor
productivity. In South Korea, the Company experienced a significant decline in
its 1997 revenue from revenue in 1996 and anticipates additional declines in
1998. Revenue in Thailand also decreased significantly after the commencement of
operations in March 1997. Management believes that the revenue declines in South
Korea and Thailand are partly due to normal business cycles in new markets but
were primarily due to volatile economic conditions in those markets. See
"--Outlook." In addition, the Company may experience variations on a quarterly
basis in its results of operations, as new products are introduced and new
markets are opened. No assurance can be given that the Company's revenue growth
rate in the Philippines, which commenced operations in February 1998 or in new
markets where Nu Skin operations have not commenced, will follow this pattern.
Quarterly Results
The following table sets forth certain unaudited quarterly data for
the periods shown.
<TABLE>
<CAPTION>
1996 1997
-------------------------------------------------- -------------------------------------------------
1st 2nd 3rd 4th 1st 2nd 3rd 4th
Quarter(1) Quarter Quarter Quarter Quarter(2) Quarter Quarter Quarter
------- ------- ------- ------- ------- ------- ------- -------
(in millions, except per share amounts)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenue................... $ 124.2 $ 163.5 $ 183.6 $ 207.3 $ 211.0 $ 230.0 $ 226.4 $ 223.1
Gross profit.............. 89.4 117.4 130.9 147.7 150.3 164.5 164.9 162.4
Operating income.......... 23.2 31.9 37.5 35.8 30.8 38.2 35.8 33.9
Net income................ 14.8 20.3 25.2 21.4 20.5 23.3 24.5 25.3
Net income per share:
Basic............... 0.19 0.26 0.32 0.26 0.25 0.28 0.29 0.30
Diluted............. 0.18 0.25 0.31 0.26 0.24 0.27 0.29 0.30
- ---------------
<FN>
(1) The Company commenced operations in South Korea in February of 1996.
(2) The Company commenced operations in Thailand in March of 1997.
</FN>
</TABLE>
-10-
<PAGE>
Currency Fluctuation and Exchange Rate Information
The Company's revenues and most of its expenses are recognized
primarily outside of the United States. Each entity's local currency is
considered the functional currency. All revenue and expenses are translated at
weighted average exchange rates for the periods reported. Therefore, the
Company's reported sales and earnings will be positively impacted by a weakening
of the U.S. dollar and will be negatively impacted by a strengthening of the
U.S. dollar.
The Company purchases inventory from NSI in U.S. dollars and assumes
currency exchange rate risk with respect to such purchases. Local currency in
Japan, Taiwan, Hong Kong, South Korea, Thailand and the Philippines is generally
used to settle non-inventory transactions with NSI. Given the uncertainty of
exchange rate fluctuations, the Company cannot estimate the effect of these
fluctuations on its future business, product pricing, results of operations or
financial condition. However, because nearly all of the Company's revenue is
realized in local currencies and the majority of its cost of sales is
denominated in U.S. dollars, the Company's gross profits will be positively
affected by a weakening in the U.S. dollar and will be negatively affected by a
strengthening in the U.S. dollar. The Company seeks to reduce its exposure to
fluctuations in foreign exchange rates by creating offsetting positions through
the use of foreign currency exchange contracts and through intercompany loans of
foreign currency. The Company does not use such financial instruments for
trading or speculative purposes. The Company regularly monitors its foreign
currency risks and periodically takes measures to reduce the impact of foreign
exchange fluctuations on the Company's operating results. The Company entered
into significant hedging positions in 1997, which approximated $51.0 million of
forward exchange contracts at December 31, 1997. These forward exchange
contracts, along with the intercompany loan from Nu Skin Japan to Nu Skin Hong
Kong of approximately $92.0 million, were valued at the year end exchange rate
of 130.6 yen to the dollar.
Following are the weighted average currency exchange rates of $1 into
local currency for each of the Company's markets for the quarters listed:
<TABLE>
<CAPTION>
1995 1996 1997
------------------------------------- ------------------------------------- -------------------------------------
1st 2nd 3rd 4th 1st 2nd 3rd 4th 1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Japan(1) 96.2 84.4 94.2 101.5 105.8 107.5 109.0 112.9 121.4 119.1 118.1 125.6
Taiwan 26.2 25.6 27.0 27.2 27.4 27.4 27.5 27.5 27.5 27.7 28.4 31.0
Hong Kong 7.7 7.7 7.7 7.7 7.7 7.7 7.7 7.7 7.7 7.7 7.7 7.7
South Korea 786.9 763.1 765.6 769.1 782.6 786.5 815.5 829.4 863.9 889.6 894.8 1,097.0
Thailand 24.9 24.6 24.9 25.1 25.2 25.3 25.3 25.5 26.0 25.4 31.5 40.3
- ------------------
<FN>
(1) Between December 31, 1997 and March 5, 1998, the exchange rates of $1
into Japanese yen achieved a high of 134.10 yen. Since January 1,
1992, the highest and lowest exchange rates for the Japanese yen have
been 134.82 and 80.63, respectively.
</FN>
</TABLE>
Outlook
Management currently anticipates continued growth in revenue and
earnings in 1998. This growth is expected to result in part from the NSI
Acquisition and growth in Japan, the Company's major market. Further, expansion
into the Philippines and other new markets is expected to contribute to growth
in revenue and earnings. These factors are expected to offset the reduced
revenue from South Korea and the expected lack of significant revenue growth in
Thailand, Taiwan and Hong Kong. Additionally, the Company intends to continue
pursuing strategic initiatives to minimize the impact of fluctuating currencies
and economies in Asia by diversifying its markets through the NSI Acquisition,
moving more of its manufacturing to local markets, implementing enhancements to
its sales compensation plan and seeking cost reductions from vendors.
Revenue growth is anticipated to be modest during the first half of
1998 and accelerate in the second half of the year, corresponding with the
implementation of new product launches, marketing initiatives including the
local sourcing of certain products, other promotional events and the opening of
new markets. In addition to the February 1998 opening of the Philippines, the
Company has announced plans to enter Poland and Brazil later in 1998. The
significant devaluation
-11-
<PAGE>
of certain of the Company's functional currencies, is anticipated to negatively
impact the Company's reported revenue.
The NSI Acquisition is anticipated to increase the Company's operating
profits and operating margins. It is anticipated that the Company's gross
margins will improve, while operating expenses will also increase. This will be
due to the Company gaining ownership of product formulas and trademarks in
connection with the NSI Acquisition, which will improve gross margins, but
increase overhead.
Other income is expected to be negatively impacted due to interest
expenses associated with the assumed liabilities in the NSI Acquisition. Also,
the Company does have significant forward contracts and other hedging vehicles
on foreign currencies, principally the Japanese yen. It is impossible to predict
the impact on other income due to a strengthening or weakening of the Japanese
yen. If the yen strengthens, the Company's reported revenues and operating
profits will be positively impacted, but the impact on earnings will be offset
to a degree by other income losses. If the yen weakens, the Company's reported
revenues and operating profits will be negatively impacted, but the impact on
earnings will be offset to a degree by other income gains.
The Company's overall effective tax rate is expected to modestly
improve following the consummation of the NSI Acquisition. This is due to the
Company being able to more fully utilize its foreign tax credits. Also, the
number of weighted average common shares outstanding is expected to increase
following the consummation of the NSI Acquisition.
Note Regarding Forward-looking Statements
This section contains certain forward-looking statements under the
caption "-- Outlook". These forward-looking statements relate to and involve
risks and uncertainties associated with, but not limited to, the following:
consummation of the NSI Acquisition, the successful integration of employees and
operations within the public company, the addition of 12 new markets, the
prospects for business growth in the opened and unopened markets being acquired,
the prospects for growth in revenue and gross margins, synergies and advantages
arising out of the NSI Acquisition and the achievement of a vertically
integrated consumer products company, currency fluctuations relative to the U.S.
dollar, adverse economic and business conditions in the Company's markets,
management of the Company's growth, circumstances that may prevent the Company
from expanding its operations into new markets, factors that may alter the
anticipated impact of the NSI Acquisition, economic and political conditions
that affect the business climate in Asia and the price of the Company's stock
thus impacting stockholder values, the computer systems and software
modifications with respect to the "Year 2000" issue and dependence on the
Company's independent distributors. Actual results and outcomes may differ
materially from those discussed or anticipated. A detailed discussion of
important factors that may affect the anticipated outcome of the forward-looking
statements is set forth in documents filed by the Company with the Securities
and Exchange Commission, including the Company's most recent Form 10-K.
-12-
<PAGE>
Nu Skin Asia Pacific, Inc.
Index to Consolidated Financial Statements
- --------------------------------------------------------------------------------
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Consolidated Financial Statements:
Report of Independent Accountants
Consolidated Balance Sheets at December 31, 1996 and 1997
Consolidated Statements of Income for the years ended December 31,
1995, 1996 and 1997
Consolidated Statements of Stockholders' Equity for the years ended
December 31, 1995, 1996 and 1997
Consolidated Statements of Cash Flows for the years ended December 31,
1995, 1996 and 1997
Notes to Consolidated Financial Statements
All schedules are omitted because they are not applicable or the required
information is shown in the consolidated financial statements or notes thereto.
-13-
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
Nu Skin Asia Pacific, Inc.
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, of stockholders' equity and of cash flows
present fairly, in all material respects, the financial position of Nu Skin Asia
Pacific, Inc. and its subsidiaries at December 31, 1996 and 1997, and the
results of their operations and their cash flows for the years ended December
31, 1995, 1996 and 1997, in conformity with generally accepted accounting
principles. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with generally accepted auditing standards which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for the opinion expressed
above.
/s/ Price Waterhouse LLP
Price Waterhouse LLP
Salt Lake City, Utah
February 18, 1998
-14-
<PAGE>
Nu Skin Asia Pacific, Inc.
Consolidated Balance Sheets
(in thousands, except share amounts)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
December 31,
-------------------
1996 1997
ASSETS ----------- -----------
Current assets
<S> <C> <C>
Cash and cash equivalents $ 207,106 $ 166,305
Accounts receivable 8,937 9,585
Related parties receivable 7,974 10,686
Inventories, net 44,860 52,448
Prepaid expenses and other 11,281 37,238
----------- -----------
280,158 276,262
Property and equipment, net 8,884 10,884
Other assets, net 42,673 65,303
----------- -----------
Total assets $ 331,715 $ 352,449
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts payable $ 6,592 $ 9,412
Accrued expenses 79,518 96,438
Related parties payable 46,326 59,071
Notes payable to stockholders 71,487 --
Note payable to NSI, current portion 10,000 10,000
----------- -----------
213,923 174,921
----------- -----------
Note payable to NSI, less current portion 10,000 --
----------- -----------
Commitments and contingencies (Notes 7 and 11)
Stockholders' equity
Preferred stock - 25,000,000 shares authorized, $.001 par value,
no shares issued and outstanding -- --
Class A common stock - 500,000,000 shares authorized, $.001 par value,
11,715,000 and 11,758,011 shares issued and outstanding 12 12
Class B common stock - 100,000,000 shares authorized, $.001 par value,
71,696,675 and 70,280,759 shares issued and outstanding 72 70
Additional paid-in capital 137,876 115,053
Cumulative foreign currency translation adjustment (5,963) (28,920)
Retained earnings 11,493 105,139
Deferred compensation (22,559) (3,998)
Note receivable from NSI (13,139) (9,828)
----------- -----------
107,792 177,528
----------- -----------
Total liabilities and stockholders' equity $ 331,715 $ 352,449
=========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
-15-
<PAGE>
Nu Skin Asia Pacific, Inc.
Consolidated Statements of Income
(in thousands, except per share amounts)
- --------------------------------------------------------------------------------
Year Ended December 31,
---------------------------
1995 1996 1997
----------- ----------- -----------
Revenue $ 358,609 $ 678,596 $ 890,548
Cost of sales 96,615 193,158 248,367
----------- ----------- -----------
Gross profit 261,994 485,438 642,181
----------- ----------- -----------
Operating expenses
Distributor incentives 135,722 249,613 346,117
Selling, general and administrative 67,475 105,477 139,525
Distributor stock expense -- 1,990 17,909
----------- ----------- -----------
Total operating expenses 203,197 357,080 503,551
----------- ----------- -----------
Operating income 58,797 128,358 138,630
Other income (expense), net 511 2,833 10,726
----------- ----------- -----------
Income before provision for income taxes 59,308 131,191 149,356
Provision for income taxes (Note 9) 19,097 49,494 55,710
----------- ----------- -----------
Net income $ 40,211 $ 81,697 $ 93,646
=========== =========== ===========
Net income per share (Note 2):
Basic $ .51 $ 1.03 $ 1.12
Diluted $ .50 $ 1.01 $ 1.10
Weighted average common shares outstanding (Note 8):
Basic 78,645 79,194 83,331
Diluted 80,518 81,060 85,371
Unaudited pro forma data:
Income before pro forma
provision for income taxes $ 59,308 $ 131,191
Pro forma provision for income
taxes (Note 9) 22,751 45,945
----------- -----------
Net income after pro forma
provision for income taxes $ 36,557 $ 85,246
=========== ===========
Pro forma net income per share (Note 2):
Basic $ .46 $ 1.08
Diluted $ .45 $ 1.05
The accompanying notes are an integral part of these consolidated financial
statements.
-16-
<PAGE>
Nu Skin Asia Pacific, Inc.
Consolidated Statements of Stockholders' Equity
(in thousands)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Cumulative
Foreign
Class A Class B Additional Currency Note Total
Capital Common Common Paid-In Translation Retained Deferred Receivable Stockholders'
Stock Stock Stock Capital Adjustment Earnings Compensation From NSI Equity
------- ------- ------ ---------- ---------- -------- ------------ ---------- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1995 $ 1,300 $ 441 $ 32,120 $ 33,861
Contributed capital 3,250 -- -- 3,250
Dividends -- -- (12,170) (12,170)
Net change in cumulative foreign
currency translation
adjustment -- (3,381) -- (3,381)
Net income -- -- 40,211 40,211
------- ---------- -------- -------------
Balance at December 31, 1995 4,550 (2,940) 60,161 61,771
Reorganization and terminaton
of S corporation status
(Note 1) (4,550) $ 80 $ 1,209 -- 3,261 --
Net proceeds from the Offerings
and conversion of shares by
stockholders (Notes 1 and 8) -- $ 12 (8) 98,829 -- -- 98,833
Dividends -- -- -- -- -- (47,139) (47,139)
Issuance of notes payable to
stockholders (Note 3) -- -- -- -- -- (86,487) (86,487)
Net change in cumulative foreign
currency translation
adjustment -- -- -- -- (3,023) -- (3,023)
Issuance of distributor stock
options (Note 8) -- -- -- 33,039 -- -- $ (17,910) $ (13,139) 1,990
Issuance of employee stock awards
(Note 8) -- -- -- 4,799 -- -- (4,649) -- 150
Net income -- -- -- -- -- 81,697 -- -- 81,697
------- ------- ------ ---------- ---------- -------- ------------ ---------- -------------
Balance at December 31, 1996 -- 12 72 137,876 (5,963) 11,493 (22,559) (13,139) 107,792
Conversion of shares from Class
B to Class A -- 2 (2) -- -- -- -- -- --
Repurchase of 1,416 shares of
Class A common stock (Note 8) -- (2) -- (20,260) -- -- -- -- (20,262)
Adjustment to distributor stock
options (Note 8) -- -- -- (3,311) -- -- -- 3,311 --
Amortization of deferred
compensation -- -- -- -- -- -- 19,309 -- 19,309
Net change in cumulative foreign
currency translation
adjustment -- -- -- -- (22,957) -- -- -- (22,957)
Issuance of employee stock
awards and options
(Note 8) -- -- -- 748 -- -- (748) -- --
Net income -- -- -- -- -- 93,646 -- -- 93,646
------- ------- ------ ---------- ---------- -------- ------------ ---------- -------------
Balance at December 31, 1997 $ -- $ 12 $ 70 $ 115,053 $ (28,920) $105,139 $ (3,998) $ (9,828) $ 177,528
======= ======= ====== ========== ========== ======== ============ ========== =============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
-17-
<PAGE>
Nu Skin Asia Pacific, Inc.
Consolidated Statements of Cash Flows
(in thousands)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------
1995 1996 1997
--------- --------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 40,211 $ 81,697 $ 93,646
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization 2,012 3,274 4,732
Loss on disposal of property and equipment 12 381 --
Amortization of deferred compensation -- 2,140 19,309
Changes in operating assets and liabilities:
Accounts receivable (2,174) (5,695) (648)
Related parties receivable 16,077 (6,181) (2,712)
Inventories, net (17,106) (12,198) (7,588)
Prepaid expenses and other 51 (7,871) (25,957)
Other assets (2,994) (10,361) (20,543)
Accounts payable 765 2,197 2,820
Accrued expenses 9,936 56,205 16,920
Related parties payable 18,193 17,577 12,745
--------- --------- ---------
Net cash provided by operating activities 64,983 121,165 92,724
--------- --------- ---------
Cash flows from investing activities:
Purchase of property and equipment (5,422) (5,672) (7,351)
Proceeds from disposal of property and equipment 48 41 --
Payment to NSI for distribution rights -- (5,000) (10,000)
Payments for lease deposits (701) (562) (3,457)
Receipt of refundable lease deposits 22 98 120
--------- --------- ---------
Net cash used in investing activities (6,053) (11,095) (20,688)
--------- --------- ---------
Cash flows from financing activities:
Proceeds from capital contributions 3,250 -- --
Net proceeds from the Offerings (Note 1) -- 98,833 --
Dividends paid (12,170) (47,139) --
Repurchase of shares of common stock -- -- (20,262)
Payment to stockholders for notes payable (Note 3) -- (15,000) (71,487)
--------- --------- ---------
Net cash provided by (used in) financing activities (8,920) 36,694 (91,749)
--------- --------- ----------
Effect of exchange rate changes on cash (3,085) (2,871) (21,088)
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents 46,925 143,893 (40,801)
Cash and cash equivalents, beginning of period 16,288 63,213 207,106
--------- --------- ---------
Cash and cash equivalents, end of period $ 63,213 $ 207,106 $ 166,305
========= ========= =========
Supplemental cash flow information:
Interest paid $ 119 $ 84 $ 251
========= ========= =========
</TABLE>
Supplemental schedule of non-cash investing and financing activities in 1996: o
$20.0 million note payable to NSI issued as partial consideration for the $25.0
million purchase of distribution rights from NSI.
o $86.5 million of interest bearing S distribution notes issued in 1996, of
which $71.5 million remained unpaid at December 31, 1996 (Note 3).
The accompanying notes are an integral part of these consolidated financial
statements.
-18-
<PAGE>
o $1.2 million of additional paid-in capital contributed by the existing
stockholders of their interest in the Subsidiaries in exchange for all shares
of the Class B Common Stock in connection with the Company's termination of
its S corporation status (Note 1).
The accompanying notes are an integral part of these consolidated financial
statements.
-19-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
1. THE COMPANY
Nu Skin Asia Pacific, Inc. (the "Company") is a network marketing
company involved in the distribution and sale of premium quality,
innovative personal care and nutritional products. The Company is the
exclusive distribution vehicle for Nu Skin International, Inc. ("NSI")
in the countries of Japan, Taiwan, Hong Kong (including Macau), South
Korea and Thailand, where the Company currently has operations (the
Company's subsidiaries operating in these countries are collectively
referred to as the "Subsidiaries"), and in Indonesia, Malaysia, the
PRC, the Philippines, Singapore and Vietnam, where Nu Skin operations
had not yet commenced as of December 31, 1997. Additionally, the
Company sells products to NSI affiliates in Australia and New Zealand.
NSI was founded in 1984 and is one of the largest network marketing
companies in the world. NSI owns the Nu Skin trademark and provides the
products and marketing materials to each of its affiliates. Nu Skin
International Management Group, Inc. ("NSIMG"), an NSI affiliate, has
provided, and will continue to provide, a high level of support
services to the Company, including product development, marketing,
legal, accounting and other managerial services.
The Company was incorporated on September 4, 1996. It was formed as a
holding company and acquired the Subsidiaries through a reorganization
which occurred on November 20, 1996. Prior to the reorganization, each
of the Subsidiaries elected to be treated as an S corporation. In
connection with the reorganization, the Subsidiaries' S corporation
status was terminated on November 19, 1996, and the Company declared a
distribution to the stockholders that included all of the Subsidiaries'
previously earned and undistributed taxable S corporation earnings
totaling $86.5 million.
Prior to the reorganization, the Company, NSI, NSIMG and other NSI
affiliates operated under the control of a group of common
stockholders. Inasmuch as the Subsidiaries that were acquired were
under common control, the Company's consolidated financial statements
include the Subsidiaries' historical balance sheets and related
statements of income, of stockholders' equity and of cash flows for all
periods presented.
On November 27, 1996 the Company completed its initial public offerings
of 4,750,000 shares of Class A Common Stock and received net proceeds
of $98.8 million (the "Offerings").
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Consolidation
The consolidated financial statements include the accounts of the
Company and the Subsidiaries. All significant intercompany accounts and
transactions are eliminated in consolidation.
Use of estimates
The preparation of these financial statements in conformity with
generally accepted accounting principles required management to make
estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Significant
estimates include reserves for product returns, obsolete inventory and
taxes. Actual results could differ from these estimates.
Cash and cash equivalents
Cash equivalents are short-term, highly liquid instruments with
original maturities of 90 days or less.
-20-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Inventories
Inventories consist of merchandise purchased for resale and are stated
at the lower of cost, using the first-in, first-out method, or market.
Property and equipment
Property and equipment are recorded at cost and depreciated using the
straight-line method over the following estimated useful lives:
Furniture and fixtures 5 - 7 years
Computers and equipment 3 - 5 years
Leasehold improvements Shorter of estimated useful life
or lease term
Vehicles 3 - 5 years
Expenditures for maintenance and repairs are charged to expense as
incurred.
Other assets
Other assets consist primarily of deferred tax assets, deposits for
noncancelable operating leases and distribution rights purchased from
NSI. Distribution rights are amortized on the straight-line basis over
the estimated useful life of the asset. The Company assesses the
recoverability of long-lived assets by determining whether the
amortization of the balance over its remaining life can be recovered
through undiscounted future operating cash flows attributable to the
assets.
Revenue recognition
Revenue is recognized when products are shipped and title passes to
independent distributors who are the Company's customers. A reserve for
product returns is accrued based on historical experience. The Company
generally requires cash payment at the point of sale. The Company has
determined that no allowance for doubtful accounts is necessary.
Amounts received prior to shipment and title passage to distributors
are recorded as deferred revenue.
Income taxes
The Company has adopted Statement of Financial Accounting Standards No.
109 ("SFAS 109"), Accounting for Income Taxes. Under SFAS 109, the
liability method is used in accounting for income taxes. Under this
method, deferred tax assets and liabilities are determined based on the
differences between financial reporting and tax bases of assets and
liabilities and are measured using the enacted tax rates and laws that
will be in effect when the differences are expected to reverse.
Prior to the Company's reorganization described in Note 1, the
Subsidiaries elected to be taxed as S corporations whereby the income
tax effects of the Subsidiaries' activities accrued directly to their
stockholders; therefore, adoption of SFAS 109 required no establishment
of deferred income taxes since no material differences between
financial reporting and tax bases of assets and liabilities existed.
Concurrent with the Company's reorganization, the Company terminated
the S corporation elections of its Subsidiaries. As a result, deferred
income taxes under the provisions of SFAS 109 were established.
Net income per share
In 1997, the Company adopted Statement of Financial Accounting
Standards No. 128 ("SFAS 128"), Earnings per Share. SFAS 128 specifies
the computation, presentation and disclosure requirements for earnings
per share data, and requires the restatement of earnings per share data
in prior periods. SFAS 128 also requires the presentation of both basic
and diluted earnings per share data for entities with complex capital
structures. Diluted earnings per share data gives effect to all
dilutive potential common shares that were outstanding during the
periods
-21-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
presented. Net income per share for the years ended December 31, 1995
and 1996 is computed assuming that the Company's reorganization and the
resultant issuance of Class B Common Stock occurred as of January 1,
1995.
Foreign currency translation
All business operations of the Company occur outside of the United
States. Each entity's local currency is considered the functional
currency. Since a substantial portion of the Company's inventories are
purchased with U.S. dollars from the United States and since the
Company is incorporated in the United States, all assets and
liabilities are translated into U.S. dollars at exchange rates existing
at the balance sheet dates, revenues and expenses are translated at
weighted average exchange rates, and stockholders' equity is recorded
at historical exchange rates. The resulting foreign currency
translation adjustments are recorded as a separate component of
stockholders' equity in the consolidated balance sheets, and
transaction gains and losses are included in other income and expense
in the consolidated financial statements.
Industry segment and geographic area
The Company operates in a single industry, which is the direct selling
of skin care, hair care and nutritional products, and in a single
geographic area, which is the Asia Pacific Region.
Fair value of financial instruments
The fair value of financial instruments including cash and cash
equivalents, accounts receivable, related parties receivable, accounts
payable, accrued expenses, related parties payable and notes payable
approximate book values.
Stock-based compensation
The Company has adopted Statement of Financial Accounting Standards No.
123 ("SFAS 123"), Accounting for Stock-Based Compensation. The Company
measures compensation expense for its stock-based employee compensation
plans using the intrinsic value method prescribed by Accounting
Principles Board Opinion No. 25 ("APB 25"), Accounting for Stock Issued
to Employees, and provides pro forma disclosures of net income and net
income per share as if the fair value based method prescribed by SFAS
123 had been applied in measuring compensation expense (Note 8).
3. RELATED PARTY TRANSACTIONS
Scope of related party activity
The Company has extensive and pervasive transactions with affiliated
entities that are under common control. These transactions are as
follows: (1) Through its Hong Kong entity, the Company purchases a
substantial portion of its inventories from affiliated entities
(primarily NSI). (2) In addition to selling products to consumers in
its geographic territories, the Company through its Hong Kong entity,
sells products and marketing materials to affiliated entities in
geographic areas outside those held by the Company (primarily Australia
and New Zealand). (3) The Company pays trademark royalty fees to NSI on
products bearing NSI trademarks and marketed in the Company's
geographic areas that are not purchased from NSI. (4) NSI enters into a
distribution agreement with each independent distributor. The Company
pays license fees to NSI for the right to use the distributors within
its geographical regions, and for the right to use the NSI distribution
system and other related intangibles. (5) The Company participates in a
global commission plan established by the NSI distribution agreement
whereby distributors' commissions are determined by aggregate worldwide
purchases made by down-line distributors. Thus, commissions on
purchases from the Company earned by distributors located in geographic
areas outside those held by the Company are remitted to NSI, which then
forwards these commissions to the distributors. (6) The Company pays
fees for management and support services provided by NSIMG.
-22-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
The purchase prices paid to the Subsidiaries for the purchase of
product and marketing materials are determined pursuant to the Regional
Distribution Agreement between the Company, through a Subsidiary, and
NSI. The selling prices to the Subsidiaries of products and marketing
materials are determined pursuant to the Wholesale Distribution
Agreements between a Subsidiary and certain of the other Subsidiaries.
Trademark royalty fees and license fees are payable pursuant to the
Trademark/Tradename License Agreement between the Subsidiaries and NSI
and the Licensing and Sales Agreement between the Subsidiaries and NSI,
respectively. The independent distributor commission program is managed
by NSI. Charges to the Company are based on a worldwide commission fee
of 42% which covers commissions paid to distributors on a worldwide
basis and the direct costs of administering the global compensation
plan. Management and support services fees are billed to the Company by
NSIMG pursuant to the Management Services Agreement between the
Company, the Subsidiaries and NSIMG and consist of all direct expenses
incurred by NSIMG on behalf of the Company and indirect expenses of
NSIMG allocated to the Company based on its net sales.
Total commission fees (including those paid directly to distributors
within the Company's geographic territories) are recorded as
distributor incentives in the consolidated statements of income.
Trademark royalty fees are included in cost of sales, and license fees
and management fees are included in selling, general and administrative
expenses in the consolidated statements of income.
In November 1996, the Company purchased from NSI the distribution
rights to seven new markets in the region. These markets include
Thailand, where operations have commenced, and Indonesia, Malaysia, the
PRC, the Philippines, Singapore and Vietnam, where Nu Skin operations
had not commenced as of December 31, 1997. These rights were purchased
for $25.0 million of which $5.0 million was paid from proceeds from the
Offerings and an additional $10.0 million was paid in January 1997. At
December 31, 1997, the Company had a $10.0 million short term
obligation, due January 15, 1998 related to the purchase of these
rights. Interest accrues at a rate of 6.0% per annum on amounts due
under these obligations.
Notes payable to stockholders
In connection with the reorganization described in Note 1, the
aggregate undistributed taxable S corporation earnings of the
Subsidiaries were $86.5 million. These earnings were distributed in the
form of promissory notes bearing interest at 6.0% per annum. From
proceeds from the Offerings, $15.0 million was used to pay a portion of
the notes, and the remaining balance of $71.5 million with the related
accrued interest expense of $1.6 million was paid on April 4, 1997.
-23-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Related party transactions
The following summarizes the Company's transactions with related parties (in
thousands):
Product purchases
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
Beginning inventories $ 15,556 $ 32,662 $ 44,860
Inventory purchases from affiliates 69,821 157,413 202,233
Other inventory purchases and value added
locally 43,900 47,943 53,722
---------- ---------- ----------
Total products available for sale 129,277 238,018 300,815
Less: Cost of sales (96,615) (193,158) (248,367)
---------- ---------- ----------
Ending inventories $ 32,662 $ 44,860 $ 52,448
========== ========== ==========
</TABLE>
Related parties payable transactions
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
Beginning related parties payable $ 10,556 $ 28,749 $ 46,326
Inventory purchases from affiliates 69,821 157,413 202,233
Distributor incentives 135,722 249,613 346,117
Less: Distributor incentives paid directly
to distributors (105,642) (197,614) (280,355)
License fees 13,158 25,221 35,034
Trademark royalty fees 2,694 2,882 3,696
Management fees 2,066 4,189 7,337
Less: Payments to related parties (99,626) (224,127) (301,317)
----------- ---------- ----------
Ending related parties payable $ 28,749 $ 46,326 $ 59,071
=========== ========== ==========
</TABLE>
Related parties receivable and payable balances
The Company has receivable and payable balances with related parties in
Australia and New Zealand, and with NSI and NSIMG. Related party
balances outstanding greater than 60 days bear interest at prime plus
2%. Since no significant balances have been outstanding greater than 60
days, no related party interest income or interest expense has been
recorded in the consolidated financial statements. Sales to related
parties were $4,608,000, $4,614,000 and $4,297,000 for the years ended
December 31, 1995, 1996 and 1997, respectively.
Certain relationships with stockholder distributors Two major
stockholders of the Company have been NSI distributors since 1984.
These stockholders are partners in an entity which receives substantial
commissions from NSI, including commissions relating to sales within
the countries in which the Company operates. By agreement, NSI pays
commissions to this partnership at the highest level of distributor
compensation to allow the stockholders to use their expertise and
reputations in network marketing to further develop NSI's distributor
force, rather than focusing solely on their own distributor
organizations. The commissions paid to this partnership relating to
sales within the countries in which the
-24-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Company operates were $1,100,000, $1,200,000 and $1,100,000 for the
years ended December 31, 1995, 1996 and 1997, respectively.
Loan to stockholder
In December 1997, the Company loaned $5.0 million to a non-management
stockholder. The loan is secured by 349,406 shares of Class B Common
Stock. Interest accrues at a rate of 6.0% per annum on this loan. The
loan may be repaid by transferring to the Company the shares pledged to
secure the loan.
4. PROPERTY AND EQUIPMENT
Property and equipment are comprised of the following (in thousands):
December 31,
---------------
1996 1997
----------- -----------
Furniture and fixtures $ 3,175 $ 3,205
Computers and equipment 7,480 9,098
Leasehold improvements 4,737 6,930
Vehicles 200 119
----------- -----------
15,592 19,352
Less: accumulated depreciation (6,708) (8,468)
----------- -----------
$ 8,884 $ 10,884
=========== ===========
Depreciation of property and equipment totaled $2,012,000, $3,118,000
and $3,482,000 for the years ended December 31, 1995, 1996 and 1997,
respectively.
5. OTHER ASSETS
Other assets consist of the following (in thousands):
December 31,
---------------
1996 1997
----------- -----------
Deposits for noncancelable operating leases $ 9,962 $ 9,127
Distribution rights, net of accumulated 24,844 23,594
amortization
Deferred taxes 6,999 30,399
Other 868 2,183
----------- -----------
$ 42,673 $ 65,303
=========== ===========
The $25.0 million distribution rights asset is being amortized on a
straight-line basis over its estimated useful life of twenty years.
Amortization expense totaled $156,000 and $1,250,000 for the years
ended December 31, 1996 and 1997, respectively.
-25-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
6. ACCRUED EXPENSES
Accrued expenses consist of the following (in thousands):
December 31,
---------------
1996 1997
----------- -----------
Income taxes payable $ 54,233 $ 53,079
Other taxes payable 9,194 13,043
Other accruals 16,091 30,316
----------- ------------
$ 79,518 $ 96,438
=========== ============
7. LEASE OBLIGATIONS
The Company leases office space and computer hardware under
noncancelable long-term operating leases. Most leases include renewal
options of up to three years. Minimum future operating lease
obligations at December 31, 1997 are as follows (in thousands):
Year Ending December 31,
1998 $ 6,763
1999 4,242
2000 2,923
2001 251
2002 163
-----------
Total minimum lease payments $ 14,342
===========
Rental expense for operating leases totaled $9,470,000, $8,260,000 and
$9,311,000 for the years ended December 31, 1995, 1996 and 1997,
respectively.
8. STOCKHOLDERS' EQUITY
The Company's capital stock consists of Preferred Stock, Class A Common
Stock and Class B Common Stock. The shares of Class A Common Stock and
Class B Common Stock are identical in all respects, except for voting
rights and certain conversion rights and transfer restrictions, as
follows: (1) each share of Class A Common Stock entitles the holder to
one vote on matters submitted to a vote of the Company's stockholders
and each share of Class B Common Stock entitles the holder to ten votes
on each such matter; (2) stock dividends of Class A Common Stock may be
paid only to holders of Class A Common Stock and stock dividends of
Class B Common Stock may be paid only to holders of Class B Common
Stock; (3) if a holder of Class B Common Stock transfers such shares to
a person other than a permitted transferee, as defined in the Company's
Certificate of Incorporation, such shares will be converted
automatically into shares of Class A Common Stock; and (4) Class A
Common Stock has no conversion rights; however, each share of Class B
Common Stock is convertible into one share of Class A Common Stock, in
whole or in part, at any time at the option of the holder.
Stockholder control
As of December 31, 1997, a group of common stockholders owned all of
the outstanding shares of Class B Common Stock, which represented
approximately 98% of the combined voting rights of all outstanding
common stock. Accordingly, these stockholders, acting as a group,
control the election of the entire Board of Directors and decisions
with respect to the Company's dividend policy, the Company's access to
capital, mergers or other
-26-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
business combinations involving the Company, the acquisition or
disposition of assets by the Company and any change in control of the
Company.
Equity incentive plans
Effective November 21, 1996, NSI and the Company implemented a one-time
distributor equity incentive program. This program provided for grants
of options to selected distributors for the purchase of 1,605,000
shares of the Company's previously issued Class A Common Stock. The
number of options each distributor ultimately received was based on
their performance and productivity through August 31, 1997. The options
are exercisable at a price of $5.75 per share and vested on December
31, 1997. The related compensation expense was deferred in the
Company's financial statements and was expensed to the statement of
income as distributor stock expense ratably through December 31, 1997.
The Company recorded compensation expense using the fair value method
prescribed by SFAS 123 based upon the best available estimate of the
number of shares that were expected to be issued to each distributor at
the measurement date, revised as necessary if subsequent information
indicated that actual forfeitures were likely to differ from initial
estimates. Any options forfeited were reallocated and resulted in an
additional compensation charge.
As a part of this program, the Company initially sold an option to NSI
to purchase shares underlying distributor options for consideration of
a $13.1 million 10-year note, bearing interest at 6.0% per annum. As
the number of distributor stock options to be issued to each
distributor was revised through August 31, 1997, the note receivable
from NSI was adjusted to $9.8 million. It is anticipated that NSI will
repay this note as distributors begin to exercise their options in
1998.
Prior to the Offerings, the Company's stockholders contributed to NSI
and other Nu Skin entities (excluding the Company) 1,250,000 shares of
the Company's Class A Common Stock held by them for issuance to
employees of NSI and other Nu Skin entities as a part of an employee
equity incentive plan. Equity incentives granted or awarded under this
plan will vest over four years. Compensation expense related to equity
incentives granted to employees of NSI and other Nu Skin entities who
perform services on behalf of the Company will be recognized by the
Company ratably over the vesting period.
In January 1994, NSI agreed to grant one of the Company's executives an
option to purchase 267,500 shares of the Company's Class A Common Stock
which became exercisable at the date of the reorganization. The
exercise price of this option was set at the estimated fair market
value of this equity interest on the date the option was granted. This
executive exercised a portion of this option and purchased 16,675
shares during November 1996.
1996 Stock Incentive Plan
During the year ended December 31, 1996, the Company's Board of
Directors adopted the Nu Skin Asia Pacific, Inc. 1996 Stock Incentive
Plan (the "1996 Stock Incentive Plan"). The 1996 Stock Incentive Plan
provides for granting of stock awards and options to purchase common
stock to executives, other employees, independent consultants and
directors of the Company and its Subsidiaries. A total of 4,000,000
shares of Class A Common Stock have been reserved for issuance under
the 1996 Stock Incentive Plan.
In November and December 1996, the Company granted stock awards to
certain employees for an aggregate of 109,000 shares of Class A Common
Stock and in January 1997 the Company granted additional stock awards
to certain employees in the amount of 41,959 shares of Class A Common
Stock. Subsequent to the granting of these stock awards aggregating
150,959 shares of Class A Common Stock, awards for 12,413 shares
lapsed. The Company has recorded deferred compensation expense related
to these stock awards and is recognizing such expense ratably over the
vesting period.
-27-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
In October 1997, the Company granted 13,500 stock awards, with a fair
value of $22.81 per share, to certain employees and directors under the
1996 Stock Incentive Plan. Of the 13,500 stock awards granted, 7,500
vested immediately on the date of grant and 6,000 will vest ratably
over a period of three years. The Company recorded compensation expense
of $170,000 related to the stock awards for the year ended December 31,
1997.
In October 1997, the Company also granted options to purchase 298,500
shares of Class A Common Stock to certain employees and directors
pursuant to the 1996 Stock Incentive Plan. Of the 298,500 options
granted, 30,000 options vest one day before the 1998 annual meeting of
stockholders and 265,500 options vest ratably over a period of four
years. All options granted in 1997 will expire on the tenth anniversary
of the date of grant. The exercise price of the options was set at
$20.88 per share. The Company has recorded deferred compensation
expense of $578,000 related to the options and is recognizing such
expense ratably over the vesting periods.
The Company's pro forma net income for the year ended December 31, 1997
would have been $93,566,000 if compensation expense had been measured
under the fair value method prescribed by SFAS 123. The Company's pro
forma basic and diluted net income per share for the year ended
December 31, 1997 would have been $1.12 and $1.10, respectively, if
compensation expense had been measured under the fair value method.
The fair value of the options granted during 1997 was estimated at
$10.55 per share as of the date of grant using the Black-Scholes option
pricing model with the following assumptions: risk-free interest rate
of 6%; expected life of 4 years; expected volatility of 46%; and
expected dividend yield of 0%.
Weighted average common shares outstanding
The following is a reconciliation of the weighted average common shares
outstanding for purposes of computing basic and diluted net income per
share (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
Basic weighted average common shares outstanding 78,645 79,194 83,331
Effect of dilutive securities:
Stock awards and options 1,873 1,866 2,040
------- ------- -------
Diluted weighted average common shares outstanding 80,518 81,060 85,371
======= ======= =======
</TABLE>
Repurchase of common stock
In December 1997, the Company repurchased 1,415,916 shares of Class A
Common Stock from certain original stockholders for an aggregate price
of approximately $20.3 million. Such shares were converted from Class B
Common Stock to Class A Common Stock prior to or upon purchase, and
were repurchased in connection with the entering into of an amended and
restated stockholders agreement by the original stockholders providing
for, among other things, a one-year extension of the original lock-up
provisions applicable to such original stockholders.
9. INCOME TAXES
Consolidated income before provision for income taxes consists of
income earned solely from international operations. The provision for
current and deferred taxes for the years ended December 31, 1996 and
1997 consists of the following (in thousands):
-28-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
1996 1997
---------- ----------
Current
Federal $ 331 $ 3,332
State -- 127
Foreign 56,929 76,553
---------- ----------
57,260 80,012
Deferred
Federal (1,929) (24,317)
State -- (30)
Foreign (2,398) 45
Change in tax status (3,439) --
---------- ----------
Provision for income taxes $ 49,494 $ 55,710
========== ==========
As a result of the Company's reorganization described in Note 1, the
Company is no longer treated as an S corporation for U.S. Federal
income tax purposes. Accordingly, the provision for income taxes for
the year ended December 31, 1996 consists of the following: (1) the
cumulative income tax effect from recognition of the deferred tax
assets at the date of S corporation termination; (2) the provision for
income taxes for the period November 20, 1996 through December 31, 1996
as a U.S. C corporation; and (3) income taxes in foreign countries for
the Subsidiaries during the year.
The provision for income taxes for the year ended December 31, 1995
primarily represents income taxes in foreign countries as U.S. Federal
income taxes were levied at the stockholder level.
The principal components of deferred tax assets are as follows (in
thousands):
December 31, December 31,
1996 1997
------------ ------------
Deferred tax assets:
Inventory reserve $ 1,971 $ 1,773
Product return reserve 1,562 1,559
Depreciation 1,592 1,622
Foreign tax credit 1,234 19,268
Uniform capitalization 763 1,706
Distributor stock options and employee 749 6,992
stock awards
Accrued expenses not deductible until paid 19 2,115
Withholding tax 4,148 5,692
Minimum tax credit 330 3,555
------------ ------------
Total deferred tax assets 12,368 44,282
------------ ------------
Deferred tax liabilities:
Withholding tax 4,148 5,692
Exchange gains and losses 399 1,679
Other 55 143
------------ ------------
Total deferred tax liabilities 4,602 7,514
------------ ------------
Valuation allowance -- (4,700)
------------ ------------
Deferred taxes, net $ 7,766 $ 32,068
============ ============
Income taxes paid totaled $4,068,000, $17,991,000 and $73,654,000 for the years
ended December 31, 1995, 1996 and 1997, respectively.
-29-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
The consolidated statements of income for the years ended December 31,
1995 and 1996 include a pro forma presentation for income taxes which
would have been recorded if the Company had been taxed as a C
corporation for all periods presented.
A reconciliation of the Company's pro forma effective tax rate for the
years ended December 31, 1995 and 1996, and the Company's effective tax
rate for the year ended December 31, 1997, compared to the statutory
U.S. Federal tax rate is as follows:
Year Ended December 31,
------------------------
1995 1996 1997
--------- --------- ---------
Income taxes at statutory rate 35.00% 35.00% 35.00%
Foreign tax credit limitation (benefit) 2.69 -- 3.14
Non-deductible expenses .67 .06 .10
Other -- (.04) (.94)
--------- --------- ---------
38.36% 35.02% 37.30%
========= ========= =========
10. FINANCIAL INSTRUMENTS
The Company's Subsidiaries enter into significant transactions with
each other, NSI and third parties which may not be denominated in the
respective Subsidiaries' functional currencies. The Company seeks to
reduce its exposure to fluctuations in foreign exchange rates by
creating offsetting positions through the use of foreign currency
exchange contracts and through intercompany loans of foreign currency.
The Company does not use such financial instruments for trading or
speculative purposes. The Company regularly monitors its foreign
currency risks and periodically takes measures to reduce the impact of
foreign exchange fluctuations on the Company's operating results. Gains
and losses on foreign currency forward contracts and intercompany loans
of foreign currency are recorded as other income and expense in the
consolidated statements of income.
At December 31, 1995, the Company held foreign currency forward
contracts with notional amounts totaling $1.0 million to hedge foreign
currency items. There were no significant estimated unrealized losses
on these contracts. These contracts all had maturities prior to
December 31, 1996. The Company did not hold any foreign currency
forward contracts at December 31, 1996. At December 31, 1997, the
Company held foreign currency forward contracts with notional amounts
totaling approximately $51.0 million to hedge foreign currency items.
These contracts all have maturities through August 1998. During the
year ended December 31, 1997, the Company entered into and held to
maturity foreign currency forward contracts with notional amounts
totaling approximately $34.0 million. The Company recorded realized and
unrealized net gains on its forward contracts totaling $5.6 million for
the year ended December 31, 1997.
At December 31, 1997, the intercompany loan from Nu Skin Japan to Nu
Skin Hong Kong totaled approximately $92.0 million. The Company
recorded unrealized exchange gains totaling $7.8 million resulting from
the intercompany loan for the year ended December 31, 1997.
-30-
<PAGE>
Nu Skin Asia Pacific, Inc.
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
11. COMMITMENTS AND CONTINGENCIES
The Company is subject to governmental regulations pertaining to
product formulation, labeling and packaging, product claims and
advertising and to the Company's direct selling system. The Company is
also subject to the jurisdiction of numerous foreign tax authorities.
These tax authorities regulate and restrict various corporate
transactions, including intercompany transfers. The Company believes
that the tax authorities in Japan and South Korea are particularly
active in challenging the tax structures and intercompany transfers of
foreign corporations. Any assertions or determination that either the
Company, NSI or any of NSI's distributors is not in compliance with
existing statutes, laws, rules or regulations could potentially have a
material adverse effect on the Company's operations. In addition, in
any country or jurisdiction, the adoption of new statutes, laws, rules
or regulations or changes in the interpretation of existing statutes,
laws, rules or regulations could have a material adverse effect on the
Company and its operations. Although management believes that the
Company is in compliance, in all material respects, with the statutes,
laws, rules and regulations of every jurisdiction in which it operates,
no assurance can be given that the Company's compliance with applicable
statutes, laws, rules and regulations will not be challenged by foreign
authorities or that such challenges will not have a material adverse
effect on the Company's financial position or results of operations or
cash flows.
12. SUBSEQUENT EVENTS
In February 1998, the Company reached an agreement in principle to
acquire NSI and Nu Skin affiliated entities throughout Europe,
Australia and New Zealand (the "NSI Acquisition") for approximately
$180 million in assumed liabilities and $70 million in preferred stock
that is anticipated to convert to common stock upon stockholder
approval. In addition, contingent on meeting specific earnings growth
benchmarks, the Company will pay up to $25 million in cash per year
over four years to the selling stockholders. The agreement also
provides that if the assumed liabilities do not equal or exceed $180
million, the Company will pay to the selling stockholders in cash or in
the form of promissory notes the difference between $180 million and
the assumed liabilities.
The NSI Acquisition is expected to be accounted for by the purchase
method of accounting, except for the portion of the acquired entities
under the common control of a group of stockholders, which portion will
be accounted for in a manner similar to a pooling of interests. The
common control group is comprised of the stockholders of NSI that are
immediate family members.
-31-
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
financial statements as of and for the year ended December 31, 1997 and is
qualified in its entirety by reference to such financial statements.)
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> Year
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> DEC-31-1997
<CASH> 166,305
<SECURITIES> 0
<RECEIVABLES> 9,585
<ALLOWANCES> 0
<INVENTORY> 52,448
<CURRENT-ASSETS> 276,262
<PP&E> 19,352
<DEPRECIATION> 8,468
<TOTAL-ASSETS> 352,449
<CURRENT-LIABILITIES> 174,921
<BONDS> 0
0
0
<COMMON> 82
<OTHER-SE> 177,446
<TOTAL-LIABILITY-AND-EQUITY> 352,449
<SALES> 890,548
<TOTAL-REVENUES> 890,548
<CGS> 248,367
<TOTAL-COSTS> 751,918
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 149,356
<INCOME-TAX> 55,710
<INCOME-CONTINUING> 93,646
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 93,646
<EPS-PRIMARY> 1.12
<EPS-DILUTED> 1.10
</TABLE>
