<PAGE> 1
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON FEBRUARY 12, 1998
REGISTRATION NO. 333-
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM S-3
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
HERBALIFE INTERNATIONAL, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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NEVADA 5149 22-2695420
(STATE OF INCORPORATION) (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
</TABLE>
1800 CENTURY PARK EAST
LOS ANGELES, CALIFORNIA 90067
(310) 410-9600
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
ROBERT A. SANDLER, ESQ.
HERBALIFE INTERNATIONAL, INC.
1800 CENTURY PARK EAST
LOS ANGELES, CALIFORNIA 90067
(310) 410-9600
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF AGENT FOR SERVICE)
COPY TO:
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<S> <C>
ANTHONY T. ILER, ESQ. ALLAN G. SPERLING, ESQ.
IRELL & MANELLA LLP CLEARY, GOTTLIEB, STEEN & HAMILTON
333 SOUTH HOPE STREET, SUITE 3300 ONE LIBERTY PLAZA
LOS ANGELES, CALIFORNIA 90071 NEW YORK, NEW YORK 10006
(213) 620-1555 (212) 225-2000
</TABLE>
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
With respect to the DECS Equity Prospectus, as soon as practicable after this
Registration Statement becomes effective.
With respect to the Shelf Prospectus, from time to time after this Registration
Statement becomes effective.
If the only securities being registered on this form are being offered
pursuant to dividend or interest reinvestment plans, please check the following
box. [ ]
If any of the securities being registered on this form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, as amended (the "Securities Act"), other than securities offered only in
connection with dividend or interest reinvestment plans, check the following
box. [X]
If this form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ]
If this form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [ ]
CALCULATION OF REGISTRATION FEE
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===============================================================================================================
PROPOSED MAXIMUM
PROPOSED MAXIMUM AGGREGATE
TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING PRICE OFFERING AMOUNT OF
SECURITIES TO BE REGISTERED REGISTERED(1) PER SHARE(2) PRICE(2) REGISTRATION FEE
- ---------------------------------------------------------------------------------------------------------------
Class B Common Stock, $.01 par value... 6,750,000 shares $20 5/16 $137,109,375 $40,448
===============================================================================================================
</TABLE>
(1) Includes 5,000,000 shares that may be distributed by DECS Trust III pursuant
to the terms of DECS representing beneficial interests in DECS Trust III as
described herein (plus 750,000 shares that may be delivered pursuant to DECS
issued to cover over-allotments and DECS subscribed for and purchased by
Smith Barney Inc. in connection with the organization of DECS Trust III) and
1,000,000 shares that may be loaned by Mark Hughes or an affiliate thereof
to Smith Barney Inc. from time to time in connection with market-making
activities as described herein.
(2) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457 under the Securities Act, based on the average of the
high and low prices of the Class B Stock on the Nasdaq National Market
System on February 6, 1998.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT, OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE
ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY
DETERMINE.
================================================================================
<PAGE> 2
EXPLANATORY NOTE
This Registration Statement contains two forms of prospectus: (i) a
prospectus relating to the distribution by DECS Trust III, a Delaware business
trust (the "Trust"), pursuant to DECS representing beneficial interests in the
Trust (the "DECS"), of Class B Common Stock of the Registrant (the "DECS Equity
Prospectus") that the Trust may receive from the Selling Stockholder referred to
herein, pursuant to the terms of a purchase agreement between the Trust and the
Selling Stockholder; and (ii) a prospectus relating to shares of Class B Common
Stock of the Registrant that may be loaned by the Selling Stockholder, or an
affiliate thereof, to Smith Barney Inc. from time to time in connection with
market-making activities in the DECS (the "Shelf Prospectus") as described
herein. The complete DECS Equity Prospectus follows immediately. Following such
DECS Equity Prospectus is the Shelf Prospectus. All pages of the Shelf
Prospectus are marked "[SHELF PROSPECTUS PAGE]."
<PAGE> 3
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF SUCH STATE.
SUBJECT TO COMPLETION, FEBRUARY 12, 1998
PROSPECTUS LOGO
5,000,000 SHARES
HERBALIFE INTERNATIONAL, INC.
CLASS B COMMON STOCK
($.01 PAR VALUE)
------------------
Pursuant to the terms of the DECS(SM) (the "DECS") representing beneficial
ownership interests in DECS Trust III, a Delaware business trust (the "Trust"),
the Trust may distribute to the holders of the DECS non-voting Class B Common
Stock, par value $.01 per share (the "Class B Stock"), of Herbalife
International, Inc. ("Herbalife" or the "Company") on or about , 2001
(the "Exchange Date"), or upon earlier liquidation of the Trust in certain
circumstances. This Prospectus relates to the distribution by the Trust pursuant
to DECS of up to 5,000,000 shares of Class B Stock, plus up to an additional
750,000 shares of Class B Stock, in the aggregate, that may be delivered
pursuant to DECS issued to cover over-allotments and DECS subscribed for and
purchased by Smith Barney Inc. ("Smith Barney") in connection with the
organization of the Trust, that the Trust may receive from Mark Hughes, the
Company's principal stockholder, Chairman of the Board, Chief Executive Officer
and President, or an affiliate thereof (the "Selling Stockholder"), under the
terms of a Purchase Contract dated , 1998 between the Selling
Stockholder and the Trust (the "Contract"). This Prospectus accompanies a
Prospectus of the Trust (the "DECS Prospectus") relating to the sale of
5,000,000 DECS, plus up to an additional DECS solely to cover
over-allotments (the "DECS Offering"). The Company will not receive any of the
proceeds from the sale of the DECS or delivery thereunder of the Class B Stock
to which this Prospectus relates. See "Use of Proceeds." Neither the Company nor
the Selling Stockholder takes any responsibility for any information included in
or omitted from the DECS Prospectus. The DECS Prospectus does not constitute a
part of this Prospectus nor is it incorporated by reference herein.
The Company, its directors and executive officers, and the Selling
Stockholder have agreed, subject to certain exceptions, not to sell, without the
prior written consent of Smith Barney, any of the Company's Class A Common
Stock, par value $.01 per share (the "Class A Stock"), or Class B Stock or any
securities convertible into or exercisable or exchangeable for Class A Stock or
Class B Stock, for a period of 90 days, in the case of the Company and its
directors and executive officers (other than the Selling Stockholder), and one
year, in the case of the Selling Stockholder, after the date of this Prospectus.
See "Plan of Distribution."
In connection with market-making activities in the DECS, Smith Barney may,
subject to certain limitations, from time to time, borrow, return and reborrow
up to 1,000,000 shares of Class B Stock from the Selling Stockholder. See "Plan
of Distribution." Smith Barney is not under any obligation to engage in any
market-making transactions with respect to the DECS, and any market-making in
the DECS actually engaged in by Smith Barney may cease at any time. The
Registration Statement of which this Prospectus forms a part includes an
additional Prospectus relating to shares of Class B Stock which may be offered
and sold by Smith Barney pursuant to such market-making activities.
The Class B Stock is listed for trading on the Nasdaq National Market
System under the symbol "HERBB." On February 9, 1998, the last reported sale
price of the Class B Stock on the Nasdaq National Market System was $21 3/8 per
share. See "Price Range of the Common Stock."
"DECS(SM)" is a service mark of Salomon Brothers Inc.
SEE "RISK FACTORS" BEGINNING ON PAGE 9 FOR A DISCUSSION OF CERTAIN FACTORS
THAT SHOULD BE CAREFULLY CONSIDERED BY PROSPECTIVE PURCHASERS.
------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR
HAS THE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY
OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
The date of this Prospectus is , 1998.
<PAGE> 4
CERTAIN PERSONS PARTICIPATING IN THE DECS OFFERING MAY ENGAGE IN
TRANSACTIONS THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE CLASS
A STOCK, THE CLASS B STOCK OR THE DECS, INCLUDING PURCHASES OF THE CLASS B STOCK
OR THE DECS TO STABILIZE THEIR MARKET PRICES AND PURCHASES OF THE CLASS B STOCK
OR THE DECS TO COVER SOME OR ALL OF SHORT POSITIONS IN THE CLASS B STOCK OR THE
DECS MAINTAINED BY THE RESPECTIVE UNDERWRITERS OF THE DECS OFFERING. FOR A
DESCRIPTION OF THESE ACTIVITIES, SEE "PLAN OF DISTRIBUTION."
FORWARD-LOOKING STATEMENTS
Certain information contained in, or incorporated by reference into, this
Prospectus includes "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995 and is subject to the safe
harbor created by that Act. These forward-looking statements include, but are
not limited to, statements concerning the opening of new markets, the
introduction of new products and the like, and are generally identified by
phrases such as "the Company expects," "the Company believes," "Management
expects," "Management believes" and words of similar import. There are several
important factors that could cause actual results to differ materially from
those anticipated by the forward-looking statements contained in such
discussions. Additional information about these factors is contained in the
discussions in the "Risk Factors" beginning on page 9 and elsewhere in this
Prospectus and in documents incorporated by reference into this Prospectus.
AVAILABLE INFORMATION
The Company is subject to the informational requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and, in accordance
therewith, files reports, proxy statements and other information with the
Securities and Exchange Commission (the "Commission"). Such reports, proxy
statements and other information may be inspected and copied at the Public
Reference Section of the Commission at Room 1024, Judiciary Plaza, 450 Fifth
Street, N.W., Washington, D.C. 20549, and at the Commission's regional offices
at Citicorp Center, 500 West Madison Street, Suite 1400, Chicago, Illinois
60661-2511, and 7 World Trade Center, 13th Floor, New York, New York 10048.
Copies of the reports, proxy statements and other information may be obtained
from the Public Reference Section of the Commission, at Room 1024, Judiciary
Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed rates. Such
reports, proxy statements and other information concerning the Company are also
available for inspection at the offices of The Nasdaq Stock Market, 1735 K
Street, N.W., Washington, D.C., 20006. The Commission maintains a Web site at
http://www.sec.gov containing reports, proxy and information statements and
other information regarding registrants that file electronically with the
Commission, including the Company.
The Company has filed with the Commission a Registration Statement on Form
S-3 (the "Registration Statement") under the Securities Act of 1933, as amended
(the "Securities Act"), with respect to the securities to which this Prospectus
relates. As permitted by the rules and regulations of the Commission, this
Prospectus does not contain all of the information set forth in the Registration
Statement and the exhibits and schedules filed as a part thereof. For further
information about the Company and the securities to which this Prospectus
relates, reference is made to the Registration Statement and to the financial
statements, exhibits and schedules filed therewith. The statements contained in
this Prospectus about the contents of any contract or other document referred to
herein are not necessarily complete, and where such contract or other document
is filed as an exhibit to the Registration Statement, each such statement is
qualified in all respects by the provisions of such exhibit, to which reference
is hereby made for a full statement of the provisions thereof. The Registration
Statement, including the exhibits and schedules filed as a part thereof, may be
inspected without charge at the public reference facilities maintained by the
Commission as set forth in the preceding paragraph. Copies of these documents
may be obtained from the Commission at its principal office in Washington, D.C.
upon payment of the charges prescribed by the Commission.
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DOCUMENTS INCORPORATED BY REFERENCE
The following documents have been filed with the Commission by the Company
and are incorporated herein by reference and made a part hereof: (i) the
Company's Annual Report on Form 10-K for the year ended December 31, 1996; (ii)
the Company's Annual Report on Form 10-K/A for the year ended December 31, 1996,
filed October 1, 1997; (iii) the Company's Quarterly Reports on Form 10-Q for
the quarters ended March 31, 1997, June 30, 1997 and September 30, 1997; (iv)
the description of the Company's Class A Common Stock contained in the Company's
Registration Statement on Form 8-A/A filed December 12, 1997; (v) the
description of the Company's Class B Common Stock contained in the Company's
Registration Statement on Form 8-A filed December 12, 1997; and (vi) the
Company's Current Report on Form 8-K filed December 12, 1997.
All documents filed by the Company with the Commission pursuant to Sections
13(a), 13(c), 14 or 15(d) of the Exchange Act after the date of this Prospectus
and prior to the termination of the offering to which this Prospectus relates
shall be deemed to be incorporated in this Prospectus by reference and to be a
part hereof from the respective dates of filing of such documents. The Company
will provide, without charge to any person to whom a copy of this Prospectus is
delivered, upon the written or oral request of such person, a copy of any
document incorporated by reference herein other than exhibits to such documents
unless such exhibits are specifically incorporated by reference in such
document. Requests should be directed to Herbalife
International, Inc., 1800 Century Park East, Los Angeles, California 90067,
Attention: General Counsel (telephone: (310) 410-9600).
Any statement contained herein or in a document incorporated or deemed to
be incorporated by reference herein shall be deemed to be modified or superseded
for purposes of this Prospectus to the extent that a statement contained herein
or in any other subsequently filed document which also is or is deemed to be
incorporated by reference herein modifies or supersedes such statement. Any such
statement so modified or superseded shall not be deemed, except as so modified
or superseded, to constitute a part of this Prospectus.
------------------
"DECS(SM)" is a service mark of Salomon Brothers Inc.
3
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PROSPECTUS SUMMARY
The following information is qualified in its entirety by the more detailed
information and financial statements appearing elsewhere or incorporated by
reference in this Prospectus. Unless the context otherwise requires, references
to the "Company" include Herbalife International, Inc. and its consolidated
subsidiaries. Unless otherwise indicated, all information contained herein
assumes no exercise of the underwriters' over-allotment option in the DECS
Offering. See "Plan of Distribution."
THE COMPANY
Herbalife is a network marketing company that sells a wide range of weight
management products, food and dietary supplements and personal care products
worldwide. As of December 31, 1997, the Company conducted business in 36
countries located in Asia/Pacific Rim, Europe and The Americas. Retail sales in
those regions represented 42.0%, 30.8% and 27.2%, respectively, of the Company's
total retail sales in the first nine months of 1997.
The Company has experienced substantial growth in retail sales and net
income in recent years. From 1992 to 1996, the Company's retail sales grew from
$405.1 million to $1.2 billion, representing a compound annual growth rate of
31.2%. From 1992 to 1996, the Company's net income grew from $20.1 million to
$44.8 million, representing a compound annual growth rate of 22.2%. For the nine
months ended September 30, 1997, retail sales and net income increased by 23.1%
to $1.068 billion and by 28.8% to $39.9 million, respectively, over the
corresponding prior year period.
The Company's products are marketed exclusively through a network marketing
system. This system enables the Company's independent distributors to earn
profits by selling Herbalife products to retail consumers or other distributors.
Distributors may also develop their own distributor downline organizations by
sponsoring other distributors to do business in any market where the Company
operates, entitling the sponsors to receive royalty overrides (cash incentives,
including royalties and bonuses) on product sales within their downline
organizations.
Management believes that Herbalife's network marketing system is ideally
suited to its products, which emphasize a healthy lifestyle, because sales of
such products are strengthened by ongoing personal contact between retail
consumers and distributors, many of whom use the Company's products themselves.
The Company's network marketing system appeals to a broad cross-section of
people throughout the world, particularly those seeking to supplement family
income, start a home business or pursue employment opportunities other than
conventional, full-time employment.
KEY OPERATING STRENGTHS
The Company believes the source of its success is its commitment to serving
the needs of its distributors. The Company provides its distributors with high
quality products and an appealing network marketing system that combines a
highly attractive compensation program with extensive Company-sponsored training
and motivational events and services. The Company has established a strong
operating platform to support distributors and facilitate future growth. The key
components of this platform include the following:
High Quality, Healthy Lifestyle Products. The Company offers high quality
weight management, food and dietary supplement and personal care products, many
of which emphasize herbs and other natural ingredients in order to appeal to
consumer demand for products that contribute to a healthy lifestyle. These three
product categories represented 67.9%, 16.3% and 11.0%, respectively, of total
retail sales in the nine months ended September 30, 1997.
Attractive Distributor Compensation Program. The Company believes that it
offers one of the most financially rewarding compensation programs in the
network marketing industry. Combining the various sources of earnings available
to the Company's distributors, the Company's total "pay-out" (including
4
<PAGE> 7
distributor allowances) on products subject to distributor royalty overrides is
approximately 72% of the Company's suggested retail sales price (before
reflecting a 6% handling fee paid by distributors).
Comprehensive Distributor Support Services. The Company is committed to
training and motivating its distributors and providing ongoing support. The
Company regularly conducts motivational events and training programs, both live
and via the Herbalife Broadcast Network ("HBN"). The Company also utilizes
teleconferences and a wide range of promotional literature (including catalogs
and newsletters), all in multiple languages and tailored to meet the particular
needs of Herbalife distributors worldwide. In addition to over one hundred
Company-sponsored live events each month, distributors themselves conduct
several thousand local training and motivational events each month.
Proven New Market Expansion Program. The Company has developed a
systematic, proven approach to opening new markets. With the advice of local
legal counsel and other advisors, the Company conducts a detailed analysis of
the new market's regulatory framework, modifies its products and marketing
system as necessary to obtain required regulatory approvals and establishes
plans for product distribution and distributor services within the new market.
Advanced Information Systems. To facilitate the Company's global expansion,
the Company employs advanced computer and telecommunications systems that link
its domestic and international operations and provide timely and accurate
product ordering, royalty payment processing and inventory management.
Proactive Approach to Government Relations. The Company employs a staff of
government relations personnel throughout the world who take a proactive
approach to working with governmental agencies, in order to create a favorable
business environment and to ensure that the Company's marketing system and
products comply with regulatory requirements.
GROWTH STRATEGY
The Company plans to continue capitalizing on its strong operating platform
and intends to pursue a growth strategy comprised of the following four
principal elements:
Expand Product Offerings and Develop New Product Lines. The Company is
committed to expanding its product line by developing and offering new products
and introducing existing products into markets where they are not currently
offered. The timely introduction of new, high quality products creates sales
opportunities for distributors, and also serves to generate enthusiasm among
distributors and provide them with additional promotional opportunities to sell
other Company products. During 1997, the Company introduced 17 new products
(exclusive of flavor and color variations) and during 1998 the Company intends
to introduce up to 40 new products (exclusive of flavor and color variations) in
selected markets, including several additions to the weight management program,
an important new line of personal care products and a new line of water
purification systems. The Company will also seek to introduce additional new
product lines in the future, including household products.
Revitalize Sales in Certain Existing Markets. Management continually seeks
to revitalize sales in markets, such as France, Germany, Italy and Spain, that
have experienced an initial period of growth followed by a leveling off or
decline in sales (see "Business -- Geographic Areas of Operations") by, among
other things, providing extensive training and motivational program support to
distributors. In addition, the Company has created regional planning and
strategy groups that include senior members of the Company's distributor base,
increased focus on governmental relations and hired additional distributor
support representatives. The Company also seeks to introduce annually in each
targeted market additional products not previously offered. In certain markets,
the Company has enhanced its presence and visibility by opening new, more
attractive and conveniently located distributor sales centers. The Company
believes that these initiatives favorably impact operations and the Company will
continue to deploy these initiatives in an effort to provide a platform for
renewed growth in the targeted markets in the future.
Expand Into New Markets. The opening of new markets is an important
component of the Company's business strategy. The Company believes there are
numerous additional markets in which its network marketing system and products
should prove successful. The Company opened new markets, Thailand and
5
<PAGE> 8
Chile, in 1997 and plans to open Turkey and Indonesia in 1998. Additional new
markets currently under consideration include China, India, Colombia and
Ecuador. The Company evaluates these and other new markets based, in part, on
the Company's ability to efficiently create a distributor base in potential
markets. In determining when and where to open new markets, the Company will
continue to seek to minimize the impact on distributor focus in existing markets
and to ensure that adequate distributor support services and other Company
systems are in place to support the growth.
Enhance Sales and Motivational Training. The Company will continue to seek
to increase sales through its network marketing system by utilizing extensive
training and motivational programs. The Company will also produce extravaganzas
and other large scale events and numerous training and motivational programs
worldwide. In addition, the Company will continue to offer extensive training
programs through various methods of telecommunication, including broadcast
faxes, pre-recorded telephone message services and live multi-lingual
teleconferences on a global basis, and will seek to expand the motivational and
training programming and audience of the HBN network. Approximately 20,000 HBN
home systems are currently in place. The Company believes distributors
frequently invite other distributors and customers into their homes to view the
2 to 3 hours of HBN network programming available each week.
RECENT DEVELOPMENTS
In December 1997, the Company's common stock, par value $.01 per share (the
"Old Common Stock") was reclassified into voting Class A Stock and non-voting
Class B Stock. The reclassification of the Old Common Stock is referred to
herein as the "Recapitalization," and the Class A Stock and Class B Stock are
together referred to herein as the "Common Stock." See "Management's Discussion
and Analysis of Financial Condition and Results of Operations -- Recent
Developments and Outlook" for a more detailed description of the
Recapitalization.
6
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THE OFFERING
PLAN OF DISTRIBUTION....... The DECS are being offered by the Trust in the DECS
Offering pursuant to the DECS Prospectus.
Pursuant to the terms of the DECS, the Trust will
distribute to holders of the DECS on the Exchange
Date shares of Class B Stock (or at the Selling
Stockholder's option, the cash equivalent
thereof) and/or such other consideration as is
delivered by the Selling Stockholder to the
Trust. This Prospectus relates to the delivery by
the Trust pursuant to the DECS of up to 5,000,000
shares of Class B Stock, plus up to an additional
750,000 shares of Class B Stock that may be
delivered pursuant to (a) DECS that may be issued
to cover over-allotments and (b) DECS subscribed
for and purchased by Smith Barney in connection
with the organization of the Trust, that the
Trust may receive from the Selling Stockholder
under the terms of the Contract. For a
description of certain relationships between the
Selling Stockholder and the Company, see "Certain
Transactions."
SELLING STOCKHOLDER........ The Selling Stockholder in this offering is Mark
Hughes, the principal stockholder, Chairman of
the Board, Chief Executive Officer and President
of the Company, or an affiliate of Mr. Hughes. As
of January 26, 1998, Mr. Hughes beneficially
owned 5,666,933 shares of the Class A Stock and
11,333,868 shares of Class B Stock (which amounts
include 183,333 shares of Class A Stock and
366,666 shares of Class B Stock held by a
charitable foundation of which Mr. Hughes is a
director but with respect to which Mr. Hughes has
no pecuniary interest), representing 57.2% and
57.8% of the Company's outstanding Class A Stock
and Class B Stock, respectively. Assuming the
delivery to the Trust of the maximum number of
shares of Class B Stock that may be required by
the Selling Stockholder to satisfy the Contract
(assuming full exercise of the over-allotment
option in the DECS Offering), Mr. Hughes would
beneficially own 5,583,868 shares of Class B
Stock (including the foundation-owned shares
referred to above), representing 28.5% of the
Company's currently outstanding Class B Stock.
During the term of the DECS and the Contract, Mr.
Hughes will retain the right to receive dividends
on the shares of Class B Stock subject to the
Contract. See "Plan of Distribution."
USE OF PROCEEDS............ All of the shares of Class B Stock covered by this
Prospectus are beneficially owned by Mr. Hughes,
who may deliver or cause to be delivered such
shares to the Trust pursuant to the Contract. See
"Plan of Distribution." The Company will not
receive any of the proceeds from the sale of the
DECS or the delivery thereunder of the Class B
Stock to which this Prospectus relates. See "Use
of Proceeds."
NASDAQ NATIONAL MARKET
SYSTEM SYMBOL OF THE CLASS
B STOCK.................. HERBB
7
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SUMMARY CONSOLIDATED FINANCIAL AND OPERATING DATA
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED DECEMBER 31, ENDED SEPTEMBER 30,
------------------------------------------------------ ---------------------
1992 1993 1994 1995 1996 1996 1997
-------- -------- -------- -------- ---------- -------- ----------
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Retail sales............................... $405,092 $693,015 $884,058 $923,644 $1,200,144 $867,203 $1,067,858
Less--Distributor allowances on product
purchases................................ 190,669 328,270 417,177 434,640 568,209 409,984 505,764
-------- -------- -------- -------- ---------- -------- ----------
Net sales.................................. 214,423 364,745 466,881 489,004 631,935 457,219 562,094
Cost of sales.............................. 63,138 103,834 130,707 143,557 168,432 123,914 147,527
Royalty overrides.......................... 60,851 107,381 125,820 138,940 184,669 134,091 167,466
-------- -------- -------- -------- ---------- -------- ----------
Gross Profit............................... 90,434 153,530 210,354 206,507 278,834 199,214 247,101
Marketing, distribution and administrative
expenses................................. 59,583 88,918 139,629 176,046 210,087 151,878 185,302
Restructuring expense...................... -- -- -- 2,300 -- -- --
Interest income--net....................... 689 1,729 2,919 3,404 4,084 3,004 3,550
-------- -------- -------- -------- ---------- -------- ----------
Income before income taxes and minority
interest................................. 31,540 66,341 73,644 31,565 72,831 50,340 65,349
Income taxes............................... 11,464 25,160 27,616 11,837 28,040 19,379 25,159
Minority interest.......................... -- -- -- -- -- -- 321
-------- -------- -------- -------- ---------- -------- ----------
Net income................................. $ 20,076 $ 41,181 $ 46,028 $ 19,728 $ 44,791 $ 30,961 $ 39,869
======== ======== ======== ======== ========== ======== ==========
Earnings per share:
Primary.................................. $ 0.79 $ 1.47 $ 1.50 $ 0.65 $ 1.43 $ 1.00 $ 1.26
Fully diluted............................ $ 0.74 $ 1.47 $ 1.50 $ 0.65 $ 1.38 $ 0.99 $ 1.25
Cash dividends per common share............ $ 0.15 $ 0.49 $ 0.80 $ 0.74 $ 0.60 $ 0.45 $ 0.45
</TABLE>
<TABLE>
<CAPTION>
FEBRUARY 28,
----------------------------------------------------------
1992 1993 1994 1995 1996 1997
------- ------- ------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C>
OTHER DATA:
Approximate number of supervisors............................. 18,000 41,000 75,000 90,000 99,000 115,000
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------------
1992 1993 1994 1995 1996 1997
------- ------- ------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C>
Number of countries........................................... 15 16 24 32 34 36
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
----------------------------------------------------------- -------------
1992 1993 1994 1995 1996 1997
------- -------- -------- -------- -------- -------------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents and marketable
securities................................ $28,847 $ 79,354 $ 59,113 $104,226 $131,039 $ 125,059
Working capital............................. 18,732 72,723 89,825 85,126 109,662 125,433
Total assets................................ 61,089 130,820 174,057 207,690 269,114 304,307
Long-term obligations....................... 1,045 994 1,014 1,779 2,306 3,219
Stockholders' equity........................ 23,913 81,202 109,815 109,530 138,468 158,226
</TABLE>
8
<PAGE> 11
RISK FACTORS
Prior to making an investment decision, prospective investors should
consider carefully the information set forth below, as well as the other
information contained in this Prospectus.
DEPENDENCE ON DISTRIBUTORS
The Company's success depends in significant part upon its ability to
attract, maintain and motivate a large base of distributors. In its efforts to
attract and retain distributors, the Company competes with other network
marketing organizations, including those in the weight management, food and
dietary supplement and personal care product industries. In addition, as a
result of the Company's network marketing system and its international
sponsorship program, the distributor organizations headed by a relatively small
number of key distributors are responsible for a significant percentage of total
retail sales (in many cases, including retail sales in several different
countries). The Company does not believe that the loss of any key distributor
would necessarily result in the loss of a significant number of that
distributor's downline organization members because of the Company's generally
good relations with its distributors and because of the significant incomes that
many distributors would forego by ceasing to distribute the Company's products.
However, the loss of a key distributor, together with a significant number of
downline distributors, or the loss of a significant number of distributors for
any reason, could materially adversely affect sales of the Company's products
and could impair the Company's ability to attract new distributors.
The Company's ability to attract and retain distributors has been and could
again be negatively affected by adverse publicity and regulatory action relating
to the Company, its products or its operations, including its network marketing
system. In the mid-1980s, the Company's products and marketing system became the
subject of regulatory scrutiny in the United States, resulting in large part
from claims and representations made about the Company's products (including
impermissible therapeutic claims). The resulting adverse publicity caused a
rapid, substantial loss of distributors in the United States and a corresponding
reduction in sales beginning in 1985. More recently, adverse publicity in other
markets, including Brazil, France and Germany, contributed to a loss of
distributors and a decline in sales in those markets. See "-- Sales and Earnings
Volatility." The Company expects that its business in particular markets will,
from time to time, continue to be adversely affected by negative publicity or
regulatory action. See "Business -- Network Marketing System; Geographic Areas
of Operations; Regulation; Growth Strategy."
REGULATION
In both its United States and foreign markets, the Company is subject to
and affected by extensive governmental regulations, including, among other
things, regulations pertaining to (i) the formulation, manufacturing, packaging,
labeling, distribution, importation, sale and storage of the Company's products,
(ii) product claims and advertising (including direct claims and advertising by
the Company, as well as claims and advertising by distributors for which the
Company may be held responsible), (iii) the Company's network marketing system,
(iv) transfer pricing and similar regulations that affect the level of foreign
taxable income and customs duties, and (v) taxation of distributors, which in
some instances may impose an obligation on the Company to collect the taxes and
maintain appropriate records. See "Business -- Regulation."
The Company could be found not to be in compliance with existing
regulations as a result, among other things, of the ambiguous nature of certain
of the regulations, the considerable interpretive and enforcement discretion
given to regulators or misconduct by distributors, who are generally independent
contractors over whom the Company has limited control. Any assertion or
determination that the Company or its distributors are not in compliance with
existing regulations could have a material adverse effect on the Company. The
Company's business has been materially, adversely affected in the past as a
result of regulatory activities. See "-- Sales and Earnings Volatility."
In addition, the adoption of new regulations in the United States or in any
of the Company's international markets, or changes in the interpretation of
existing regulations, could have a material adverse effect on the Company. For
example, in September 1997 the United States Food and Drug Administration (the
"FDA") issued regulations governing the labeling and marketing of dietary
supplement products. The regulations cover:
9
<PAGE> 12
1) the identification of dietary supplements and their nutrition and ingredient
labeling; 2) the terminology to be used for nutrient content claims, health
content claims, and statements of nutritional support; 3) labeling requirements
for dietary supplements for which "high potency" and "antioxidant" claims are
made; 4) notification procedures for statements on dietary supplements; and 5)
premarket notification requirements for new dietary ingredients in dietary
supplements. The notification procedures became effective in November, 1997,
while the new labeling requirements will not become effective until March 1999.
The Company will be required to revise a substantial number of its product
labels to reflect the new requirements prior to the 1999 effective date,
although the Company does not expect the cost or impact of such actions to be
material. In addition, the Company will be required to continue its ongoing
program of securing substantiation of its product performance claims, and of
notifying the FDA of certain types of performance claims made for its products.
In addition, in certain markets, including the U.S., claims made with
respect to weight management, dietary supplement, personal care or other
products of the Company may change the regulatory status of the products. In the
U.S., for example, it is possible that the FDA could take the position that
claims made in connection with certain of the Company's products place those
products within the scope of an FDA "over-the counter" (OTC) drug monograph. See
"Business -- Regulation." OTC monographs prescribe permissible ingredients and
appropriate labeling language, and require the marketer or supplier of the
products to register and file annual drug listing information with the FDA. A
limited number of the products sold by the Company are labeled as OTC monograph
drugs, and the Company believes that it is in compliance with the applicable
monographs. In the event that the FDA asserted that product claims for other
products caused them to fall within the scope of OTC monographs, the Company
would be required either to comply with the applicable monographs or change the
claims made in connection with the products. There can be no assurance that the
Company could do so effectively, or that any such changes would not adversely
affect sales and marketing of an affected product.
The U.S. Federal Trade Commission ("FTC"), which exercises jurisdiction
over the advertising of all the Company's products, has in the past several
years instituted enforcement actions against several dietary supplement
companies for false and misleading advertising of certain products. These
enforcement actions have resulted in consent decrees and monetary payments by
the companies involved. In addition, the FTC has increased its scrutiny of the
use of testimonials, which are utilized by the Company. While the Company has
not been the target of FTC enforcement action for the advertising of its
products, there can be no assurance that the FTC will not question the Company's
advertising or other operations in the future.
As a marketer of food and dietary supplements and other products that are
ingested by consumers, the Company is subject to the risk that one or more of
the ingredients in its products may become the subject of adverse regulatory
action. For example, one of the ingredients in the Thermojetics(R) original
green herbal tablet is a Chinese herb, Ma Huang, which contains
naturally-occurring ephedrine in small quantities. Ephedrine products have been
the subject of adverse publicity in the United States and other countries
relating to alleged harmful effects, including the deaths of several
individuals. In response to potential federal regulatory proposals that may have
affected the sale of the Thermojetics(R) original green herbal tablet in the
United States, the Company suspended sales of the product for approximately
three months commencing in July 1995 and introduced a reformulated herbal green
tablet that did not contain Ma Huang. When no such regulations were proposed or
issued, the Company renewed sales of Thermojetics(R) original green herbal
tablets in the United States in October 1995 (except in certain states in which
regulations may prohibit or restrict the sale of such product). The
Thermojetics(R) original green herbal tablet accounted for 2.4% and 2.2% of
total retail sales in 1996 and 1997, respectively, although the marketing of the
Thermojetics(R) weight management tablets (original green, green, beige and
yellow) and other products in the Thermojetics(R) line have contributed
significantly to the Company's retail sales. The Company also previously offered
the Thermojetics(R) original green herbal tablet in Canada but, in response to
Canadian marketing issues and regulatory concerns, suspended sales of the
product in February, 1994.
The FDA has on record a small number of reports of adverse reactions
allegedly resulting from the ingestion of Ma Huang contained in the Company's
Thermojetics(R) original green tablet. In addition, the Company is a defendant
in three actions alleging adverse reactions to consumption of its original green
10
<PAGE> 13
Thermojetics(R) product. See "Business -- Regulation." The Company has not
received any communications from the FDA with respect to these reports. However,
many other companies manufacture products containing various amounts of Ma Huang
and the FDA has on record hundreds of reports of adverse reactions to these
products. On April 10, 1996, the FDA issued a statement warning consumers not to
purchase or ingest dietary supplements containing ephedrine that are claimed to
produce such effects as euphoria, heightened awareness, increased sexual
sensations or increased energy, because these products pose significant adverse
health risks, including dizziness, headache, gastrointestinal distress,
irregular heartbeat, heart palpitations, heart attack, strokes, seizures,
psychosis and death. The Company does not market its Ma Huang product with any
of these claims.
On June 4, 1997, the FDA issued a proposed regulation for dietary
supplements containing ephedrine alkaloids. The proposed regulation would
prohibit dietary supplements containing eight milligrams or more of ephedrine
alkaloids per serving, and would not permit such products to contain any other
stimulant, diuretic or laxative ingredients. In addition, labeling of
supplements would be prohibited from suggesting or recommending conditions of
use that would result in an intake of eight milligrams or more of ephedrine
alkaloids within a six-hour period, or a total daily intake of 24 milligrams or
more. The FDA proposal would also require a warning not to take the product for
more than seven days, and would prohibit the supplements from being represented,
either expressly or implicitly, as being suitable for long-term uses, such as
for weight loss or body building. Similarly, claims for increased energy,
increased mental concentration, or enhanced well-being that encourage the
consumer to take more of the product to achieve more of the purported effect
would be required to be accompanied by a warning stating that taking more than
the recommended serving may cause a heart attack, stroke, seizure, or death.
Although tests performed by an independent laboratory indicate that the
Company's original green Thermojetics(R) product contains less than the eight
milligrams of ephedrine alkaloids per serving permitted under the FDA proposal,
the Company is reviewing the possible impact of the FDA proposal, if it is
finalized in its current form, upon the Company's continued marketing of its
Thermojetics(R) original green tablet. In response to the proposal, or to a
final regulation which is substantially similar to the proposal, the Company may
be required to: (i) withdraw or reformulate its product with reduced ephedrine
levels, or with a substitute for Ma Huang, (ii) relabel its product with
different warnings or revised directions for use, (iii) not make certain
statements, possibly including weight loss, with respect to any product
containing Ma Huang and/or (iv) withdraw its product from the weight management
program and reposition it in a different category. Even in the absence of an FDA
final regulation, the Company may elect to reformulate and/or relabel its
product containing Ma Huang. While the Company believes that its Ma Huang
product could be reformulated and relabeled, there can be no assurance in that
regard or that reformulation and/or relabeling would not have an adverse effect
on sales of such product or related products within the Thermojetics(R) Weight
Management Program, even though such products do not contain Ma Huang. During
1996, and for the first nine months of 1997, the Company's 14 weight management
products contributed 71.2% and 67.9%, respectively, of total sales.
Governmental regulations in countries where the Company plans to commence
or expand operations may prevent or delay entry into the market. In addition,
the Company's ability to sustain satisfactory levels of sales in its markets is
dependent in significant part on its ability to introduce additional products
into such markets. However, government regulations in the Company's markets,
both domestic and international, can delay or prevent the introduction, or
require the reformulation or withdrawal, of certain of the Company's products.
For example, during the third quarter of 1995, the Company received inquiries
from certain government agencies within Germany and Portugal regarding the
Company's product, Thermojetics(R) Instant Herbal Beverage, relating to the
caffeine content of the product and the status of the product as an "instant
tea," which was disfavored by regulators, versus a "beverage." The sale of this
product in these countries was subsequently suspended by the Company at the
request of the regulators. Further, such regulatory action, whether or not it
results in a final determination adverse to the Company, could create negative
publicity (as it did in Germany with respect to Thermojetics(R) Instant Herbal
Beverage), with detrimental effects on the motivation and recruitment of
distributors and, consequently, on sales. See "Business -- Regulation;
Geographic Areas of Operations."
11
<PAGE> 14
The Company may be subject to challenges to the legality of its network
marketing system based on claims that such system is an illegal "pyramid scheme"
or similar allegations. For example, see the discussion of Webster v.
Omnitrition International, Inc. in "Business -- Regulation." While the Company
believes that its network marketing system complies with all applicable laws,
there can be no assurance that such challenges will not be made or made
successfully or that other legal developments in this area will not have a
material adverse effect on the Company.
DEPENDENCE ON KEY PERSONNEL
The business of the Company, particularly the operation of its distributor
network, is substantially dependent upon the active participation of Mark
Hughes, the Company's principal stockholder, Chairman of the Board, Chief
Executive Officer and President. The loss of Mr. Hughes' services would
adversely affect the business of the Company. The Company does not maintain key
man life insurance on Mr. Hughes.
SALES AND EARNINGS VOLATILITY
The Company's sales and earnings have been subject to significant
volatility in the past. In the mid-1980s, the Company's products and network
marketing system became the subject of regulatory scrutiny in the United States
resulting in large part from claims and representations made about the Company's
products, including impermissible therapeutic claims. Although the Company
responded by instituting certain regulatory compliance measures (see
"Business -- Regulation"), as a result of the adverse publicity generated by the
regulatory activities the Company experienced, beginning in 1985, a rapid,
substantial loss of distributors in the United States and a corresponding
reduction in sales. In addition, the Company's sales in the United States were
adversely affected by competition from other weight management products. As a
consequence, from 1987 (the Company's first full year as a public company)
through 1990, the Company's operations resulted either in net losses ($2.4
million in 1990 and $6.3 million in 1988) or modest net income ($1.0 million in
1989 and $1.1 million in 1987). More recently, adverse publicity and regulatory
action in other markets, including France and Germany, resulted in a loss of
distributors and a decline in sales in those markets, contributing to a
reduction in worldwide net income from $46.0 million in 1994 to $19.7 million in
1995. While net income increased in subsequent periods (to $44.8 million for
1996 and $39.9 for the nine months ended September 30, 1997), the Company
expects that its business in particular markets will, from time to time, be
adversely impacted by regulatory actions, negative publicity and competition in
those markets. See "-- Dependence on Distributors" and "Business -- Geographic
Areas of Operations; Regulation."
In addition, after entering a new country, the Company has in many
instances experienced an initial period of rapid growth in sales as new
distributors were recruited, followed by a decline in sales. The Company
believes that this sales trend has been due in part to certain distributor
migration patterns as well as regulatory action and adverse publicity in certain
markets. In certain of these markets, the opening of new markets within the same
geographic region or with the same or similar language or cultural bases has
resulted in a corresponding tendency of some key distributors to focus their
attention on business opportunities provided by the new markets instead of
developing their established downline organizations in existing markets.
Additionally, in certain instances, the Company has become aware that sales in
certain existing markets were attributable to purchasers who distributed such
product in countries which had not yet been opened. When these countries were
opened, such sales in existing markets shifted to the newly opened markets,
resulting in a decline in sales in the existing markets.
The Company's weight management products have historically contributed a
significant portion of the Company's total retail sales. During 1996 and for the
first nine months of 1997, the Company's 14 weight management products
contributed 71.2% and 67.9%, respectively, of total retail sales, and one of
these products contributed 19.2% and 19.4%, respectively, of total retail sales.
Accordingly, the Company could be materially adversely affected if, because of
regulatory constraints, adverse publicity, competition or other factors, the
Company were unable to successfully market its weight management products in one
or more significant markets. See "Business -- Product Overview."
12
<PAGE> 15
The Company's sales and earnings continue to be subject to significant
potential volatility based upon, among other things, the adverse effect of
distributors' or the Company's failure, and allegations of their failure, to
comply with applicable regulations, which have in the past and could again in
the future result in the removal of certain products from sale in certain
countries, either temporarily or permanently; the negative impact of changes in
or interpretations of regulations that may limit or restrict the sale of certain
of the Company's products, the operation of its network marketing system, the
expansion of its operations into new markets, the introduction of its products
into each market and the recruitment and retention of distributors; the
inability of the Company to introduce new products or the introduction of new
products by the Company's competitors; general conditions in the weight
management, food and dietary supplement and personal care industries or the
network marketing industry; and consumer perceptions of the Company's products
and operations. In particular, because the Company's products are ingested by
consumers or applied to their bodies, the Company is highly dependent upon
consumers' perception of the safety, quality and effectiveness of its products.
As a result, substantial negative publicity, whether founded or unfounded,
concerning one or more of the Company's products or other products similar to
the Company's products could adversely affect the Company's sales and earnings.
In the past, adverse publicity has been connected with prospective regulatory
action, perceived health concerns relating to particular products, issues
related to the Company's network marketing system, disputes between the Company
and certain of its distributors, and other issues relating to the Company's
business.
DEPENDENCE UPON MATERIAL FOREIGN MARKETS
For 1996 and the nine months ended September 30, 1997, 76.7% and 79.0% of
the Company's total retail sales, respectively, were generated outside the
United States. Such reliance on foreign markets exposes the Company to the risks
associated with foreign operations, including, among other things, changes in or
interpretations of foreign regulations that may limit the Company's ability to
sell certain products, conduct a network marketing system or repatriate profits
to the United States, and the potential imposition of trade or foreign exchange
restrictions or increased tariffs. The Company is also exposed to risks
associated with foreign currency fluctuations. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Recent Developments
and Outlook." For instance, the Company's purchases from suppliers are generally
made in U.S. dollars while its sales to distributors are generally made in local
currencies; accordingly, strengthening of the U.S. dollar versus a foreign
currency can have a negative impact on the Company. Although the Company engages
in transactions to protect against certain risks associated with foreign
currency fluctuations, there can be no assurance that such fluctuations will not
have an adverse effect on the Company. As the Company continues to expand its
international operations, these and other risks associated with international
operations are likely to increase. See "-- Regulation" and "Business --
Geographic Areas of Operations."
In particular, the Company is exposed to risks associated with the current
economic and currency crises in Asia. Because of the significance of the Asian
markets, and Japan in particular, which has become the Company's largest single
retail sales market, a sustained economic slowdown and/or currency crisis in
Asia could have a material adverse impact on the Company's business.
Further, during the nine months ended September 30, 1997, of the 36
countries in which the Company operated during that period, 22 countries
experienced an aggregate increase in retail sales of $266.4 million as compared
with the corresponding period in 1996. Japan accounted for 62.3%, and Russia and
Taiwan together accounted for 14.0% of this increase. The growth in these 22
countries was offset by a $65.7 million aggregate decrease in retail sales in
the remaining 14 countries in which the Company operated during both periods.
The Company expects that its business in these and other markets will, from time
to time, be adversely affected by regulatory action, negative publicity,
competition and other factors. See "-- Sales and Earnings Volatility" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Recent Developments and Outlook."
In addition, the Company's operations in certain markets may be adversely
affected by political, economic and social instability in those countries. For
instance, the Company has elected not to establish a physical presence, through
a sales or distribution center, in Russia due to a difficult business
environment in
13
<PAGE> 16
that country. Instead the Company has chosen to rely on various import/export
companies located in Russia to conduct transactions in the Company's products
with Russian distributors. See "Business -- Geographic Areas of Operations."
UNCERTAINTIES ASSOCIATED WITH BUSINESS EXPANSION
The Company's continued growth is dependent in significant part upon its
ability to expand its operations into new markets. As compared to new market
openings in the past, the Company may have greater difficulty opening new
markets in the future due to greater regulatory barriers, the necessity of
adapting to entirely new regulatory systems and problems related to entering new
markets with different cultural bases and political systems from those
encountered in the past. In addition, the Company's success has been and will
continue to be significantly dependent on its ability to manage rapid growth,
through expansions and enhancements of its worldwide personnel and management
and information, order processing and fulfillment, inventory and shipping
systems and other aspects of operations. From time to time, the Company has
experienced out-of-stock situations with respect to certain products. As the
Company continues to add distributors, products and countries to its operations,
the ability to manage this growth will represent an increasing challenge. See
"Business -- Geographic Areas of Operations; Regulation."
RELATIONSHIP WITH OUTSIDE MANUFACTURERS
All of the Company's products are manufactured by outside companies. Raven
Industries, Inc. ("Raven") currently manufactures all of the Company's powder
products, and D&F Industries, Inc. ("D&F") currently supplies all of the
Company's tablet products, including Activated Fiber,(TM) one of the Company's
tablet products, pursuant to a licensing agreement with Dynamic Products, Inc.
("Dynamic"). In 1996 and 1997, aggregate purchases by the Company from Raven and
D&F represented a majority of the Company's product purchases. Two individuals
(not affiliates of the Company) are principal stockholders of each of D&F, Raven
and Dynamic. Mark Hughes owns a one-third ownership interest in Raven and a one-
fifth ownership interest in Dynamic. See "Business -- Product Overview" and
"Certain Transactions." For a number of years prior to 1998, the Company was
subject to requirements contracts with each of Raven, D&F and Dynamic, pursuant
to which the Company agreed to purchase all of its requirements of powder
products from Raven and all of its requirements of tablet, capsule and certain
other products from Dynamic or D&F, to the extent each such manufacturer was
capable of manufacturing such products. In September 1997, the Company entered
into new three-year agreements with Raven, D&F and Dynamic, pursuant to which
revised pricing and other provisions became effective on January 12, 1998. The
new contracts provide, among other things, the ability for the Company to source
and develop products with other third party manufacturers, subject to minimum
percentage purchase and other requirements for nutritional supplement, and a
small number of non-nutritional supplement, products falling into specified
product categories. As a result, and because the new contracts confirm the
Company's ownership of product formulations for substantially all of the
Company's nutritional supplement products, the Company has the capacity, and in
the future may seek, to "second source" particular nutritional supplement
products with multiple manufacturers. Further, the Company has hired its own
staffs of product research and development and product formulation personnel,
and will increasingly rely on its in-house staff for these functions. However,
the Company has historically relied on Raven and D&F for these services, and
will continue to do so, albeit to a lesser extent, in the future. The Company's
ability to enter new markets and sustain satisfactory levels of sales in each
market has been in the past and is likely to continue to be dependent in
significant part upon its own ability and the ability of its manufacturers,
including Raven and D&F, to develop new products and reformulate existing
products for introduction into the Company's markets. See "Business -- Product
Overview -- Product Manufacturing and Development." With the transition in the
Company's relationship with Raven and D&F from exclusive to nonexclusive
contracts, there can be no assurance that the Company will seek or continue to
obtain the same amount or quality of product research, development or
formulation services from Raven and D&F that it has received in the past. While
the Company expects to obtain similar such services from in-house personnel and
alternative manufacturers in the future, there can be no assurance that there
will not be some disruption in the Company's business from time to time as these
support services begin to be provided internally and by alternative
manufacturers. See "Business -- Product Overview -- Product Manufacturing and
Development."
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<PAGE> 17
ABSENCE OF CLINICAL STUDIES AND SCIENTIFIC REVIEW; POTENTIAL MISUSE OF PRODUCTS
In general, the Company's products consist of weight management products,
food and dietary supplements and personal care products (a limited number of
which have been or may be classified in the U.S. as OTC drugs) which the Company
believes do not require approvals from the FDA or, in the United States market,
other regulatory agencies, prior to sale. The Company does not conduct clinical
studies of its products. The Company's products consist of herbs, vitamins,
minerals and other ingredients that the Company regards as safe when taken as
suggested by the Company. However, because the Company is highly dependent upon
consumers' perception of the safety and quality of its products as well as
similar products distributed by other companies, the Company could be adversely
affected in the event any of the Company's products or any similar products
distributed by other companies should prove or be asserted to be harmful to
consumers. In addition, because of the Company's dependence upon consumer
perceptions, any adverse publicity associated with illness or other adverse
effects resulting from consumers' use or misuse of the Company's products or any
similar products distributed by other companies could have a material adverse
impact on the Company. See "Business -- Product Overview."
COMPETITION
The Company is subject to significant competition for the recruitment of
distributors from other network marketing organizations, including those that
market weight management, food and dietary supplement and personal care products
as well as other types of products. Some of the Company's competitors are
substantially larger and have available considerably greater financial resources
than the Company. The Company's ability to remain competitive depends, in
significant part, on the Company's success in recruiting and retaining
distributors through an attractive compensation plan and other incentives.
In addition, the business of marketing weight management, food and dietary
supplement and personal care products is highly competitive. This market segment
includes numerous manufacturers, distributors, marketers, retailers and
physicians that actively compete for the business of consumers both in the
United States and abroad. The market is highly sensitive to the introduction of
new products or weight management plans (including various prescription drugs)
that may rapidly capture a significant share of the market. As a result, the
Company's ability to remain competitive depends in part upon the successful
introduction of new products. See "Business -- Competition."
PRODUCT LIABILITY CLAIMS
As a marketer of food and dietary supplements and other products that are
ingested by consumers or applied to their bodies, the Company may be subjected
to various product liability claims, including, among other things, that its
products contain contaminants or include inadequate instructions as to use or
inadequate warnings concerning side effects and interactions with other
substances. While such claims to date have not been material to the Company and
the Company maintains product liability insurance, it is possible that
widespread product liability claims and the resultant adverse publicity could
negatively affect the Company. See "Business -- Product Overview; Regulation."
CONCENTRATION OF STOCK OWNERSHIP
As of January 26, 1998, Mr. Hughes beneficially owned 5,666,933 shares of
the Class A Stock and 11,333,868 shares of the Class B Stock (which amounts
include 183,333 shares of Class A Stock and 366,666 shares of Class B Stock held
by a charitable foundation of which Mr. Hughes is a director but with respect to
which Mr. Hughes has no pecuniary interest), representing 57.2% and 57.8% of the
currently outstanding shares of Class A Stock and Class B Stock, respectively.
Accordingly, Mr. Hughes currently has the power to elect the entire Board of
Directors of the Company and determine the outcome of all matters submitted to
the Company's stockholders for approval. Because Class B Stock is non-voting
stock, neither the completion of the DECS Offering nor the settlement of the
DECS will affect Mr. Hughes' voting power with respect to the Company. Assuming
the delivery by the Selling Stockholder to the Trust of the maximum number of
shares of Class B Stock required to satisfy the Contract (assuming full exercise
of the over-
15
<PAGE> 18
allotment option in the DECS Offering), Mr. Hughes would beneficially own 28.5%
of the Company's currently outstanding Class B Stock (including the
foundation-owned shares referred to above). See "Plan of Distribution" and
"Principal and Selling Stockholders."
SHARES AVAILABLE FOR FUTURE PUBLIC SALE
In addition to shares already publicly held, as of January 26, 1998, (i)
432,604 shares of Class A Stock and 865,209 shares of Class B Stock subject to
outstanding stock options that are currently exercisable have been registered
for sale under the Securities Act in connection with various compensation plans
of the Company, and (ii) 5,666,933 shares of Class A Stock and 6,333,868 shares
of Class B Stock owned by the Selling Stockholder (not including the 5,000,000
shares subject to the Contract (assuming that the over-allotment option relating
to the DECS is not exercised)) are currently available for sale pursuant to Rule
144 under the Securities Act, subject to the volume limitations contained in the
rule. The Company, its directors and executive officers, and the Selling
Stockholder have agreed, subject to certain exceptions, not to sell, without the
prior written consent of Smith Barney, any shares of Common Stock or any
securities convertible into or exercisable or exchangeable for such shares for a
period of 90 days, in the case of the Company and its directors and executive
officers (other than the Selling Stockholder), and one year, in the case of the
Selling Stockholder, after the date of this Prospectus. See "Plan of
Distribution." Future sales of substantial amounts of Class A Stock or Class B
Stock could adversely affect prices in the public market.
USE OF PROCEEDS
All of the shares of Class B Stock covered by this Prospectus are
beneficially owned by the Selling Stockholder. See "Plan of Distribution." The
Company will not receive any of the proceeds from the sale of the DECS or the
delivery thereunder of the Class B Stock to which this Prospectus relates. The
expenses in connection with the issuance and distribution of the DECS and
delivery thereunder of the Class B Stock are being borne by the Selling
Stockholder.
16
<PAGE> 19
PRICE RANGE OF COMMON STOCK
The Old Common Stock has been quoted on the Nasdaq National Market System
under the symbol "HERB" since April 21, 1992. As a result of the
Recapitalization (including a related Class B Stock dividend), as of December
12, 1997, the Old Common Stock was effectively split into the Class A Stock and
the Class B Stock. The Class A Stock and the Class B Stock have been quoted on
the Nasdaq National Market System under the symbols "HERBA" and "HERBB,"
respectively, since December 15, 1997. The table below sets forth, for the
periods indicated, the high and low sales prices of the Old Common Stock, and,
commencing December 15, 1997, the Class A Stock and the Class B Stock, as
reported on the Nasdaq National Market System. The sales prices in the table
were taken from a written summary provided to the Company by Nasdaq. Prices
reflect inter-dealer prices, without retail mark-up, mark-down or commission and
may not represent actual transactions.
<TABLE>
<CAPTION>
SALES PRICE
---------------
HIGH LOW
---- ---
<S> <C> <C>
1996
First Quarter............................................... $12 1/8 $ 8 5/8
Second Quarter.............................................. 16 3/8 10 1/8
Third Quarter............................................... 15 7/8 12 1/2
Fourth Quarter.............................................. 32 5/8 15 1/2
1997
First Quarter............................................... $37 3/4 $14 3/4
Second Quarter.............................................. 21 1/8 15 3/4
Third Quarter............................................... 26 1/4 14 7/8
Fourth Quarter through December 12, 1997*................... $27 7/8 $19 1/4
Fourth Quarter commencing December 15, 1997
Class A Stock*......................................... $24 $20 1/2
Class B Stock*......................................... 23 20
1998
First Quarter
Class A Stock**........................................ $24 1/2 $19 7/16
Class B Stock**........................................ 22 3/8 17 3/4
</TABLE>
- ---------------
* The Recapitalization became effective December 12, 1997. Beginning December
15, 1997, the Old Common Stock commenced trading as the Class A Stock and the
Class B Stock as a result of the Recapitalization. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Recent Developments and Outlook." Accordingly, the prices set
forth above relate to the Old Common Stock through December 12, 1997, and the
Class A Stock and Class B Stock, as indicated, commencing on December 15,
1997.
** Reflects high and low sales prices through February 9, 1998.
As of January 26, 1998, 9,816,532 and 19,397,664 shares of the Company's
Class A Stock and Class B Stock, respectively, were issued and outstanding and
were held by 1,046 and 1,047 stockholders of record, respectively. For a recent
closing sale price of the Class B Stock, see the cover page of this Prospectus.
17
<PAGE> 20
DIVIDEND POLICY
Prior to the third quarter of 1992, the Company had never paid a dividend
on its Old Common Stock. In June 1992, the Company announced the adoption of a
cash dividend practice. The Company paid quarterly dividends of $0.18 per share
for the dividends paid on February 11, 1994, May 5, 1994 and August 4, 1994,
increased the dividend to $0.22 per share for the dividends paid on November 3,
1994, February 2, 1995, May 4, 1995 and August 3, 1995, and reduced the dividend
to $0.15 per share for the dividends paid on November 2, 1995, February 15,
1996, May 6, 1996, August 7, 1996, November 7, 1996, February 12, 1997, May 8,
1997, August 1, 1997, November 6, 1997 and February 11, 1998 (with respect to
the Class A Stock and Class B Stock). The declaration of dividends in the future
will be determined by the Board of Directors in its discretion and the amount of
dividends declared and paid in future quarters will depend on, among other
factors, the Company's profitability and other planned uses of the Company's
cash resources. See "Description of Capital Stock."
18
<PAGE> 21
SELECTED CONSOLIDATED FINANCIAL AND OPERATING DATA
The selected consolidated financial data set forth below for each of the
years in the five-year period ended December 31, 1996 are derived from the
audited consolidated financial statements of the Company. The selected
consolidated financial data set forth below for the nine months ended September
30, 1996 and 1997 are derived from unaudited consolidated financial statements
of the Company which, in the opinion of the Company, reflect all adjustments
(consisting of normal recurring accruals) necessary for the fair statement of
the results of the periods presented. Operating results for the nine month
periods are not necessarily indicative of the results that may be expected for
the entire year. The selected "Other Data" set forth below are derived from
unaudited internal records maintained by the Company in the ordinary course of
business and, in the opinion of the Company, reflect a fair statement of the
specified data for the periods presented. The selected financial and other data
should be read in conjunction with Management's Discussion and Analysis of
Financial Condition and Results of Operations.
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED DECEMBER 31, ENDED SEPTEMBER 30,
------------------------------------------------------ ---------------------
1992 1993 1994 1995 1996 1996 1997
-------- -------- -------- -------- ---------- -------- ----------
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Retail sales(1)(2)........................... $405,092 $693,015 $884,058 $923,644 $1,200,144 $867,203 $1,067,858
Less -- Distributor allowances on product
purchases(1)............................... 190,669 328,270 417,177 434,640 568,209 409,984 505,764
-------- -------- -------- -------- ----------- -------- -----------
Net sales(1)(2).............................. 214,423 364,745 466,881 489,004 631,935 457,219 562,094
Cost of sales................................ 63,138 103,834 130,707 143,557 168,432 123,914 147,527
Royalty overrides(1)......................... 60,851 107,381 125,820 138,940 184,669 134,091 167,466
-------- -------- -------- -------- ----------- -------- -----------
Gross profit................................. 90,434 153,530 210,354 206,507 278,834 199,214 247,101
Marketing, distribution and administrative
expenses................................... 59,583 88,918 139,629 176,046 210,087 151,878 185,302
Restructuring expense........................ -- -- -- 2,300 -- -- --
Interest income -- net....................... 689 1,729 2,919 3,404 4,084 3,004 3,550
-------- -------- -------- -------- ----------- -------- -----------
Income before income taxes and minority
interest................................... 31,540 66,341 73,644 31,565 72,831 50,340 65,349
Income taxes................................. 11,464 25,160 27,616 11,837 28,040 19,379 25,159
Minority interest(3)......................... -- -- -- -- -- -- 321
-------- -------- -------- -------- ----------- -------- -----------
Net income................................... $ 20,076 $ 41,181 $ 46,028 $ 19,728 $ 44,791 $ 30,961 $ 39,869
======== ======== ======== ======== =========== ======== ===========
Earnings per share:
Primary(4)................................. $ 0.79 $ 1.47 $ 1.50 $ 0.65 $ 1.43 $ 1.00 $ 1.26
Fully diluted(4)........................... $ 0.74 $ 1.47 $ 1.50 $ 0.65 $ 1.38 $ 0.99 $ 1.25
Cash dividends per common share.............. $ 0.15 $ 0.49 $ 0.80 $ 0.74 $ 0.60 $ 0.45 $ 0.45
</TABLE>
<TABLE>
<CAPTION>
FEBRUARY 28,
----------------------------------------------------------
1992 1993 1994 1995 1996 1997
------- ------- ------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C>
OTHER DATA:
Approximate number of supervisors(5).......................... 18,000 41,000 75,000 90,000 99,000 115,000
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------------
1992 1993 1994 1995 1996 1997
------- ------- ------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C>
Number of countries(6)........................................ 15 16 24 32 34 36
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
--------------------------------------------------- -------------
1992 1993 1994 1995 1996 1997
------- -------- -------- -------- -------- -------------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents and marketable securities...... $28,847 $ 79,354 $ 59,113 $104,226 $131,039 $ 125,059
Working capital....................................... 18,732 72,723 89,825 85,126 109,662 125,433
Total assets.......................................... 61,089 130,820 174,057 207,690 269,114 304,307
Long-term obligations................................. 1,045 994 1,014 1,779 2,306 3,219
Stockholders' equity.................................. 23,913 81,202 109,815 109,530 138,468 158,226
</TABLE>
19
<PAGE> 22
- ---------------
(1) For a description of retail sales, distributor allowances on product
purchases, net sales and royalty overrides, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Recent
Developments and Outlook."
(2) Throughout this Prospectus, retail sales and net sales include license fees
paid by the Company's licensees in certain countries. See
"Business -- Geographic Areas of Operation." License fees were not material
in any year presented.
(3) See "Certain Transactions" regarding minority interests in the Company's
Japanese subsidiary.
(4) Primary earnings per share are computed by dividing net income less
preferred dividend requirements, by the weighted average number of common
and equivalent shares outstanding. The weighted average number of common and
equivalent shares outstanding for 1992, 1993, 1994, 1995 and 1996 and the
nine months ended September 30, 1996 and 1997 were (in thousands) 25,243;
28,036; 30,768; 30,313; 31,379; 31,086; and 31,560, respectively. Fully
diluted earnings per share assumes the dilutive effect of convertible
preferred stock outstanding from November 13, 1989 to April 30, 1992 and the
maximum dilutive effect of stock options using the Treasury Stock method.
Common shares used in the calculation for 1992, 1993, 1994, 1995, 1996 and
the nine months ended September 30, 1996 and 1997 were (in thousands)
27,166; 28,085; 30,768; 30,354; 32,474; 31,394; and 31,891; respectively.
The Recapitalization did not change the total number of the Company's
outstanding common shares. As a result, earnings per share was not restated.
(5) Supervisors are those distributors who qualify as supervisors, generally, by
purchasing, either from the Company or other distributors, products
representing at least 4,000 "volume points" in one month or 2,500 "volume
points" in two consecutive months (volume points are point values assigned
to each of the Company's products that are equal in all countries and are
based on the suggested retail price of U.S. products). See
"Business -- Marketing." Every February 28th the Company deletes from the
rank of supervisor those supervisors who did not satisfy the supervisor
qualification requirements during the preceding twelve months. Distributors
who meet the supervisor requirements at any time during the year are
promoted to supervisor status at such time (including any supervisors who
were deleted but who subsequently requalified). The Company relies on
distributors' certifications as to the amount and source of their product
purchases from other distributors. Although the Company applies certain
review procedures with respect to such certifications, they are not directly
verifiable by the Company.
(6) For a list of all the countries in which the Company currently operates, see
"Business -- Geographic Areas of Operations."
20
<PAGE> 23
CAPITALIZATION
The following table sets forth the short-term obligations and
capitalization of the Company as of September 30, 1997 (dollars in thousands).
This table should be read in conjunction with the Consolidated Financial
Statements and the related notes incorporated by reference into this Prospectus.
<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
----------------------
(AMOUNTS IN THOUSANDS)
<S> <C>
Short-term obligations
Current maturities of long-term obligations(1)......................... $ 1,352
========
Long-term obligations(1)
Bank loans and contracts payable....................................... 3,219
Stockholders' equity
Common Stock, $.01 par value; authorized 100,000,000 shares; issued
30,652,155 shares(2)................................................ 307
Paid-in capital in excess of par value................................. 48,101
Retained earnings (includes translation adjustment of $(2,951)......... 119,555
Treasury Stock......................................................... (9,395)
Unearned compensation(3)............................................... (217)
Unrealized loss on marketable securities............................... (125)
--------
Total stockholders' equity..................................... $158,226
--------
Total capitalization........................................... $161,445
========
</TABLE>
- ---------------
(1) For a description of long-term obligations, see Note 4 of Notes to
Consolidated Financial Statements.
(2) Effective December 12, 1997, the Old Common Stock was reclassified into
Class A Stock and Class B Stock pursuant to the Recapitalization. The Class
A Stock and Class B Stock commenced trading on December 15, 1997.
(3) Represents unamortized compensation expense related to restricted stock
grants to one of the Company's executive officers.
21
<PAGE> 24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RECENT DEVELOPMENTS AND OUTLOOK
The Company utilizes a worldwide network marketing system to market weight
management products, food and dietary supplements and personal care products. As
of December 31, 1997, the Company conducted business in 36 countries located
throughout Asia/Pacific Rim, Europe and The Americas.
The Company has reported increased annual retail sales and net sales in
each year since 1988 and has reported profits for each year since 1990. See
"-- Presentation of Retail Sales." Retail sales increased from $405.1 million in
1992 to $1.2 billion in 1996, representing a compound annual growth rate of
31.2%. From 1992 to 1996, the Company's net income increased from $20.1 million
in 1992 to $44.8 million in 1996, representing a compound annual growth rate of
22.2%. For the nine months ended September 30, 1997, retail sales and net income
increased by 23.1% to $1.068 billion and by 28.8% to $39.9 million,
respectively, compared to the corresponding period in 1996.
The Company markets its products globally. For the nine months ended
September 30, 1997, 79% of retail sales were attributable to markets located
outside of the United States. The following summarizes the Company's retail
sales by region for the time periods indicated.
<TABLE>
<CAPTION>
NINE MONTHS ENDED NUMBER
YEAR ENDED DECEMBER 31, SEPTEMBER 30, OF COUNTRIES
----------------------------------- ----------------- OPEN AS OF
1993 1994 1995 1996 1996 1997 9/30/97
------ ------ ------ -------- ------ -------- ------------
(DOLLAR AMOUNTS IN MILLIONS)
<S> <C> <C> <C> <C> <C> <C> <C>
Asia/Pacific Rim............. $ 27.6 $ 56.5 $143.5 $ 378.8 $240.7 $ 448.5 8
Europe....................... 391.5 473.2 373.9 431.3 324.4 329.2 20
The Americas................. 273.9 354.3 406.2 390.0 302.1 290.2 8
------ ------ ------ -------- ------ -------- ---
Total.............. $693.0 $884.0 $923.6 $1,200.1 $867.2 $1,067.9 36
====== ====== ====== ======== ====== ======== ===
</TABLE>
For the nine months ended September 30,1997, a relatively small number of
countries accounted for a large proportion of the $200.7 million increase in
retail sales. Of the 36 countries in which the Company operated during the nine
months ended September 30, 1997, 22 countries experienced an aggregate increase
in retail sales of $266.4 million as compared with the comparable 1996 period.
Japan accounted for 62.3%, and Russia and Taiwan together accounted for 14.0% of
this increase. The growth in these 22 countries was offset by a $65.7 million
aggregate decrease in retail sales in the remaining 14 countries in which the
Company operated during both periods. As part of its growth strategy, management
implements various initiatives to revitalize sales in countries where the
Company has experienced a loss of retail sales. See "Business -- Growth
Strategy." The concentration of increased retail sales in a small number of
countries is expected to make the Company's earnings in future periods more
susceptible to various risks described in "Risk Factors" above, including
"Dependence Upon Material Foreign Markets."
Subsequent to commencement of operations in 1980, the Company's network of
independent distributors has grown substantially to include 115,000 supervisors
as of February 28, 1997, an increase of 16% from the same date in the prior
year, and a much larger number of distributors. The number of supervisors in the
Asia/ Pacific Rim markets increased from approximately 14,000 to 37,000 from
February 28, 1996 to February 28, 1997.
Consistent with the Company's growth strategy, the Company has continued
its efforts to expand its global presence by opening operations in new countries
where the Company believes there is or will be demand for its products and
participation in its network marketing system. From January 1, 1992 through
September 30, 1997, the Company commenced operations in 26 new countries. In the
first nine months of 1997, these countries contributed $741.5 million of retail
sales, representing 69.4% of the Company's total retail sales. Japan accounted
for $363.6 million of such sales, representing 34.1% of the Company's retail
sales. During the first nine months of 1997, the Company commenced operations in
Thailand and Chile and plans to open new markets in Turkey and Indonesia in
1998. Additional new markets currently under consideration include
22
<PAGE> 25
China, India, Colombia and Ecuador. There can be no assurance that the opening
of any new markets will occur as planned or that any markets opened will
generate significant retail sales. See "Business -- Growth Strategy."
The Company is exposed to risks associated with foreign currency
fluctuations. For instance, the Company's purchases from suppliers are generally
made in U.S. dollars while its sales to distributors are generally made in local
currency. Accordingly, strengthening of the U.S. dollar versus a foreign
currency can have a negative impact on the Company. Although the Company engages
in transactions to protect against certain risks associated with foreign
currency fluctuations, there can be no assurance that such fluctuations will not
have an adverse effect on the Company.
There are a number of factors that can adversely impact the success of the
Company's business in any of its existing or potential markets. These factors
include the regulatory environment, consumer acceptance of network marketing
companies, the presence of possible competitors, adverse publicity and in-region
cultural or demographic factors. In several of the Company's markets, the
Company has experienced one or several of these factors, resulting in a decline
in retail sales. For instance, in France in late 1994 through 1995, certain
reports erroneously alleged that the Company was in some manner affiliated with
a disfavored religious group. During the third quarter of 1995, the Company
received inquiries from certain governmental agencies within Germany and
Portugal relating to the Company's product, Thermojetics(R) Instant Herbal
Beverage. The inquiries related to the caffeine content of the product and the
status of the product as an "instant tea," which was disfavored by the
regulators, versus a "beverage." The sale of this product in these countries was
subsequently suspended by the Company at the request of the regulators. As a
result of this and other factors, retail sales in Germany declined from $159.5
million in 1994 to $54.3 million for 1996. See "Risk Factors -- Sales and
Earnings Volatility" and "Business -- Geographic Areas of
Operations -- Geographic Sales Trends."
The Company believes that, in certain of its markets, the opening of other
new markets within the same geographic region or with the same or similar
language or cultural bases has resulted in a corresponding tendency of some key
distributors to focus their attention on business opportunities provided by new
markets instead of developing their established downline organizations in
existing markets. Additionally, in certain instances, the Company has become
aware that certain sales in certain existing markets were attributable to
purchasers who distributed such product in countries which had not yet been
opened. When these countries were opened, such sales in existing markets shifted
to the newly opened markets, resulting in a decline in sales in the existing
market.
In order to increase sales in markets, such as France, Germany, Italy and
Spain, that have experienced a leveling off or decline in sales, management has
implemented several revitalization initiatives. These initiatives include
extensive training and motivational programs, appointment of regional planning
and strategy groups that include senior distributors, enhanced government
relations, introduction of new products, and establishment of distributor sales
centers. The Company believes that these initiatives favorably impact operations
and the Company will continue to deploy these initiatives in an effort to
provide a platform for renewed growth. See "Prospectus Summary -- Growth
Strategies -- Revitalize Sales in Certain Existing Markets."
The Company's weight management products have historically contributed a
significant portion of the Company's total retail sales. During 1996 and for the
first nine months of 1997, the Company's 14 weight management products
contributed 71.2% and 67.9%, respectively, of total retail sales, and one of
these products contributed 19.2% and 19.4%, respectively, of total retail sales.
During January 1998, the Company introduced two new weight management products
into this produce line.
In recent years, the Company sought to diversify its product offerings by
substantially expanding its personal care product line to include skin care,
perfumes, hair care, body lotions, soaps and gel products, and by expanding food
and dietary supplement products. From 1994 to 1996, sales of the personal care
product line increased from $26.6 million to $116.9 million, representing 3.0%
and 9.7% of total retail sales. From 1994 to 1996, sales of food and dietary
supplements increased from $86.8 million to $168.4 million, representing 9.8%
and 14.0% of total retail sales. During 1998, the Company intends to introduce
up to thirty new personal care products (exclusive of color variations), and up
to eight new food and dietary supplement products (exclusive
23
<PAGE> 26
of flavor variations), as well as a new line of water purification systems. The
Company will also seek to introduce additional new lines in the future,
including household products.
At a Special Meeting of the Company's shareholders held on December 11,
1997, the Company's shareholders approved the Recapitalization, pursuant to
which the Company's Articles of Incorporation were amended and restated to: (i)
effect a one-for-three reverse split (the "Reverse Split") of the Old Common
Stock, (ii) reclassify each resulting whole share of Old Common Stock as a share
of new Class A Stock, (iii) create a new class of non-voting common stock,
designated as Class B Stock, and (iv) fix the relative rights, powers and
limitations of the Class A Stock and the Class B Stock. The Recapitalization did
not change the number of shares of the Company's authorized capital stock. On
December 12, 1997, the Recapitalization became effective and the Company's Board
of Directors declared a dividend of two shares of Class B Stock on each whole
share of Class A Stock resulting from the Reverse Split. On December 15, 1997,
trading of both the Class A Stock and the Class B Stock commenced on the Nasdaq
National Market System.
PRESENTATION OF RETAIL SALES
Throughout this Prospectus, "retail sales" are determined as the gross
sales amounts reflected on the Company's invoices to its distributors. The
Company does not receive the amount reported as "retail sales," and the Company
does not monitor the actual retail prices charged for the Company's products.
"Net sales" represent the actual purchase prices paid to the Company by its
distributors, after giving effect to distributor discounts (referred to as
"distributor allowances"), which total approximately 50% of suggested retail
sales prices. The Company receives its net sales price in cash or through credit
card payments upon receipt of orders from distributors. Importers are utilized
by the Company in some markets and, under certain circumstances, credit terms
are extended. The Company's "gross profit" consists of net sales less (i) "cost
of sales," consisting of the prices paid by the Company to its manufacturers for
products and costs related to product shipments, foreign duties and tariffs and
similar expenses, and (ii) "royalty overrides," currently consisting of (a)
royalties and bonuses, which total approximately 15% and 6%, respectively, on
the suggested retail sales prices of products earned by qualifying distributors
on sales within their distributor organizations, (b) the President's Team Bonus
payable to certain of the Company's most senior distributors in the aggregate
amount of approximately an additional 1% of product retail sales, and (c) other
one-time incentive cash bonuses to qualifying distributors. Royalty overrides,
as reported in the financial statements and selected financial data appearing
elsewhere herein, are net of a handling fee (6% of retail sales effective April
1, 1994, previously 5%) charged by the Company to its distributors on purchases
of products from the Company.
The Company's use of "retail sales" in reporting financial and operating
data reflects the fundamental role of "retail sales" in the Company's accounting
systems, internal controls and operations, including the basis upon which
distributor bonuses are paid. The retail sales price of the Company's products
is reflected in distributor invoices as the price charged to distributors
together with, in most cases, a deduction for the corresponding distributor
allowance. The U.S. retail sales price is used by the Company to calculate,
among other things, royalty overrides and "volume points" earned by
distributors. Volume points are point values assigned to each of the Company's
products that are equal in all countries and are used as a supervisor
qualification criteria. In addition, management relies upon "retail sales" data
reflected in daily sales reports to monitor results of operations in each of the
Company's markets.
The significance of the Company's "net sales" is to reflect, generally, the
prices actually received by the Company after deducting the basic distributor
allowance, but before deducting royalty overrides and bonuses. The ratio of the
Company's "retail sales" to "net sales" is relatively constant because
distributor allowances historically total approximately 50% of suggested retail
sales prices. Accordingly, factors that affect "retail sales" generally have a
corresponding and proportionate effect on "net sales." To the extent the ratio
of "retail sales" to "net sales" varies from period to period, such variances
have resulted principally from sales of the Company's distributor kits and other
educational and promotional materials, for which there are no distributor
allowances. Sales of such items initially decreased and thereafter stabilized as
a percentage of total retail sales since 1991, but such decreases have not had a
material impact on the ratio of the Company's "retail sales" to "net sales" or
on the Company's operating margin.
24
<PAGE> 27
RESULTS OF OPERATIONS
The Company's results of operations for the periods described below are not
necessarily indicative of results of operations for future periods, which depend
upon numerous factors including the Company's ability in the future to enter new
markets and introduce additional and new products into its markets.
COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 1997 TO NINE MONTHS ENDED
SEPTEMBER 30, 1996
Retail sales for the nine months ended September 30, 1997 increased 23.1%
to $1.068 billion, as compared to sales of $867.2 million for the corresponding
period of the prior year.
Retail sales in Asia/Pacific Rim increased $207.8 million or 86.3%, for the
nine months ended September 30, 1997, as compared to the prior year. The
increase resulted from strong retail sales in Japan and Taiwan. For the nine
months ended September 30, 1997, retail sales in Japan increased $166.0 million,
or 84.0%. Given the rapid increase in retail sales in Japan to current high
levels, retail sales in Japan are not expected to continue to increase at
historic rates. In Taiwan, retail sales for the nine months ended September 30,
1997 increased $21.5 million, or 146.9%. Retail sales in other Asia/Pacific Rim
countries for the nine months ended September 30, 1997 increased $20.3 million,
or 71.0%, as compared to the corresponding period in 1996. The increases in the
other Asia/Pacific Rim countries resulted from the opening of South Korea in
November 1996 and Thailand in June 1997 coupled with increased retail sales in
Hong Kong.
Retail sales in Europe increased $4.8 million, or 1.5%, for the nine months
ended September 30, 1997 as compared to the prior year. Within the region,
retail sales in Italy increased $8.4 million, or 21.5%. Retail sales in Russia
increased $15.8 million, or 15.5%, for the nine month period. Offsetting the
retail sales increases were declines in Germany, South Africa and Finland.
Retail sales in Germany, South Africa and Finland decreased $11.9 million, $9.5
million and $5.8 million, respectively, for the nine months ended September 30,
1997. Although retail sales in Germany, South Africa and Finland declined in
comparison to the prior year periods, they have remained relatively stable over
the past four quarters.
Retail sales in the Americas decreased $11.9 million, or 3.9%, for the nine
months ended September 30, 1997, as compared to the prior year. The decrease in
retail sales primarily resulted from retail sales decreases in Brazil of $27.5
million, or 44.6%. The retail sales decrease in Brazil is primarily due to a
difficult regulatory environment which, among other factors, has impeded the
introduction of new products within the country. The Company continues to pursue
approval of new products within Brazil. The retail sales decrease in Brazil was
partially offset by retail sales increases in the U.S. and additional retail
sales resulting from the opening of Chile in March, 1997. United States retail
sales for the nine months ended September 30, 1997 increased $9.8 million, or
4.6%, to $223.9 million as compared to $214.2 million in the prior year. The
U.S., as a percentage of worldwide sales for the nine month period ended
September 30, 1997, was 21.0%, as compared to 24.7% for the same period last
year.
For the nine month period ended September 30, 1997, retail sales in all the
product segments demonstrated strong growth as compared to the prior year
period. The increase in personal care retail sales primarily resulted from a
strong reception of the product line in Japan and its introduction in Russia
during July 1996. The increases in the remaining categories were primarily due
to the same factors identified in the geographical segment discussion above.
Gross profit of $247.1 million for the nine months ended September 30,
1997, was $47.9 million, or 24.0%, higher than gross profit of $199.2 million in
the prior year. As a percentage of retail sales, gross profit for the nine
months ended September 30, 1997 as compared to the same period in the prior year
increased from 23.0% to 23.1%. The increase in gross profit as a percentage of
retail sales primarily resulted from the proportional increase in retail sales
in Japan, which has a higher gross profit margin due to favorable product
pricing. Partially offsetting the gross profit increase were additional royalty
override expenses resulting from a special 1997 distributor incentive program
designed to motivate distributors to achieve incremental sales growth.
Marketing, distribution and administrative expenses, as a percentage of
retail sales, were 17.4% for the nine month period ended September 30, 1997 as
compared to 17.5% for the same period in 1996. These
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<PAGE> 28
expenses for the same periods increased 22.0% to $185.3 million from $151.9
million in the prior year. The increase resulted from: (a) higher in-country
distribution expenses primarily due to facility and staff expansions in Japan
and new country openings in South Korea, Chile, and Thailand, (b) higher
administrative expenses due to staff additions and other costs related primarily
to supporting sales expansion in foreign countries, and (c) higher marketing
costs resulting from increased sales event activity in 1997.
The weakening of the Japanese Yen against the U.S. Dollar during 1997
resulted in proportionately lower revenues, expenses, and ultimately income when
translated into the U.S. Dollar reporting currency. Comparing the weighted
average exchange rates in effect for the nine month periods ended September 30,
1996 and 1997, the adverse effect of the weaker Japanese Yen on the Company's
net income and earnings per fully diluted share for the 1997 period was $(6.0)
million and approximately $(.19), respectively. The effect of foreign currency
changes of this nature in countries other than Japan was not material to the
operations of the Company.
Income taxes of $25.2 million for the nine months ended September 30, 1997
increased from $19.4 million in the prior year. As a percentage of pre-tax
income, income taxes remained unchanged at 38.5% in 1997.
Net income for the nine months ended September 30, 1997 increased 28.8% to
$39.9 million, from $31.0 million reported in the corresponding prior year
period.
1996 COMPARED TO 1995
Retail sales increased 29.9% to $1.2 billion in 1996 from $923.6 million in
1995. The increase was primarily due to the year to year aggregate sales growth
of $480.4 million in 14 countries (including two countries which opened in
1996): 82.0% of this increase was derived from sales in three countries: Japan,
Russia and Brazil. This increase was partially offset by an aggregate $203.9
million sales decline in the remaining 20 countries in which the Company
operates.
Regionally, retail sales for 1996 as compared to 1995 increased 164.0% in
Asia/Pacific Rim, 15.4% in Europe and declined 3.9% in The Americas. In
Asia/Pacific Rim, combined retail sales of $378.8 million increased by $235.3
million compared with 1995. The increase was due to a significant growth in
sales in Japan which contributed retail sales of $311.1 million in 1996 as
compared to $81.7 million in 1995. The increase in sales in Japan is in part
attributable to the introduction of new products and expansion of existing
product lines and the growth in the distributor network in Japan. In Europe,
combined retail sales for 1996 of $431.3 million increased by $57.4 million
compared to 1995. This increase was due to a full year operation in Russia which
opened during 1995 and contributed retail sales of $142.1 million in 1996 as
compared to $29.6 million in 1995. The most significant decline in Europe was in
Germany with 1996 retail sales of $54.3 million compared to $115.6 million in
1995. The decrease was due in part to the July 1995 suspension of sales of
Thermojetics(R) Instant Herbal Beverage in that country and the adverse
publicity stemming from the suspension.
In The Americas, combined retail sales in 1996 of $390.0 million decreased
by $16.2 million as compared to 1995. The decrease was due to a decline in sales
in the United States and several South American countries, partially offset by
Brazil which opened in the fourth quarter of 1995. The reduction in U.S. retail
sales is attributable in part to the Company's commencement of operations in
Brazil and the continuing effect of the commencement of operations in Russia in
July 1995. The Company is aware that, prior to the opening of Brazil and Russia,
some retail sales in the U.S. were for products purchased in the U.S. but
re-directed to Brazil or Russia by distributors. The Company expects that U.S.
retail sales may be impacted as the expansion of operations into international
markets continues.
The Company's gross profit increased to $278.8 million for 1996 from $206.5
million in 1995. As a percentage of retail sales, the gross profit was 23.2% in
1996 as compared with 22.4% in 1995. This is primarily attributable to higher
sales in Japan where the gross profit is higher due to higher retail selling
prices.
Marketing, distribution and administrative expenses for 1996 increased to
$210.1 million from $176.0 million in 1995. As a percentage of retail sales,
these expenses were 17.5% in 1996 as compared to
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<PAGE> 29
19.1% in 1995. The increase in these expenses is attributable to higher
in-country distribution center costs directly related to sales volume,
particularly in Japan and Brazil. In addition, administrative expenses increased
as a result of a continued emphasis and increased costs of strengthening
government and media relations, increased compensation related to staff
additions and incentive compensation awards. Such increases were partially
offset by a decrease in sales promotion expenses in 1996 as compared to 1995.
Foreign exchange losses were $3.0 million in 1996 as compared to losses of $2.6
million in 1995, representing an impact on net income per fully diluted share of
$.06 and $.05, respectively.
Income taxes of $28.0 million in 1996 increased from $11.8 million in 1995.
As a percentage of income before income taxes, the income tax rate increased
from 37.5% for 1995 to 38.5% for 1996. The increase is due in part to an
increased proportion of profits in countries which have a higher effective tax
rate. Net income for 1996 increased to $44.8 million from $19.7 million in 1995
because of the factors discussed above.
1995 COMPARED TO 1994
Retail sales increased 4.5% to $923.6 million in 1995 from $884.1 million
in 1994. Contributing to 1995 consolidated retail sales was the introduction of
the first three phases of products in the Company's new line of personal care
products, the Skin Survival Kit in January 1995, the fragrances, Parfums
Vitessence(TM), in April 1995 and the facial products, Nature's Mirror(R), in
October 1995. Personal care products accounted for $107.4 million of
consolidated retail sales in 1995. The products were introduced extensively in
Europe and The Americas where they accounted for $49.2 million and $50.7
million, or 13.2% and 12.5%, of those regions' retail sales in 1995,
respectively.
Regionally, retail sales in 1995 compared to 1994 increased 153.9% and
14.7% in Asia/Pacific Rim and The Americas, respectively, and decreased 21.0% in
Europe. In The Americas, retail sales increased from $354.3 million in 1994 to
$406.2 million in 1995. In Asia/Pacific Rim, retail sales increased from $56.5
million in 1994 to $143.5 million in 1995. In Europe, retail sales decreased
from $473.2 million in 1994 to $373.9 million in 1995.
In The Americas, combined retail sales in 1995 increased $51.9 million, or
14.7%, when compared to 1994, which was due to (i) a sales increase in the U.S.
of $38.6 million or 13.1% when compared to 1994, and (ii) the October 1995
opening of Brazil, which reported retail sales of $24.2 million. The increases
were partly offset by a reduction in sales in Mexico resulting from devaluation
of the Mexican peso and a decrease in retail sales in Argentina in part
resulting from the opening of Brazil in 1995, as a result of which certain
Argentina product sales were redirected to Brazil. Within The Americas, U.S.
retail sales accounted for $333.6 million or 36.1% of total worldwide retail
sales in 1995, compared to $295.0 million or 33.4% of total worldwide retail
sales in 1994. The increase in U.S. retail sales as a percentage of worldwide
retail sales resulted from increased U.S. sales and approximately constant
foreign sales in 1995 as compared to 1994.
In the European region, the decrease in German sales of $43.9 million,
together with sales decreases in the Czech Republic, France, Israel, Italy,
Portugal, Spain and the U.K, were partially offset by sales in Belgium, Denmark,
Poland and Sweden, all of which opened in the second half of 1994, and sales in
Austria, Russia, South Africa and Switzerland, which opened in the second and
third quarters of 1995. The decrease in sales in Germany was due in part to the
suspension of sales of Thermojetics(R) Instant Herbal Beverage in that country
in July 1995. The suspension led to an increase in product returns and
distributor resignations, as well as a decline in sales of other products. In
1995, sales in France continued to be negatively impacted by an adverse business
environment, including continued adverse publicity regarding certain of the
Company's French distributors. See "Business -- Geographic Areas of Operations."
The Company believes that another significant factor affecting these markets has
been the opening of other new markets within the same geographic region or with
the same or similar language or cultural bases, and the inclination of some
distributors to focus their attention on business opportunities provided by new
markets, which can have a negative impact on existing markets.
The Asia/Pacific Rim growth was due to (i) sales increases in Japan of
$63.0 million, or 335.7%, when compared to 1994, and (ii) the opening of the
Philippines in December 1994 and Taiwan in July 1995, which reported combined
retail sales of $17.6 million for 1995.
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<PAGE> 30
Operating margin decreased 1.8% to $206.5 million in 1995 from $210.4
million in 1994. As a percentage of retail sales, operating margin for 1995
decreased to 22.4% from 23.8% in 1994. The decreased operating margins are due
to higher cost of sales and royalty overrides as a percentage of retail sales.
The cost of sales percentage increased to 15.5% in 1995 from 14.8% in 1994. Such
increase includes higher freight costs resulting from (i) redeployment of
inventories to meet demand patterns and (ii) provisions made against slow moving
inventory. Royalty overrides as a percentage of retail sales increased to 15.0%
in 1995 from 14.2% in 1994. This increase includes primarily the effect of a
modification to the marketing plan made in June 1995, which increased the
royalties earned by distributors and increased bonuses payable to certain of the
Company's senior distributors.
Marketing, distribution and administrative expenses increased 26.1% to
$176.0 million in 1995 from $139.6 million in 1994. As a percentage of retail
sales, these expenses increased to 19.1% in 1995 from 15.8% in 1994. Selling
expenses increased $5.1 million, corporate expenses increased $18.6 million and
distribution expenses increased $12.7 million. The increased selling expenses
were instrumental in an effort to increase distributor kit sales, stimulate new
distributor sponsoring rates and expand distributor training. The increase was
also due to introductions of new technologies, such as International Satellite
Supervisor Training and the Herbalife Broadcast Network, a home based satellite
television program. The corporate expenses increased due to (i) initiatives
taken in new product introductions and marketing activities, (ii) intensified
government and media relations and other business related functions and (iii)
foreign exchange losses which increased $2.5 million in 1995, when compared to
1994. The increase in distribution expense was due to new country openings and
facility and staff expansions in Japan and Germany.
During 1995, the Company made a detailed study of its European warehousing
and distribution systems to identify possible areas of cost savings. As a
result, the Company planned to make a number of changes in its European
infrastructure in order to enhance operating efficiencies. In connection with
this change, the Company recorded a restructuring charge of $2.3 million,
primarily relating to lease termination costs. The infrastructure modifications
commenced in the second half of 1996.
Income taxes decreased to $11.8 million in 1995 from $27.6 million in 1994.
As a percentage of pre-tax income, income taxes remained constant at 37.5%.
Net income decreased 57.1% to $19.7 million in 1995 from $46.0 million in
1994, as a result of the factors described above.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically met its working capital and capital
expenditure requirements, including funding for expansion of operations, through
net cash provided by operating activities.
For the nine months ended September 30, 1997, net cash provided by
operating activities was $29.2 million, compared to $43.4 million for the same
period in 1996. The decrease primarily resulted from (i) increased inventory
levels required to support the Company's growth, and (ii) higher credit card
receivable balances primarily resulting from new and existing country expansion.
These reductions were partially offset by increased net income and additional
cash flow provided by increases in advanced sales balances.
For the year ended December 31, 1996, net cash provided by operating
activities was $65.4 million, compared to $77.9 million and $14.8 million for
the years ended December 31, 1995 and 1994, respectively. Although net income in
1995 decreased $26.3 million when compared to 1994, net cash provided by
operating activities increased by $63.0 million. This increase resulted
primarily from reductions in inventories, prepaid expenses and other current
assets, increases in advanced sales deposits and royalty override accruals and
reduced taxable income and the timing of income tax payments.
Capital expenditures for the nine months ended September 30, 1997 were
$10.5 million compared to $11.0 million for the prior year. The majority of the
1997 expenditures resulted from the expansion of office facilities and equipment
in the U.S. and to support growth in Japan. During 1997, the Company invested
approximately $13 million in management information systems and expansion of new
and existing facilities. In connection with its entry into each new market, the
Company funds inventory requirements and typically
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<PAGE> 31
establishes either a full-service distribution center, sales office, a
fulfillment center or compliance office, or a combination of the foregoing.
While the capital requirements associated with entry into new markets vary, the
Company estimates that up to $7 million will be required for pre-opening
expenses, capital expenditures and other operating cash flow needs associated
with its 1998 new market expansion activities.
Stockholders' equity increased $19.8 million to $158.2 million during the
nine months ended September 30, 1997. Through September 30, 1997, net income of
$39.9 million and the issuance of capital stock, including related tax benefits,
of $5.1 million were partially offset by $13.7 million of dividends declared and
stock repurchases of $9.4 million. The payment of dividends is determined by the
Board of Directors at its discretion and the amounts of dividends declared and
paid in future quarters will depend, among other factors, on profitability, as
well as other planned uses of the Company's cash resources.
Cash and cash equivalents totaled $76.8 million at September 30, 1997
compared to $87.5 million at December 31, 1996. At September 30, 1997, the
Company's cash, cash equivalents and marketable securities aggregate balance was
$125.1 million, which represents a $6.0 million decrease from the balance as of
December 31, 1996.
In September, 1997, the Company entered into new agreements with its
suppliers of weight management and food and dietary supplement products. See
"Business -- Product overview -- Product Manufacturing and Development." The new
contracts became effective January 12, 1998 and replace the contracts previously
in effect. The new contracts provide, among other things, the ability for the
Company to source and develop products from other third party manufacturers,
within certain contractual limitations. The new contracts provide the
opportunity for cost savings for certain products; however, the realization of
any product cost savings will be affected by the Company's future product
development.
The Company has not been subjected to material price increases by its
suppliers for several years. The Company believes that it has the ability to
respond to a portion or possibly all of any price increases by raising the price
of its products. Purchases by the Company from its suppliers are generally made
in U.S. Dollars, while sales to distributors are generally made in local
currencies. Consequently, strengthening of the U.S. Dollar versus a foreign
currency can have a negative impact on operating margins and can generate
transaction losses on intercompany transactions. The Company from time to time
enters into forward exchange contracts and other hedging arrangements to manage
its foreign exchange risk on intercompany transactions. During the third quarter
of 1997, the British Pound and several Asian currencies weakened against the
U.S. Dollar resulting in foreign exchange losses of $1.9 million as compared to
a gain of $.2 million in the third quarter of 1996. For the nine months ended
September 30, 1997, exchange gains of $.7 million were recognized as compared to
$1.9 million of exchange losses in the prior year.
The Company has conducted a review of its computer systems to consider
upgrades and to identify those areas that require Year 2000 compliance and is
developing an implementation plan to accomplish these objectives. Year 2000
compliance refers to the inability of certain computer systems to recognize
dates commencing on January 1, 2000. Such inability has the potential to
materially adversely affect the operation of computer systems. The Company
currently believes that by modifying existing software and converting to new
software for certain tasks, Year 2000 compliance will not pose significant
operational problems and is not anticipated to be material to its financial
position or results of operations in any given year. However, there can be no
assurance that the systems of other companies on which the Company may rely will
be timely converted or that the failure to convert by another company would not
have an adverse effect on the Company. At the present time, the Company
estimates that the incremental cash requirements related to system upgrades and
Year 2000 compliance will total approximately $10 million to $15 million. Such
expenditures will be expensed or capitalized as appropriate.
In January 1996, the Company's Board of Directors approved a one million
share stock repurchase program, which was completed in April 1996. In April
1997, the Board of Directors adopted an additional $30 million stock repurchase
program. As of January 26, 1998, the Company had utilized $27,516,723 of that
program, and as a result the Board has adopted an additional $20 million stock
repurchase program. Pursuant to these stock repurchase programs, through January
26, 1998 the Company had expended $42,370,324 in the aggregate to repurchase
2,284,810 shares of Old Common Stock or Common Stock.
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<PAGE> 32
The Company has pledged cash and cash equivalents to secure bank financing
primarily for the benefit of its foreign subsidiaries, including letters of
credit, lines of credit, leases, and other obligations. As of December 31, 1997,
an aggregate of $21.2 million had been pledged against $26.4 million of
commitments for debt obligations, contingent guarantees, and foreign exchange
activity. Generally, these debt arrangements expire in less than one year. The
Company also has other unsecured guarantees related mainly to short-term
currency hedge arrangements.
At December 31, 1997, the Company had $5.5 million of credit facilities of
which $0.3 million is outstanding. The majority of these facilities expire in
1998. These facilities are subject to normal banking terms and conditions and do
not materially restrict the Company's activities.
30
<PAGE> 33
BUSINESS
GENERAL
Herbalife is a network marketing company that sells a wide range of weight
management products, food and dietary supplements and personal care products
worldwide. As of December 31, 1997, the Company conducted business in 36
countries located in Asia/Pacific Rim, Europe and The Americas. Retail sales in
those regions represented 42.0%, 30.8% and 27.2%, respectively, of the Company's
total retail sales in the first nine months of 1997.
The Company has experienced substantial growth in retail sales and net
income in recent years. From 1992 to 1996, the Company's retail sales grew from
$405.1 million to $1.2 billion, representing a compound annual growth rate of
31.2%. From 1992 to 1996, the Company's net income grew from $20.1 million to
$44.8 million, representing a compound annual growth rate of 22.2%. For the nine
months ended September 30, 1997, retail sales and net income increased by 23.1%
to $1.068 billion and 28.8% to $39.9 million, respectively, over the
corresponding prior year period.
The Company's products are marketed exclusively through a network marketing
system. This system enables the Company's independent distributors to earn
profits by selling Herbalife products to retail consumers and other
distributors. Distributors may also develop their own distributor downline
organizations by sponsoring other distributors to do business in any market
where the Company operates, entitling the sponsors to receive royalty overrides
on product sales within their downline organizations.
Management believes that Herbalife's network marketing system is ideally
suited to its products, which emphasize a healthy lifestyle, because sales of
such products are strengthened by ongoing personal contact between retail
consumers and distributors, many of whom use the Company's products themselves.
The Company's network marketing system appeals to a broad cross-section of
people throughout the world, particularly those seeking to supplement family
income, start a home business or pursue employment opportunities other than
conventional, full-time employment.
KEY OPERATING STRENGTHS
The Company believes the source of its success is its commitment to serving
the needs of its distributors. The Company provides its distributors with high
quality products and an appealing network marketing system that combines a
highly attractive compensation program with extensive Company-sponsored training
and motivational events and services. The Company has established a strong
operating platform to support distributors and facilitate future growth. The key
components of this platform include the following:
High Quality, Healthy Lifestyle Products. The Company offers high quality
products, many of which emphasize herbs and other natural ingredients in order
to appeal to consumer demand for products that contribute to a healthy
lifestyle. Herbalife's complete product line consists of 94 products, including
14 weight management, 22 food and dietary supplement and 58 personal care
products, with a varying number of these products offered in each of the
Company's markets. These three product categories represented 67.9%, 16.3% and
11.0% of total retail sales in the nine months ended September 30, 1997,
respectively.
Attractive Distributor Compensation Program. The Company believes that it
offers one of the most financially rewarding compensation programs in the
network marketing industry. Distributors' earnings are derived from two primary
sources: profits on the resale of products and a series of royalties and
production bonuses on product sales within a distributor's downline
organization. Combining these sources of earnings plus participation in the
President's Team bonus, the Company's total "pay-out" (including distributor
allowances) on products subject to distributor royalty overrides is
approximately 72% of the Company's suggested retail sales price (before
reflecting a 6% handling fee paid by distributors.) Distributors can also
participate in various non-cash awards, such as the Get-A-Way vacations and HBN
satellite dishes offered through various Herbalife promotional programs. In
addition, through its international sponsorship program, the Company affords
distributors the opportunity to earn the same types of compensation both in the
distributor's home country and in any other country where Herbalife operates.
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Comprehensive Distributor Support Services. Mark Hughes and the Company's
top distributors, in conjunction with the Company's 307 distributor support and
relations employees and 121 sales and marketing employees, are committed to
training and motivating Herbalife's distributors. The Company strives to
effectively and efficiently communicate with its global distributor base by
capitalizing on new technologies and marketing techniques. The Company regularly
conducts motivational events and training programs, both live and via the
Herbalife HBN network and teleconferences, and utilizes a range of promotional
literature (including catalogs and newsletters), all in multiple languages and
tailored to meet the particular needs of Herbalife distributors worldwide. In
addition to over one hundred Company-sponsored live events each month,
distributors themselves conduct several thousand local training and motivational
events each month. The Company seeks to inspire distributor loyalty by making
prompt product deliveries and royalty payments and by providing detailed
distributor earnings statements.
Proven New Market Expansion Program. The Company has developed a
systematic, proven approach to opening new markets. With the advice of local
legal counsel and other advisors, the Company conducts a detailed analysis of
the new market's regulatory framework, modifies its products and marketing
system as necessary to obtain required regulatory approvals and establishes
plans for product distribution and distributor services within the new market.
The Company generally commences these activities two years before opening a new
market and commits substantial financial and management resources to the
process.
Advanced Information Systems. To facilitate the Company's global expansion,
the Company employs advanced computer and telecommunications systems that link
its domestic and international operations and provide timely and accurate
product ordering, royalty payment processing and inventory management. During
1995, 1996 and through September 30, 1997, the Company has invested
approximately $13.3 million to enhance its computer and telecommunications
systems.
Proactive Approach to Government Relations. The Company employs a staff of
government relations personnel throughout the world who take a proactive
approach to working with governmental agencies, in order to create a favorable
business environment for Herbalife and its distributors. In 1994, the Company
formed its Government Relations Group, currently consisting of 10 employees, and
in 1995 it established the position of Chief International Counsel. The Company
has budgeted approximately $6.0 million to government relations activities
worldwide for 1998. The Company's Government Relations Group and international
legal personnel establish relationships with regulators and community leaders in
both new and existing markets and strive to ensure that the Company's products
comply with regulatory requirements. In addition, the Company coordinates its
activities in each market with a network of established legal counsel,
regulatory consultants and other advisors to support its worldwide operations.
GROWTH STRATEGY
The Company's strategy for growth consists of the following four principal
elements:
Expand Product Offerings and Developing New Product Lines. The Company is
committed to expanding its product line by developing and offering new products
and introducing existing products into markets where they are not currently
offered. Expanding product offerings and categories is a fundamental part of the
Company's business strategy. The timely introduction of new, high quality
products creates sales opportunities for distributors, and also serves to
generate enthusiasm among distributors and provide them with additional
promotional opportunities to sell other Company products. During 1997, the
Company introduced 17 new products (exclusive of flavor and color variations),
and during 1998 the Company intends to introduce up to 40 new products
(exclusive of flavor and color variations) in selected markets, including
several additions to the weight management program, an important new line of
personal care products and a new line of state-of-the-art water purification
systems, marketed under the name "AquaGenics(TM)." The Company's new nutritional
products include a reformulated meal-replacement powder with greater protein
content, Chew Slim(TM) herbal diet gum, WaferFull(TM) chewable wafers,
MentaBalance(TM) amino acid and herbal supplement and CarboGuard(TM)
micronutrient fiber and herbal supplement. In its Dermajetics(TM) personal care
line, the Company will launch a new line of color cosmetics in selected markets.
The Company will also seek to introduce additional new product lines in the
future, including household products.
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Revitalize Sales in Certain Existing Markets. Management continually seeks
to revitalize sales in markets, such as France, Germany, Italy and Spain, that
have experienced an initial period of growth followed by a leveling off or
decline in sales (see "Geographic Areas of Operations") by, among other things,
providing extensive training and motivational program support to distributors.
In addition, the Company has created regional planning and strategy groups that
include senior members of the Company's distributor base, increased focus on
governmental relations and hired additional distributor support representatives.
The Company also seeks to introduce annually in each targeted market additional
products not previously offered. In certain markets, the Company has enhanced
its presence and visibility by opening new, more attractive and conveniently
located distributor sales centers. The Company believes that these initiatives
favorably impact operations and the Company will continue to deploy these
initiatives in an effort to provide a platform for renewed growth in the
targeted markets in the future.
Expand Into New Markets. The opening of new markets is an important
component of the Company's business strategy. From January 1, 1992 through
September 30, 1997, the Company has commenced operations in 26 new countries,
consisting of six in Asia/Pacific Rim, 15 in Europe and five in The Americas.
During the nine months ended September 30, 1997, these countries contributed
$741.5 million of retail sales, representing 69.4% of the Company's total retail
sales. The Company believes there are numerous additional markets in which its
network marketing system and products should prove successful. The Company
opened new markets, Thailand and Chile, in 1997 and plans to open Turkey and
Indonesia in 1998. Additional new markets currently under consideration include
China, India, Colombia and Ecuador. The Company evaluates these and other new
markets based, in part, on the Company's ability to efficiently create a
distributor base in potential markets. In determining when and where to open new
markets, the Company will continue to seek to minimize the impact on distributor
focus in existing markets and to ensure that adequate distributor support
services and other Company systems are in place to support the growth.
Enhance Sales and Motivational Training. The Company will continue to seek
to increase sales through its network marketing system by utilizing extensive
training and motivational programs. The Company will also produce extravaganzas
and other large scale events and numerous training and motivational programs
worldwide. In addition, the Company will continue to offer extensive training
programs through various methods of telecommunication, including broadcast
faxes, pre-recorded telephone message services and live multi-lingual
teleconferences on a global basis, and will seek to expand the motivational and
training programming and audience of the HBN network. Approximately 20,000 HBN
home systems are currently in place. The Company believes distributors
frequently invite other distributors and customers into their homes to view the
2 to 3 hours of HBN network programming available each week.
PRODUCT OVERVIEW
The Company's products include weight management products, food and dietary
supplements, personal care products and educational and promotional materials.
The Company currently markets 94 products, exclusive of variations in product
flavors and colors, reformulations of products to satisfy regulatory
requirements within a particular country and similar variations of the Company's
basic product line. A limited number of the Company's personal care products are
classified in the U.S. as OTC drugs.
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The following chart summarizes the number of products offered by the
Company in its principal product categories as of September 30, 1997 and retail
sales information by product category during the indicated periods.
PRODUCT SALES BY CATEGORY
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------
NINE MONTHS ENDED
1995 1996 SEPTEMBER 30, 1997
------------------- --------------------- ---------------------
PERCENT PERCENT PERCENT
OF TOTAL OF TOTAL OF TOTAL
PRODUCT CATEGORY (NUMBER OF RETAIL RETAIL RETAIL RETAIL RETAIL RETAIL
PRODUCTS IN CATEGORY) SALES SALES SALES SALES SALES SALES
- ---------------------------------- -------- -------- ---------- -------- ---------- --------
(AMOUNTS IN THOUSAND)
<S> <C> <C> <C> <C> <C> <C>
Weight Management(14)............. $694,269 75.2% $ 854,410 71.2% $ 724,870 67.9%
Food and Dietary
Supplements(22)................. 86,714 9.4 168,371 14.0 173,781 16.3
Personal Care Products(58)*....... 107,385 11.6 116,938 9.7 117,549 11.0
Other**........................... 35,276 3.8 60,425 5.1 51,658 4.8
-------- ---------- ----------
$923,644 $1,200,144 $1,067,858
======== ========== ==========
</TABLE>
- ---------------
* Includes a limited number of products that are classified in the U.S. as OTC
drugs.
** Includes distributor kits and other educational and promotional materials.
Such materials are regularly developed and enhanced by the Company and, as a
result, the number of such materials is not presented.
The following chart sets forth the number of the Company's products
available as of December 31, 1997 by category in each of the Company's markets
as of that date.
NUMBER OF PRODUCTS OFFERED BY CATEGORY
(AS OF DECEMBER 31, 1997)
<TABLE>
<CAPTION>
NUMBER OF
WEIGHT NUMBER OF
MANAGEMENT FOOD AND DIETARY NUMBER OF TOTAL
PRODUCTS SUPPLEMENT PERSONAL CARE NUMBER OF
YEAR (14 IN PRODUCTS PRODUCTS PRODUCTS
COUNTRY ENTERED(1) TOTAL) (22 IN TOTAL) (58 IN TOTAL) (94 IN TOTAL)
- ---------------------------------- ---------- ---------- ---------------- ------------- -------------
<S> <C> <C> <C> <C> <C>
ASIA/PACIFIC RIM
Australia....................... 1982 8 7 43 58
New Zealand..................... 1988 8 6 42 56
Hong Kong....................... 1992 5 1 46 52
Japan........................... 1993 7 2 32 41
Philippines..................... 1994 7 -- -- 7
Taiwan.......................... 1995 4 -- 36 40
Korea........................... 1996 3 1 -- 4
Thailand........................ 1997 5 -- 27 32
EUROPE
United Kingdom.................. 1983 7 9 46 62
Israel.......................... 1989 8 3 25 36
Spain........................... 1989 6 2 45 53
France.......................... 1990 7 -- 44 51
</TABLE>
34
<PAGE> 37
<TABLE>
<CAPTION>
NUMBER OF
WEIGHT NUMBER OF
MANAGEMENT FOOD AND DIETARY NUMBER OF TOTAL
PRODUCTS SUPPLEMENT PERSONAL CARE NUMBER OF
YEAR (14 IN PRODUCTS PRODUCTS PRODUCTS
COUNTRY ENTERED(1) TOTAL) (22 IN TOTAL) (58 IN TOTAL) (94 IN TOTAL)
- ---------------------------------- ---------- ---------- ---------------- ------------- -------------
<S> <C> <C> <C> <C> <C>
Germany......................... 1991 4 -- 44 48
Italy........................... 1992 7 2 44 53
Portugal........................ 1992 5 1 45 51
Czech Republic.................. 1992 7 3 29 39
Netherlands..................... 1993 6 1 44 51
Belgium......................... 1994 7 4 44 55
Poland.......................... 1994 5 1 20 26
Denmark......................... 1994 7 2 44 53
Sweden.......................... 1994 7 1 44 52
Russia.......................... 1995 12 14 31 57
Switzerland..................... 1995 3 -- 44 47
Austria......................... 1995 2 1 44 47
Norway.......................... 1995 5 1 32 38
Finland......................... 1995 8 3 32 43
South Africa.................... 1995 6 2 42 50
Greece.......................... 1996 2 -- 44 46
THE AMERICAS
United States................... 1980 14 22 52 88
Canada.......................... 1982 8 8 44 60
Mexico.......................... 1989 12 12 24 48
Dominican Republic.............. 1994 6 -- -- 6
Venezuela....................... 1994 5 -- 36 41
Argentina....................... 1994 6 -- 34 40
Brazil.......................... 1995 6 -- -- 6
Chile........................... 1997 5 -- 19 24
</TABLE>
- ---------------
(1) Throughout this Prospectus, "entering", "opening", "commencing operations"
or "doing business" in a market or country means that the Company has
obtained either regulatory approval of, or the favorable opinion of local
legal counsel with respect to, its network marketing system, has obtained
all requisite regulatory approvals of at least one product and has commenced
sales and shipment of that product within the market or country. With
respect to Japan, from 1989 through 1992, the Company operated under a
licensing arrangement in Japan and reported license fees with respect
thereto as revenue. Subsequently, in 1993, the Company formed a new Japanese
subsidiary whose revenues were then included in the Company's results of
operations. Accordingly, the Company considers Japan to have been "opened"
in 1993.
Weight Management Products. A majority of the Company's sales are derived
from the 14 weight management products that the Company markets as the
Thermojetics(R) Weight-Management System. These weight management products
include the following: (i) Formula 1, a protein powder in four different flavors
designed as a meal replacement, (ii) the four Thermojetics(R) weight management
tablets (original green, green, beige and yellow), (iii) Thermojetics(R) Herbal
Concentrate, an herbal beverage blended from five natural botanicals, and (iv) a
variety of other nutritional products, such as Cell-U-Loss(R), Activated Fiber,
N.R.G. (Nature's Raw Guarana), Thermo-bond(R) and Aminogen(R). In addition, the
Company has recently introduced four new products to the Thermojetics(R) system:
Chew Slim(TM) herbal diet gum, WaferFull(TM) chewable wafers, MentaBalance(TM)
amino acid and herbal supplement and CarboGuard(TM) micronutrient and herbal
supplement.
35
<PAGE> 38
Food and Dietary Supplements. The Company's food and dietary supplements
include a variety of products, each containing herbs, vitamins, minerals and
other natural ingredients. Such products are sold under various names, including
Herbal-Aloe, Florafiber, Xtra-Cal, Herbalifeline(R), Tang Kuei Plus, Male Factor
1000(R), Schizandra Plus(R) and A.M. Replenishing and P.M. Cleansing formula. In
addition, in 1996, the Company launched its Health & Fitness Program and Bulk &
Muscle Program, together with a Longetics Program designed for the needs of
mature adults, which offer various products consisting of a protein drink mix, a
multivitamin, mineral and herbal tablet and Cell Activator(R). In 1996, the
Company also introduced products designed to meet the nutritional needs of
children, consisting of Kindermins(R), a liquid multivitamin/ herbal formula,
and Dinomins(TM), a chewable vitamin tablet.
Personal Care Products. The Company's entire personal care product line is
marketed under the name Dermajetics(R), which was initially launched in 1995.
Currently, the Dermajetics(R) product line consists of the following products:
The Skin Survival Kit, consisting of a day and night moisturizer, a deep
cleaning facial mask and a hydrating eye gel, all packaged in a cosmetic bag;
Parfums Vitessence(TM), consisting of six eaux de toilette, three for men and
three for women; Nature's Mirror(R), consisting of a cleanser, toner and
moisturizer for each of three different skin types and four specialty care
products; Good Hair Day, consisting of seven hair care products; Ocean
Currents(R), consisting of three bath products; Aroma Vie(R), consisting of
three aromatic soaps and oils; and other specialty personal care products,
including Herbal Aloe Gel and Lotion, Super APR (Arthritis Pain Relief), a
suncare line and Body Buffing and Toning Cream. In addition, during 1998 the
Company intends to introduce a new line of color cosmetics (lipstick, mascara
and related products) in selected markets.
Educational and Promotional Materials. The Company also sells distributor
kits, which an individual must purchase (at a worldwide average cost of
approximately $87 per kit) in order to become a distributor of the Company, as
well as other educational and promotional materials. Such materials include
sales aids, informational videotapes and cassette recordings. Sales of
distributor kits are not subject to distributor allowances (i.e., the Company
receives the entire retail sales amount from the sale of distributor kits).
Home Technology Products. During 1998, the Company plans to launch its new
AquaGenics(TM) line of home water purification systems. The AquaGenics(TM) line
includes a state-of-the art drinking water filtration system and a shower-head
water filter. In addition, the Company is in the developmental stage for other
home technology products.
Product Manufacturing and Development. The Company expands its product line
through the development of new products. New product ideas are derived from a
number of sources, including trade publications, scientific and health journals,
the Company's executives, staffs and consultants and outside parties. In advance
of introducing products into its markets, local counsel and other
representatives retained by the Company investigate product formulation matters
as they relate to regulatory compliance and other issues. The Company's products
are then reformulated to suit both the regulatory and marketing requirements of
the particular market. See "-- Regulation."
All of the Company's products are manufactured by outside companies. Raven
currently manufactures all of the Company's powder products, and D&F currently
supplies all of the Company's tablet and capsule products. For a number of years
prior to 1998, the Company was subject to requirements contracts with each of
Raven, D&F and Dynamic, pursuant to which the Company agreed to purchase all of
its requirements of powder products from Raven and all of its requirements of
tablet, capsule and certain other products from Dynamic or D&F, to the extent
each such manufacturer was capable of manufacturing such products. In 1996 and
1997, aggregate purchases by the Company from Raven and D&F represented a
majority of the Company's product purchases. In September 1997, the Company
entered into new three-year agreements with Raven, D&F and Dynamic, pursuant to
which revised pricing and other provisions became effective on January 12, 1998.
The new contracts provide, among other things, the ability for the Company to
source and develop products with other third party manufacturers, subject to
minimum percentage purchase and other requirements for nutritional supplement,
and a small number of non-nutritional supplement, products falling into
specified product categories. As a result, and because the new contracts confirm
the Company's ownership of product formulations for substantially all of the
Company's nutritional products, the Company has the
36
<PAGE> 39
capacity, and in the future may seek, to "second source" particular nutritional
supplement products with multiple manufacturers. In addition, the Company's
WaferFull(TM) and Chew Slim(TM) weight management products are being
manufactured for the Company by new manufacturers. Further, the Company has
hired its own staffs of product research and development and product formulation
personnel, and will increasingly rely on its in-house staff for these functions.
However, the Company has historically relied on Raven and D&F for these
services, and will continue to do so, albeit to a lesser extent, in the future.
The Company's ability to enter new markets and sustain satisfactory levels
of sales in each market has been in the past and is likely to continue to be
dependent in significant part upon its own ability and the ability of its
manufacturers, including Raven and D&F, to develop new products and reformulate
existing products for introduction into the Company's markets. Beginning in
1997, the Company has significantly expanded its in-house product research and
development and product formulation staffs, which now consist of 23 individuals.
With the transition in the Company's relationship with Raven and D&F from
exclusive to non-exclusive contracts, there can be no assurance that the Company
will seek or continue to obtain the same amount or quality of product research,
development or formulation services from Raven and D&F that it has received in
the past. While the Company expects to obtain similar such services from
in-house personnel and alternative manufacturers in the future, there can be no
assurance that there will not be some disruption in the Company's business from
time to time as these support services begin to be provided internally or by
alternative manufacturers.
Pursuant to its new contracts with Raven, D&F and Dynamic, the Company owns
the proprietary rights to substantially all of its weight management products
and food and dietary supplements. However, there can be no assurance that
another company will not replicate one of the Company's products. In addition,
Raven and D&F continue to own certain product formulations and manufacturing
processes relating to certain of the Company's nutritional products. Two
individuals (not affiliates of the Company) are principal stockholders of each
of D&F, Raven and Dynamic. Mark Hughes owns a one-third ownership interest in
Raven and a one-fifth ownership interest in Dynamic. See "Certain Transactions."
Product Return and Buy-Back Policies. All of the Company's products include
a customer satisfaction guarantee. Within thirty days of purchase, any customer
who is not satisfied with an Herbalife product for any reason may return it or
any unused portion to the distributor from whom it was purchased for a full
refund from the distributor or credit toward purchase of another Herbalife
product. Distributors may obtain replacements from the Company for products
returned to them by consumers if they return such products to the Company on a
timely basis. In addition, in most jurisdictions, the Company maintains a
buy-back program pursuant to which it will repurchase products sold to a
distributor provided that the distributor resigns as a Company distributor,
returns the product in marketable condition within twelve months of original
purchase and meets certain documentation and other requirements. The Company
believes this buy-back policy addresses a number of the regulatory compliance
issues pertaining to network marketing systems. See "Regulation -- Network
Marketing System." Historically, product returns and buy-backs have not been
significant, averaging 0.7% of annual retail sales during the last five years.
Recent Regulatory Developments. The development and marketing of the
Thermojetics(R) weight management tablets (original green, green, beige and
yellow) and other products in the Thermojetics(R) line have contributed
significantly to the Company's retail sales. One of the ingredients in the
Thermojetics(R) original green herbal tablet is a Chinese herb, Ma Huang, which
contains naturally-occurring ephedrine in small quantities. Ephedrine products
have been the subject of adverse publicity in the United States and other
countries relating to alleged harmful effects, including the deaths of several
individuals. Currently, the Company offers the Thermojetics(R) original green
herbal tablet only in the United States (except in certain states in which
regulations may prohibit or restrict the sale of such product). On April 10,
1996, the FDA issued a statement warning consumers not to purchase or ingest
dietary supplements containing natural sources of ephedrine that are claimed to
produce certain effects (none of which are claimed by the Company's product). On
June 4, 1997, the FDA issued a proposed regulation for dietary supplements
containing ephedrine alkaloids. The proposed regulation would include
prohibitions against dietary supplements containing eight milligrams or more of
ephedrine alkaloids per serving, and would not permit such products to contain
any other stimulant, diuretic or laxative ingredients. In addition, labeling of
supplements would be prohibited
37
<PAGE> 40
from suggesting or recommending conditions of use that would result in an intake
of eight milligrams or more of ephedrine alkaloids within a six-hour period, or
a total daily intake of 24 milligrams or more. The FDA proposal would also
include prohibitions against certain claims of suitability for weight loss and
other uses or benefits. However, no final regulation has been issued to date.
There can be no assurance as to the final form of any new FDA regulations or
that the FDA will not seek to impose additional regulations, possibly
prohibiting, limiting potencies or placing other restrictions on the sale of
such products, or the impact, if any, of any such regulations or actions on the
Company. In addition, in September 1997 the FDA issued regulations governing the
labeling and marketing of dietary supplement products. The Company will be
required to revise a substantial number of its product labels to reflect the new
requirements prior to the 1999 effective date, although the Company does not
expect the cost or impact of such actions to be material. See "Risk
Factors -- Regulation" and " --Regulation."
In addition, during the third quarter of 1995, the Company received
inquiries from certain governmental agencies within Germany and Portugal
relating to the Company's product, Thermojetics(R) Instant Herbal Beverage,
which does not contain Ma Huang. The inquiries related to the caffeine content
of the product and the status of the product as an "instant tea," which was
disfavored by the regulators, versus a "beverage." The sale of this product in
these countries was subsequently suspended by the Company at the request of the
regulators. The Company may in the future attempt to reintroduce the product as
a "beverage" in one or both of these markets. See "Risk Factors -- Regulation"
and " --Regulation."
NETWORK MARKETING SYSTEM
The Company's products are distributed exclusively through a network
marketing system consisting of an extensive network of distributors.
Distributors are generally independent contractors who purchase products
directly from the Company or from other distributors for resale to retail
consumers and other distributors. Distributors may elect to work on a full-time
or part-time basis. The Company believes that its network marketing system
appeals to a broad cross-section of people worldwide, particularly those seeking
to supplement family income, start a home business or pursue employment
opportunities other than conventional, full-time employment, and that a majority
of its distributors therefore work on a part-time basis. The Company believes
that its network marketing system is ideally suited to marketing its products
because sales of such products are strengthened by ongoing personal contact
between retail consumers and distributors, many of whom use the Company's
products themselves. The Company encourages its distributors to use the
Company's products and to communicate the results of their use of such products
to their retail customers.
Distributors' earnings are derived from several sources. First,
distributors may earn profits by purchasing the Company's products at wholesale
prices (which are discounted 25% to 50% from suggested retail prices depending
on the distributor's level within the Company's distributor network) and selling
the Company's products to retail customers at retail prices. Second,
distributors may earn profits by selling products to distributors within their
downline organization who receive a lower discount percentage than the selling
distributor. Third, distributors who sponsor other distributors and establish
their own downline organizations may earn royalties of 1% to 5% on product sales
on each of up to three downline supervisor levels and production bonuses of 2%
to 6% on product sales within their downline organizations upon becoming a
qualifying "TAB Team" member. Combining these sources of earnings and including
participation in the President's Team bonus (as described below), the Company's
total "pay-out" on products subject to distributor royalty overrides is
approximately 72% of the Company's suggested retail sale price (i.e. 50%
distributor allowance plus up to 22% of suggested retail sales prices in royalty
overrides and similar bonuses, before reflecting a 6% handling fee charged to
distributors by the Company).
Distributors earn the right to receive royalties upon attaining the level
of supervisor and above, and production bonuses upon attaining the level of
Global Expansion Team and above. Once a distributor becomes a supervisor, he or
she has an incentive to qualify (by earning specified amounts of royalties) as a
member of the Global Expansion Team, the Millionaire Team or the President's
Team and thereby receive production bonuses (2%, 4% and 6%, respectively). The
Company believes that the right of distributors to earn royalties and production
bonuses contributes significantly to the Company's ability to retain its most
productive distributors.
38
<PAGE> 41
To become a distributor, a person must be sponsored by an existing
distributor and must purchase a distributor kit from the Company (except in
Korea, where there is no charge for a distributor kit). To become a supervisor
or qualify for a higher level, distributors must purchase a certain amount of
the Company's products or earn certain amounts of royalties during specified
time periods and must re-qualify for such levels once each year. To attain
supervisor status, generally, a distributor must purchase, either from the
Company or other distributors, products representing at least 4,000 volume
points in one month or 2,500 volume points in two consecutive months (volume
points are point values assigned to each of the Company's products that are
equal in all countries and are based on the suggested retail price of U.S.
products). Supervisors may then attain higher levels (i.e., the Global Expansion
Team, the Millionaire Team or the President's Team) by earning increasing
amounts of royalties based on purchases by distributors within their
organizations. Supervisors contribute significantly to the Company's sales and
certain key supervisors who have attained the highest levels within the
Company's distributor network are responsible for generating a substantial
portion of the Company's sales and for recruiting a substantial number of the
Company's distributors. The following table sets forth the approximate number of
the Company's supervisors at the dates indicated:
<TABLE>
<CAPTION>
FEBRUARY 28,*
-------------------------------------------------------------------
1991 1992 1993 1994 1995 1996 1997
------ ------ ------ ------ ------ ------ -------
<S> <C> <C> <C> <C> <C> <C> <C>
Approximate Number of
Supervisors.................. 12,000 18,000 41,000 75,000 90,000 99,000 115,000
</TABLE>
- ---------------
* Every February 28th, the Company deletes from the rank of supervisor those
supervisors who did not satisfy the supervisor qualification requirements
during the preceding twelve months. Distributors who meet the supervisor
requirements at any time during the year are promoted to supervisor status at
such time (including any supervisors who were deleted, but who subsequently
requalified). The Company relies on distributors' certifications as to the
amount and source of their product purchases from other distributors. Although
the Company applies certain review procedures with respect to such
certifications, they are not directly verifiable by the Company.
The Company also has two compensation and incentive programs designed to
motivate distributors at both the most senior and junior levels within the
Company's distributor network. The Company's most senior distributors consist of
approximately 345 distributors (as of December 31, 1997) who comprise the
President's Team and who work closely with Mark Hughes to develop and implement
new initiatives and strategies for increasing sales and distributor productivity
throughout the Company's entire distributor organization. Qualifying President
Team members have the opportunity to participate in the President's Bonus, which
in 1997 consisted of a total available awards package of one percent of the
Company's 1996 total product retail sales, or approximately $11.4 million. The
distribution of the President's Bonus is determined by Mark Hughes and is based
in part upon each President Team member's participation in corporate-sponsored
training and motivational events. In this manner, the Company attempts to
involve its most senior distributors in the development and growth of the
Company in order to support the sales, training, motivation and strategic
planning efforts of Mark Hughes. In addition to these programs, the Company
periodically offers a variety of special promotions related to particular
products or sales periods, involving special cash bonuses and other awards, such
as Get-A-Way vacations.
For the Company's most junior distributors, those who have not yet attained
supervisor status, the Company instituted a "Success Builder" program. This
program permits a distributor who purchases products representing 1,000 volume
points in one month to obtain a 42% distributor allowance from suggested retail
prices on the Company's products, rather than the standard 25%. In addition, in
1996, the Company introduced the Herbalife Advantage Program ("HAP"), which uses
a product brochure that enables the Company's junior distributors to obtain an
extra 10% distributor allowance over the standard 25% and to order products by
individual unit (rather than by cases) to better suit their inventory and usage
needs. The Success Builder and HAP programs are designed to provide incentives
to distributors who are in the initial stages of building distributor
organizations and to encourage them to reach supervisor status.
The Company seeks to expand its distributor base in each market by offering
distributors attractive compensation opportunities. The Company believes its
international sponsorship program provides a signifi-
39
<PAGE> 42
cant advantage to its distributors as compared with distributors in certain
other network marketing organizations because the program permits distributors
in any country to sponsor distributors in other countries (where the Company is
licensed to do business and where the Company has obtained required product
approvals) and to earn the same level of royalties and bonuses on sales by those
distributors as if both distributors resided in the same country.
The Company maintains a computerized system for processing distributor
orders and calculating distributor royalties and bonus payments which enables it
to remit such payments promptly to distributors. The Company believes that
prompt remittance of royalties is vital to maintaining a motivated network of
distributors and that its distributors' loyalty to the Company has been enhanced
by the Company's history of consistently making royalty and bonus payments on a
scheduled basis.
40
<PAGE> 43
GEOGRAPHIC AREAS OF OPERATIONS
The following chart sets forth the countries in which the Company currently
operates, the year operations were commenced in each country and retail sales
information by country from 1993 to 1996 and for the nine months ended September
30, 1996 and 1997.
RETAIL SALES BY COUNTRY
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
YEAR ------------------------------------------- ---------------------
COUNTRY(1) ENTERED 1993 1994 1995 1996 1996 1997
- ---------------------------------- ------- -------- -------- -------- ---------- -------- ----------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Australia......................... 1982 $ 20,602 $ 29,155 $ 30,803 $ 24,059 $ 17,884 $ 14,549
New Zealand....................... 1988 2,497 3,206 2,535 1,799 1,377 1,323
Hong Kong......................... 1992 3,853 5,323 10,783 11,698 7,663 15,020
Japan(6).......................... 1993 686 18,759 81,730 311,117 197,598 363,631
Philippines....................... 1994 80 13,219 1,935 1,560 1,010
Taiwan............................ 1995 4,424 26,226 14,645 36,165
Korea............................. 1996 1,951 10,370
Thailand(7)....................... 1997 6,445
-------- -------- -------- ---------- -------- ----------
ASIA/PACIFIC RIM.................. 27,638 56,523 143,494 378,785 240,727 448,513
-------- -------- -------- ---------- -------- ----------
United Kingdom.................... 1983 24,930 30,769 15,296 12,487 9,438 9,138
Israel(3)......................... 1989 30,359 73,278 30,133 8,419 6,463 5,943
Spain............................. 1989 47,662 30,733 15,730 9,792 7,665 7,089
France............................ 1990 97,306 46,968 13,129 12,379 8,958 9,109
Germany........................... 1991 83,068 159,482 115,555 54,340 43,203 31,286
Italy............................. 1992 77,842 72,009 56,687 54,449 39,251 47,672
Portugal.......................... 1992 13,328 11,073 8,934 3,097 2,406 2,580
Czech Republic.................... 1992 10,005 24,423 15,112 13,733 10,831 10,011
Netherlands....................... 1993 7,009 17,581 18,237 15,248 11,404 13,319
Belgium........................... 1994 1,965 3,775 2,370 1,827 1,817
Poland............................ 1994 792 6,238 16,218 12,786 10,624
Denmark........................... 1994 2,377 11,263 3,747 2,703 3,378
Sweden............................ 1994 1,799 17,845 16,488 11,583 15,063
Russia(4)......................... 1995 29,593 142,078 102,190 118,029
Switzerland....................... 1995 4,911 14,412 11,144 11,360
Austria........................... 1995 3,134 7,385 5,675 7,114
Norway............................ 1995 367 8,279 6,266 9,785
Finland........................... 1995 300 14,702 12,207 6,368
South Africa(5)................... 1995 7,707 21,497 18,328 8,871
Greece............................ 1996 227 23 589
-------- -------- -------- ---------- -------- ----------
EUROPE............................ 391,509 473,249 373,946 431,347 324,351 329,145
-------- -------- -------- ---------- -------- ----------
United States..................... 1980 246,984 294,987 333,595 279,596 214,152 223,864
Canada............................ 1982 10,100 10,789 12,042 13,848 10,208 12,707
Mexico............................ 1989 16,784 25,422 15,125 11,590 8,673 11,353
Dominican Republic(2)............. 1994 2,500 101 33 11 85
Venezuela......................... 1994 1,527 11,152 5,568 5,059 2,411
Argentina......................... 1994 19,061 10,006 3,185 2,192 3,200
Brazil............................ 1995 24,183 76,192 61,830 34,343
Chile(7).......................... 1997 2,237
-------- -------- -------- ---------- -------- ----------
THE AMERICAS...................... 273,868 354,286 406,204 390,012 302,125 290,200
-------- -------- -------- ---------- -------- ----------
Total Retail Sales............ $693,015 $884,058 $923,644 $1,200,144 $867,203 $1,067,858
======== ======== ======== ========== ======== ==========
</TABLE>
41
<PAGE> 44
- ---------------
(1) The Company records sales data based on the country from which distributor
orders are shipped by the Company. Sales by distributors to other
distributors or retail consumers may occur in other countries, although such
sales generally violate geographic limitations imposed by the Company on
product sales.
(2) Sales in the Dominican Republic are shipped from the United States.
(3) The Company initiated operations in Israel in 1989 through a licensing
arrangement that was terminated in 1990. In 1991, the Company began
operating in Israel through a wholly-owned subsidiary. Accordingly, sales
data for Israel are reported only for 1991 and subsequent periods.
(4) The Company operates through various import/export companies located in
Russia to conduct transactions in the Company's products with Russian
distributors.
(5) Because sales in South Africa are not large enough to be treated as a
separate segment, they are included with sales from the European region.
(6) In 1989 through 1992 the Company operated under a licensing arrangement in
Japan and recorded license fees with respect thereto as revenue. A new
Japanese subsidiary was formed in November 1993 whose results from that date
are reported above. Approximately 93.0% of the outstanding capital stock of
the Japanese subsidiary is owned by the Company, with the remainder owned by
certain officers and directors of the Company. In addition, the Company has
begun steps to pursue an initial public offering of shares of the Japanese
subsidiary in Japan. See "Certain Transactions."
(7) The Company initiated operations in Chile and Thailand in the first and
second quarters of 1997, respectively.
Geographic Sales Trends. The opening of new markets is an important
component of the Company's business strategy. From January 1, 1992 through
September 30, 1997, the Company commenced operations in 26 new countries. In the
first nine months of 1997, these countries contributed $741.5 million of retail
sales, representing 69.4% of the Company's total retail sales. Japan accounted
for $363.6 million of such sales, representing 34.0% of retail sales. Consistent
with its growth strategy, the Company opened markets in Thailand and Chile in
1997 and plans to open Turkey and Indonesia in 1998. Additional new markets
currently under consideration include China, India, Colombia and Ecuador.
After entering a new country, the Company has in many instances experienced
an initial period of rapid growth in sales as new distributors were recruited,
followed by a decline in sales. The Company believes that a significant factor
affecting these markets has been the opening of other new markets within the
same geographic region or with the same or similar language or cultural bases
and the corresponding tendency of some distributors to focus their attention on
the business opportunities provided by new markets instead of developing their
established downline organizations in existing markets. Additionally, in certain
instances, the Company has become aware that certain sales in certain existing
markets were attributable to purchasers who distributed such product in
countries which had not yet been opened. When these countries were opened, such
sales in existing markets shifted to the newly opened markets, resulting in a
decline in sales in the existing markets. In determining when and where to open
new markets, the Company will continue to seek to minimize the impact on
distributor focus in existing markets and to ensure that adequate distributor
support services and other Company systems are in place to support the growth.
Another significant factor contributing to such sales declines is the
adverse publicity that sometimes arises when the Company experiences rapid
growth within a market, thus drawing the attention of the media and the
Company's competitors. The Company believes such unfavorable press reports are
generally based upon a lack of familiarity with the Company and its network
marketing system and often originate from competitive forces in the local
market. For instance, in France in late 1994 through 1995, certain reports
erroneously alleged that the Company was in some manner affiliated with a
disfavored religious group. In other cases, including a situation in France that
resulted in the arrest of certain Herbalife distributors, adverse publicity has
arisen from allegations of tax improprieties, which typically occur when a
country applies its tax laws for the first time to a sales and distribution
system that is relatively new to that country, as is often the case with the
Company's network marketing system. See "-- Regulation -- Transfer Pricing and
Similar
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Regulations." The effect of occasional adverse publicity has at times also led
to increased regulatory scrutiny in certain countries, which may also have an
adverse effect on sales. For example, during the third quarter of 1995, the
Company received inquiries from certain governmental agencies within Germany and
Portugal related to the Company's product, Thermojetics(R) Instant Herbal
Beverage. The inquiries related to the caffeine content of the product and the
status of the product as an "instant tea," which was disfavored by the
regulators, versus a "beverage." The sale of this product in these countries was
subsequently suspended by the Company at the request of the regulators. The
Company may in the future attempt to reintroduce the product as a "beverage" in
one or both of these markets.
Management continually seeks to revitalize sales in markets, such as
France, Germany, Italy and Spain, that have experienced an initial period of
growth followed by a leveling off or decline in sales, including by providing
extensive training and motivational program support to distributors. In
addition, the Company has created regional planning and strategy groups that
include senior members of the Company's distributor base, increased focus and
budgets for governmental relations and hired additional distributor support
representatives. The Company also seeks to introduce annually in each targeted
market additional products not previously offered. In certain markets, the
Company has enhanced its presence and visibility by opening new, more attractive
and conveniently located distributor sales centers. The Company believes that
these initiatives favorably impact operations and the Company will continue to
deploy these initiatives in an effort to provide a platform for renewed growth.
Asia/Pacific Rim. Total retail sales in Asia/Pacific Rim increased to
$448.5 million from $240.7 million or by 86.3% in the nine months ended
September 30, 1997 compared to the comparable period in 1996. This $207.8
million retail sales increase included a retail sales increase of $166.0 million
in Japan. The growth in Japan resulted from new products and marketing
initiatives, and in addition the Company believes that its success in Japan is
attributable to the personal nature of retail sales in the Japanese market and
the cultural acceptance of the Company's network marketing system in such an
environment. Given the rapid increase in retail sales in Japan to current high
levels, retail sales in Japan are not expected to continue to increase at
historic rates. In Taiwan, retail sales for the nine months ended September 30,
1997 increased $21.5 million, or 146.9%. Retail sales in other Asia/Pacific Rim
countries for the nine months ended September 30, 1997 increased $20.3 million,
or 71.0%, as compared to the corresponding period in 1996. The increases in the
other Asia/Pacific Rim countries resulted from the opening of South Korea in
November 1996 and Thailand in June 1997 coupled with increased retail sales in
Hong Kong.
Europe. Total retail sales in Europe increased $4.8 million or 1.5% in the
nine months ended September 30, 1997 versus the comparable period in 1996.
Retail sales in Russia increased $15.8 million, or 15.5%, for the nine month
period. Offsetting the retail sales increases were declines in Germany, South
Africa and Finland. Retail sales in Germany, South Africa and Finland decreased
$11.9 million, $9.5 million and $5.8 million, respectively, for the nine months
ended September 30, 1997. Although retail sales in Germany, South Africa and
Finland declined in comparison to the prior year periods, they have remained
relatively stable over the past four quarters. In Russia, however, the Company
has experienced significant retail sales increases, despite a difficult business
environment as a result of the political, economic and social instability in
that country. Thus far, the Company has elected not to establish a physical
presence in Russia (through a sales or distribution center) due to the difficult
business environment. Instead the Company has chosen to rely on various
import/export companies located in Russia to conduct transactions in the
Company's products with Russian distributors. The Company plans to closely
monitor activities in Russia to determine the best means of conducting business
with its Russian distributors as events unfold in that country.
The Americas. Total retail sales in The Americas decreased $11.9 million or
3.9% in the nine months ended September 30, 1997 versus the comparable period in
1996, principally due to a retail sales decrease in Brazil of $27.5 million, or
44.6%. The retail sales decrease in Brazil is primarily due to a difficult
regulatory environment which, among other factors, has impeded the introduction
of new products within the country. The Company continues to pursue approval of
new products within Brazil and expects new product introductions in the first
quarter of 1998. Retail sales in the United States increased 4.6% to $223.9
million during the first nine months of 1997 from $214.2 million in the
comparable 1996 period.
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The Company is exposed to risks associated with the current economic and
currency crises in Asia. Because of the significance of the Asian markets, and
Japan in particular, which has become the Company's largest single retail sales
market, a sustained economic slowdown and/or currency crisis in Asia could have
a material adverse impact on the Company's business. It is not possible for the
Company to predict the future economic climate in Asia.
New Market Expansion Program. The Company engages in a structured and
thorough analysis of potential new markets, including analysis of regulatory
conditions, product approval procedures, competitive forces, synergies between
new and existing countries and distributor presence or interest in new markets,
before selecting markets to enter. When the Company decides to enter a new
market, it first hires local legal counsel with expertise in the product
approval process to help ensure that the Company's network marketing system and
products comply with all applicable regulations and that the Company's profits
may be expatriated. In addition, local counsel helps to establish favorable
public relations in the new market by acting as an intermediary between the
Company and local regulatory authorities, public officials and business people.
Local counsel is also responsible for explaining the Company's products and
product ingredients to appropriate regulators and, when necessary, arranging for
local technicians to conduct required ingredient analysis tests of the Company's
products. In recent years, the Company has expanded its hiring of local firms
with experience in governmental relations and public relations prior to opening
a market in order to ensure a more favorable business environment upon entering
the market.
Where regulatory approval in a foreign market is required, the Company's
local counsel work with regulatory agencies to confirm that all of the
ingredients of the Company's products are permissible within the new market.
During the regulatory compliance process, the Company may alter the formulation,
packaging or labeling of its products to conform to applicable regulations as
well as local variations in customs and consumer habits, and the Company may
modify certain aspects of it network marketing system as necessary to comply
with applicable regulations. Where reformulations of the Company's principal
weight management products are required, the Company has historically found
substitute or replacement ingredients to be readily available, although there
can be no assurance in this regard in the future. Where regulatory approval in a
foreign market is not required, the Company obtains the favorable opinion of
local counsel as to compliance with all applicable regulations. See
"-- Regulation."
Following completion of the regulatory compliance phase, the Company
undertakes the steps necessary to meet the operational requirements of the new
market. The Company has recently developed a centralized distribution and
telephone ordering system. In the majority of its new markets, the Company
establishes a storefront sales center in one or more major cities and provides
for product purchases by telephone. Product is shipped to the purchaser from a
warehouse located in the general geographic region. In addition, the Company
initiates plans to satisfy the inventory, personnel and transportation
requirements of the new market, and the Company modifies its distributor
manuals, cassette recordings, video cassettes and other training materials as
necessary to be suitable for the new market. In certain instances where the
Company has achieved rapid sales growth in a new market, such as in Japan and
Brazil, the Company has experienced inventory shortages as a result of the large
demand for the Company's products.
Although the Company intends to expand into new markets, there can be no
assurance that the Company can open markets on a timely basis or that such new
markets will prove to be profitable. Significant regulatory and legal barriers
must be overcome before marketing can begin in any new market. In addition,
expansion of the Company's operations into new markets entails substantial
working capital and capital expenditure requirements associated with both the
regulatory compliance and operations phases of the process. The lead-time and
costs associated with opening anticipated new markets may significantly exceed
those of entering new markets in the past due to greater regulatory barriers,
the necessity of adapting to entirely new regulatory systems and problems
related to entering new markets with different cultural bases and political
systems from those encountered in the past. The lead-time necessary to open a
new market is generally up to two years but may be more.
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PRODUCT DISTRIBUTION
The Company's weight management products, food and dietary supplements and
some personal care products are distributed to foreign markets either from the
facilities of the Company's manufacturers or from the Company's Los Angeles
distribution center. Products are distributed in the United States market from
the Los Angeles distribution center or from the Company's Memphis distribution
center. Products are generally transported by cargo ship or plane to the
Company's international markets and are warehoused in either one of the
Company's foreign distribution centers or a contracted third party warehouse and
distribution center. After arrival of the products in a foreign market,
distributors purchase the products from the local distribution center or the
associated sales center. The Company's Dermajetics(R) personal care products are
predominantly manufactured in Europe and the United States. The products
manufactured in Europe are shipped to a centralized warehouse facility in
Strasbourg, from which delivery by ship or plane to other international markets
occurs. The Company's new line of color cosmetics products are being
manufactured in Italy and Germany, and the AquaGenics(TM) products are being
manufactured in the United States.
Beginning in 1996 and continuing in 1997, the Company undertook the process
of reconfiguring its European product distribution system. As a part of this
process, the Company has reduced the number of European warehousing facilities
from nine to five and has opened new distribution sales centers. These sales
service centers are conveniently located and attractively designed in order to
encourage local distributors to meet and network with each other and learn more
about Herbalife's products, marketing system and upcoming events. In addition,
the Company has opened a central sales ordering facility in the United Kingdom
for answering and processing telephone orders from throughout Europe. Operators
at this center are capable of conversing in 17 different languages. As part of
this reconfiguration, the Company also implemented a new inventory management
system in the U.S., the U.K., France, Germany and Japan. The new European system
has resulted in improved inventory management. Management anticipates that the
reconfigured European distribution system, featuring centralized distribution
and telephone ordering systems coupled with convenient storefront distributor
service centers, will be the model for developing distribution and distributor
service systems in other regions of the world.
MANAGEMENT INFORMATION AND TELECOMMUNICATIONS SYSTEMS
In order to facilitate its continued growth and support distributor
activities, the Company continually upgrades its management information and
telecommunications systems. These systems include, among other things: (i) a
centralized host computer located in the Company's Inglewood, California
Operations Center, which is linked to Herbalife's international markets through
a dedicated wide area network that provides on-line, real-time computer
connectivity and access; (ii) local area networks of personal computers within
Herbalife's markets, serving the Company's regional administrative staffs; (iii)
an international e-mail system through which Herbalife employees communicate;
(iv) a standardized Northern Telecom Meridian telecommunications system
connecting all of the Company's markets; and (v) a new inventory management
system that has recently been installed in the U.S., the U.K., France, Germany
and Japan. These systems are designed to provide, among other things, financial
and operating data for management, timely and accurate product ordering, royalty
payment processing and inventory management and detailed distributor records.
During 1995 and 1996 and through September 30, 1997, the Company has invested
approximately $13.3 million to enhance its computer and telecommunications
systems. Additional significant expenditures, including those to address
computer system upgrades and Year 2000 compliance, are planned for the next
several years. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations -- Liquidity and Capital Resources."
REGULATION
In both its United States and foreign markets, the Company is subject to
and affected by extensive laws, governmental regulations, administrative
determinations, court decisions and similar constraints (as applicable, at the
federal, state and local levels) including, among other things, regulations
pertaining to (i) the formulation, manufacturing, packaging, labeling,
distribution, importation, sale and storage of the Company's products, (ii)
product claims and advertising (including direct claims and advertising by the
Company as well
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as claims and advertising by distributors, for which the Company may be held
responsible), (iii) the Company's network marketing system, (iv) transfer
pricing and similar regulations that affect the level of foreign taxable income
and customs duties, and (v) taxation of distributors, which in some instances
may impose an obligation on the Company to collect the taxes and maintain
appropriate records. See "Risk Factors -- Regulation."
Products. The formulation, manufacturing, packaging, storing, labeling,
advertising, distribution and sale of the Company's products are subject to
regulation by one or more governmental agencies, including the Food and Drug
Administration ("FDA"), the Federal Trade Commission ("FTC"), the Consumer
Product Safety Commission ("CPSC"), the United States Department of Agriculture
("USDA"), the Environmental Protection Agency ("EPA") and the United States
Postal Service. The Company's activities are also regulated by various agencies
of the states, localities and foreign countries in which the Company's products
are manufactured, distributed and sold. The FDA, in particular, regulates the
formulation, manufacture and labeling of foods, dietary supplements and OTC
drugs, such as those distributed by the Company. FDA regulations require the
Company and its suppliers to meet relevant good manufacturing practice ("GMP")
regulations for the preparation, packing and storage of these products. GMP's
for dietary supplements have yet to be promulgated but are expected to be
proposed.
The 1994 Dietary Supplement Health and Education Act ("DSHEA") revised the
provisions of the Federal Food, Drug and Cosmetic Act ("FFDCA") concerning the
composition and labeling of dietary supplements and, the Company believes, is
generally favorable to the dietary supplement industry. The legislation creates
a new statutory class of "dietary supplements." This new class includes
vitamins, minerals, herbs, amino acids and other dietary substances for human
use to supplement the diet, and the legislation grandfathers, with certain
limitations, dietary ingredients that were on the market before October 15,
1994. A dietary supplement which contains a new dietary ingredient (i.e., one
not on the market before October 15, 1994) will require evidence of a history of
use or other evidence of safety establishing that it is reasonably expected to
be safe. Manufacturers of dietary supplements which make a "statement of
nutritional support," which are statements describing certain types of product
performance characteristics, must have substantiation that the statement are
truthful and not misleading.
The majority of the products marketed by the Company are classified as
dietary supplements under the FFDCA. In addition, the adoption of new
regulations in the United States or in any of the Company's international
markets, or changes in the interpretation of existing regulations, could have a
material adverse effect on the Company. In September 1997 the FDA issued
regulations governing the labeling and marketing of dietary supplement products.
The regulations cover: 1) the identification of dietary supplements and their
nutrition and ingredient labeling; 2) the terminology to be used for nutrient
content claims, health content claims, and statements of nutritional support; 3)
labeling requirements for dietary supplements for which "high potency" and
"antioxidant" claims are made; 4) notification procedures for statements on
dietary supplements; and 5) premarket notification requirements for new dietary
ingredients in dietary supplements. The notification procedures became effective
in November, 1997, while the new labeling requirements will not become effective
until March 1999. The Company will be required to revise a substantial number of
its product labels to reflect the new requirements prior to the 1999 effective
date although the Company does not expect the cost or impact of such actions to
be material. In addition, the Company will be required to continue its ongoing
program of securing substantiation of its product performance claims, and of
notifying the FDA of certain types of performance claims made for its products.
In addition, in certain markets, including the U.S., claims made with
respect to weight management, dietary supplement, personal care or other
products of the Company may change the regulatory status of the products. In the
U.S., for example, it is possible that the FDA could take the position that
claims made for certain of the Company's products place those products within
the scope of an FDA "over-the counter" (OTC) drug monograph. OTC monographs
prescribe permissible ingredients and appropriate labeling language, and require
the marketer or supplier of the products to register and file annual drug
listing information with the FDA. A limited number of the products sold by the
Company are labeled as OTC monograph drugs, and the Company believes that it is
in compliance with the applicable monographs. In the event that the FDA asserted
that product claims for other products caused them to fall within the scope of
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OTC monographs, the Company would be required either to comply with the
applicable monographs or change the claims made in connection with the products.
There can be no assurance that the Company could do so effectively, or that any
such changes would not adversely affect sales and marketing of an affected
product.
As a marketer of food and dietary supplements and other products that are
ingested by consumers, the Company is subject to the risk that one or more of
the ingredients in its products may become the subject of adverse regulatory
action. For example, one of the ingredients in the Thermojetics(R) original
green herbal tablet is a Chinese herb, Ma Huang, which contains
naturally-occurring ephedrine in small quantities. Ephedrine products have been
the subject of adverse publicity in the United States and other countries
relating to alleged harmful effects, including the deaths of several
individuals. Currently, the Company offers the Thermojetics(R) original green
herbal tablet only in the United States (except in certain states in which
regulations may prohibit or restrict the sale of such product). In response to
potential federal regulatory proposals that may have affected the sale of the
Thermojetics(R) original green tablets in the United States, the Company
suspended sales of the product for approximately three months commencing in July
1995 and introduced a reformulated herbal green tablet that did not contain Ma
Huang. When no such regulations were proposed or issued, the Company renewed
sales of Thermojetics(R) original green herbal tablets in the United States in
October 1995 (except in certain states in which regulations may prohibit or
restrict the sale of such product). During the three-month suspension period,
the Company did not experience a material change in the level of sales of the
reformulated Thermojetics(R) green tablets versus sales of the Thermojetics(R)
original green tablets in the recently preceding months. However, it is possible
that a longer suspension period could have resulted in a decrease in sales of
the reformulated Thermojetics(R) green tablets or other products within the
Thermojetics(R) Weight Management System (even though such products do not
contain Ma Huang). The Thermojetics(R) green tablets accounted for 2.4% and 2.2%
of retail sales in 1996 and 1997, respectively, although the marketing of the
Thermojetics(R) weight management tablets (original green, green, beige and
yellow) and other products in the Thermojetics(R) line have contributed
significantly to the Company's retail sales. The Company also previously offered
the Thermojetics(R)original green herbal tablet in Canada but, in response to
Canadian marketing issues and regulatory concerns, suspended sales of the
product in February 1994.
The FDA has on record a small number of reports of adverse reactions
allegedly resulting from the ingestion of Ma Huang contained in the Company's
Thermojetics(R) original green tablet. The Company has not received any
communications from the FDA with respect to these reports. However, many other
companies manufacture products containing various amounts of Ma Huang and the
FDA has on record hundreds of reports of adverse reactions to these products.
The Company is a defendant in three legal actions by individuals claiming that
ingestion of Thermojetics(R) original green tablets caused them to suffer
serious medical problems. The Company believes that it has substantial defenses
to these actions and that the matters are not material. On April 10, 1996, the
FDA issued a statement warning consumers not to purchase or ingest dietary
supplements containing ephedrine that are claimed to produce such effects as
euphoria, heightened awareness, increased sexual sensations or increased energy,
because these products pose significant adverse health risks, including
dizziness, headache, gastrointestinal distress, irregular heartbeat, heart
palpitations, heart attack, strokes, seizures, psychosis and death. The Company
does not market its Ma Huang product with any of these claims. On June 4, 1997,
the FDA issued a proposed regulation for dietary supplements containing
ephedrine alkaloids. The proposed regulation would prohibit dietary supplements
containing eight milligrams or more of ephedrine alkaloids per serving, and
would not permit such products to contain any other stimulant, diuretic, or
laxative ingredients. In addition, labeling of supplements would be prohibited
from suggesting or recommending conditions of use that would result in an intake
of eight milligrams or more of ephedrine alkaloids within a six-hour period, or
a total daily intake of 24 milligrams or more. The FDA proposal would also
require a warning not to take the product for more than seven days, and would
prohibit the supplements from being represented, either expressly or implicitly,
as being suitable for long-term uses, such as for weight loss or body building.
Similarly, claims for increased energy, increased mental concentration, or
enhanced well-being that encourage the consumer to take more of the product to
achieve more of the purported effect would be required to be accompanied by a
warning stating that taking more than the recommended serving may cause a heart
attack, stroke, seizure, or death.
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Although tests performed by an independent laboratory indicate that the
Company's original green Thermojetics(R) product contains less than the eight
milligrams of ephedrine alkaloids per serving permitted under the FDA proposal,
the Company is reviewing the possible impact of the FDA proposal, if it is
finalized in its current form, upon the Company's continued marketing of its
Thermojetics(R) original green tablet. In response to the proposal, or to a
final regulation which is substantially similar to the proposal, the Company may
be required to: (i) withdraw or reformulate its product with reduced ephedrine
levels, or with a substitute for Ma Huang, (ii) relabel its product with
different warnings or revised directions for use, (iii) not make certain
statements, possibly including weight loss, with respect to any product
containing Ma Huang and/or (iv) withdraw its product from the weight management
program and reposition it in a different category. Even in the absence of an FDA
final regulation, the Company may elect to reformulate and/or relabel its
product containing Ma Huang. While the Company believes that its Ma Huang
product could be reformulated and relabeled, there can be no assurance in that
regard or that reformulation and/or relabeling would not have an adverse effect
on sales of such product or related products within the Thermojetics(R) Weight
Management Program, even though such products do not contain Ma Huang. During
1996, and for the first nine months of 1997, the Company's weight management
products contributed 71.2% and 67.9%, respectively, of total sales.
Some of the products marketed by the Company are considered conventional
foods and are currently labeled as such. Both this category of products and
dietary supplements are subject to the Nutrition, Labeling and Education Act
("NLEA"), and regulations promulgated thereunder, which regulates health claims,
ingredient labeling and nutrient content claims characterizing the level of a
nutrient in the product.
In foreign markets, prior to commencing operations and prior to making or
permitting sales of its products in the market, the Company may be required to
obtain an approval, license or certification from the country's ministry of
health or comparable agency. Where a formal approval, license or certification
is not required, the Company nonetheless seeks a favorable opinion of counsel
regarding the Company's compliance with applicable laws. Prior to entering a new
market in which a formal approval, license or certificate is required, the
Company works extensively with local authorities in order to obtain the
requisite approvals. The approval process generally requires the Company to
present each product and product ingredient to appropriate regulators and, in
some instances, arrange for testing of products by local technicians for
ingredient analysis. Such approvals may be conditioned on reformulation of the
Company's products or may be unavailable with respect to certain products or
certain ingredients. Product reformulation or the inability to introduce certain
products or ingredients into a particular market may have an adverse effect on
sales. The Company must also comply with product labeling and packaging
regulations that vary from country to country. The Company's failure to comply
with such regulations can result in, among other things, a product being removed
from sale in a particular market, either temporarily or permanently.
The FTC, which exercises jurisdiction over the advertising of all the
Company's products, has in the past several years instituted enforcement actions
against several dietary supplement companies for false and misleading
advertising of certain products. These enforcement actions have resulted in
consent decrees and monetary payments by the companies involved. In addition,
the FTC has increased its scrutiny of the use of testimonials, which are
utilized by the Company. While the Company has not been the target of FTC
enforcement action for the advertising of its products, there can be no
assurance that the FTC will not question the Company's advertising or other
operations in the future.
In certain countries, the Company may also be affected by regulations
applicable to the activities of its distributors because in some countries the
Company is, or regulators may assert that the Company is, responsible for its
distributors' conduct, or such regulators may request or require that the
Company take steps to ensure its distributors' compliance with regulations. The
types of regulated conduct include, among other things, representations
concerning the Company's products, income representations made by the Company
and/or distributors, public media advertisements (which in foreign markets may
require prior approval by regulators) and sales of products in markets in which
such products have not been approved, licensed or certified for sale. In certain
markets, it is possible that improper product claims by distributors could
result in the Company's products being reviewed or re-reviewed by regulatory
authorities and, as a result, being classified or placed into another category
as to which stricter regulations are applicable. In addition, certain labeling
changes might be required.
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Through its manuals, seminars and other training materials and programs,
the Company attempts to educate its distributors as to the scope of permissible
and impermissible activities in each market. The Company also investigates
allegations of distributor misconduct. However, the Company's distributors are
generally independent contractors, and the Company is not able to monitor
directly all distributor activities. As a consequence, there can be no assurance
that the Company's distributors comply with applicable regulations. Misconduct
by distributors has in the past and could again have a material adverse effect
on the Company in a particular market or in general. See "Risk Factors -- Sales
and Earnings Volatility."
The Company is unable to predict the nature of any future laws,
regulations, interpretations or applications, nor can it predict what effect
additional governmental regulations or administrative orders, when and if
promulgated, would have on its business in the future. They could, however,
require the reformulation of certain products not able to be reformulated,
imposition of additional recordkeeping requirements, expanded documentation of
the properties of certain products, expanded or different labeling and
scientific substantiation regarding product ingredients, safety or usefulness.
Any or all such requirements could have a material adverse effect on the
Company's results of operations and financial condition.
All of the officers and directors of the Company are subject to a permanent
injunction entered in October 1986 pursuant to the settlement of an action
instituted by the California Attorney General, the State Health Director and the
Santa Cruz County District Attorney. The Company consented to the entry of this
injunction without in any way admitting the allegations of the complaint. The
injunction prevents the Company and such officers and directors from making
certain specified claims in future advertising of the Company's products and
requires the Company to implement certain documentation systems with respect to
payments to the Company's distributors. At the same time, the injunction does
not prevent the Company from continuing to make certain specified claims
concerning its products which have been and are being made, provided that it has
a reasonable basis for making such claims.
Network Marketing System. The Company's network marketing system is subject
to a number of federal and state regulations administered by the FTC and various
state agencies as well as regulations in foreign markets administered by foreign
agencies. Regulations applicable to network marketing organizations are
generally directed at ensuring that product sales are ultimately made to
consumers and that advancement within such organizations be based on sales of
the organizations' products rather than investments in the organizations or
other non-retail sales related criteria. For instance, in certain markets there
are limits on the extent to which distributors may earn royalties on sales
generated by distributors that were not directly sponsored by the distributor.
Where required by law, the Company obtains regulatory approval of its network
marketing system or, where such approval is not required, the favorable opinion
of local counsel as to regulatory compliance. However, the Company remains
subject to the risk that, in one or more of its markets, its marketing system
could be found not to be in compliance with applicable regulations. Failure by
the Company to comply with these regulations could have a material adverse
effect on the Company in a particular market or in general. See "-- Product
Distribution."
The Company is also subject to the risk of challenges to the legality of
its network marketing system. For example, in Webster v. Omnitrition
International, Inc., 79 F.3d 776 (9th Cir. 1996), the "multi-level marketing"
program of Omnitrition International, Inc. ("Omnitrition") was challenged in a
class action by certain Omnitrition distributors who alleged that Omnitrition
was operating an illegal "pyramid scheme" in violation of federal and state
laws. The Company believes that its network marketing system satisfies the
standards set forth in the Omnitrition case and other applicable statutes and
caselaw defining a legal marketing system, in part based upon significant
differences between the Company's marketing system and that described in the
Omnitrition case. Further, it is an ongoing part of the Company's business to
monitor and respond to regulatory and legal developments, including those that
may affect its network marketing system. However, the regulatory requirements
concerning network marketing systems do not include "bright line" rules and are
inherently fact-based. An adverse judicial determination with respect to the
Company's network marketing system could have a material adverse effect on the
Company. Among other things, such a determination could require the Company to
make modifications to its network marketing system, result in negative publicity
or have a negative impact on distributor morale. In addition, further adverse
rulings by the
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courts in the Omnitrition litigation or other similar litigation could have a
material adverse effect on the Company, even if the Company's network marketing
system is not itself challenged.
Transfer Pricing and Similar Regulations. In many foreign countries, the
Company is subject to transfer pricing regulations, restrictions on management
fees charged by the Company to its local subsidiary and similar regulations and
restrictions designed to ensure that appropriate levels of income are reported
as earned by the local subsidiary and taxed by the foreign governmental
authorities. In addition, the Company's operations in foreign countries are
subject to regulations designed to ensure that appropriate levels of customs
duties are assessed on the importation of the Company's products.
While the Company believes it is in compliance with all applicable
regulations and restrictions, it is subject to the risk that foreign
governmental authorities could audit its transfer pricing and related practices
and assert that additional taxes are owed. For example, the Company is currently
subject to pending or proposed audits and material assessments in a number of
foreign jurisdictions, including Italy, France and Germany, involving transfer
pricing issues, income taxes, value added taxes, withholding taxes and related
interest and penalties. In certain circumstances, additional taxes, interest and
penalties have been assessed, and the Company will be required to litigate to
reverse the assessments. None of the pending or proposed audits or assessments
is expected to have a material adverse effect on the Company. However, the
ultimate resolution of these matters is unknown and may take several years.
In the event that such audits or assessments are concluded adversely to the
Company, the Company believes that it could generally offset or mitigate the
consolidated effect of foreign taxes required to be paid through the use of U.S.
foreign tax credits. However, depending upon the years at issue, the Company
might not be able to amend prior U.S. tax returns to obtain the benefit of such
credits. Furthermore, to the extent that the Company's operations in high tax
jurisdictions such as Japan grow disproportionately relative to the balance of
Company's operations, the Company may 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 laws
and regulations governing U.S. foreign tax credits are complex and depend, among
other things, on tax treaties with foreign nations in addition to U.S. tax laws,
there can be no assurance that the Company would in fact be able to take
advantage of any tax credits.
Other Regulations. The Company is also subject to a variety of other
regulations in various foreign markets, including regulations pertaining to
social security assessments and value added taxes, employment and severance pay
requirements, import/export regulations and antitrust issues. As an example, in
many markets, the Company is substantially restricted in the amount and types of
rules and termination criteria that it can impose on distributors without
causing social security assessments to be payable by the Company on behalf of
such distributors and without incurring severance obligations to terminated
distributors. In some countries, the Company may be subject to such obligations
in any event.
Failure by the Company to comply with such regulations could have a
material adverse effect on the Company in a particular market or in general.
Such assertions or the effect of adverse regulations in one market could
adversely affect the Company in other markets as well by causing increased
regulatory scrutiny in those other markets or as a result of the negative
publicity generated in those other markets. See "Risk Factors -- Dependence Upon
Material Foreign Markets."
Compliance Procedures. As indicated above, the Company, its products and
its network marketing system are subject, both directly and indirectly through
distributors' conduct, to numerous federal, state and local regulations both in
the United States and foreign markets. Beginning in 1985, the Company began to
institute formal regulatory compliance measures by developing a system to
identify specific complaints against distributors and to remedy any violations
by distributors through appropriate sanctions, including warnings, suspensions
and, when necessary, terminations. In its manuals, seminars and other training
programs and materials, the Company emphasizes that distributors are prohibited
from making therapeutic claims for the Company's products.
50
<PAGE> 53
The Company's general policy regarding acceptance of distributor
applications from individuals who do not reside in one of the Company's markets
is to refuse to accept such individual's distributor application. From time to
time, exceptions to the policy are made on a country-by-country basis.
In order to comply with regulations that apply to both the Company and its
distributors, the Company conducts considerable research into the applicable
regulatory framework (typically, with the assistance of local legal counsel and
other representatives) prior to entering any new market to identify all
necessary licenses and approvals and applicable limitations on the Company's
operations in that market. The Company devotes substantial resources to
obtaining such licenses and approvals and bringing its operations into
compliance with such limitations. The Company also researches laws applicable to
distributor operations and revises or alters its distributor manuals and other
training materials and programs to provide distributors with guidelines for
operating a business, marketing and distributing the Company's products and
similar matters, as required by applicable regulations in each market. However,
the Company is not able to monitor its supervisors and distributors effectively
to ensure that they refrain from distributing the Company's products in
countries where the Company has not commenced operations, and the Company does
not devote significant resources to such monitoring.
In addition, regulations in existing and new markets are often ambiguous
and subject to considerable interpretive and enforcement discretion by the
responsible regulators. Moreover, even when the Company believes that it and its
distributors are initially in compliance with all applicable regulations, new
regulations are regularly being added and the interpretation of existing
regulations is subject to change. Further, the content and impact of regulations
to which the Company is subject may be influenced by public attention directed
at the Company, its products or its network marketing system, so that extensive
adverse publicity about the Company, its products or its network marketing
system may result in increased regulatory scrutiny.
It is an ongoing part of the Company's business to anticipate and respond
to such new and changing regulations and make corresponding changes in the
Company's operations to the extent practicable. In furtherance of these efforts,
in 1994 the Company formed its Government Relations Group, currently consisting
of 10 employees, and in 1995 created the position of Chief International
Counsel. The Company has budgeted approximately $6.0 million to government
relations activities worldwide for 1998. The Company's Government Relations
Group and international legal personnel seek to establish relationships with
regulators and community leaders in both new and existing markets and strive to
ensure that the Company's products and network marketing system comply with
regulatory requirements. However, while the Company devotes considerable
resources to maintaining its compliance with regulatory constraints in each of
its markets, there can be no assurance that the Company would be found to be in
full compliance with applicable regulations in all of its markets at any given
time or that the regulatory authorities in one or more markets will not assert,
either retroactively or prospectively or both, that the Company's operations are
not in full compliance. Such assertions or the effect of adverse regulations in
one market could negatively affect the Company in other markets as well by
causing increased regulatory scrutiny in those other markets or as a result of
the negative publicity generated in those other markets. Such assertions could
have a material adverse effect on the Company in a particular market or in
general. Furthermore, depending upon the severity of regulatory changes in a
particular market and the changes in the Company's operations that would be
necessitated to maintain compliance, such changes could result in the Company
experiencing a material reduction in sales in such market or determining to exit
such market altogether. In such event, the Company would attempt to devote the
resources previously devoted to such market to a new market or markets or other
existing markets, but there can be no assurance that such transition would not
have an adverse effect on the Company's business and results of operations
either in the short or long term.
TRADEMARKS
The Company uses the umbrella trademarks Herbalife(R), Thermojetics(R),
Dermajetics(R) and several other trademarks and tradenames in connection with
its products and operations. Trademark registrations are either issued or
pending in the United States Patent and Trademark Office and in comparable
agencies in many other countries. The Company considers its trademarks and
tradenames to be an important factor in its business. The Company's product
formulations are not protected by patents and are generally not patentable.
51
<PAGE> 54
COMPETITION
The Company is subject to significant competition for the recruitment of
distributors from other network marketing organizations, including those that
market weight management products, food and dietary supplements and personal
care products, as well as other types of products. Some of the Company's
competitors are substantially larger and have available considerably greater
financial resources than the Company. The Company's ability to remain
competitive depends, in significant part, on the Company's success in recruiting
and retaining distributors through an attractive compensation plan and other
incentives. The Company believes that its production bonus program,
international sponsorship program and other compensation and incentive programs
provide its distributors with significant earning potential. However, there can
be no assurance that the Company's programs for recruitment and retention of
distributors will be successful. See "Risk Factors -- Competition."
In addition, the business of marketing weight management, food and dietary
supplement and personal care products is highly competitive. This market segment
includes numerous manufacturers, distributors, marketers, retailers and
physicians that actively compete for the business of consumers both in the
United States and abroad. The market is highly sensitive to the introduction of
new products or weight management plans (including various prescription drugs)
that may rapidly capture a significant share of the market. As a result, the
Company's ability to remain competitive depends in part upon the successful
introduction of new products.
EMPLOYEES
As of December 31, 1996 and 1997, the Company had 1,180 and 1,459 full-time
employees, respectively. These numbers do not include the Company's
distributors, who generally are independent contractors rather than employees of
the Company. The Company considers its employee relationships to be
satisfactory. Except for certain employees in Mexico, none of the Company's
employees is a member of any labor union, and the Company has never experienced
any business interruption as a result of any labor disputes.
PROPERTIES
The Company leases all of its physical properties located in the United
States. The Company's executive offices, re-located to Century City, California
in February 1996, include approximately 86,000 square feet of general office
space under a lease that expires in January 2006. The Company leases an
aggregate of approximately 97,000 square feet of office space, computer
facilities and conference rooms at the Operations Center in Inglewood,
California, under a lease that expires in October 2006, and approximately
146,000 square feet of warehouse space in two separate facilities located in Los
Angeles and Memphis. The Los Angeles and Memphis agreements have terms through
May 2001 and August 2006, respectively. The Company also leases warehouse and
office space in a majority of its other geographic areas of operations. The
Company believes that its existing facilities are adequate to meet its current
requirements and that comparable space is readily available at each of these
locations.
LEGAL MATTERS
The Company is from time to time engaged in routine litigation incident to
the conduct of its business. The Company regularly reviews all pending
litigation matters in which it is involved and establishes reserves deemed
appropriate by management for such litigation matters. The Company believes that
no litigation currently pending against it will have a material adverse effect
on its consolidated financial position and results of operations. See
"-- Regulation -- Transfer Pricing and Similar Regulations" for a discussion of
certain pending tax matters.
HISTORY AND ORGANIZATION
The Company began operations in February 1980 as a California limited
partnership and operated in that form through December 1985, with the exception
of an interim period from October 1981 through August 1983 when the business was
operated through a California corporation. In January 1986, the
52
<PAGE> 55
Company's business was transferred from the California limited partnership to
its corporate general partner, Herbalife International of America, Inc.
("Herbalife of America"). In November 1986, Herbalife of America was acquired in
a stock-for-stock reorganization by Sage Court Ventures, Inc. ("Sage Court"). As
a result of the acquisition, Herbalife of America became a wholly-owned
subsidiary of Sage Court and the former stockholders of Herbalife of America
acquired a controlling interest in Sage Court. Sage Court's name was formally
changed to Herbalife International, Inc. in December 1986.
The Company's principal executive offices are located at 1800 Century Park
East, Los Angeles, California 90067, and its telephone number is (310) 410-9600.
53
<PAGE> 56
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth certain information regarding the directors
and executive officers of the Company (ages are as of January 1, 1998).
<TABLE>
<CAPTION>
NAME AGE POSITION WITH THE COMPANY
- ---------------------------------- ---- -----------------------------------------------------
<S> <C> <C>
Mark Hughes....................... 42 Chairman of the Board, Chief Executive Officer and
President
Christopher Pair.................. 44 Executive Vice President, Chief Operating Officer,
Secretary, and Director
Michael E. Rosen.................. 51 Executive Vice President, Chief Executive of
Corporate Development/Marketing, and Director
Timothy Gerrity................... 47 Executive Vice President and Chief Financial Officer
Robert A. Sandler................. 53 Executive Vice President and General Counsel
Edward J. Hall(1),(2)............. 51 Director
Alan Liker(2)..................... 60 Director
Christopher M. Miner(1),(2)....... 46 Director
</TABLE>
- ---------------
(1) Member of the Compensation and Stock Option Committees.
(2) Member of the Audit, Finance and Business Development Committees.
MARK HUGHES founded the Company's business in 1980. Since that time Mr.
Hughes has controlled the operations of the business either as the sole
individual general partner of the California limited partnership through which
the business was conducted from inception to December 1985, as the President and
Chairman of the Board of the California corporation through which the business
was conducted for the interim period from October 1981 through August 1983, or
as the President and Chairman of the Board of Herbalife of America, Inc., which
was the corporate general partner of the California limited partnership from May
through December 1985 and the corporation through which the business was
conducted from January 1986 to November 1986. In November 1986, Mr. Hughes
became Chairman of the Board, Chief Executive Officer and President of the
Company when it acquired Herbalife of America, Inc. in a stock-for-stock
reorganization and has continued in those positions since that time.
CHRISTOPHER PAIR joined the Company's predecessor in March 1985 as
Executive Assistant to the President. From May 1991 to November 1996, Mr. Pair
served as the Company's Executive Vice President -- International and Corporate
Administration and Secretary. In November 1996, Mr. Pair became the Company's
Chief Operating Officer. Mr. Pair has been a director of the Company since May
1990. Prior to 1985, Mr. Pair served in various management positions with U.S.
Leasing, Raytheon Data Systems and Consolidated Foods. Mr. Pair serves on the
Board of Directors of the Direct Selling Educational Foundation and also serves
on the Direct Selling Association Long Range Planning Committee. Mr. Pair
received his B.S. and M.B.A. from the University of Redlands.
MICHAEL E. ROSEN joined the Company in August 1993 and is currently
Executive Vice President and Chief Executive of Corporate Development/Marketing.
Mr. Rosen's responsibilities include developing the Company's international and
domestic marketing and sales literature, the Company's personal care and
cosmetics products lines, investor relations and external affairs, and has
served as a director of the Company since May 1996. Prior to joining the
Company, Mr. Rosen was Chief Executive Officer of Shop Television Network, which
he founded in 1986.
54
<PAGE> 57
TIMOTHY GERRITY joined the Company in May 1985 and is currently Executive
Vice President and Chief Financial Officer. Mr. Gerrity, a certified public
accountant, is responsible for the worldwide financial affairs of the Company.
His previous experience includes management positions with Wickes Corporation,
Deloitte & Touche LLP, and Fluor Corporation. Mr. Gerrity received his B.S.
degree from California State University at Northridge and his M.B.A. from the
University of Southern California.
ROBERT A. SANDLER joined the Company in January 1997 as its Executive Vice
President and General Counsel. From 1975 to the present, Mr. Sandler has been a
member of Sandler & Morris, a law firm that he co-founded. From 1985 to 1994,
Mr. Sandler served in various capacities with various companies within the
Siemens family of companies, including most recently as the Executive Vice
President and General Counsel of Siemens Pacesetter. Mr. Sandler received his
A.B. degree from the University of California, Los Angeles and his J.D. degree
from the University of Southern California. Mr. Sandler is currently a director
of Physio-Control, a manufacturer of external defribrillators.
EDWARD J. HALL has served as the Chief Financial Officer of Cruttenden Roth
Incorporated, an investment banking firm, since April 1995. He served in a
similar capacity for H.J. Meyers & Co., Inc., an investment banking firm based
in Beverly Hills, California from March 1991 through March 1995. Between May
1990 and March 1991, Mr. Hall, a certified public accountant, was an independent
investor. From March 1988 through May 1990, Mr. Hall was an Executive Vice
President of Angeles Corporation, an investment management firm. Prior to
joining Angeles Corporation, Mr. Hall was with Deloitte & Touche LLP, where he
had been an audit partner since 1980. Mr. Hall was elected a director of the
Company in March 1992.
ALAN LIKER has served as a business advisor to a number of individuals and
companies during the past several years, including currently Budget Rent-A-Car
of Southern California. Until their sale in 1989, Mr. Liker was a director of
Shaklee Corporation and its Japanese affiliate, Shaklee KK. From 1976 to 1980,
he was a principal of Xerox Development Corporation, a strategic planning unit
of Xerox Corporation. Mr. Liker was previously a law professor at the Harvard
University, University of California (Los Angeles) and University of Southern
California law schools. He was elected to the Company's Board in December 1993
and is currently also a director of Budget Group, Inc. Previously he was a
director of First Charter Bank and Shop Television Network.
CHRISTOPHER M. MINER founded Secure Soft and co-founded Vis-A-Vis
Communications, Inc. (formerly Workstation Technologies, Inc.) in 1996 and 1989,
respectively. Vis-A-Vis Communications is a leading developer of interactive
communications software and hardware products. Mr. Miner currently serves as the
Chief Executive Officer for Secure Soft and Chief Financial Officer for Wow!
Laboratories, Inc. Prior to founding Vis-A-Vis Communications, from 1987 to
1989, Mr. Miner served as Chief Financial Officer of Technology Marketing, Inc.,
a custom electronic engineering organization and board level test product
manufacturer. Prior to joining Technology Marketing, he served as Chief
Financial Officer and Director for Media Systems Technology, Inc., a software
manufacturer, from 1981 to 1987. Mr. Miner received his M.B.A. from California
State University in 1976. He was elected a director of the Company in March
1996.
55
<PAGE> 58
PRINCIPAL AND SELLING STOCKHOLDERS
The following table lists, as of January 26, 1998, information as to the
beneficial ownership of Common Stock by (i) each of the Company's directors,
including directors who serve as executive officers, (ii) all directors and
executive officers as a group, and (iii) each person believed by the Company to
beneficially own more than five percent (5%) of the outstanding Common Stock. In
each instance, information as to the number of shares owned and the nature of
ownership has been provided by the individuals identified or described and is
not within the direct knowledge of the Company.
<TABLE>
<CAPTION>
SHARES OFFERED AFTER THE OFFERING
BEFORE THE OFFERING HEREBY
---------------------------------------------------------- -------------- ----------------------------------
NUMBER OF NUMBER OF NUMBER OF
NAME AND ADDRESS OF SHARES OF PERCENT OF SHARES OF PERCENT OF PERCENT OF SHARES OF PERCENT OF PERCENT OF PERCENT OF
BENEFICIAL OWNER CLASS A CLASS A CLASS B CLASS B COMMON CLASS B CLASS A CLASS B COMMON
(1) STOCK STOCK STOCK STOCK STOCK STOCK(2) STOCK STOCK(2) STOCK(2)
- ------------------- --------- ---------- ---------- ---------- ---------- -------------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Mark Hughes(3)..... 5,666,933 57.2% 11,333,868 57.8% 57.6% 5,000,000 57.2% 32.3% 40.7%
1800 Century Park
East
Los Angeles, CA
90067
Christopher
Pair(4).......... 58,250 (11) 116,500 (11) (11) -- (11) (11) (11)
1800 Century Park
East
Los Angeles, CA
90067
Michael Rosen(5)... 39,450 (11) 78,900 (11) (11) -- (11) (11) (11)
1800 Century Park
East
Los Angeles, CA
90067
Edward J. Hall(6). 4,000 (11) 8,000 (11) (11) -- (11) (11) (11)
Cruttenden Roth
Inc.
18301 Von Karman
Suite 100
Irvine, CA 92715
Alan Liker(7)...... 4,000 (11) 8,000 (11) (11) -- (11) (11) (11)
150 South Doheny
Drive
Beverly Hills, CA
90211
Christopher M.
Miner(8)......... 3,333 (11) 6,667 (11) (11) -- (11) (11) (11)
Wow! Laboratories,
Inc.
18430 Bandilier
Circle
Fountain Valley, CA
92708
Fidelity Management
& Research
Company(9)......... 760,966 7.8 1,521,932 7.8 7.8 -- 7.8 7.8 7.8
82 Devonshire
Street
Boston, MA 02109
All executive
officers and
directors as a
group(10)........ 5,812,299 57.8 11,624,602 58.5 58.3 5,000,000 57.8 33.4 42.0
</TABLE>
- ---------------
(1) Except as otherwise indicated, the persons in this table have sole voting,
investment and dispositive power with respect to all shares of the Common
Stock shown as beneficially owned by them, subject to community property
laws where applicable.
(2) Does not take into account 750,000 shares of Class B Stock that may be
delivered pursuant to DECS issued to cover over-allotments and DECS
subscribed for and purchased by Smith Barney in connection with the
organization of the Trust, or up to 1,000,000 shares of Class B Stock that
may be loaned to Smith Barney pursuant to the Securities Loan Agreement (as
defined in "Plan of Distribution"). The Selling Stockholder may satisfy its
obligations under the DECS by delivering shares of Class B Stock (or at the
Selling Stockholder's option, the cash equivalent thereof) and/or such
other consideration as is delivered by the Selling Stockholder to the
Trust. See the DECS Prospectus for a description of the Selling
Stockholder's obligations under the DECS.
(3) Includes 183,333 shares of Class A Stock and 366,666 shares of Class B
Stock owned by the Herbalife Family Foundation. Mr. Hughes acts as a
director of the foundation but has no pecuniary interest in the shares.
Also includes 100,000 shares of Class A Stock and 200,000 shares of Class B
Stock issuable upon exercise of stock options which are exercisable
presently or within 60 days of this Prospectus. Shares of Class B Stock
deliverable pursuant to the Contract (including shares of Class B Stock
that may be delivered pursuant to DECS issued to cover over-allotments and
DECS subscribed for and
56
<PAGE> 59
purchased by Smith Barney in connection with the organization of the Trust)
are held by wholly-owned personal holding companies of Mr. Hughes.
(4) Consists of shares issuable upon exercise of stock options which are
exercisable presently or within 60 days of this Prospectus.
(5) Includes 6,666 unvested restricted shares of Class A Stock, 13,332 unvested
restricted shares of Class B Stock and 25,833 shares of Class A Stock and
51,667 shares of Class B Stock issuable upon exercise of stock options
which are exercisable presently or within 60 days of this Prospectus.
(6) Consists of shares issuable upon the exercise of stock options which are
exercisable presently or within 60 days of this Prospectus.
(7) Consists of shares issuable upon the exercise of stock options which are
exercisable presently or within 60 days of this Prospectus.
(8) Consists of shares issuable upon the exercise of stock options which are
exercisable presently or within 60 days of this Prospectus.
(9) Information based on Technimetrics Service Report as of December 13, 1997.
(10) Includes an aggregate of 231,750 shares of Class A Stock and 463,500 shares
of Class B Stock issuable upon exercise of stock options which are
exercisable presently or within 60 days of this Prospectus.
(11) Less than 1%.
57
<PAGE> 60
CERTAIN TRANSACTIONS
The Company purchases all its powder products from Raven, one-third of
whose stock is owned by Mark Hughes. In addition, one of the Company's tablet
products, Activated Fiber, is manufactured by D&F pursuant to a licensing
agreement with Dynamic, twenty percent and five percent of whose stock is owned
by Mark Hughes and Dr. David B. Katzin, respectively. Dr. Katzin was a director
of the Company until March 22, 1996 and an executive officer until December 31,
1996, and he is currently the Company's Executive Director of the Medical
Advisory Board. Two individuals (not affiliates of the Company) are principal
stockholders of each of D&F, Raven and Dynamic. For a description of contractual
arrangements between the Company and each of Raven, D&F and Dynamic, see
"Business -- Product Overview -- Product Manufacturing and Development."
For the year ended December 31, 1997 the Company's purchases from Raven and
Dynamic amounted to $63.4 million and $3.3 million, respectively. Under the new
three-year supply agreements, the Company is subject to minimum percentage
purchase and other requirements for nutritional supplement, and a small number
of non-nutritional supplements, products falling into specified product
categories. Mr. Hughes' ownership interest in Raven and Dynamic and Dr. Katzin's
ownership interest in Dynamic entitle them to a proportionate interest in the
profits of those companies, if any. In 1996, Mr. Hughes' share of the earnings
of Raven and Dynamic totalled $2.6 million and $0.3 million, respectively, and
Dr. Katzin's share of the earnings of Dynamic totalled $66,000. Management
believes that the price paid under these requirements contracts is appropriate,
taking into account the product research, development and formulation services
provided by the companies.
In accordance with the 1994 Performance-Based Incentive Compensation Plan,
the Company made advances of targeted performance bonus amounts during 1996 to
1997 to Messrs. Hughes, Pair, Rosen, Sandler (1997 only) and Gerrity (1997
only). As of December 31, 1997, the remaining outstanding principal and accrued
interest obligations of such individuals were $5,571,000 in the case of Mr.
Hughes; $948,000 in the case of Mr. Pair; $165,000 in the case of Mr. Sandler;
and $669,000 in the case of Mr. Gerrity. Each advance is a full recourse
obligation of the executive with a maturity date of two years following the date
of the advance. In addition, the advances bear interest at the applicable
federal rate (AFR) for two-year notes at the time of the advances. The rates for
existing outstanding advances range from 5.64% to 5.69%.
The Company has begun steps to pursue an initial public offering of shares
of Herbalife Japan KK ("Herbalife Japan") in Japan. In preparation for the
possible offering, on December 30, 1996 the Company sold shares of Herbalife
Japan to certain of the Company's directors and executive officers, as well as
to resident managers of Herbalife Japan, as an incentive for increased efforts
to facilitate the operation of the Herbalife Japan business and the success of
the offering. The following table lists the purchasers of such shares, the
percentage of Herbalife Japan's outstanding shares represented thereby, and the
purchase price paid to the Company by each individual as of the date of the
sale:
<TABLE>
<CAPTION>
PERCENTAGE OF
HERBALIFE
JAPAN AGGREGATE
NAME SHARES PRICE(1)
------------------------------------------------- ------------- ----------
<S> <C> <C>
Mark Hughes...................................... 5.000% $3,300,000
Christopher Pair................................. 0.575 379,500
Michael E. Rosen................................. 0.575 379,500
Timothy Gerrity.................................. 0.575 379,500
Alan Liker....................................... 0.200 132,000
Other............................................ 0.075 49,500
----- ----------
Total.................................. 7.000% $4,620,000
===== ==========
</TABLE>
- ---------------
(1) Purchase price for shares was denominated in Japanese yen; dollar amounts
reflect conversion at the yen-to-dollar exchange rate in effect on the date
of purchase.
58
<PAGE> 61
The purchase price for the shares was determined, in part, based upon a
formula (the "Formula") prescribed by a Japanese regulatory authority
responsible for certain aspects of public offerings of securities in that
country, as applied to Herbalife Japan's 1995 results of operations. The Board
of Directors of the Company separately sought and obtained a valuation of the
shares from an independent investment banking firm, Houlihan, Lokey, Howard &
Zukin, Inc. ("Houlihan Lokey"), which rendered an opinion to the Board to the
effect that the fair market value of the shares was greater than that determined
under the Formula. Consequently, the purchase price per share was increased to
the fair value of the shares as indicated in the Houlihan Lokey opinion. The
Company's Board of Directors, based in part on the Houlihan Lokey opinion and
the determination of price derived under the Formula (which is utilized
generally in Japan in connection with public offerings) and taking into account
the uncertainty of completion of the offering in Japan and other pertinent
factors, has determined that the purchase price reflects the fair market value
of the shares.
For each of the foregoing individuals, the purchase price for the shares
was paid to the Company approximately 30% in cash and approximately 70% in the
form of a full recourse promissory note bearing interest at 6.31% per annum in
the case of Mr. Hughes (loan denominated in U.S. dollars) and 2.125% per annum
in the case of each individual other than Mr. Hughes (loans denominated in
Japanese yen), with principal and accrued interest payments due over five years
ending December 31, 2002. The aggregate amount outstanding under such promissory
notes at December 31, 1997 was $3.3 million.
The Company has not yet determined whether and when to seek to complete an
initial public offering of Herbalife Japan shares. Such determination will be
based, among other factors, on economic and financial market conditions in
Japan. There can be no assurance that the Company will seek to complete an
initial public offering in Japan, that the Company will obtain the necessary
regulatory approvals to proceed with such an offering or that any such offering
will be successfully completed. Further, the Company cannot predict the
valuation of Herbalife Japan that would be achieved in such an offering or the
impact of such an offering on the Company's financial condition or results of
operations.
DESCRIPTION OF CAPITAL STOCK
As a result of the Recapitalization, the Company's authorized capital stock
consists of 100,000,000 shares of common stock with a par value of $.01 per
share, consisting of Thirty-Three Million Three Hundred and Thirty-Three
Thousand Three Hundred and Thirty-Three (33,333,333) shares of Class A Stock and
Sixty-Six Million Six Hundred and Sixty-Six Thousand Six Hundred and Sixty-Seven
(66,666,667) shares of Class B Stock (collectively, "Common Stock"), and
100,000,000 shares of undesignated preferred stock. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations -- Recent
Developments and Outlook." The following description of the Company's capital
stock does not purport to be complete or to give full effect to the provisions
of statutory or common law and is in all respects qualified by reference to the
applicable provisions of the Company's Amended and Restated Articles of
Incorporation.
COMMON STOCK
As of January 26, 1998, there were 9,816,532 shares of Class A Stock issued
and outstanding held by 1,046 stockholders of record. As of January 26, 1998,
there were 19,397,664 shares of Class B Stock issued and outstanding held by
1,047 stockholders of record. The holders of Class A Stock are entitled to one
vote for each share held and have no preemptive or other rights to subscribe for
additional shares from the Company. There are no cumulative voting rights, with
the result that the holder of more than 50% of the Class A Stock is able to
elect all of the Company's directors. The holders of Class B Stock are entitled
to vote separately as a class only with respect to (i) amendments to the
Company's Amended and Restated Articles of Incorporation that alter or change
the relative or other rights given to the holders of Class B Stock, and (ii)
such other matters as may require separate class voting under the Company's
Amended and Restated Articles of Incorporation or by law. Holders of Class B
Stock are not entitled to any other voting rights. Holders of Common Stock are
entitled to such dividends as may be declared by the Board of Directors out of
funds legally available therefor. Holders of Class B Stock are entitled to the
same dividends payable with respect to the Class A Stock, provided, however, the
Board of Directors may, in its discretion, pay greater dividends of
59
<PAGE> 62
cash or property (except for a distribution in liquidation) with respect to the
Class B Stock. See "Dividend Policy." Upon liquidation, dissolution or winding
up of the Company, the holders of Common Stock are entitled to receive pro rata
the net assets of the Company remaining after the payment of the full
preferential amount to which the holders of any outstanding class of preferred
stock are entitled and after payment of all creditors. The rights, preferences
and privileges of holders of Common Stock are subject to, and may be adversely
affected by, the rights of holders of shares of any series of preferred stock
that the Company may designate and issue in the future.
PREFERRED STOCK
There are currently no shares of the Company's preferred stock outstanding.
The Company's Board of Directors is authorized to issue from time to time up to
100,000,000 shares of preferred stock in one or more series, to determine the
rights, preferences, privileges and restrictions with respect thereto and to fix
the number and designation of shares constituting any series.
TRANSFER AGENT
The transfer agent and registrar for the Common Stock is U.S. Stock
Transfer Corp., Glendale, California.
PLAN OF DISTRIBUTION
Subject to the terms and conditions set forth in the Underwriting Agreement
(the "Underwriting Agreement") among the Trust, the Company, the Selling
Stockholder and the Underwriters named below, the Trust has agreed to sell to
each of the Underwriters, and each of the Underwriters severally has agreed to
purchase, the aggregate number of DECS set forth opposite its name below:
<TABLE>
<CAPTION>
NUMBER
OF
UNDERWRITERS DECS
----------------------------------------------------------- -------
<S> <C>
Smith Barney Inc...........................................
Prudential Securities Incorporated.........................
-------
Total............................................
=======
</TABLE>
In the Underwriting Agreement, the Underwriters have agreed, subject to the
terms and conditions set forth therein, that the obligations of the Underwriters
are subject to certain conditions precedent and that the Underwriters will be
obligated to purchase all of the DECS offered pursuant to the DECS Prospectus if
any of the DECS are purchased.
The Trust has been advised by the Underwriters that they propose to offer
the DECS directly to the public initially at the public offering price set forth
on the cover of the DECS Prospectus and to certain dealers at such prices less a
concession not in excess of $ per DECS. The Underwriters may allow, and
such dealers may reallow, a concession not in excess of $ per DECS to
other dealers. After the initial public offering, such public offering price and
such concession and reallowance may be changed.
The Company, its directors and executive officers, and the Selling
Stockholder have each agreed not to (i) offer, pledge, sell, contract to sell,
sell any option or contract to purchase, purchase any option or contract to
sell, grant any option, right or warrant to purchase or otherwise transfer or
dispose of, directly or indirectly, any shares of Common Stock or any securities
convertible into or exercisable or exchangeable for shares of Common Stock or
(ii) enter into any swap or other arrangement that transfers to another, in
whole or in part, any of the economic consequences of ownership of the Common
Stock, whether any such transaction described in clause (i) or (ii) above is to
be settled by delivery of Common Stock or such other securities, in cash or
otherwise, for a period of 90 days, in the case of the Company and its directors
and executive officers (other than the Selling Stockholder), and one year, in
the case of the Selling Stockholder, from the date of this Prospectus without
the prior written consent of Smith Barney; provided, however, that (x) Herbalife
may
60
<PAGE> 63
issue, or grant options for, Common Stock pursuant to any stock plan for
employees or directors, or any employee benefit plan, in effect on the date of
this Prospectus, or pursuant to any stock options outstanding on the date of
this Prospectus and (y) such agreements will not restrict the ability of the
Selling Stockholder to engage in any of the transactions described in clause (i)
or (ii) above in connection with (a) the offering by the Trust of the DECS or
any delivery of shares of Class B Stock pursuant to the terms of the DECS, (b)
the loaning of shares of Class B Stock pursuant to the Securities Loan Agreement
(as defined below), or (c) sales by the Herbalife Family Foundation, a
charitable trust of which Mr. Hughes is a director but with respect to which Mr.
Hughes has no pecuniary interest. If any such consent were given it would not
necessarily be preceded or followed by a public announcement thereof.
The Trust has granted to the Underwriters an option, exercisable for the
30-day period after the date of the DECS Prospectus, to purchase up to an
additional DECS from the Trust, at the same price per DECS as the
initial DECS to be purchased by the Underwriters. The Underwriters may exercise
such option only for the purpose of covering over-allotments, if any, incurred
in connection with the sale of DECS offered pursuant to the DECS Prospectus. To
the extent that the Underwriters exercise such option, each Underwriter will
have a firm commitment, subject to certain conditions, to purchase the same
proportion of the DECS as the number of DECS to be purchased and offered by such
Underwriter in the above table bears to the total number of initial DECS to be
purchased by the Underwriters. In addition, Smith Barney purchased
DECS in connection with the organization of the Trust.
The DECS will be a new issue of securities with no established trading
market. The Trust intends to make an application to list the DECS on the NYSE
under the symbol . The Underwriters intend to make a market in the DECS,
subject to applicable laws and regulations. However, the Underwriters are not
obligated to do so and any such market-making may be discontinued at any time at
the sole discretion of the Underwriters without notice. Accordingly, no
assurance can be given as to the liquidity of such market.
The Underwriting Agreement provides that Herbalife will indemnify the
Underwriters against certain liabilities, including liabilities under the
Securities Act, or contribute to payments the Underwriters may be required to
make in respect thereof, and that the Selling Stockholder (and the family trust
of Mr. Hughes,) will guarantee the indemnity and contribution obligations of the
Company.
Pursuant to the Contract, the Trust has agreed, subject to the terms and
conditions set forth therein, to purchase from the Selling Stockholder an
aggregate number of shares of Class B Stock equal to the aggregate number of
DECS to be purchased by the Underwriters from the Trust pursuant to the
Underwriting Agreement (including the DECS to be purchased by the Underwriters
upon exercise of the over-allotment option plus the number of DECS purchased by
Smith Barney in connection with the organization of the Trust). Pursuant to the
terms of the Contract, the Selling Stockholder will be obligated to deliver to
the Trust at the Exchange Date of the DECS a number of shares of Class B Stock
(or, at the Selling Stockholder's option, the cash equivalent) and/or such other
consideration as permitted or required by the terms of the Contract, that are
expected to have the same value as the shares of Class B Stock delivered
pursuant to the DECS. The closing of the offering of the DECS is conditioned
upon the closing of the purchase of the Class B Stock pursuant to the Contract.
For further information, see the DECS Prospectus.
In connection with the DECS Offering, certain underwriters and selling
group members and their respective affiliates may engage in transactions that
stabilize, maintain or otherwise affect the market price of the DECS, the Class
A Stock, or the Class B Stock. Such transactions may include stabilization
transactions effected in accordance with Rule 104 of Regulation M, pursuant to
which such persons may bid for or purchase DECS or Class B Stock for purposes of
stabilizing their market prices. The underwriters also may create short
positions for the account of the underwriters by selling more DECS in connection
with the DECS Offering than they are committed to purchase from the Trust, and
in such case may purchase DECS in the open market following the completion of
the DECS Offering to cover all or a portion of such short positions. The
underwriters may also cover all or a portion of such short positions by
exercising the underwriters' over-allotment options in the DECS Offering. Any of
the transactions described in this paragraph may result in the maintenance of
the price of the DECS, the Class A Stock, or the Class B Stock at a level above
that which
61
<PAGE> 64
might otherwise prevail in the open market. None of the transactions described
in this paragraph is required, and, if they are undertaken, they may be
discontinued at any time.
In connection with the offering of the DECS, Mark Hughes (or affiliates
thereof) (the "Lender") and Smith Barney intend to enter into a Securities Loan
Agreement (the "Securities Loan Agreement") which provides that, subject to
certain restrictions and with the agreement of the Lender, Smith Barney may from
time to time borrow, return and reborrow shares of Class B Stock from the Lender
(the "Borrowed Securities"); provided, however, that the number of Borrowed
Securities at any time may not exceed 1,000,000 shares, subject to adjustment
for certain dilutive events. The Securities Loan Agreement is intended to
facilitate market-making activity in the DECS by Smith Barney. Smith Barney may
from time to time borrow shares of Class B Stock under the Securities Loan
Agreement for the purpose of settling short sales of Class B Stock, or for the
purpose of returning shares of Class B Stock previously borrowed by Smith Barney
to settle short sales of Class B Stock, in each case, where such short sales
were entered into by Smith Barney to hedge any long position in the DECS
resulting from its market-making activities. Such sales will be made in the
over-the-counter market at market prices prevailing at the time of sale or at
prices related to such market prices. Market conditions will dictate the extent
and timing of Smith Barney's market-making transactions in the DECS and the
consequent need to borrow shares of Class B Stock. The availability of shares of
Class B Stock under the Securities Loan Agreement at any time is not assured and
any such availability does not assure market-making activity with respect to the
DECS and any market-making actually engaged in by Smith Barney may cease at any
time. The foregoing description of the Securities Loan Agreement does not
purport to be complete and is qualified in its entirety by reference to such
Agreement, a copy of which is filed as an exhibit to the Registration Statement
of which this Prospectus is a part.
In the ordinary course of their respective businesses, certain of the
Underwriters and their respective affiliates have engaged in and may in the
future engage in commercial and investment banking transactions with the
Company, the Selling Stockholder and their respective affiliates.
LEGAL MATTERS
Certain legal matters in connection with the Class B Stock offered hereby
will be passed upon for the Company by Irell & Manella LLP, Los Angeles,
California.
EXPERTS
The consolidated financial statements of the Company as of December 31,
1995 and 1996 and for each of the three years in the period ended December 31,
1996 incorporated in this Prospectus by reference have been audited by Deloitte
& Touche LLP, independent auditors, as stated in their report which is
incorporated herein by reference, and has been included in reliance upon the
report of such firm given upon their authority as experts in accounting and
auditing.
62
<PAGE> 65
======================================================
NO DEALER, SALESPERSON OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS
PROSPECTUS IN CONNECTION WITH THE OFFER MADE BY THIS PROSPECTUS AND, IF GIVEN OR
MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY, THE SELLING STOCKHOLDER OR ANY OF THE UNDERWRITERS.
NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER
ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE
AFFAIRS OF THE COMPANY SINCE THE DATES AS OF WHICH INFORMATION IS GIVEN IN THIS
PROSPECTUS. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER OR SOLICITATION BY
ANYONE IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED
OR IN WHICH THE PERSON MAKING SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO
SO OR TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Forward-Looking Statements............ 2
Available Information................. 2
Documents Incorporated by Reference... 3
Prospectus Summary.................... 4
Risk Factors.......................... 9
Use of Proceeds....................... 16
Price Range of Common Stock........... 17
Dividend Policy....................... 18
Selected Consolidated Financial and
Operating Data...................... 19
Capitalization........................ 21
Management's Discussion and Analysis
of Financial Condition and Results
of Operations....................... 22
Business.............................. 31
Management............................ 54
Principal and Selling Stockholders.... 56
Certain Transactions.................. 58
Description of Capital Stock.......... 59
Plan of Distribution.................. 60
Legal Matters......................... 62
Experts............................... 62
</TABLE>
======================================================
======================================================
5,000,000 SHARES
HERBALIFE
INTERNATIONAL, INC.
CLASS B
COMMON STOCK
(PAR VALUE $.01 PER SHARE)
LOGO
------------
PROSPECTUS
DATED , 1998
------------
======================================================
<PAGE> 66
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF SUCH STATE.
[COVER PAGE FOR SHELF PROSPECTUS]
SUBJECT TO COMPLETION, FEBRUARY 12, 1998
PROSPECTUS LOGO
1,000,000 SHARES
HERBALIFE INTERNATIONAL, INC.
CLASS B COMMON STOCK
($.01 PAR VALUE)
------------------
This Prospectus relates to shares of Class B Common Stock, par value $.01
per share (the "Class B Stock"), of Herbalife International, Inc., a Nevada
corporation ("Herbalife" or the "Company"), which may be offered and sold by
Smith Barney Inc. ("Smith Barney") in connection with market-making activities
in the DECS (the "DECS") representing beneficial interests in DECS Trust III, a
Delaware business Trust (the "Trust"). The DECS are being offered pursuant to a
prospectus (the "DECS Prospectus") of the Trust relating to the sale of DECS
(the "DECS Offering") which is accompanied by a form of prospectus (the "DECS
Equity Prospectus") relating to distribution by the Trust pursuant to the DECS
of shares of Class B Stock. The DECS Equity Prospectus is also included as part
of the Registration Statement of which this Prospectus forms a part. Herbalife
will not receive any of the proceeds from the sale of the DECS or delivery
thereunder of shares of Class B Stock to which this Prospectus relates. See "Use
of Proceeds." Neither the Company nor the Lender (as defined below) takes any
responsibility for any information included in or omitted from the DECS
Prospectus. The DECS Prospectus does not constitute a part of this Prospectus
nor is it incorporated by reference herein.
Smith Barney may, subject to certain limitations, from time to time borrow
shares of Class B Stock from Mark Hughes, the Company's principal stockholder,
Chairman of the Board, Chief Executive Officer and President, or an affiliate of
Mr. Hughes ("Lender"), for the purpose of settling short sales of Class B Stock,
or for the purpose of returning shares of Class B Stock previously borrowed by
Smith Barney to settle short sales of Class B Stock, in each case, where such
short sales are entered into by Smith Barney to hedge any long position in the
DECS resulting from its market-making activities. Such sales will be made in the
over-the-counter market at market prices prevailing at the time of sale or at
prices related to such market prices. Shares that have been returned to Lender
may be reborrowed. The number of shares borrowed at any time may not exceed
1,000,000. See "Plan of Distribution." Smith Barney is not under any obligation
to engage in any market-making transactions with respect to the DECS, and any
market-making in the DECS actually engaged in by Smith Barney may cease at any
time.
"DECS(SM)" is a service mark of Salomon Brothers Inc.
SEE "RISK FACTORS" BEGINNING ON PAGE 5 FOR A DISCUSSION OF CERTAIN FACTORS
THAT SHOULD BE CAREFULLY CONSIDERED BY PROSPECTIVE PURCHASERS.
------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR
HAS THE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY
OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
The date of this Prospectus is , 1998.
<PAGE> 67
[SHELF PROSPECTUS PAGE]
FORWARD-LOOKING STATEMENTS
Certain information contained in, or incorporated by reference into, this
Prospectus includes "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995 and is subject to the safe
harbor created by that Act. These forward-looking statements include, but are
not limited to, statements concerning the opening of new markets, the
introduction of new products and the like, and are generally identified by
phrases such as "the Company expects," "the Company believes," "Management
expects," "Management believes" and words of similar import. There are several
important factors that could cause actual results to differ materially from
those anticipated by the forward-looking statements contained in such
discussions. Additional information about these factors is contained in the
discussions including the forward-looking statements, in the "Risk Factors"
beginning on page 5 and elsewhere in this Prospectus and in documents
incorporated by reference into this Prospectus.
AVAILABLE INFORMATION
The Company is subject to the informational requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and, in accordance
therewith, files reports, proxy statements and other information with the
Securities and Exchange Commission (the "Commission"). Such reports, proxy
statements and other information may be inspected and copied at the Public
Reference Section of the Commission at Room 1024, Judiciary Plaza, 450 Fifth
Street, N.W., Washington, D.C. 20549, and at the Commission's regional offices
at Citicorp Center, 500 West Madison Street, Suite 1400, Chicago, Illinois
60661-2511, and 7 World Trade Center, 13th Floor, New York, New York 10048.
Copies of the reports, proxy statements and other information may be obtained
from the Public Reference Section of the Commission, at Room 1024, Judiciary
Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed rates. Such
reports, proxy statements and other information concerning the Company are also
available for inspection at the offices of The Nasdaq Stock Market, 1735 K
Street, N.W., Washington, D.C., 20006. The Commission maintains a Web site at
http://www.sec.gov containing reports, proxy and information statements and
other information regarding registrants that file electronically with the
Commission, including the Company.
The Company has filed with the Commission a Registration Statement on Form
S-3 (the "Registration Statement") under the Securities Act of 1933, as amended
(the "Securities Act"), with respect to the securities to which this Prospectus
relates. As permitted by the rules and regulations of the Commission, this
Prospectus does not contain all of the information set forth in the Registration
Statement and the exhibits and schedules filed as a part thereof. For further
information about the Company and the securities to which this Prospectus
relates, reference is made to the Registration Statement and to the financial
statements, exhibits and schedules filed therewith. The statements contained in
this Prospectus about the contents of any contract or other document referred to
herein are not necessarily complete, and where such contract or other document
is filed as an exhibit to the Registration Statement, each such statement is
qualified in all respects by the provisions of such exhibit, to which reference
is hereby made for a full statement of the provisions thereof. The Registration
Statement, including the exhibits and schedules filed as a part thereof, may be
inspected without charge at the public reference facilities maintained by the
Commission as set forth in the preceding paragraph. Copies of these documents
may be obtained from the Commission at its principal office in Washington, D.C.
upon payment of the charges prescribed by the Commission.
2
<PAGE> 68
[SHELF PROSPECTUS PAGE]
DOCUMENTS INCORPORATED BY REFERENCE
The following documents have been filed with the Commission by the Company
and are incorporated herein by reference and made a part hereof: (i) the
Company's Annual Report on Form 10-K for the year ended December 31, 1996; (ii)
the Company's Annual Report on Form 10-K/A for the year ended December 31, 1996,
filed October 1, 1997; (iii) the Company's Quarterly Reports on Form 10-Q for
the quarters ended March 31, 1997, June 30, 1997 and September 30, 1997; (iv)
the description of the Company's Class A Common Stock contained in the Company's
Registration Statement on Form 8-A/A filed December 12, 1997; (v) the
description of the Company's Class B Common Stock contained in the Company's
Registration Statement on Form 8-A filed December 12, 1997; and (vi) the
Company's Current Report on Form 8-K filed December 12, 1997.
All documents filed by the Company with the Commission pursuant to Sections
13(a), 13(c), 14 or 15(d) of the Exchange Act after the date of this Prospectus
and prior to the termination of the offering to which this Prospectus relates
shall be deemed to be incorporated in this Prospectus by reference and to be a
part hereof from the respective dates of filing of such documents. The Company
will provide, without charge to any person to whom a copy of this Prospectus is
delivered, upon the written or oral request of such person, a copy of any
document incorporated by reference herein other than exhibits to such documents
unless such exhibits are specifically incorporated by reference in such
document. Requests should be directed to Herbalife International, Inc., 1800
Century Park East, Los Angeles, California 90067, Attention: General Counsel
(telephone: (310) 410-9600).
Any statement contained herein or in a document incorporated or deemed to
be incorporated by reference herein shall be deemed to be modified or superseded
for purposes of this Prospectus to the extent that a statement contained herein
or in any other subsequently filed document which also is or is deemed to be
incorporated by reference herein modifies or supersedes such statement. Any such
statement so modified or superseded shall not be deemed, except as so modified
or superseded, to constitute a part of this Prospectus.
------------------
"DECS(SM)" is a service mark of Salomon Brothers Inc.
3
<PAGE> 69
[SHELF PROSPECTUS PAGE]
THE COMPANY
Herbalife is a network marketing company that sells a wide range of weight
management products, food and dietary supplements and personal care products
worldwide. As of December 31, 1997, the Company conducted business in 36
countries located in Asia/Pacific Rim, Europe and The Americas. Retail sales in
those regions represented 42.0%, 30.8% and 27.2%, respectively, of the Company's
total retail sales in the first nine months of 1997.
The Company has experienced substantial growth in retail sales and net
income in recent years. From 1992 to 1996, the Company's retail sales grew from
$405.1 million to $1.2 billion, representing a compound annual growth rate of
31.2%. From 1992 to 1996, the Company's net income grew from $20.1 million to
$44.8 million, representing a compound annual growth rate of 22.2%. For the nine
months ended September 30, 1997, retail sales and net income increased by 23.1%
to $1.068 billion and by 28.8% to $39.9 million, respectively, over the
corresponding prior year period.
The Company's products are marketed exclusively through a network marketing
system. This system enables the Company's independent distributors to earn
profits by selling Herbalife products to retail consumers or other distributors.
Distributors may also develop their own distributor downline organizations by
sponsoring other distributors to do business in any market where the Company
operates, entitling the sponsors to receive royalty overrides (cash incentives,
including royalties and bonuses) on product sales within their downline
organizations.
Management believes that Herbalife's network marketing system is ideally
suited to its products, which emphasize a healthy lifestyle, because sales of
such products are strengthened by ongoing personal contact between retail
consumers and distributors, many of whom use the Company's products themselves.
The Company's network marketing system appeals to a broad cross-section of
people throughout the world, particularly those seeking to supplement family
income, start a home business or pursue employment opportunities other than
conventional, full-time employment.
4
<PAGE> 70
[SHELF PROSPECTUS PAGE]
RISK FACTORS
DEPENDENCE ON DISTRIBUTORS
The Company's success depends in significant part upon its ability to
attract, maintain and motivate a large base of distributors. In its efforts to
attract and retain distributors, the Company competes with other network
marketing organizations, including those in the weight management, food and
dietary supplement and personal care product industries. In addition, as a
result of the Company's network marketing system and its international
sponsorship program, the distributor organizations headed by a relatively small
number of key distributors are responsible for a significant percentage of total
retail sales (in many cases, including retail sales in several different
countries). The Company does not believe that the loss of any key distributor
would necessarily result in the loss of a significant number of that
distributor's downline organization members because of the Company's generally
good relations with its distributors and because of the significant incomes that
many distributors would forego by ceasing to distribute the Company's products.
However, the loss of a key distributor, together with a significant number of
downline distributors, or the loss of a significant number of distributors for
any reason, could materially adversely affect sales of the Company's products
and could impair the Company's ability to attract new distributors.
The Company's ability to attract and retain distributors has been and could
again be negatively affected by adverse publicity and regulatory action relating
to the Company, its products or its operations, including its network marketing
system. In the mid-1980s, the Company's products and marketing system became the
subject of regulatory scrutiny in the United States, resulting in large part
from claims and representations made about the Company's products (including
impermissible therapeutic claims). The resulting adverse publicity caused a
rapid, substantial loss of distributors in the United States and a corresponding
reduction in sales beginning in 1985. More recently, adverse publicity in other
markets, including Brazil, France and Germany, contributed to a loss of
distributors and a decline in sales in those markets. See "-- Sales and Earnings
Volatility." The Company expects that its business in particular markets will,
from time to time, continue to be adversely affected by negative publicity or
regulatory action.
REGULATION
In both its United States and foreign markets, the Company is subject to
and affected by extensive governmental regulations, including, among other
things, regulations pertaining to (i) the formulation, manufacturing, packaging,
labeling, distribution, importation, sale and storage of the Company's products,
(ii) product claims and advertising (including direct claims and advertising by
the Company, as well as claims and advertising by distributors for which the
Company may be held responsible), (iii) the Company's network marketing system,
(iv) transfer pricing and similar regulations that affect the level of foreign
taxable income and customs duties, and (v) taxation of distributors, which in
some instances may impose an obligation on the Company to collect the taxes and
maintain appropriate records.
The Company could be found not to be in compliance with existing
regulations as a result, among other things, of the ambiguous nature of certain
of the regulations, the considerable interpretive and enforcement discretion
given to regulators or misconduct by distributors, who are generally independent
contractors over whom the Company has limited control. Any assertion or
determination that the Company or its distributors are not in compliance with
existing regulations could have a material adverse effect on the Company. The
Company's business has been materially, adversely affected in the past as a
result of regulatory activities. See "-- Sales and Earnings Volatility."
In addition, the adoption of new regulations in the United States or in any
of the Company's international markets, or changes in the interpretation of
existing regulations, could have a material adverse effect on the
5
<PAGE> 71
[SHELF PROSPECTUS PAGE]
Company. For example, in September 1997 the United States Food and Drug
Administration (the "FDA") issued regulations governing the labeling and
marketing of dietary supplement products. The regulations cover: 1) the
identification of dietary supplements and their nutrition and ingredient
labeling; 2) the terminology to be used for nutrient content claims, health
content claims, and statements of nutritional support; 3) labeling requirements
for dietary supplements for which "high potency" and "antioxidant" claims are
made; 4) notification procedures for statements on dietary supplements; and 5)
premarket notification requirements for new dietary ingredients in dietary
supplements. The notification procedures became effective in November, 1997,
while the new labeling requirements will not become effective until March 1999.
The Company will be required to revise a substantial number of its product
labels to reflect the new requirements prior to the 1999 effective date,
although the Company does not expect the cost or impact of such actions to be
material. In addition, the Company will be required to continue its ongoing
program of securing substantiation of its product performance claims, and of
notifying the FDA of certain types of performance claims made for its products.
In addition, in certain markets, including the U.S., claims made with
respect to weight management, dietary supplement, personal care or other
products of the Company may change the regulatory status of the products. In the
U.S., for example, it is possible that the FDA could take the position that
claims made in connection with certain of the Company's products place those
products within the scope of an FDA "over-the counter" (OTC) drug monograph. OTC
monographs prescribe permissible ingredients and appropriate labeling language,
and require the marketer or supplier of the products to register and file annual
drug listing information with the FDA. A limited number of the products sold by
the Company are labeled as OTC monograph drugs, and the Company believes that it
is in compliance with the applicable monographs. In the event that the FDA
asserted that product claims for other products caused them to fall within the
scope of OTC monographs, the Company would be required either to comply with the
applicable monographs or change the claims made in connection with the products.
There can be no assurance that the Company could do so effectively, or that any
such changes would not adversely affect sales and marketing of an affected
product.
The U.S. Federal Trade Commission ("FTC"), which exercises jurisdiction
over the advertising of all the Company's products, has in the past several
years instituted enforcement actions against several dietary supplement
companies for false and misleading advertising of certain products. These
enforcement actions have resulted in consent decrees and monetary payments by
the companies involved. In addition, the FTC has increased its scrutiny of the
use of testimonials, which are utilized by the Company. While the Company has
not been the target of FTC enforcement action for the advertising of its
products, there can be no assurance that the FTC will not question the Company's
advertising or other operations in the future.
As a marketer of food and dietary supplements and other products that are
ingested by consumers, the Company is subject to the risk that one or more of
the ingredients in its products may become the subject of adverse regulatory
action. For example, one of the ingredients in the Thermojetics(R) original
green herbal tablet is a Chinese herb, Ma Huang, which contains
naturally-occurring ephedrine in small quantities. Ephedrine products have been
the subject of adverse publicity in the United States and other countries
relating to alleged harmful effects, including the deaths of several
individuals. In response to potential federal regulatory proposals that may have
affected the sale of the Thermojetics(R) original green herbal tablet in the
United States, the Company suspended sales of the product for approximately
three months commencing in July 1995 and introduced a reformulated herbal green
tablet that did not contain Ma Huang. When no such regulations were proposed or
issued, the Company renewed sales of Thermojetics(R) original green herbal
tablets in the United States in October 1995 (except in certain states in which
regulations may prohibit or restrict the sale of such product). The
Thermojetics(R) original green herbal tablet accounted for 2.4% and 2.2% of
total retail sales in 1996 and 1997, respectively, although the marketing of the
Thermojetics(R) weight management tablets (original green, green, beige and
yellow) and other products in the Thermojetics(R) line have contributed
significantly to the Company's retail sales. The Company also previously offered
the
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Thermojetics(R) original green herbal tablet in Canada but, in response to
Canadian marketing issues and regulatory concerns, suspended sales of the
product in February, 1994.
The FDA has on record a small number of reports of adverse reactions
allegedly resulting from the ingestion of Ma Huang contained in the Company's
Thermojetics(R) original green tablet. In addition, the Company is a defendant
in three actions alleging adverse reactions to consumption of its original green
Thermojetics(R) product. The Company has not received any communications from
the FDA with respect to these reports. However, many other companies manufacture
products containing various amounts of Ma Huang and the FDA has on record
hundreds of reports of adverse reactions to these products. On April 10, 1996,
the FDA issued a statement warning consumers not to purchase or ingest dietary
supplements containing ephedrine that are claimed to produce such effects as
euphoria, heightened awareness, increased sexual sensations or increased energy,
because these products pose significant adverse health risks, including
dizziness, headache, gastrointestinal distress, irregular heartbeat, heart
palpitations, heart attack, strokes, seizures, psychosis and death. The Company
does not market its Ma Huang product with any of these claims.
On June 4, 1997, the FDA issued a proposed regulation for dietary
supplements containing ephedrine alkaloids. The proposed regulation would
prohibit dietary supplements containing eight milligrams or more of ephedrine
alkaloids per serving, and would not permit such products to contain any other
stimulant, diuretic or laxative ingredients. In addition, labeling of
supplements would be prohibited from suggesting or recommending conditions of
use that would result in an intake of eight milligrams or more of ephedrine
alkaloids within a six-hour period, or a total daily intake of 24 milligrams or
more. The FDA proposal would also require a warning not to take the product for
more than seven days, and would prohibit the supplements from being represented,
either expressly or implicitly, as being suitable for long-term uses, such as
for weight loss or body building. Similarly, claims for increased energy,
increased mental concentration, or enhanced well-being that encourage the
consumer to take more of the product to achieve more of the purported effect
would be required to be accompanied by a warning stating that taking more than
the recommended serving may cause a heart attack, stroke, seizure, or death.
Although tests performed by an independent laboratory indicate that the
Company's original green Thermojetics(R) product contains less than the eight
milligrams of ephedrine alkaloids per serving permitted under the FDA proposal,
the Company is reviewing the possible impact of the FDA proposal, if it is
finalized in its current form, upon the Company's continued marketing of its
Thermojetics(R) original green tablet. In response to the proposal, or to a
final regulation which is substantially similar to the proposal, the Company may
be required to: (i) withdraw or reformulate its product with reduced ephedrine
levels, or with a substitute for Ma Huang, (ii) relabel its product with
different warnings or revised directions for use, (iii) not make certain
statements, possibly including weight loss, with respect to any product
containing Ma Huang and/or (iv) withdraw its product from the weight management
program and reposition it in a different category. Even in the absence of an FDA
final regulation, the Company may elect to reformulate and/or relabel its
product containing Ma Huang. While the Company believes that its Ma Huang
product could be reformulated and relabeled, there can be no assurance in that
regard or that reformulation and/or relabeling would not have an adverse effect
on sales of such product or related products within the Thermojetics(R) Weight
Management Program, even though such products do not contain Ma Huang. During
1996, and for the first nine months of 1997, the Company's 14 weight management
products contributed 71.2% and 67.9%, respectively, of total sales.
Governmental regulations in countries where the Company plans to commence
or expand operations may prevent or delay entry into the market. In addition,
the Company's ability to sustain satisfactory levels of sales in its markets is
dependent in significant part on its ability to introduce additional products
into such markets. However, government regulations in the Company's markets,
both domestic and international, can delay or prevent the introduction, or
require the reformulation or withdrawal, of certain of the Company's products.
For example, during the third quarter of 1995, the Company received inquiries
from certain government agencies within Germany and Portugal regarding the
Company's product, Thermojetics(R) Instant Herbal Beverage,
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relating to the caffeine content of the product and the status of the product as
an "instant tea," which was disfavored by regulators, versus a "beverage." The
sale of this product in these countries was subsequently suspended by the
Company at the request of the regulators. Further, such regulatory action,
whether or not it results in a final determination adverse to the Company, could
create negative publicity (as it did in Germany with respect to Thermojetics(R)
Instant Herbal Beverage), with detrimental effects on the motivation and
recruitment of distributors and, consequently, on sales.
The Company may be subject to challenges to the legality of its network
marketing system based on claims that such system is an illegal "pyramid scheme"
or similar allegations. While the Company believes that its network marketing
system complies with all applicable laws, there can be no assurance that such
challenges will not be made or made successfully or that other legal
developments in this area will not have a material adverse effect on the
Company.
DEPENDENCE ON KEY PERSONNEL
The business of the Company, particularly the operation of its distributor
network, is substantially dependent upon the active participation of Mark
Hughes, the Company's principal stockholder, Chairman of the Board, Chief
Executive Officer and President. The loss of Mr. Hughes' services would
adversely affect the business of the Company. The Company does not maintain key
man life insurance on Mr. Hughes.
SALES AND EARNINGS VOLATILITY
The Company's sales and earnings have been subject to significant
volatility in the past. In the mid-1980s, the Company's products and network
marketing system became the subject of regulatory scrutiny in the United States
resulting in large part from claims and representations made about the Company's
products, including impermissible therapeutic claims. Although the Company
responded by instituting certain regulatory compliance measures, as a result of
the adverse publicity generated by the regulatory activities the Company
experienced, beginning in 1985, a rapid, substantial loss of distributors in the
United States and a corresponding reduction in sales. In addition, the Company's
sales in the United States were adversely affected by competition from other
weight management products. As a consequence, from 1987 (the Company's first
full year as a public company) through 1990, the Company's operations resulted
either in net losses ($2.4 million in 1990 and $6.3 million in 1988) or modest
net income ($1.0 million in 1989 and $1.1 million in 1987). More recently,
adverse publicity and regulatory action in other markets, including France and
Germany, resulted in a loss of distributors and a decline in sales in those
markets, contributing to a reduction in worldwide net income from $46.0 million
in 1994 to $19.7 million in 1995. While net income increased in subsequent
periods (to $44.8 million for 1996 and $39.9 for the nine months ended September
30, 1997), the Company expects that its business in particular markets will,
from time to time, be adversely impacted by regulatory actions, negative
publicity and competition in those markets. See "-- Dependence on Distributors."
In addition, after entering a new country, the Company has in many
instances experienced an initial period of rapid growth in sales as new
distributors were recruited, followed by a decline in sales. The Company
believes that this sales trend has been due in part to certain distributor
migration patterns as well as regulatory action and adverse publicity in certain
markets. In certain of these markets, the opening of new markets within the same
geographic region or with the same or similar language or cultural bases has
resulted in a corresponding tendency of some key distributors to focus their
attention on business opportunities provided by the new markets instead of
developing their established downline organizations in existing markets.
Additionally, in certain instances, the Company has become aware that sales in
certain existing markets were attributable to purchasers who distributed such
product in countries which had not yet been opened. When these countries were
opened, such sales in existing markets shifted to the newly opened markets,
resulting in a decline in sales in the existing markets.
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The Company's weight management products have historically contributed a
significant portion of the Company's total retail sales. During 1996 and for the
first nine months of 1997, the Company's 14 weight management products
contributed 71.2% and 67.9%, respectively, of total retail sales, and one of
these products contributed 19.2% and 19.4%, respectively, of total retail sales.
Accordingly, the Company could be materially adversely affected if, because of
regulatory constraints, adverse publicity, competition or other factors, the
Company were unable to successfully market its weight management products in one
or more significant markets.
The Company's sales and earnings continue to be subject to significant
potential volatility based upon, among other things, the adverse effect of
distributors' or the Company's failure, and allegations of their failure, to
comply with applicable regulations, which have in the past and could again in
the future result in the removal of certain products from sale in certain
countries, either temporarily or permanently; the negative impact of changes in
or interpretations of regulations that may limit or restrict the sale of certain
of the Company's products, the operation of its network marketing system, the
expansion of its operations into new markets, the introduction of its products
into each market and the recruitment and retention of distributors; the
inability of the Company to introduce new products or the introduction of new
products by the Company's competitors; general conditions in the weight
management, food and dietary supplement and personal care industries or the
network marketing industry; and consumer perceptions of the Company's products
and operations. In particular, because the Company's products are ingested by
consumers or applied to their bodies, the Company is highly dependent upon
consumers' perception of the safety, quality and effectiveness of its products.
As a result, substantial negative publicity, whether founded or unfounded,
concerning one or more of the Company's products or other products similar to
the Company's products could adversely affect the Company's sales and earnings.
In the past, adverse publicity has been connected with prospective regulatory
action, perceived health concerns relating to particular products, issues
related to the Company's network marketing system, disputes between the Company
and certain of its distributors, and other issues relating to the Company's
business.
DEPENDENCE UPON MATERIAL FOREIGN MARKETS
For 1996 and the nine months ended September 30, 1997, 76.7% and 79.0% of
the Company's total retail sales, respectively, were generated outside the
United States. Such reliance on foreign markets exposes the Company to the risks
associated with foreign operations, including, among other things, changes in or
interpretations of foreign regulations that may limit the Company's ability to
sell certain products, conduct a network marketing system or repatriate profits
to the United States, and the potential imposition of trade or foreign exchange
restrictions or increased tariffs. The Company is also exposed to risks
associated with foreign currency fluctuations. For instance, the Company's
purchases from suppliers are generally made in U.S. dollars while its sales to
distributors are generally made in local currencies; accordingly, strengthening
of the U.S. dollar versus a foreign currency can have a negative impact on the
Company. Although the Company engages in transactions to protect against certain
risks associated with foreign currency fluctuations, there can be no assurance
that such fluctuations will not have an adverse effect on the Company. As the
Company continues to expand its international operations, these and other risks
associated with international operations are likely to increase. See
"-- Regulation."
In particular, the Company is exposed to risks associated with the current
economic and currency crises in Asia. Because of the significance of the Asian
markets, and Japan in particular, which has become the Company's largest single
retail sales market, a sustained economic slowdown and/or currency crisis in
Asia could have a material adverse impact on the Company's business.
Further, during the nine months ended September 30, 1997, of the 36
countries in which the Company operated during that period, 22 countries
experienced an aggregate increase in retail sales of $266.4 million as compared
with the corresponding period in 1996. Japan accounted for 62.3%, and Russia and
Taiwan together accounted for 14.0% of this increase. The growth in these 22
countries was offset by a $65.7 million aggregate decrease in retail sales in
the remaining 14 countries in which the Company operated during both periods.
The
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Company expects that its business in these and other markets will, from time to
time, be adversely affected by regulatory action, negative publicity,
competition and other factors. See "-- Sales and Earnings Volatility."
In addition, the Company's operations in certain markets may be adversely
affected by political, economic and social instability in those countries. For
instance, the Company has elected not to establish a physical presence, through
a sales or distribution center, in Russia due to a difficult business
environment in that country. Instead the Company has chosen to rely on various
import/export companies located in Russia to conduct transactions in the
Company's products with Russian distributors.
UNCERTAINTIES ASSOCIATED WITH BUSINESS EXPANSION
The Company's continued growth is dependent in significant part upon its
ability to expand its operations into new markets. As compared to new market
openings in the past, the Company may have greater difficulty opening new
markets in the future due to greater regulatory barriers, the necessity of
adapting to entirely new regulatory systems and problems related to entering new
markets with different cultural bases and political systems from those
encountered in the past. In addition, the Company's success has been and will
continue to be significantly dependent on its ability to manage rapid growth,
through expansions and enhancements of its worldwide personnel and management
and information, order processing and fulfillment, inventory and shipping
systems and other aspects of operations. From time to time, the Company has
experienced out-of-stock situations with respect to certain products. As the
Company continues to add distributors, products and countries to its operations,
the ability to manage this growth will represent an increasing challenge.
RELATIONSHIP WITH OUTSIDE MANUFACTURERS
All of the Company's products are manufactured by outside companies. Raven
Industries, Inc. ("Raven") currently manufactures all of the Company's powder
products, and D&F Industries, Inc. ("D&F") currently supplies all of the
Company's tablet products, including Activated Fiber,(TM) one of the Company's
tablet products, pursuant to a licensing agreement with Dynamic Products, Inc.
("Dynamic"). In 1996 and 1997, aggregate purchases by the Company from Raven and
D&F represented a majority of the Company's product purchases. Two individuals
(not affiliates of the Company) are principal stockholders of each of D&F, Raven
and Dynamic. Mark Hughes owns a one-third ownership interest in Raven and a one-
fifth ownership interest in Dynamic. For a number of years prior to 1998, the
Company was subject to requirements contracts with each of Raven, D&F and
Dynamic, pursuant to which the Company agreed to purchase all of its
requirements of powder products from Raven and all of its requirements of
tablet, capsule and certain other products from Dynamic or D&F, to the extent
each such manufacturer was capable of manufacturing such products. In September
1997, the Company entered into new three-year agreements with Raven, D&F and
Dynamic, pursuant to which revised pricing and other provisions became effective
on January 12, 1998. The new contracts provide, among other things, the ability
for the Company to source and develop products with other third party
manufacturers, subject to minimum percentage purchase and other requirements for
nutritional supplement, and a small number of non-nutritional supplement,
products falling into specified product categories. As a result, and because the
new contracts confirm the Company's ownership of product formulations for
substantially all of the Company's nutritional supplement products, the Company
has the capacity, and in the future may seek, to "second source" particular
nutritional supplement products with multiple manufacturers. Further, the
Company has hired its own staffs of product research and development and product
formulation personnel, and will increasingly rely on its in-house staff for
these functions. However, the Company has historically relied on Raven and D&F
for these services, and will continue to do so, albeit to a lesser extent, in
the future. The Company's ability to enter new markets and sustain satisfactory
levels of sales in each market has been in the past and is likely to continue to
be dependent in significant part upon its own ability and the ability of its
manufacturers, including Raven and D&F, to develop new products and reformulate
existing products for introduction into the Company's markets. With the
transition in the Company's relationship with Raven and D&F from exclusive to
nonexclusive contracts,
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there can be no assurance that the Company will seek or continue to obtain the
same amount or quality of product research, development or formulation services
from Raven and D&F that it has received in the past. While the Company expects
to obtain similar such services from in-house personnel and alternative
manufacturers in the future, there can be no assurance that there will not be
some disruption in the Company's business from time to time as these support
services begin to be provided internally and by alternative manufacturers.
ABSENCE OF CLINICAL STUDIES AND SCIENTIFIC REVIEW; POTENTIAL MISUSE OF PRODUCTS
In general, the Company's products consist of weight management products,
food and dietary supplements and personal care products (a limited number of
which have been or may be classified in the U.S. as OTC drugs) which the Company
believes do not require approvals from the FDA or, in the United States market,
other regulatory agencies, prior to sale. The Company does not conduct clinical
studies of its products. The Company's products consist of herbs, vitamins,
minerals and other ingredients that the Company regards as safe when taken as
suggested by the Company. However, because the Company is highly dependent upon
consumers' perception of the safety and quality of its products as well as
similar products distributed by other companies, the Company could be adversely
affected in the event any of the Company's products or any similar products
distributed by other companies should prove or be asserted to be harmful to
consumers. In addition, because of the Company's dependence upon consumer
perceptions, any adverse publicity associated with illness or other adverse
effects resulting from consumers' use or misuse of the Company's products or any
similar products distributed by other companies could have a material adverse
impact on the Company.
COMPETITION
The Company is subject to significant competition for the recruitment of
distributors from other network marketing organizations, including those that
market weight management, food and dietary supplement and personal care products
as well as other types of products. Some of the Company's competitors are
substantially larger and have available considerably greater financial resources
than the Company. The Company's ability to remain competitive depends, in
significant part, on the Company's success in recruiting and retaining
distributors through an attractive compensation plan and other incentives.
In addition, the business of marketing weight management, food and dietary
supplement and personal care products is highly competitive. This market segment
includes numerous manufacturers, distributors, marketers, retailers and
physicians that actively compete for the business of consumers both in the
United States and abroad. The market is highly sensitive to the introduction of
new products or weight management plans (including various prescription drugs)
that may rapidly capture a significant share of the market. As a result, the
Company's ability to remain competitive depends in part upon the successful
introduction of new products.
PRODUCT LIABILITY CLAIMS
As a marketer of food and dietary supplements and other products that are
ingested by consumers or applied to their bodies, the Company may be subjected
to various product liability claims, including, among other things, that its
products contain contaminants or include inadequate instructions as to use or
inadequate warnings concerning side effects and interactions with other
substances. While such claims to date have not been material to the Company and
the Company maintains product liability insurance, it is possible that
widespread product liability claims and the resultant adverse publicity could
negatively affect the Company.
CONCENTRATION OF STOCK OWNERSHIP
As of January 26, 1998, Mr. Hughes beneficially owned 5,666,933 shares of
the Company's Class A Common Stock, par value $.01 per share (the "Class A
Stock") and 11,333,868 shares of the Class B Stock (which amounts include
183,333 shares of Class A Stock and 366,666 shares of Class B Stock held by a
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charitable foundation of which Mr. Hughes is a director but with respect to
which Mr. Hughes has no pecuniary interest), representing 57.2% and 57.8% of the
currently outstanding shares of Class A Stock and Class B Stock, respectively.
Accordingly, Mr. Hughes currently has the power to elect the entire Board of
Directors of the Company and determine the outcome of all matters submitted to
the Company's stockholders for approval. Because Class B Stock is non-voting
stock, neither the completion of the DECS Offering nor the settlement of the
DECS will affect Mr. Hughes' voting power with respect to the Company. Assuming
the delivery by the Lender to the Trust of the maximum number of shares of Class
B Stock required to satisfy the Contract (assuming full exercise of the
over-allotment option in the DECS Offering), Mr. Hughes would beneficially own
28.5% of the Company's currently outstanding Class B Stock (including the
foundation-owned shares referred to above).
SHARES AVAILABLE FOR FUTURE PUBLIC SALE
In addition to shares already publicly held, as of January 26, 1998, (i)
432,604 shares of Class A Stock and 865,209 shares of Class B Stock subject to
outstanding stock options that are currently exercisable have been registered
for sale under the Securities Act in connection with various compensation plans
of the Company, and (ii) 5,666,933 shares of Class A Stock and 6,333,868 shares
of Class B Stock owned by the Selling Stockholder (not including the 5,000,000
shares subject to the Purchase Contract between the Lender and the Trust dated
, (the "Contract") (assuming that the over-allotment option relating
to the DECS is not exercised)) are currently available for sale pursuant to Rule
144 under the Securities Act, subject to the volume limitations contained in the
rule. The Company, its directors and executive officers, and the Lender have
agreed, subject to certain exceptions, not to sell, without the prior written
consent of Smith Barney, any shares of Class A Stock, Class B Stock or any
securities convertible into or exercisable or exchangeable for such shares for a
period of 90 days, in the case of the Company and its directors and executive
officers (other than the Lender), and one year, in the case of the Lender, after
the date of the DECS Prospectus. Future sales of substantial amounts of Class A
Stock or Class B Stock could adversely affect prices in the public market.
IMPACT OF THE DECS ON THE MARKET FOR CLASS B STOCK
It is not possible to predict accurately how or whether any market that
develops for the DECS will trade in the secondary market or whether such market
will be liquid. Any market that develops for the DECS is likely to influence and
be influenced by the market for the Class B Stock. For example, the price of the
Class B Stock could become more volatile and could be depressed by investors'
anticipation of the potential distribution into the market of substantial
additional amounts of Class B Stock upon the maturity of the DECS, by possible
sales of Class B Stock by investors who view the DECS as a more attractive means
of equity participation in the Company and by hedging or arbitrage trading
activity that may develop involving the DECS and the Class B Stock.
USE OF PROCEEDS
This Prospectus relates to the shares of Class B Stock which Smith Barney
may, subject to certain limitations, from time to time, borrow from the Lender
for the purpose of settling short sales of Class B Stock, or for the purpose of
returning shares of Class B Stock previously borrowed by Smith Barney to settle
short sales of Class B Stock, in each case, where such short sales are entered
into by Smith Barney to hedge any long position in the DECS resulting from
market making activities. See "Plan of Distribution." The Company will not
receive any proceeds from the sale of the Class B Stock to which this Prospectus
relates.
PLAN OF DISTRIBUTION
The Lender and Smith Barney have entered into a Securities Loan Agreement
(the "Securities Loan Agreement") which provides that, subject to certain
restrictions and with the agreement of the Lender, Smith
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Barney may from time to time borrow, return and reborrow shares of Class B Stock
from the Lender (the "Borrowed Securities"); provided, however, that the number
of Borrowed Securities at any time may not exceed 1,000,000 shares, subject to
adjustment to provide antidilution protection. The Securities Loan Agreement is
intended to facilitate market-making activity in the DECS by Smith Barney. Smith
Barney may from time to time borrow shares of Class B Stock under the Securities
Loan Agreement for the purpose of settling short sales of Class B Stock, or for
the purpose of returning shares of Class B Stock previously borrowed by Smith
Barney to settle short sales of Class B Stock, in each case, where such short
sales are entered into by Smith Barney to hedge any long position in the DECS
resulting from its market-making activities. Such sales will be made in the
over-the-counter market at market prices prevailing at the time of sale or at
prices related to such market prices.
Market conditions will dictate the extent and timing of Smith Barney's
market-making activity in the DECS and the consequent need to borrow shares of
Class B Stock (which may include borrowings to replace previously borrowed
shares). The availability of shares of Class B Stock under the Securities Loan
Agreement, if any, at any time is not assured and any such availability does not
assure market-making activity with respect to the DECS and any market-making
activity actually engaged in by Smith Barney may cease at any time. The
foregoing description of the Securities Loan Agreement does not purport to be
complete and is qualified in its entirety by reference to the Securities Loan
Agreement, a form of which will be filed as an exhibit to the Registration
Statement of which this Prospectus is a part.
The DECS were initially sold by the Trust to Smith Barney and Prudential
Securities Incorporated as underwriters (the "Underwriters") subject to an
underwriting agreement (the "Underwriting Agreement") the form of which will be
filed as an exhibit to the Registration Statement of which this Prospectus is a
part. The Underwriting Agreement provides that the Company will indemnify the
Underwriters against certain liabilities, including liabilities under the
Securities Act, or contribute to payments the Underwriters may be required to
make in respect thereof, and that the Lender (and the family trust of Mr.
Hughes) will guarantee the indemnity and contribution obligations of the
Company.
The Underwriters intend to make a market in the DECS, subject to applicable
laws and regulations. However, the Underwriters are not obligated to do so and
any such market-making may be discontinued at any time at the sole discretion of
the Underwriters without notice. Accordingly, no assurance can be given as to
the liquidity of such market.
Pursuant to the Contract, the Trust has agreed, subject to the terms and
conditions set forth therein, to purchase from the Lender an aggregate number of
shares of Class B Stock equal to the aggregate number of DECS to be purchased by
the Underwriters from the Trust pursuant to the Underwriting Agreement
(including the DECS to be purchased by the Underwriters upon exercise of the
over-allotment option plus the number of DECS purchased by Smith Barney in
connection with the organization of the Trust). Pursuant to the terms of the
Contract, the Lender will be obligated to deliver to the Trust at the maturity
date of the DEC's a number of shares of Class B Stock (or, at the Lender's
option, the cash equivalent) and/or such other consideration as permitted or
required by the terms of the Contract, that are expected to have the same value
as the shares of Class B Stock delivered pursuant to the DECS. For further
information, see the DECS Prospectus.
In the ordinary course of their respective businesses, certain of the
Underwriters and their respective affiliates have engaged in and may in the
future engage in commercial and investment banking transactions with the
Company, the Lender and their respective affiliates.
LEGAL MATTERS
Certain legal matters in connection with the Class B Stock offered hereby
will be passed upon for the Company by Irell & Manella LLP, Los Angeles,
California.
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EXPERTS
The consolidated financial statements of the Company as of December 31,
1995 and 1996 and for each of the three years in the period ended December 31,
1996 incorporated in this Prospectus by reference have been audited by Deloitte
& Touch LLP, independent auditors, as stated in their report which is
incorporated herein by reference, and has been included in reliance upon the
report of such firm given upon their authority as experts in accounting and
auditing.
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======================================================
NO DEALER, SALESPERSON OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS
PROSPECTUS IN CONNECTION WITH THE OFFER MADE BY THIS PROSPECTUS AND, IF GIVEN OR
MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY, THE LENDER OR ANY OF THE UNDERWRITERS. NEITHER THE
DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE
AFFAIRS OF THE COMPANY SINCE THE DATES AS OF WHICH INFORMATION IS GIVEN IN THIS
PROSPECTUS. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER OR SOLICITATION BY
ANYONE IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED
OR IN WHICH THE PERSON MAKING SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO
SO OR TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Forward-Looking Statements............ 2
Available Information................. 2
Documents Incorporated by Reference... 3
The Company........................... 4
Risk Factors.......................... 9
Use of Proceeds....................... 13
Plan of Distribution.................. 13
Experts............................... 14
Legal Matters......................... 14
</TABLE>
======================================================
======================================================
1,000,000 SHARES
HERBALIFE
INTERNATIONAL, INC.
CLASS B
COMMON STOCK
(PAR VALUE $.01 PER SHARE)
LOGO
------------
PROSPECTUS
DATED , 1998
------------
======================================================
<PAGE> 81
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
Estimated expenses in connection with the issuance and distribution of the
securities being registered, which will be paid by the Selling Stockholder,
other than underwriting compensation, are as follows:
<TABLE>
<S> <C>
Securities and Exchange Commission Registration Fee........ *
New York Stock Exchange Fee................................ *
NASD Fee................................................... *
Blue Sky Fees.............................................. *
Printing and Engraving Expenses............................ *
Legal Fees and Expenses.................................... *
Accounting Fees and Expenses............................... *
Miscellaneous.............................................. *
-------
Total............................................ $ *
=======
</TABLE>
- ---------------
* To be completed by amendment.
ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 78.751 of the General Corporation Law of Nevada ("GCL") empowers a
corporation to indemnify any person who was or is a party or is threatened to be
made a party to any threatened, pending or completed action, suit or proceeding,
whether civil, criminal, administrative or investigative, except an action by or
in the right of the corporation, by reason of the fact that he or she is or was
a director, officer, employee or agent of the corporation or is or was serving
at the request of the corporation as a director, officer, employee or agent of
another corporation or enterprise, against expenses (including attorneys' fees),
judgments, fines and amounts paid in settlement actually and reasonably incurred
in connection with such action, suit or proceeding if the person indemnified
acted in good faith and in a manner he or she reasonably believed to be in or
not opposed to the best interests of the corporation, and, with respect to any
criminal action or proceeding, had no reasonable cause to believe his or her
conduct was unlawful. In the case of any action by or in the right of the
corporation, no indemnification may be made in respect to any claim, issue or
matter as to which such person shall have been adjudged to be liable to the
corporation or for amounts paid in settlement to the corporation unless and only
to the extent that the court in which such action or suit was brought or other
court of competent jurisdiction determines that in view of all the circumstances
of the case such person is fairly and reasonably entitled to indemnity for such
expenses as the court shall deem proper. Section 78.751 further provides that to
the extent a director or officer of a corporation has been successful in the
defense of any action, suit or proceeding referred to above or in the defense of
any claim, issue or matter therein, he or she shall be indemnified against
expenses (including attorneys' fees) actually and reasonably incurred by him or
her in connection therewith.
The Amended and Restated Articles of Incorporation (the "Articles"), and
Restated By-Laws of the Company provide, in effect, that to the extent and under
the circumstances permitted by Section 78.751 of the GCL and subject to certain
conditions, the Company shall indemnify any person who was or is a party or is
threatened to be made a party to or is involved in any action, suit or
proceeding of the type described above by reason of the fact that he or she is
or was a director, officer, employee or other agent of the Company or is or was
serving at the request of the Company as a director, officer, employee or agent
of another foreign or domestic corporation, partnership, joint venture, trust or
other enterprise, or was a director, officer, employee or agent of a foreign or
domestic corporation which was a predecessor corporation of the corporation or
of another enterprise at the request of the predecessor corporation.
The Company has also entered into indemnification agreements with each of
its directors and executive officers providing, among other things, that the
director or officer shall be indemnified to the fullest extent
II-1
<PAGE> 82
permitted by applicable law against all expenses (including attorneys' fees),
judgments, fines and amounts paid in settlement in any action, suit or
proceeding of the type described above by reason of the fact that he or she is
or was a director or officer of the Company or is or was serving at the request
of the Company as a director, officer, employee or agent of another corporation.
In furtherance of such indemnification agreements, the Company has established a
$1,000,000 trust fund from which payments owing under the indemnification
agreements may be made. The initial term of the trust is ten years.
ITEM 16. EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------- ----------------------------------------------------------------------------------
<C> <S>
1.1 Form of Underwriting Agreement(1)
1.2 Form of Purchase Contract between the Selling Stockholder and the Trust(1)
4 Form of Class B Stock Certificate(1)
5 Opinion of Irell & Manella LLP(2)
23.1 Consent of Irell & Manella LLP (included in Exhibit 5)
23.2 Consent of Deloitte & Touche LLP(2)
24 Power of Attorney (see Signatures)
99 Form of Securities Loan Agreement between Mark Hughes (including an affiliate
thereof) and Smith Barney Inc.(1)
</TABLE>
- ---------------
(1) To be filed by amendment.
(2) Filed herewith.
ITEM 17. UNDERTAKINGS
(a) The undersigned registrant hereby undertakes that, for purposes of
determining any liability under the Securities Act of 1933, each filing of the
registrant's annual report pursuant to Section 13(a) or 15(d) of the Securities
Exchange Act of 1934 (and, where applicable, each filing of an employee benefit
plan's annual report pursuant to Section 15(d) of the Securities Exchange Act of
1934) that is incorporated by reference in the registration statement shall be
deemed to be a new registration statement relating to the securities offered
herein, and the offering of such securities at that time shall be deemed to be
the initial bona fide offering thereof.
(b) The undersigned registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities
Act, the information omitted from the form of prospectus filed as part of
this registration in reliance upon Rule 430A and contained in a form of
prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4) or
497(h) under the Securities Act shall be deemed to be part of this
registration statement as of the time it was declared effective;
(2) For purposes of determining any liability under the Securities
Act, each post-effective amendment that contains a form of prospectus shall
be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
(c) Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of the
registrant pursuant to the items listed in item 15 hereof, or otherwise, the
registrant has been advised that in the opinion of the Securities and Exchange
Commission such indemnification is against public policy as expressed in the
Securities Act and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment by the
registrant of expenses incurred or paid by a director, officer or controlling
person of the registrant in the
II-2
<PAGE> 83
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
(d) The undersigned registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being
made, a post-effective amendment to this registration statement:
(i) To include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising after
the effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth
in the registration statement. Notwithstanding the foregoing, any
increase or decrease in volume of securities offered (if the total
dollar value of securities offered would not exceed that which was
registered) and any deviation from the low or high end of the estimated
maximum offering range may be reflected in the form of prospectus filed
with the Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than 20 percent change in
the maximum aggregate offering price set forth in the "Calculation of
Registration Fee" table in the effective registration statement.
(iii) To include any material information with respect to the plan
of distribution not previously disclosed in the registration statement
or any material change to such information in the registration
statement;
Provided, however, that paragraphs (1)(i) and (1)(ii) do not apply if the
registration statement is on Form S-3 or Form S-8, and the information required
to be included in a post-effective amendment by those paragraphs is contained in
periodic reports filed by the registrant pursuant to Section 13 or Section 15(d)
of the Securities Exchange Act of 1934 that are incorporated by reference in the
registration statement.
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be deemed
to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed
to be the initial bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the
termination of the offering.
II-3
<PAGE> 84
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
Registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements for filing on Form S-3 and has duly caused this Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Los Angeles, State of California, on this 12th day of
February, 1998.
HERBALIFE INTERNATIONAL, INC.
(a Nevada corporation)
By: /s/ CHRISTOPHER PAIR
------------------------------------
Christopher Pair
Executive Vice President
Chief Operating Officer and
Secretary
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS: That the undersigned officers and directors
of Herbalife International, Inc., a Nevada corporation, do hereby constitute and
appoint each of Mark Hughes, Chairman, President and Chief Executive Officer,
and Christopher Pair, Executive Vice President and Chief Operating Officer, or
either of them, the lawful attorney-in-fact and agent, with full power and
authority to do any and all acts and things and to execute any and all
instruments which said attorney and agent determines to be necessary or
advisable or required to enable said corporation to comply with the Securities
Act of 1933, as amended, and any rules or regulation or requirements of the
Commission in connection with this Registration Statement. Without limiting the
generality of the foregoing power and authority, the powers granted include the
power and authority to sign the names of the undersigned officers and directors
in the capacities indicated below to this Registration Statement and/or any
additional Registration Statement filed in connection herewith pursuant to
Section 462(b) of the Act, to any and all amendments, both pre-effective and
post-effective, and supplements thereto and to any and all instruments or
documents filed as part of or in connection with this Registration Statement or
such additional Registration Statement or amendments or supplements thereof, and
each of the undersigned hereby ratifies and confirms all that said attorney and
agent shall do or cause to be done by virtue hereof. This Power of Attorney may
be signed in several counterparts.
Pursuant to the requirements of the Securities Act of 1933, as amended,
this registration statement has been signed by the following persons in the
capacities indicated on February 12, 1998.
<TABLE>
<CAPTION>
SIGNATURE TITLE
- --------------------------------------------- ----------------------------------------------
<C> <S>
/s/ MARK HUGHES Chairman, President, Chief Executive Officer
- --------------------------------------------- and Director (Principal Executive Officer)
Mark Hughes
/s/ CHRISTOPHER PAIR Executive Vice President, Chief Operating
- --------------------------------------------- Officer, Secretary and Director
Christopher Pair
/s/ TIMOTHY GERRITY Executive Vice President and Chief Financial
- --------------------------------------------- Officer (Principal Financial and Accounting
Timothy Gerrity Officer)
/s/ MICHAEL E. ROSEN Executive Vice President, Chief Executive of
- --------------------------------------------- Corporate Development/Marketing and Director
Michael E. Rosen
/s/ EDWARD J. HALL Director
- ---------------------------------------------
Edward J. Hall
</TABLE>
II-4
<PAGE> 85
<TABLE>
<CAPTION>
SIGNATURE TITLE
- --------------------------------------------- ----------------------------------------------
<C> <S>
/s/ ALAN LIKER Director
- ---------------------------------------------
Alan Liker
/s/ CHRISTOPHER M. MINER Director
- ---------------------------------------------
Christopher M. Miner
</TABLE>
II-5
<PAGE> 86
EXHIBIT INDEX
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER DESCRIPTION PAGE
- ------- ------------------------------------------------------------------------- ------------
<C> <S> <C>
1.1 Form of Underwriting Agreement(1)........................................
1.2 Form of Purchase Contract between the Selling Stockholder and the
Trust(1).................................................................
4 Form of Class B Stock Certificate(1).....................................
5 Opinion of Irell & Manella LLP(2)........................................
23.1 Consent of Irell & Manella LLP (included in Exhibit 5)...................
23.2 Consent of Deloitte & Touche LLP(2)......................................
24 Power of Attorney (see "Signatures").....................................
99 Form of Securities Loan Agreement between Mark Hughes (including an
affiliate thereof) and Smith Barney Inc.(1)..............................
</TABLE>
- ---------------
(1) To be filed by amendment.
(2) Filed herewith.
<PAGE> 1
EXHIBIT 5
[Letterhead of Irell & Manella LLP]
February 12, 1998
Herbalife International, Inc.
1800 Century Park East
Los Angeles, California 90067
Gentlemen:
We are counsel for Herbalife International, Inc., a Nevada corporation
(the "Company"), and are acting as such in connection with the filing of a
Registration Statement on Form S-3 (including all amendments thereto, the
"Registration Statement") under the Securities Act of 1933, as amended (the
"Securities Act"), (i) with respect to the delivery by DECS Trust III, a
Delaware business trust (the "Trust"), of up to 5,750,000 shares (including
shares subject to an over-allotment option and shares to be purchased by Smith
Barney Inc. in connection with the organization of the Trust) of the Company's
Class B Common Stock, par value $.01 per share (the "Common Stock"), that the
Trust may receive from Mark Hughes, the Company's principal stockholder, or an
entity or entities controlled by him, under the terms of a purchase contract
with the Trust, and (ii) with respect to up to 1,000,000 shares of Common Stock
that may be borrowed by Smith Barney Inc. from Mr. Hughes from time to time for
the purposes described in the Registration Statement (all 6,750,000 shares
covered by the Registration Statement being referred to herein as the "Shares").
With respect to the Shares registered pursuant to the Registration
Statement (and any additional shares that may be registered pursuant to a
registration statement filed under Rule 462(b) under the Securities Act in
connection with the Registration Statement), it is our opinion that such Shares
are validly issued, fully paid and non-assessable.
We note that we are not licensed in the practice of law in the state of
Nevada and that our opinion herein is based on publicly available compilations
available with respect to the general corporation law of that state. We hereby
give our written consent to the filing of this opinion as an exhibit to the
Registration Statement and to the use of our name under the heading "Legal
Matters" in such Registration Statement.
Very truly yours,
/s/ IRELL & MANELLA LLP
Irell & Manella LLP
<PAGE> 1
EXHIBIT 23.2
INDEPENDENT AUDITOR'S CONSENT
We consent to the incorporation by reference in this Registration Statement
of Herbalife International, Inc. on Form S-3 of our report dated February 14,
1997, appearing in the Annual Report on Form 10-K of Herbalife International,
Inc. for the year ended December 31, 1996 and to the reference to us under the
heading "Experts" in the Prospectus, which is part of this Registration
Statement.
/s/ Deloitte & Touche LLP
Deloitte & Touche LLP
Los Angeles, CA
February 12, 1998
