Herbalife Ltd. (HLF) Earnings Call Transcript & Summary

Hi, this is Seb Barbero from the Jefferies Consumer team. Our next guest is the third largest direct seller in the world and one of world's leading health and wellness players, Herbalife. With us today is CFO, Alex Amezquita; SVP of Finance and Strategy, Bill Ferrante; and IR Director, Eric Monroe. We're going to focus our conversation around 5 topics mainly tied to business momentum, latest on the Chinese consumer health market, cost dynamics, product portfolio developments and capital allocation priorities. We also invite audience for Q&A, so please use the Q&A box if interested in submitting a question. And with that, Alex, why don't we start with a quick refresher of Q1 results?

Sure, Sebastian, and thanks, everyone, for taking the time. So we're coming off Q1, exceptional net sales growth. We had 19% net sales growth year-over-year. Third consecutive double-digit net sales growth quarter coming off of 2020 and 14% net sales growth. And that's broad-based. We've really seen that and 5 of our 6 markets have contributed to that top line. The top line has contributed into solid operating income. EBITDA was $254 million for the quarter, a record for the company and translating into an EPS of $1.42, which is up from $0.88 last year. So really, up and down the P&L, exceptional financial performance. With the momentum that we're seeing in the business, we raised guidance. We raised guidance to the midpoint of 12% for net sales, and we brought our EPS up about $0.35 in the midpoint as well. So the momentum and sort of the dynamics, the consumer trends, all of that really leading to exceptional performance and looking forward to seeing that performance continue as the year progresses.

2020 was a transformational year for the industry, underpinned by increased DTC penetration, which you have talked about at length in prior earnings calls, but as well as the wide adoption of digital tools and platforms as a way to manage day-to-day operation, as a way to improve the overall experience and as a way to enhance reach, as a way to improve or enhance the distributor training. But perhaps, can you talk about some of the strategic changes you've done at Herbalife over the past 12 months as it relates to DTC and digital?

Yes. So we continue to invest in our digital technology. Obviously, the thesis here being that if we can make it easier -- if we produce -- if we can increase productivity of our channel, increase productivity of our distributors out in the field, that is them spending less [ time ] on logistics of getting product from A to B, them spending less time in having their customers with the sort of nonstrategic, just the blocking and tackling of the business and they can focus more of their time in creating a personal relationship where a customer -- where it matters for a customer, that's going to improve our overall top line, and that's going to improve the ability for the distributor to be successful out in the field. So technology is incredibly important for us. We've recently hired a couple of months ago, Joe Miranda, who is our Chief Digital Officer. He's getting familiar with the business. He's getting up to speed. And we will be in a transition for the coming months and quarters as we continue to invest in distributor-facing tools to help across a broad range of tools. It's not simply ordering. It's CRM tools for our distributors. It's point-of-sale tools in nutrition clubs for our distributors. So it's really a broad suite of digital technology that is what matters most from market to market but really under a broad architecture. So we're really excited to see this continue to progress as we move here going forward.

Let's dig a little bit deeper on trends by market, and we'd start perhaps with developed markets where the performance in North America and EMEA has been exceptionally strong over the past year, and your guide implies sustainability of demand. But perhaps what are the key catalysts behind this growth outperformance relative to other markets? Have you noticed any difference in consumer behavior or attitude towards health in the past 12 months in developed versus emerging markets?

Yes. I mean, so first, broad-based, and this is -- we've seen this behavior broad-based in most of our markets. Consumer demand is strong. There does seem to be some enhanced consumer demand during this pandemic era where consumers tend to be -- seem to be more focused on what they're putting in their body, the nutrition that they're consuming, and making sure that they get a healthier calorie. Obviously, that's our value proposition. That is our product portfolio. The lion's share of it is making sure that someone can put a nutrient-dense, higher-quality calorie in their body as part of an overall nutrition program. So that's squarely the value proposition that we [ place ]. So broad-based, those consumer trends and that demand, which has always been there -- I mean, before the pandemic, we were growing quite handily. We had a forecast to grow. And really, I think all the pandemic did was accelerate that sort of trajectory that we are on. And we're building that base [ to grow ] on in the future. So broader-based consumer trends globally, I think we see this from market to market, enhanced consumer demand. When we break it down market to market, and maybe this is a good opportunity for me to introduce Bill. Bill Ferrante, he was running operations across all of our Americas, so North America, Mexico and South America. And maybe I'll give him a few minutes to give some insights on some of the shifts that we're seeing and some of the trends that we're seeing in those markets.

Yes. So certainly, for North America, I'll touch on it. And it comes in contact with what Alex had noted before in technology. So we did see a technology adoption a little quicker and a little more robust in North America. So distributors were able to find new ways to connect with their customers that they've had and really find new customers and our preferred members to build on. So we did see that trend in North America. Also infrastructure-wise, not just company-wise, it's been a little bit easier to operate in North America, but we do have bright spots in other markets as well and can certainly touch on them. But it was really the adoption of the technology. And what Alex noted, the consumer trend looking for health, looking for -- and not just weight management, that's one of our key -- we're a leader in that, but sports nutrition, targeted nutrition, we saw it across the board. So it was really -- our distributors are being able to provide a solution. They have the focus. I think Alex nailed it when he said it was really just accelerating what we already had seen as a trend, and we see it sustainable right now, as [ we saw in ] Q1. Those trends that we saw continuing from 2020 have continued into Q1 in the North American market.

Great. And then talk about the rest of the world where the business is perhaps a little bit more dependent on that face-to-face meeting, as is the case in Mexico, South and Central America and APAC. Perhaps you can talk a little bit about the trends entering the year, where they are at the end of [ Q1 ] and, as the world reopened, if you expect potential acceleration in growth in those markets.

Yes. I'd say as it relates to the in-person, at this point, most markets have figured out strictly the in-person aspect of it. And so there's lots of other variables that go into the up, down or the performance of each market. But as it relates to simply the in-person aspect, I think the only market right now that we experienced some impact from that is Indonesia. Indonesia, which is a pretty significant market for us in our APAC region. Just culturally, that is a market that benefits from in-person and, just culturally, adoption of technology and different ways of doing the business isn't readily as available as you would see in some of our more developed markets in the U.S. and in Europe. So generally speaking, that would probably be the only exception, I would say, that there has been, I would say, workarounds for the in-person aspect of it around the world. Now with that said, a lot of those workarounds, I think, our distributors are doing really well with those. But once we get back to normal, hopefully soon, whenever that might be, I know that certain parts of the world are very far from normal right now, if you think of Brazil and India -- but whenever markets get back to normal, a lot of the lessons that we've learned over the past 1 year, 1.5 years in digital technology and digital tools, we're really excited to see how we blend that combination of in-person skill set and digital skill set. That comes together, and I think we have a much more capable channel at the end of the day once you can combine both of the salient benefits of each of the sides of those coins.

And maybe I'd just add on to that quickly. As we start to analyze markets that are further along in their reopening process and those that still have restrictions from the pandemic, we're continuing to see consistent consumer ordering patterns, consumer stickiness, at least relatively consistent between markets that are -- even if you just segment the U.S., markets that are further along in their reopening process versus those that are still restricted. So we're seeing healthy activity on both sides, and that's what gives us confidence and helps support the guide that we currently have out there.

Got it. I wanted to talk about 2 specific countries that have been an essential part of the business. The first one is India, and obviously the situation has been very critical there over the past month in terms of COVID. But have you done any changes in the business, perhaps from a channel perspective, that helps you reach the end customer in a more direct way versus what you were doing prior to the pandemic?

Yes. So I think -- well, first, I'm going to speak of as -- I'm not going to provide April or May results at this point, I'm going to speak as of the end of March. But also be aware, at the time that we provided our guidance, we have seen sort of how the pandemic impacted the Indian market. So it has that context in our guidance. With all that said, I think when you're looking at the performance of India, particularly when you're looking at 2020 when there was about a 3-month period of time where India was really hit hard and the business was hit hard, our business was hit hard specifically, the big difference between how that market is operating today versus how it was operating last year really was the impact of the government restrictions in India itself. And last year, what that did was it prevented us from working with our third-party distributors -- or I should say third-party service providers to get product from our warehouse to that consumer demand. So last year, we weren't able to get the product where the consumer demand was. This year, or now, I would say, Q1, we are able to get the product. We are able to placate that demand. So despite all the headlines that we're reading in India, which is obviously I'm incredibly sympathetic, as far as the business is relating to, the consumer demand is still being met because there's just a difference in sort of the supply chain and how it's being affected. So hopefully, that sort of explains the difference in the market dynamics between last year and this year. Again, we're staying close to the situation, as most are, in India. It's obviously a real serious situation and our hearts go out to everyone in India. Brazil, similar situation from the perspective of where they are with, if this is the second wave or third wave, nonetheless it's being significantly impacted. That was in our guide. You saw that sort of the performance in Brazil in Q1. And we do -- in our guide, there's a sustained impact of COVID in the market of that magnitude.

Got it. Okay. And let's shift and let's talk about China. It's been a bit of a challenging market for the entire industry really for the past 2 years. But as of end of Q1, what are the latest trends that you're seeing in the market? Is that still a country where there is high interest in consumer health and, within that, a favoritism for international brands? And also perhaps you can touch on the importance of building that digital infrastructure and digital platform in a country that you launched in late 2019.

Yes. So there's a number of factors going on in China right now, a number of legs in the stool that we're sort of refining and retooling. Ultimately, the objective that we have is to create a more stable, more sustainable China. I think you may have heard John D. on our last earnings call talk about the volatility that we've seen in China. And some of it's been out of our hands, right? In the 100-day campaign there was the government trying to crack down on the health industry more broadly, which we were swept up into. Obviously, there was the pandemic last year. But overall, China, up and down over the past 20 quarters, growth in 10, decline in 10. And there was 9 changes from growth to decline and to decline and growth. That's a lot of volatility. If you look at most of our other markets, you don't see that kind of volatility shown. So we've been really working with the distributor leadership, really beginning last year, as we were implementing digital technology, trying to figure out more sustainable, more less volatile ways to really go to market in that market in China. And some of those behaviors are going to create a short term -- there is going to be a short-term business decline. We saw it in Q4. We saw it in Q1. I anticipate it taking several more quarters to sort of move through this transition, again, all reflected in our guidance. And so we're in a journey. We're in a transition. But what we've seen when we've gone through these transitions in other markets, while it takes several quarters to kind of go through it, you wind up on the other side with a much better business, a less volatile business, and you could really capture the opportunity that you see in that respective market. We still believe in the long-term opportunity in China. There is a tremendous amount of consumer demand for healthy China nutrition products. And so we just want to make sure that we retool that -- the way we go to market in that country to really capture that demand in a sustainable, less volatile way.

Got it. That's very helpful. We had a couple of companies today talk a little bit about cost inflation. So wondering if you can perhaps talk a little bit about what you're seeing in terms of raw materials, packaging and transportation.

Yes. No. Certainly, we're seeing all of the signs of that, of cost inflation. We generally work on long-term contracts. So it will be -- it won't be sort of an immediate hit to our cost of goods or in our supply chain. Typically, it will take several months or quarters before you see that impact really affect our cost of goods, but it is something that our operations team is highly focused on and already sort of raising the flag of, yes, things are going on here from a -- not only from a cost of goods pressure but, in certain markets, a lot of wage pressure. So there is a lot of pressures on the cost of goods side, no doubt about it. For us, I suspect it will be a little bit delayed before that starts to show up in the P&L.

And are you witnessing any labor shortages at your manufacturing facilities?

Not to a point where it affects our operations.

Got it. Okay. Let's shift the gears a little bit and talk about your product portfolio. Obviously, the growth of targeted nutrition and sport nutrition has been very encouraging in recent years. And it has taken your weight management sales mix below 60% for the first time in history. So trying to unpack that a little bit more, are you witnessing existing customers purchasing across categories, new customers coming into Herbalife attracted by these products? Or is it a mix of both?

Yes. Certainly a mix. Certainly, there is a path that we've seen where someone may -- become a customer of Herbalife Nutrition with a weight management goal in mind. And then over their journey and going through that, they start to achieve a level where, okay, now I'm at a weight -- I've achieved my weight goal, I'm living a healthier active lifestyle, and then they may pursue a fitness goal that may require our sports nutrition line to augment what they have been doing. So there is a customer journey where you do see -- come in from the weight management, see -- achieve a goal and then switch to other goals that may be placated through our targeted nutrition line or through our sports nutrition line 100%. But it also does attract a different demographic. There is an initial draw of a different demographic, a discerning customer. The sports nutrition customers tend to be more discerning. But once they find a program that they're onboard with, they tend to be a stickier, higher lifetime value customer. So as we continue to expand our product portfolio in our sports nutrition line, it can sort of hit critical mass to really address that demographic. And we're seeing that. And as you noted, the growth of our sports nutrition line and our targeted nutrition line, for that matter, has outpaced our weight management line, thus kind of shifting the diversity of our overall product sales more in those categories, which is a great thing.

Got it. A question from the audience, what percentage of markets was the customer segmentation rolled out at the end of 2020? Where will it be by year-end 2021? And related to this, as you roll out the data segmentation strategy to various international markets, how long does it typically take to start seeing accelerated top line trends? Is it 6, 9 months? Is it 1 year plus? What's your typical length?

Yes. So I'm going to have to ask Eric for what our historical -- at the end of 2020. I know by the end of this year that we will have segmentation of the preferred customer program, some version of that, in over 80% of the business that we conduct globally. So pretty meaningful rollout of that program around the world. I don't know, Eric, if you happen to know what that was at the end of '20?

Yes. So at the end of the first quarter, we were rolled out in 18 different countries, and that included 3 or 4 that rolled out just in Q1, although that did include Mexico. So as Alex said, we're going to continue this progression throughout the course of the year. And by the end of 2021, 80% to 90% of our markets will come -- will be -- volume will come from the markets that have completed this segmentation process.

And I know the second part of that question regarding when would we see the impact to the top line. That's a little bit of a challenging question to answer with any sort of specificity. What we have seen is that when this does roll out into a market, there does require a shift in behavior change in that market to really take effect of the benefits that we've seen in that market. But clearly, the demand to have segmentation in markets is because we've seen markets like the U.S. really go through the transition, and that's been a core component of all of the success that we have seen, is having segmentation as part of that chemistry that has included the top line. So we've seen elements of that in Brazil, as a matter of fact, because of the preferred customer program. Unfortunately, the pandemic and other factors have outweighed the benefits that we've seen that have come from the segmentation. So you're obviously not seeing overall business increases there. But we have seen some of those same positive impacts that we've seen in other markets -- in Brazil. It took some time. It took, I don't know, Bill, probably 5, 6 months before we started to see real impact?

Yes. Yes. In most markets, typically, it takes a few months for the distributors to adopt the model, understand how to utilize it, but they're getting better and better as it's rolling around the world. Then you start seeing the preferred members or customers come in, so the new sign-ups. And then a few months after that is really where you see the acceleration in the volume. So it depends on the market. It's hard to give one specific time line, but it's a little bit of time for them to adopt and ramp up.

Got it. Okay. And trying to squeeze 2 more questions here, short ones. But the first one is you recently refinanced a portion of your debt, obviously, taking advantage of a favorable interest rate environment that has allowed you to upsize your offering. We consider the extra $200 million in cash that you're bringing it in, you have about $800 million on your balance sheet. Perhaps the question is, can you help us understand the capital allocation priorities? And as we talk about buybacks, how should we think about the cadence over the next 3 years considering your $1.5 billion buyback program?

Yes. So it's a steady. I think the days of us with tender offers and large accelerated share repurchases are behind us. We're at about -- with the upsize of the recent debt execution, we're about 2.9x gross, which is right around our target. As I'm sure you're aware, we target 3x gross debt. To us, that manages our company as an investment-grade debt company. And so we're kind of at where we need to be. So as we move forward and excess cash is generated -- I think I've gone through our capital allocation strategy before, so I won't take the time with repeating it. As excess cash comes in, we look for investments. Anything left over, share repurchases is the way that we see maximizing value. So I see consistency. I see consistency in the open market in that execution. And we did $629 million of operating cash flow last year. Anticipate us being north of that this year. So we'll continue to just put that work as it -- put to work as it comes in, in a steady way consistently.

Got it. Okay. And one more 30-second answer. But valuation is still fairly depressed. Perhaps not only talking particularly about Herbalife, talking about the entire group. Despite the shift in this model of pivoting towards a DTC e-commerce-first model, what is it that the market is missing? What are they misunderstanding of the modern direct sell?

Yes. It's a little difficult to put my finger exactly on it. I mean I can only speculate as to why the valuation is where it is. I can only imagine that investors are either discounting our guidance, discounting the opportunity and all of the gains we've made. I would anticipate they must be factoring that we're going to give back. We don't see that. We don't see that in the data. The base that we've built over the past year is a sustainable base. All of the metrics suggest that this is a base that we grow on with the consumer demand going forward. So to me, the biggest thing would be, I presume, that's what's being discounted. And all of the data that I'm seeing, that investment thesis does not make a ton of sense to me. And I don't see that in the data that we're seeing. And it's not in our guide, and it's not in the data that we're seeing. So I presume that's the biggest disconnect. But again, I can only speculate.

Awesome. All right, Alex, Eric, Bill, thank you very much. And for anyone on the line, if you have any follow-ups, please feel free to reach out, and we'll be in touch with the Herbalife team.

Thanks, Sebastian.

All right. Thank you.

Thank you.