Quarterly Report (10-q)

Date : 11/05/2019 @ 10:04PM
Source : Edgar (US Regulatory)
Stock : Natural Health Trends Corporation (NHTC)
Quote : 5.54  0.04 (0.73%) @ 11:00PM

Quarterly Report (10-q)

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-Q
(Mark One)
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended September 30, 2019
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from ______ to _______
 
Commission File Number: 001-36849
NATURAL HEALTH TRENDS CORP.
(Exact name of registrant as specified in its charter)
Delaware
59-2705336
(State or other jurisdiction of
(I.R.S. Employer
incorporation or organization)
Identification No.)
Units 1205-07, 12F
Mira Place Tower A
132 Nathan Road, Tsimshatsui
Kowloon, Hong Kong
(Address of principal executive offices, including zip code)
Registrant’s telephone number, including area code: +852-3107-0800

Securities registered pursuant to Section 12(b) of the Exchange Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, par value $0.001 per share
NHTC
The NASDAQ Stock Market LLC
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
 
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for shorter period that the registrant was required to submit such files). Yes þ No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
o
 
Accelerated filer
þ
Non-accelerated filer
o
 
Smaller reporting company
 
 
 
Emerging growth company
 




If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes No þ
 
At November 1, 2019, the number of shares outstanding of the registrant’s common stock was 11,520,324 shares.





NATURAL HEALTH TRENDS CORP.
Quarterly Report on Form 10-Q
September 30, 2019
 
INDEX 
 




FORWARD-LOOKING STATEMENTS
 
This Quarterly Report on Form 10-Q, in particular “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations,” includes “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). When used in this report, the words or phrases “will likely result,” “expect,” “intend,” “will continue,” “anticipate,” “estimate,” “project,” “believe” and similar expressions are intended to identify “forward-looking statements” within the meaning of the Exchange Act. These statements represent our expectations or beliefs concerning, among other things, future revenue, earnings, growth strategies, new products and initiatives, future operations and operating results, and future business and market opportunities.
 
Forward-looking statements in this report speak only as of the date hereof, and forward-looking statements in documents incorporated by reference speak only as of the date of those documents. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise, except as required by law. We caution and advise readers that these statements are based on certain assumptions that may not be realized and involve risks and uncertainties that could cause actual results to differ materially from the expectations and beliefs contained herein.
 
For a summary of certain risks related to our business, see “Part I, Item 1A. Risk Factors” in our most recent Annual Report on Form 10-K, which includes the following:

We could be adversely affected by management changes or an inability to attract and retain key management, directors and consultants;
Because our Hong Kong operations account for a substantial portion of our overall business, and substantially all of our Hong Kong business is derived from the sale of products to members in China, any material adverse change in our business relating to either Hong Kong or China would likely have a material adverse impact on our overall business;
Our operations in China are subject to compliance with a myriad of applicable laws and regulations, and any actual or alleged violations of those laws or government actions otherwise directed at us could have a material adverse impact on our business and the value of our company;
Our failure to maintain and expand our member relationships could adversely affect our business;
We are currently involved in, and may in the future face, lawsuits, claims, and governmental proceedings and inquiries that could harm our business;
Although virtually all of our members are independent contractors, improper member actions that violate laws or regulations could harm our business;
Direct-selling laws and regulations may prohibit or severely restrict our direct sales efforts and cause our revenue and profitability to decline, and regulators could adopt new regulations that harm our business;
The high level of competition in our industry could adversely affect our business;
Challenges by third parties to the legality of our business operations could harm our business;
An increase in the amount of compensation paid to members would reduce profitability;
Currency exchange rate fluctuations could lower our revenue and net income;
Changes in tax or duty laws, and unanticipated tax or duty liabilities, could adversely affect our net income;
Transfer pricing regulations affect our business and results of operations;
Our products and related activities are subject to extensive government regulation, which could delay, limit or prevent the sale of some of our products in some markets;
Failure of new products to gain member and market acceptance could harm our business;
New regulations governing the marketing and sale of nutritional supplements could harm our business;
Regulations governing the production and marketing of our personal care products could harm our business;
If we are found not to be in compliance with good manufacturing practices our operations could be harmed;
Failure to comply with domestic and foreign laws and regulations governing product claims and advertising could harm our business;
Adverse publicity associated with our products, ingredients or network marketing program, or those of similar companies, could harm our financial condition and operating results;
We are subject to risks relating to product concentration and lack of revenue diversification;
We rely on a limited number of independent third parties to manufacture and supply our products;
Growth may be impeded by the political and economic risks of entering and operating in foreign markets;
We are subject to anti-bribery laws, including the U.S. Foreign Corrupt Practices Act;
Recently enacted tariffs, other potential changes to tariff and import/export regulations, and ongoing trade disputes between the United States and other jurisdictions, particularly China, may have a negative effect on global economic conditions and our business, financial results and financial condition;
We may be held responsible for certain taxes or assessments relating to the activities of our members and service providers, which could harm our financial condition and operating results;




We may be unable to protect or use our intellectual property rights;
We do not have a comprehensive product liability insurance program and product liability claims could hurt our business;
We identified a material weakness in our internal control over financial reporting. If we do not adequately address this material weakness or if other material weaknesses or significant deficiencies in our internal control over financial reporting are discovered, our financial statements could contain material misstatements and our business, operations and stock price may be adversely affected;
We rely on and are subject to risks associated with our reliance upon information technology systems;
System disruptions or failures, cybersecurity risks, and compromises of data could harm our business;
Our systems, software and data reside on third-party servers, exposing us to risks that disruption or intrusion of those servers could temporarily or permanently interrupt our access and damage our business;
Terrorist attacks, acts of war, epidemics or natural disasters may seriously harm our business;
We may experience negative cash flows, which may require that we seek debt or equity financing and could have a significant adverse effect on our business and threaten our solvency;
Disappointing quarterly revenue or operating results could cause the price of our common stock to fall;
Our common stock is particularly subject to volatility because of the industry in which we operate;
Our common stock continues to experience wide fluctuations in trading volumes and prices. This may make it more difficult for holders of our common stock to sell shares when they want and at prices they find attractive; and
Future sales by us or our existing stockholders could depress the market price of our common stock.

Additional factors that could cause actual results to differ materially from our forward-looking statements are set forth in this report, including under the headings “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and in our financial statements and the related notes.




PART I - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
  
NATURAL HEALTH TRENDS CORP.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data) 
 
September 30, 2019
 
December 31, 2018
 
(Unaudited)
 
 
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
101,113

 
$
132,653

Inventories
7,999

 
12,165

Other current assets
6,997

 
5,369

Total current assets
116,109

 
150,187

Property and equipment, net
821

 
934

Operating lease right-of-use assets
3,515



Goodwill
1,764

 
1,764

Restricted cash
2,881

 
2,998

Deferred tax asset
1,210

 
1,207

Other assets
807

 
831

Total assets
$
127,107

 
$
157,921

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
627

 
$
1,631

Accrued commissions
3,798

 
12,502

Other accrued expenses
3,392

 
6,121

Deferred revenue
3,302

 
6,795

Amounts held in eWallets
13,090

 
14,611

Operating lease liabilities
1,689



Other current liabilities
1,188

 
1,424

Total current liabilities
27,086

 
43,084

Income taxes payable
15,365

 
16,982

Deferred tax liability
186

 
186

Long-term incentive

 
7,808

Operating lease liabilities
1,903



Total liabilities
44,540

 
68,060

Commitments and contingencies (Note 9)

 

Stockholders’ equity:
 
 
 
Preferred stock, $0.001 par value; 5,000,000 shares authorized; no shares issued and outstanding

 

Common stock, $0.001 par value; 50,000,000 shares authorized; 12,979,414 shares issued at September 30, 2019 and December 31, 2018
13

 
13

Additional paid-in capital
86,102

 
86,415

Retained earnings
23,567

 
44,431

Accumulated other comprehensive loss
(1,764
)
 
(1,250
)
Treasury stock, at cost; 1,459,090 and 1,603,322 shares at September 30, 2019 and December 31, 2018, respectively
(25,351
)
 
(39,748
)
Total stockholders’ equity
82,567

 
89,861

Total liabilities and stockholders’ equity
$
127,107

 
$
157,921


See accompanying notes to consolidated financial statements.

1



NATURAL HEALTH TRENDS CORP. 
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(In thousands, except per share data)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2019
 
2018
 
2019
 
2018
Net sales
$
17,023

 
$
47,043

 
$
59,779

 
$
150,320

Cost of sales
4,371

 
9,926

 
15,002

 
30,546

Gross profit
12,652

 
37,117

 
44,777

 
119,774

Operating expenses:
 
 
 
 
 
 
 
Commissions expense
7,362

 
22,001

 
28,258

 
67,291

Selling, general and administrative expenses
6,354

 
7,269

 
20,296

 
24,484

Total operating expenses
13,716

 
29,270

 
48,554

 
91,775

Income (loss) from operations
(1,064
)
 
7,847

 
(3,777
)
 
27,999

Other income, net
323

 
249

 
1,128

 
465

Income (loss) before income taxes
(741
)
 
8,096

 
(2,649
)
 
28,464

Income tax provision
502

 
467

 
120

 
2,988

Net income (loss)
$
(1,243
)
 
$
7,629

 
$
(2,769
)
 
$
25,476

Net income (loss) per common share:
 
 
 
 
 
 
 
Basic
$
(0.12
)
 
$
0.67

 
$
(0.25
)
 
$
2.25

Diluted
$
(0.12
)
 
$
0.67

 
$
(0.25
)
 
$
2.25

Weighted-average number of common shares outstanding:
 
 
 
 
 
 
 
Basic
10,623

 
11,309

 
11,010

 
11,298

Diluted
10,623

 
11,322

 
11,010

 
11,307

 
See accompanying notes to consolidated financial statements.
 

2



NATURAL HEALTH TRENDS CORP.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (UNAUDITED)
(In thousands)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2019
 
2018
 
2019
 
2018
Net income (loss)
$
(1,243
)
 
$
7,629

 
$
(2,769
)
 
$
25,476

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
Foreign currency translation adjustment
(584
)
 
(433
)
 
(537
)
 
(798
)
Unrealized gains on available-for-sale securities
12

 
5

 
23

 
9

Comprehensive income (loss)
$
(1,815
)
 
$
7,201

 
$
(3,283
)
 
$
24,687

 
See accompanying notes to consolidated financial statements.
 

3



NATURAL HEALTH TRENDS CORP.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (UNAUDITED)
(In Thousands, Except Share Data)

Nine months ended September 30, 2019
 
Preferred Stock
 
Common Stock
 
Additional
Paid-In
Capital
 
Retained Earnings
 
Accumulated
Other
Comprehensive
(Loss) Income
 
Treasury Stock
 
 
 
Shares
 
Amount
 
Shares
 
Amount
 
 
 
 
Shares
 
Amount
 
Total
BALANCE, December 31, 2018

 
$

 
12,979,414

 
$
13

 
$
86,415

 
$
44,431

 
$
(1,250
)
 
(1,603,322
)
 
$
(39,748
)
 
$
89,861

Net loss

 

 

 

 

 
(1,923
)
 

 

 

 
(1,923
)
Common stock issued

 

 

 

 
(166
)
 

 

 
22,603

 
543

 
377

Dividends declared, $0.24/share

 

 

 

 

 
(2,736
)
 

 

 

 
(2,736
)
Foreign currency translation adjustments

 

 

 

 

 

 
259

 

 

 
259

Unrealized gains on available-for-sale securities

 

 

 

 

 

 
17

 

 

 
17

BALANCE, March 31, 2019

 

 
12,979,414

 
13

 
86,249

 
39,772

 
(974
)
 
(1,580,719
)
 
(39,205
)
 
85,855

Net income

 

 

 

 

 
397

 

 

 

 
397

Repurchase of common stock

 

 

 

 

 

 

 
(612,729
)
 
(6,682
)
 
(6,682
)
Foreign currency translation adjustments

 

 

 

 

 

 
(212
)
 

 

 
(212
)
Unrealized losses on available-for-sale securities

 

 

 

 

 

 
(6
)
 

 

 
(6
)
BALANCE, June 30, 2019

 

 
12,979,414

 
13

 
86,249

 
40,169

 
(1,192
)
 
(2,193,448
)
 
(45,887
)
 
79,352

Net loss

 

 

 

 

 
(1,243
)
 

 

 

 
(1,243
)
Repurchase of common stock

 

 

 

 

 

 

 
(383,127
)
 
(2,882
)
 
(2,882
)
Common stock issued

 

 

 

 
(147
)
 
(15,359
)
 

 
1,117,485

 
23,418

 
7,912

Foreign currency translation adjustments

 

 

 

 

 

 
(584
)
 

 

 
(584
)
Unrealized gains on available-for-sale securities

 

 

 

 

 

 
12

 

 

 
12

BALANCE, September 30, 2019

 
$

 
12,979,414

 
$
13

 
$
86,102

 
$
23,567

 
$
(1,764
)
 
(1,459,090
)
 
$
(25,351
)
 
$
82,567


4




Nine months ended September 30, 2018
 
Preferred Stock
 
Common Stock
 
Additional
Paid-In
Capital
 
Retained Earnings
 
Accumulated
Other
Comprehensive
(Loss) Income
 
Treasury Stock
 
 
 
Shares
 
Amount
 
Shares
 
Amount
 
 
 
 
Shares
 
Amount
 
Total
BALANCE, December 31, 2017

 
$

 
12,979,414

 
$
13

 
$
86,683

 
$
44,908

 
$
(413
)
 
(1,637,524
)
 
$
(40,570
)
 
$
90,621

Net income

 

 

 

 

 
8,824

 

 

 

 
8,824

Common stock issued

 

 

 

 
(268
)
 

 

 
34,202

 
822

 
554

Dividends declared, $0.13/share

 

 

 

 

 
(1,479
)
 

 

 

 
(1,479
)
Foreign currency translation adjustments

 

 

 

 

 

 
397

 

 

 
397

Unrealized losses on available-for-sale securities

 

 

 

 

 

 
(11
)
 

 

 
(11
)
BALANCE, March 31, 2018

 

 
12,979,414

 
13

 
86,415

 
52,253

 
(27
)
 
(1,603,322
)
 
(39,748
)
 
98,906

Net income

 

 

 

 

 
9,023

 

 

 

 
9,023

Dividends declared, $1.90/share

 

 

 

 

 
(21,614
)
 

 

 

 
(21,614
)
Foreign currency translation adjustments

 

 

 

 

 

 
(762
)
 

 

 
(762
)
Unrealized gains on available-for-sale securities

 

 

 

 

 

 
15

 

 

 
15

BALANCE, June 30, 2018

 

 
12,979,414

 
13

 
86,415

 
39,662

 
(774
)
 
(1,603,322
)
 
(39,748
)
 
85,568

Net income

 

 

 

 

 
7,629

 

 

 

 
7,629

Dividends declared, $0.40/share

 

 

 

 

 
(4,551
)
 

 

 

 
(4,551
)
Foreign currency translation adjustments

 

 

 

 

 

 
(433
)
 

 

 
(433
)
Unrealized gains on available-for-sale securities

 

 

 

 

 

 
5

 

 

 
5

BALANCE, September 30, 2018

 
$

 
12,979,414

 
$
13

 
$
86,415

 
$
42,740

 
$
(1,202
)
 
(1,603,322
)
 
$
(39,748
)
 
$
88,218


See accompanying notes to consolidated financial statements.


5



NATURAL HEALTH TRENDS CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
 
 
Nine Months Ended September 30,
 
2019
 
2018
CASH FLOWS FROM OPERATING ACTIVITIES:
 
 
 
Net income (loss)
$
(2,769
)
 
$
25,476

Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
 
 
 
Depreciation and amortization
290

 
332

Noncash lease expense
1,336



Deferred income taxes
(3
)
 

Changes in assets and liabilities:
 
 
 
Inventories
4,104

 
(2,828
)
Other current assets
(1,674
)
 
2,548

Other assets
2

 
(83
)
Accounts payable
(1,002
)
 
967

Accrued commissions
(8,683
)
 
2,003

Other accrued expenses
(1,779
)
 
314

Deferred revenue
(3,485
)
 
26

Amounts held in eWallets
(1,508
)
 
(930
)
Operating lease liabilities
(1,392
)


Income taxes payable
(1,617
)

(2,201
)
Other current liabilities
(235
)
 
438

Long-term incentive
(333
)
 
(800
)
Net cash provided by (used in) operating activities
(18,748
)
 
25,262

CASH FLOWS FROM INVESTING ACTIVITIES:
 
 
 
Purchases of property and equipment
(181
)
 
(176
)
Net cash used in investing activities
(181
)
 
(176
)
CASH FLOWS FROM FINANCING ACTIVITIES:
 
 
 
Repurchase of common stock
(9,564
)
 

Dividends paid
(2,736
)
 
(27,644
)
Net cash used in financing activities
(12,300
)
 
(27,644
)
Effect of exchange rates on cash, cash equivalents and restricted cash
(428
)
 
(711
)
Net decrease in cash, cash equivalents and restricted cash
(31,657
)
 
(3,269
)
CASH, CASH EQUIVALENTS AND RESTRICTED CASH, beginning of period
135,651

 
138,478

CASH, CASH EQUIVALENTS AND RESTRICTED CASH, end of period
$
103,994

 
$
135,209

SUPPLEMENTAL DISCLOSURES OF OTHER CASH FLOW INFORMATION:
 
 
 
Issuance of treasury stock for employee awards, net
$
8,289

 
$
554

Right-of-use assets obtained in exchange for operating lease liabilities
$
5,058


$

 
See accompanying notes to consolidated financial statements.

6



NATURAL HEALTH TRENDS CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

1. NATURE OF OPERATIONS, BASIS OF PRESENTATION AND CONSOLIDATION

Nature of Operations 
 
Natural Health Trends Corp., a Delaware corporation (whether or not including its subsidiaries, the “Company”), is an international direct-selling and e-commerce company. Subsidiaries controlled by the Company sell personal care, wellness, and “quality of life” products under the “NHT Global” brand.

The Company’s wholly-owned subsidiaries have an active physical presence in the following markets: the Americas, which consists of the United States, Canada, Cayman Islands, Mexico and Peru; Greater China, which consists of Hong Kong, Taiwan and China; Southeast Asia, which consists of Singapore, Malaysia, Thailand and Vietnam; South Korea; Japan; India; and Europe. The Company also operates in Russia and Kazakhstan through an engagement with a local service provider.

Basis of Presentation 
 
The unaudited interim consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. As a result, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. In the opinion of management, the accompanying unaudited interim consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, considered necessary for a fair statement of the Company’s financial information for the interim periods presented. The results of operations of any interim period are not necessarily indicative of the results of operations to be expected for the fiscal year. These consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company’s 2018 Annual Report on Form 10-K filed with the United States Securities and Exchange Commission (SEC) on April 26, 2019.

Principles of Consolidation
 
The consolidated financial statements include the accounts of the Company and all of its wholly-owned subsidiaries. All significant inter-company balances and transactions have been eliminated in consolidation.

Reclassification

Certain prior year amounts in the balance sheet have been reclassified to conform to current year presentation.

Recent Accounting Pronouncements

In February 2016, the FASB established Topic 842, Leases, by issuing ASU No. 2016-02, which requires lessees to recognize the rights and obligations created by leases on the balance sheet and disclose key information about leasing arrangements. Topic 842 was subsequently amended by ASU No. 2018-11, Targeted Improvements, ASU No. 2018-10, Codification Improvements to Topic 842, and ASU No. 2018-01, Land Easement Practical Expedient for Transition to Topic 842. The new standard establishes a right-of-use (ROU) model that requires a lessee to recognize a ROU asset and lease liability on the balance sheet for all leases with a term longer than 12 months. Leases are classified as finance or operating, with classification affecting the pattern and classification of expense recognition in the statement of operations. Effective January 1, 2019, the Company adopted the new standard using the effective date as its date of initial application. The new standard provided a number of optional practical expedients in transition. The Company elected the “package of practical expedients”, which permits entities not to reassess under the new lease standard prior conclusions about lease identification, lease classification and initial direct costs. Upon adoption, the Company recognized operating lease liabilities on its balance sheet for $4.5 million, with corresponding ROU assets of the same amount based on the present value of the remaining minimum rental payments under current leasing standards for existing operating leases. See Note 7 for additional information.

In August 2018, the SEC issued Release No. 33-10532 that amends and clarifies certain financial reporting requirements. The principal change to the Company’s financial reporting is the requirement to disclose in interim periods on Form 10-Q the changes in stockholder’s equity as prescribed by Rule 3-04 of Regulation S-X.


7



Other recently issued accounting pronouncements did not or are not believed by management to have a material impact on the Company’s present or future financial statements.

2. REVENUE

Revenue Recognition

All revenue is recognized when the performance obligations under a contract are satisfied. Product sales are recognized when the products are shipped and title passes to independent members. Product sales to members are made pursuant to a member agreement that provides for transfer of both title and risk of loss upon the Company’s delivery to the carrier that completes delivery to the members, which is commonly referred to as “F.O.B. Shipping Point.” The Company’s sales arrangements do not contain right of inspection or customer acceptance provisions other than general rights of return. These contracts are generally short-term in nature.
 
Actual product returns are recorded as a reduction to net sales. The Company estimates and accrues a reserve for product returns based on its return policies and historical experience. The reserve is based upon the return policy of each country, which varies from 14 days to one year, and their historical return rates, which range from 1% to 5% of sales.  Sales returns were 2% of sales for each of the nine months ended September 30, 2019 and 2018, respectively.  No material changes in estimates have been recognized during the periods presented. See Note 4 for additional information.
 
The Company has elected to account for shipping and handling activities performed after title has passed to members as a fulfillment cost, and accrues for the costs of shipping and handling if revenue is recognized before the contractually obligated shipping and handling activities occurs. Shipping charges billed to members are included in net sales. Costs associated with shipments are included in cost of sales. Event and training revenue is deferred and recognized as the event or training occurs. Costs of events and member training are included within selling, general and administrative expenses.

Various taxes on the sale of products to members are collected by the Company as an agent and remitted to the respective taxing authority. These taxes are presented on a net basis and recorded as a liability until remitted to the respective taxing authority.

Deferred Revenue

The Company primarily receives payment by credit card at the time members place orders. Amounts received for unshipped product are considered a contract liability and are recorded as deferred revenue. The decrease in deferred revenue for the three months ended September 30, 2019 is primarily due to $1.2 million of revenue recognized during the quarter that was included in deferred revenue as of June 30, 2019 offset by $1.1 million of cash payments received for unshipped product during the third quarter. See Note 4 for additional information.

Disaggregation of Revenue

The Company sells products to a member network that operates in a seamless manner from market to market, except for the Chinese market where it sells to consumers through an e-commerce retail platform and the Russia and Kazakhstan market where the Company operates through an engagement of a third-party service provider.


8



The following table sets forth revenue by market for the periods indicated (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2019
 
2018
 
2019
 
2018
Americas1
$
1,445

 
8.5
%
 
$
1,970

 
4.2
%
 
$
4,353

 
7.3
%
 
$
5,361

 
3.6
%
Hong Kong2
13,575

 
79.7

 
41,447

 
88.1

 
48,465

 
81.0

 
133,681

 
88.9

China
525

 
3.1

 
1,698

 
3.6

 
2,138

 
3.6

 
5,510

 
3.7

Taiwan
649

 
3.8

 
935

 
2.0

 
2,340

 
3.9

 
2,933

 
1.9

South Korea
98

 
0.6

 
133

 
0.3

 
288

 
0.5

 
392

 
0.3

Japan
47

 
0.3

 
51

 
0.1

 
141

 
0.2

 
160

 
0.1

Singapore
13

 
0.1

 
52

 
0.1

 
43

 
0.1

 
134

 
0.1

Malaysia
51

 
0.3

 
216

 
0.5

 
170

 
0.3

 
316

 
0.2

Russia and Kazakhstan
244

 
1.4

 
184

 
0.4

 
662

 
1.1

 
626

 
0.4

Europe
343

 
2.0

 
357

 
0.7

 
1,017

 
1.7

 
1,207

 
0.8

India
33

 
0.2

 

 

 
162

 
0.3

 

 

Total
$
17,023

 
100.0
%
 
$
47,043

 
100.0
%
 
$
59,779

 
100.0
%
 
$
150,320

 
100.0
%

1 United States, Canada, Mexico and Peru
2 Substantially all of our Hong Kong revenues are derived from the sale of products that are delivered to members in China. See “Item 1A. Risk Factors” in this report and in our most recent Annual Report on Form 10-K.

The Company’s net sales by product and service are as follows (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2019
 
2018
 
2019
 
2018
Product sales
$
15,732

 
$
44,434

 
$
56,355

 
$
142,258

Freight and other
1,468

 
3,365

 
4,713

 
10,550

Less: sales returns
(177
)
 
(756
)
 
(1,289
)
 
(2,488
)
Total net sales
$
17,023

 
$
47,043

 
$
59,779

 
$
150,320



Concentration

No single market other than Hong Kong had net sales greater than 10% of total net sales. Sales are made to the Company’s members and no single customer accounted for 10% or more of net sales for the three and nine months ended September 30, 2019 and 2018. However, the Company’s business model can result in a concentration of sales to several different members and their network of members. Although no single member accounted for 10% or more of net sales, the loss of a key member or that member’s network could have an adverse effect on the Company’s net sales and financial results.

Arrangements with Multiple Performance Obligations

The Company’s contracts with customers may include multiple performance obligations. For such arrangements, the Company allocates revenues to each performance obligation based on its relative standalone selling price. The Company generally determines standalone selling prices based on the prices charged for individual products to similar customers.

Practical Expedients

The Company generally expenses sales commissions when incurred because the amortization period would have been one year or less. These costs are recorded in commissions expense.

The Company does not provide certain disclosures about unsatisfied performance obligations for contracts with an original expected length of one year or less.


9



3. NET INCOME (LOSS) PER COMMON SHARE

Diluted net income per common share is determined using the weighted-average number of common shares outstanding during the period, adjusted for the dilutive effect of common stock equivalents. The dilutive effect of non-vested restricted stock is reflected by application of the treasury stock method. Under the treasury stock method, the amount of compensation cost for future service that the Company has not yet recognized, if any, is assumed to be used to repurchase shares.

The following tables illustrate the computation of basic and diluted net income (loss) per common share for the periods indicated (in thousands, except per share data): 
 
Three Months Ended September 30,
 
2019
 
2018
 
Income (loss)
(Numerator)
 
Shares
(Denominator)
 
Per Share Amount
 
Income (loss)
(Numerator)
 
Shares
(Denominator)
 
Per Share Amount
Basic net income (loss) per common share:
 
 
 
 
 
 
 
 
 
 
 
Net income (loss) available to common stockholders
$
(1,243
)
 
10,623

 
$
(0.12
)
 
$
7,629

 
11,309

 
$
0.67

Effect of dilutive securities:
 
 
 
 
 
 
 
 
 
 
 
Non-vested restricted stock

 

 
 

 

 
13

 
 

Diluted net income per common share:
 
 
 
 
 
 
 
 
 
 
 
Net income available to common stockholders plus assumed conversions
$
(1,243
)
 
10,623

 
$
(0.12
)
 
$
7,629

 
11,322

 
$
0.67

 
 
 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
2019
 
2018
 
Income
(Numerator)
 
Shares
(Denominator)
 
Per Share Amount
 
Income
(Numerator)
 
Shares
(Denominator)
 
Per Share Amount
Basic net income (loss) per common share:
 
 
 
 
 
 
 
 
 
 
 
Net income (loss) available to common stockholders
$
(2,769
)
 
11,010

 
$
(0.25
)
 
$
25,476

 
11,298

 
$
2.25

Effect of dilutive securities:
 
 
 
 
 
 
 
 
 
 
 
Non-vested restricted stock

 

 
 

 

 
9

 
 

Diluted net income per common share:
 
 
 
 
 
 
 
 
 
 
 
Net income (loss) available to common stockholders plus assumed conversions
$
(2,769
)
 
11,010

 
$
(0.25
)
 
$
25,476

 
11,307

 
$
2.25



In periods when losses are reported, the weighted-average number of common shares outstanding excludes common stock equivalents because their inclusion would be anti-dilutive. As such, non-vested restricted stock totaling 672,231 and 263,289 shares were not included for the three and nine months ended September 30, 2019, respectively.


10



4. BALANCE SHEET COMPONENTS

The components of certain balance sheet amounts are as follows (in thousands):
 
September 30, 2019
 
December 31, 2018
Cash, cash equivalents and restricted cash:
 
 
 
Cash
$
17,711

 
$
47,323

Cash equivalents
83,402

 
85,330

 
101,113

 
132,653

Restricted cash
2,881

 
2,998

 
$
103,994

 
$
135,651

Inventories:
 
 
 
Finished goods
$
7,817

 
$
11,171

Raw materials
1,104

 
1,145

Reserve for obsolescence
(922
)
 
(151
)
 
$
7,999

 
$
12,165

Other accrued expenses:
 
 
 
Sales returns
$
290

 
$
801

Employee-related expense
1,998

 
4,051

Warehousing, inventory-related and other
1,104

 
1,269

 
$
3,392

 
$
6,121

Deferred revenue:
 
 
 
Unshipped product
$
1,171

 
$
4,574

Auto ship advances
1,983

 
1,876

Other
148

 
345

 
$
3,302

 
$
6,795



5. FAIR VALUE MEASUREMENTS

As of September 30, 2019, cash and cash equivalents include the Company’s investments in municipal and corporate debt securities, money market funds, and time deposits. The Company considers all highly liquid investments with original maturities of three months or less when purchased and have insignificant interest rate risk to be cash equivalents.  Debt securities classified as cash equivalents are required to be accounted for in accordance with the FASB Accounting Standards Codification (“ASC”) 320, Investments - Debt and Equity Securities. As such, the Company determined its investments in debt securities held at September 30, 2019 should be classified as available-for-sale and are carried at fair value with unrealized gains and losses reported in accumulated other comprehensive income in stockholders’ equity. The cost of debt securities is adjusted for amortization of premiums and discounts to maturity. This amortization is included in other income. Realized gains and losses, as well as interest income, are also included in other income. The fair values of securities are based on quoted market prices to the extent available or alternative pricing sources and models utilizing market observable inputs.

The carrying amounts of the Company’s financial instruments, including cash and accounts payable, approximate fair value because of their short maturities. The carrying amount of the noncurrent restricted cash approximates fair value since, absent the restrictions, the underlying assets would be included in cash and cash equivalents.
 
Accounting standards permit companies, at their option, to choose to measure many financial instruments and certain other items at fair value.  The Company has elected to not fair value existing eligible items.


11



Investments by significant category included in cash equivalents at the end of each period were as follows (in thousands):
 
 
September 30, 2019
 
December 31, 2018
 
Fair Value Level1
Adjusted Cost
 
Gross Unrealized Losses
 
Fair Value
 
Adjusted Cost
 
Gross Unrealized Losses
 
Fair Value
Money market funds
Level 1
$
30,810

 
$

 
$
30,810

 
$
3,281

 
$

 
$
3,281

Time deposits
Level 2
14,904

 

 
14,904

 
18,071

 

 
18,071

Municipal debt securities
Level 2
3,432

 
1

 
3,433

 
12,149

 
(7
)
 
12,142

Corporate debt securities
Level 2
34,266

 
(11
)
 
34,255

 
51,862

 
(26
)
 
51,836

Total investments
 
$
83,412

 
$
(10
)
 
$
83,402

 
$
85,363

 
$
(33
)
 
$
85,330

 
1 FASB Topic 820, Fair Value Measurements, establishes a fair value hierarchy that requires the use of observable market data, when available, and prioritizes the inputs to valuation techniques used to measure fair value in the following categories:
Level 1: Quoted market prices in active markets for identical assets or liabilities.
Level 2: Observable market-based inputs or unobservable inputs that are corroborated by market data.
Level 3: Unobservable inputs that are not corroborated by market data.

6. STOCKHOLDERS’ EQUITY
 
Dividends

The following table summarizes the Company’s cash dividend activity for the nine months ended September 30, 2019 (in thousands, except per share data):
Declaration Date
 
Per Share
 
Amount
 
Record Date
 
Payment Date
January 27, 2019 (special)
 
0.08

 
$
912

 
March 5, 2019
 
March 15, 2019
January 27, 2019
 
0.16

 
$
1,824

 
March 5, 2019
 
March 15, 2019
 
 
$
0.24

 
$
2,736

 
 
 
 


Declaration and payment of any future dividends on shares of common stock will be at the discretion of the Company’s Board of Directors.

Stock Repurchases

On January 12, 2016, the Board of Directors authorized an increase to the Company’s stock repurchase program first approved on July 28, 2015 from $15.0 million to $70.0 million. Repurchases are expected to be executed to the extent that the Company’s earnings and cash-on-hand allow, and will be made in accordance with all applicable securities laws and regulations, including Rule 10b-18 of the Exchange Act. For all or a portion of the authorized repurchase amount, the Company may enter into one or more plans that are compliant with Rule 10b5-1 of the Exchange Act that are designed to facilitate these purchases. The stock repurchase program does not require the Company to acquire a specific number of shares, and may be suspended from time to time or discontinued.

On May 16, 2019, the Company’s Board of Directors authorized the Company to proceed with the purchase of up to $8.0 million in shares of common stock under the foregoing stock repurchase program. In connection therewith, the Company was advised that George K. Broady, a director of the Company and beneficial owner of more than 5% of its outstanding shares of common stock, would participate in the stock repurchase program on a basis roughly proportional to his family’s ownership interest. See Note 10.

During May 2019, the Company authorized its broker to proceed with the purchase of shares of the Company’s common stock in the open market for a total purchase price of $4.7 million in accordance with all applicable securities laws and regulations, including Rule 10b-18 of the Exchange Act. The open market repurchases were completed on May 31, 2019. The stock repurchases, which included both open market purchases and the purchase of shares from Mr. Broady, resulted in the Company purchasing a total of 612,729 shares of its common stock for an aggregate purchase price of $6.7 million, plus transaction costs.

12




On August 6, 2019, the Company’s Board of Directors authorized the Company to proceed with purchases under the foregoing stock repurchase program in the open market in accordance with all applicable securities laws and regulations, including Rule 10b-18 of the Exchange Act. During August and September 2019, the Company purchased a total of 383,127 shares of common stock in the open market for an aggregate purchase price of $2.9 million, plus transaction costs.

As of September 30, 2019, $22.4 million of the $70.0 million stock repurchase program approved on July 28, 2015 and increased on January 12, 2016 remained available for future purchases, inclusive of related estimated income tax.

Restricted Stock

At the Company’s annual meeting of stockholders held on April 7, 2016, the Company’s stockholders approved the Natural Health Trends Corp. 2016 Equity Incentive Plan (the “2016 Plan”) to replace its 2007 Equity Incentive Plan. The 2016 Plan allows for the grant of various equity awards including incentive stock options, non-statutory options, stock, stock units, stock appreciation rights and other similar equity-based awards to the Company’s employees, officers, non-employee directors, contractors, consultants and advisors of the Company. Up to 2,500,000 shares of the Company’s common stock (subject to adjustment under certain circumstances) may be issued pursuant to awards granted. At September 30, 2019, 1,219,583 shares remained available for issuance under the 2016 Plan.

On February 1, 2019, the Company granted 22,603 shares of restricted common stock under the 2016 Plan to certain employees for the purpose of further aligning their interests with those of its stockholders and settling fiscal 2018 performance incentives totaling $377,000. The shares vest on a quarterly basis over the next three years and are subject to forfeiture in the event of their termination of service to the Company under specified circumstances.

On August 9, 2019, the Company granted 1,117,485 shares of restricted stock under the 2016 Plan to certain employees for the purpose of further aligning their interests with those of its stockholders and settling unpaid cash incentives of $7.9 million under the 2014 Long-Term Incentive Plan with respect to performance periods that concluded on or prior to December 31, 2018.

The following table summarizes the Company’s restricted stock activity under the 2016 Plan:
 
Shares
 
Wtd. Avg. Price at Date of Issuance
Nonvested at December 31, 2018
45,486

 
$
21.61

Granted
1,140,088

 
7.27

Vested
(125,405
)
 
11.07

Nonvested at September 30, 2019
1,060,169

 
7.44



Accumulated Other Comprehensive Loss
 
The changes in accumulated other comprehensive loss by component for the first nine months of 2019 were as follows (in thousands):
 
Foreign Currency Translation Adjustment
 
Unrealized Gains/(Losses) on Available-For-Sale Investments
 
Total
Balance, December 31, 2018
$
(1,217
)
 
$
(33
)
 
$
(1,250
)
Other comprehensive income (loss)
(537
)
 
23

 
(514
)
Balance, September 30, 2019
$
(1,754
)
 
$
(10
)
 
$
(1,764
)


7. LEASES

The Company leases 9,600 square feet of office space in Hong Kong with a term expiring in February 2021. The Company leases 4,900 square feet of office space in Rolling Hills Estates, California with a term expiring in September 2025. To help further develop the market for its products in North America, the Company leases 2,400, 1,600 and 2,000 square feet of retail space in Monterey Park, California, Richmond, British Columbia, and Metuchen, New Jersey, respectively. The Monterey

13



Park, Richmond and Metuchen locations have terms expiring in August 2020, February 2021, and November 2022, respectively.

The Company leases nine branch offices throughout China, and additional office space in Peru, Japan, Taiwan, South Korea, Singapore, Malaysia, Vietnam, Indonesia, Thailand, India, and the Cayman Islands. The Company also leases a multi-purpose facility and factory in Zhongshan, China and 11 service stations throughout the city of Guangzhou, China that serve or will in the future serve the needs of its Chinese consumers. The Company contracts with third parties for fulfillment and distribution operations in all of its international markets. None of the Company’s third party logistics contracts contain a lease as the Company does not have the right to access the warehouses or move its inventories at will.

The components of lease cost for the three months and nine months ended September 30, 2019 were as follows (in thousands):
 
Three Months Ended September 30, 2019
 
Nine Months Ended September 30, 2019
Operating leases
$
512

 
$
1,544

Short-term leases
73

 
201

Total lease cost
$
585

 
$
1,745



Cash paid for amounts included in the measurement of operating leases liabilities was $459,000 and $1.5 million for the three months and nine months ended September 30, 2019, respectively.

The weighted-average remaining lease term and discount rate related to operating leases as of September 30, 2019 were as follows:
Weighted-average remaining lease term (in years)
3.2

Weighted-average discount rate
5.5
%


As most of our leases do not provide an implicit rate, the Company used its incremental borrowing rate, or the rate of each of its subsidiaries if available, based on the information available at the lease commencement date to determine the present value of lease payments.

The annual scheduled lease payments of our operating lease liabilities as of September 30, 2019 were as follows (in thousands):
Remainder of 2019
$
473

2020
1,717

2021
730

2022
427

2023
245

Thereafter
400

Total lease payments
$
3,992

Less: imputed interest
(400
)
Present value of lease liabilities
$
3,592



For all asset classes, the Company elected not to recognize assets or liabilities at the acquisition date for leases that, at the acquisition date, have a remaining lease term of 12 months or less. Additionally, for all asset classes, the Company choose not to separate nonlease components from lease components and instead account for the combined lease and nonlease components associated with that lease component as a single lease component.

8. INCOME TAXES

The effective income tax rate for the three and nine months ended September 30, 2019 was impacted by recording the effect of the Tax Cuts and Jobs Act (the “Tax Act”) enacted on December 22, 2017 by the U.S. government, which makes broad and complex changes to the Internal Revenue Code of 1986, as amended.


14



On December 22, 2017, the Securities and Exchange Commission staff issued Staff Accounting Bulletin No. 118 (“SAB 118”), which provides guidance on accounting for tax effects of the Tax Act. SAB 118 provided a measurement period that should not extend beyond one year from the Tax Act enactment date for companies to complete the accounting under ASC 740, Income Taxes. In accordance with the expiration of the SAB 118 measurement period, we completed the assessment of the income tax effect of the Tax Act for the year ended December 31, 2017 in the fourth quarter of tax year 2018. All adjustments recorded to the provisional amounts have been included as an adjustment to income tax expense.

As a result of the Tax Act, the Company could be subject to additional income tax expense due to the Global Intangible Low Taxed Income inclusion on current net income of greater than 10% owned controlled foreign corporations (“GILTI”). To determine the amount of GILTI inclusion, the Company must determine, in addition to other factors, the current earnings of controlled foreign corporations, as well as the amount of foreign taxes paid by the foreign entities. The law provides that corporate taxpayers may benefit from a 50% reduction in the GILTI inclusion which effectively reduces the 21% U.S. corporate tax rate on the foreign income to an effective rate of 10.5%. The 50% reduction, however, is limited if the U.S. shareholder has current domestic losses or is utilizing net operating losses. The GILTI inclusion further provides for a foreign tax credit in connection with the foreign taxes paid. The Company is not expected to have any GILTI inclusion for the year ended December 31, 2019.

As of September 30, 2019, the Company does not have a valuation allowance against its U.S. deferred tax assets. The Company analyzed all sources of available income and determined that they are more likely than not to realize the tax benefits of their deferred assets. As of September 30, 2019, any attributes generated from a U.S. federal net operating loss for the year ended December 31, 2019 are expected to be fully utilized.

As of September 30, 2019, the Company has a valuation allowance against certain foreign deferred tax assets. The Company is recording a valuation allowance in foreign jurisdictions with an overall net operating loss. The valuation allowance will be reduced at such time as management believes it is more likely than not that the deferred tax assets will be realized. Any reductions in the valuation allowance will reduce future income tax provision. At December 31, 2018, the Company had foreign net operating loss carryforwards of approximately $1.2 million in various jurisdictions with various expirations.

As a result of capital return activities, the Company determined that a portion of its current undistributed foreign earnings is no longer deemed reinvested indefinitely by its non-U.S. subsidiaries. For state income tax purposes, the Company will continue to periodically reassess the needs of its foreign subsidiaries and update its indefinite reinvestment assertion as necessary. To the extent that additional foreign earnings are not deemed permanently reinvested, the Company expects to recognize additional income tax provision at the applicable state corporate income tax rate. As of September 30, 2019, the Company has recorded a state deferred tax liability for earnings that the Company plans to repatriate out of accumulated earnings in future periods. Due to the Tax Act, repatriation from foreign subsidiaries will be offset with a dividends received deduction, resulting in little to no impact on federal tax expense. All undistributed earnings in excess of 50% of current earnings on an annual basis are intended to be reinvested indefinitely as of September 30, 2019. During 2019, a loan was issued by the Company to one of its controlled foreign corporations that exceeded 50% of current earnings. This transaction is tax-free for federal income tax purposes and the state tax impact is insignificant to the consolidated financial statements.

The Company and its subsidiaries file tax returns in the United States, California, New Jersey and Texas and various foreign jurisdictions. During the fourth quarter of 2018, the Company was notified that it was selected for audit of the 2016 tax year by the U.S. Internal Revenue Service. For purposes of this audit, fiscal years 2007 through 2016 are open for examination by tax authorities as a result of net operating loss carryovers from older years being used to offset income in recent tax years. No adjustments have been proposed at this time. The Company is no longer subject to state income tax examinations for years prior to 2014. No other jurisdictions are currently examining any income tax returns of the Company.


15



9. COMMITMENTS AND CONTINGENCIES

On January 8, 2019, the Company and its two executive officers were named in a putative securities class action filed in the United States District Court for the Central District of California, captioned Kauffman v. Natural Health Trends Corp., Case No. 2:19-cv-00163. The complaint purports to assert claims on behalf of all persons who purchased or otherwise acquired our common stock between April 27, 2016 and January 5, 2019, inclusive, under (i) Section 10(b) of the Securities Exchange Act of 1934 (“Exchange Act”) and Rule 10b-5 promulgated thereunder against the Company and Chris T. Sharng and Timothy S. Davidson (together, the “Individual Defendants”), and (ii) Section 20(a) of the Exchange Act against the Individual Defendants. The complaint alleges, in part, that the Company made materially false and misleading statements regarding the legality of its business operations in China, including running an allegedly illegal multilevel marketing business. The complaint seeks an indeterminate amount of damages, plus interest and costs. On May 3, 2019, the court issued an order appointing Xia Yang as lead plaintiff and appointing The Rosen Law Firm, P. A. as lead counsel. On June 3, 2019, lead plaintiff filed an amended complaint. On June 27, 2019, the parties filed a joint stipulation seeking to postpone briefing on defendants’ motion to dismiss to allow the parties to continue ongoing discussions, which stipulation was entered by the court on July 1, 2019.  On September 6, 2019, Defendants filed a motion to dismiss the amended complaint, which plaintiff opposed on October 16, 2019.  Defendants’ reply in support of their motion to dismiss was filed on November 4, 2019, and a hearing on the motion is currently set for November 18, 2019.  Defendants believe that these claims are without merit and intend to vigorously defend against them.

Since August 2016, the SEC has been conducting a non-public investigation to determine whether there have been violations of the federal securities laws relating to the trading of the Company’s securities. The Company has fully cooperated with the SEC and has and continues to provide documents in response to subpoenas. The SEC has expressly stated that its document requests should not be construed as an indication that any violation of law has occurred, or as a reflection upon any person, entity, or security. The amount of time needed to resolve this matter is uncertain, and the Company cannot predict the outcome or whether it will face additional governmental inquiries or other actions.

10. RELATED PARTY TRANSACTIONS

In February 2013, the Company entered into a Royalty Agreement and License with Broady Health Sciences, L.L.C., a Texas limited liability company, (“BHS”) regarding the manufacture and sale of a product called ReStor™. George K. Broady, a director of the Company and beneficial owner of more than 5% of its outstanding common stock, is owner of BHS. Under the agreement, the Company agreed to pay BHS a royalty based on a price per unit in return for the right to manufacture (or have manufactured), market, import, export and sell this product worldwide, with certain rights being exclusive outside the United States. Such royalties were $19,000 and $72,000 for the three months ended September 30, 2019 and 2018, respectively, and $75,000 and $248,000 for the nine months ended September 30, 2019 and 2018, respectively. The Company is not required to purchase any product under the agreement, and the agreement may be terminated at any time on 120 days’ notice or, under certain circumstances, with no notice. Otherwise, the agreement terminates March 31, 2020.

The Company procured in China and arranged for shipment to The Aberdeen Group, LLC (“Aberdeen”) one order of apparel products in the amount of $7,100 during the three months ended March 31, 2019.  Aberdeen is owned 40% by Sharng Holdings, which is wholly-owned by the Company’s president, Chris T. Sharng, and his wife, 40% by Mr. Broady, and 20% by an unrelated third party.  Aberdeen promptly paid the Company for the product and shipping cost incurred. Given the Company’s provision of such product sourcing service to Aberdeen, Aberdeen also paid the Company a market-based fee consistent with the provision of such service of $420. The Company analyzed the nature of the transaction with Aberdeen to determine whether it could be construed a violation under the guidelines of Section 402 of the Sarbanes-Oxley Act of 2002. The Company, through advice from its legal counsel, concluded that there is not a reasonable possibility that the transaction with Aberdeen would be deemed a violation of Section 402. This relationship between the Company and Aberdeen ceased following the completion of this transaction.

On May 17, 2019, the Company entered into a Stock Repurchase Agreement with The George K. Broady 2012 Irrevocable Trust (“Broady Trust”). Mr. Broady is the trustee and a beneficiary of the Broady Trust. The Stock Repurchase Agreement, which the Company and the Broady Trust entered into in accordance with Rule 10b5-1 under the Securities Exchange Act of 1934, provided for the Company’s purchase of common stock from the Broady Trust in off-the-market, private transactions at a rate of 0.4105 times the number of shares purchased by the Company’s broker in conjunction with the stock repurchase program authorized by the Company’s Board of Directors on May 16, 2019. The Company’s purchases from the Broady Trust concluded on May 31, 2019, were completed at a per share purchase price equal to the weighted average price per share paid by the Company’s broker in its open-market purchases, and resulted in an aggregate purchase price of $1.9 million. See Note 6.


16



11. SUBSEQUENT EVENT

On October 29, 2019, the Board of Directors declared a special cash dividend of $0.40 on each share of common stock outstanding. Such dividends are payable on November 29, 2019 to stockholders of record on November 19, 2019. Declaration and payment of any future dividends on shares of common stock will be at the discretion of the Company’s Board of Directors.


17



Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
Business Overview

We are an international direct-selling and e-commerce company. Subsidiaries controlled by us sell personal care, wellness, and “quality of life” products under the “NHT Global” brand. Our wholly-owned subsidiaries have an active physical presence in the following markets: the Americas, which consists of the United States, Canada, Cayman Islands, Mexico and Peru; Greater China, which consists of Hong Kong, Taiwan and China; Southeast Asia, which consists of Singapore, Malaysia, Thailand and Vietnam; South Korea; Japan; India; and Europe. We also operate in Russia and Kazakhstan through our engagement with a local service provider.

As of September 30, 2019, we were conducting business through 68,150 active members, compared to 78,280 three months ago and 97,160 a year ago. We consider a member “active” if they have placed at least one product order with us during the preceding year. Our priority is to focus our resources in our most promising markets, which we consider to be Greater China and countries where our existing members have the connections to recruit prospects and sell our products, such as Southeast Asia, India, South America and Europe.

We generate approximately 92% of our net sales from subsidiaries located outside the Americas, with sales of our Hong Kong subsidiary representing 80% of net sales in the latest fiscal quarter. Because of the size of our foreign operations, operating results can be impacted negatively or positively by factors such as foreign currency fluctuations, and economic, political and business conditions around the world. In addition, our business is subject to various laws and regulations, in particular, regulations related to direct selling activities that create uncertain risks for our business, including improper claims or activities by our members and potential inability to obtain necessary product registrations. We have identified certain matters of potential noncompliance and are working on a continuing basis to satisfactorily address such matters. For further information regarding some of the risks associated with the conduct of our business in China and Hong Kong, see generally in “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2018, and more specifically under the captions “Because our Hong Kong operations account for a substantial portion of our overall business...” and “Our operations in China are subject to compliance with a myriad of applicable laws and regulations...”; in addition, see “Item 1A. Risk Factors” in this report under the caption “Our Hong Kong operations are being adversely affected by recent political and social developments in Hong Kong...”

China has been and continues to be our most important business development project. We operate an e-commerce direct selling model in Hong Kong that generates revenue derived from the sale of products to members in Hong Kong and elsewhere, including China. Substantially all of our Hong Kong revenues are derived from the sale of products that are delivered to members in China. Through a separate Chinese entity, we operate an e-commerce retail platform in China. We believe that neither of these activities require a direct selling license in China, which we do not currently hold. We have previously sought to obtain a direct selling license, and in August 2015 initiated the process for submitting a new preliminary application for a direct selling license in China. If we are able to obtain a direct selling license in China, we believe that the incentives inherent in the direct selling model in China would incrementally benefit our existing business. We do not expect that any increased sales in China derived from obtaining a direct selling license would initially be material and, in any event may be partially offset by the higher fixed costs associated with the establishment and maintenance of required service centers, branch offices, manufacturing facilities, certification programs and other legal requirements. We are unable to predict whether and when we will be successful in obtaining a direct selling license to operate in China, and if we are successful, when we will be permitted to conduct direct selling operations and whether such operations would be profitable.

On January 8, 2019, the Chinese government announced a 100-day campaign focused on companies involved in the sale of food, equipment, daily necessities, small home electrical appliances and services that are claimed to promote health. The Chinese government ministries in charge of this campaign indicated that they are targeting illegal practices in the industry, particularly the manufacture and sale of counterfeit and substandard products, and false advertising and misleading claims as to the health benefits of products and services. It is understood that the campaign is specifically focused on the business practices of direct selling companies. During the campaign, we understand that the government will not issue any additional direct selling licenses, will cease issuing certifications of quality or other approvals of various healthcare products, will review its regulatory oversight of the industry, and will prohibit companies from conducting large distributor meetings. We believe that the campaign will continue to negatively impact our business in China in the short-term, but will benefit us and Chinese consumers in the long-term as purveyors of substandard products are driven from the market. Since it was implemented, the campaign and associated negative media coverage has had a significant impact on our business, as consumers have widely curtailed their purchases within the affected industries. We, like some of our peers, voluntarily decided in January 2019 to temporarily suspend our member activities, such as product roadshows, product trainings and larger company-sponsored

18



events, in China. We did this because we have learned that the 100-day campaign was announced in broad outlines by the central government, and the interpretation and enforcement of the campaign was delegated to the provincial and local governments. We consider it a top priority for our business to develop an understanding of and cooperate with all levels and jurisdictions of the government agencies, and did not want to run the risk of being inadvertently entangled in government enforcement actions as the provincial and local governments formulate and implement their interpretive guidance and rule-making. Although we understand the 100-day campaign was to expire on or about April 18, 2019, we are not aware of any information indicating that the campaign has formally concluded. On August 27, 2019, the Chinese government announced that it would conduct a review of the 100-day campaign commencing September 1, 2019. We understand that this review is expected to be concluded by the end of November 2019.

Recent political and social developments in Hong Kong are also adversely affecting our Hong Kong operations. Hong Kong has historically served as a key location for meetings and events for our members, but these developments recently led us to curtail the number and scope of such meetings and events. These recent developments in Hong Kong, along with our currently effective suspension of member activities in China, are negatively impacting our business.

To date, the recently enacted tariffs and the trade disputes between the United States and China have not materially impacted our business, although they may have negatively impacted the value of the Chinese yuan, which has in turn negatively affected our Hong Kong revenues because the prices at which our Chinese members can purchase our products have effectively increased. In the event the trade disputes between the United States and China continue or intensify, our business could be negatively impacted in the future. For more information, see “Item 1A. Risk Factors - Recently enacted tariffs, other potential changes to tariff and import/export regulations, and ongoing trade disputes between the United States and other jurisdictions, particularly China, may have a negative effect on global economic conditions and our business, financial results and financial condition” in our Annual Report on Form 10-K for the year ended December 31, 2018.

Our Hong Kong net sales (substantially all of which were derived from products shipped to members residing in China) for the first nine months of 2019 were substantially lower than the comparable period in 2018, and it’s likely that we will experience continued lower net sales for the foreseeable future. The substantial decline in net sales during the first nine months of 2019 resulted in a net loss for the nine-month period ended September 30, 2019, as well as negative cash flows and a decreasing cash balance. We anticipate that our financial performance will be adversely impacted for the foreseeable future.

Income Statement Presentation
 
We mainly derive revenue from sales of products. Substantially all of our product sales are to independent members at published wholesale prices. Product sales are recognized when the products are shipped and title passes to independent members, which generally is upon our delivery to the carrier that completes delivery to the members. We estimate and accrue a reserve for product returns based on our return policies and historical experience. We bill members for shipping charges and recognize the freight revenue in net sales. We have elected to account for shipping and handling activities performed after title has passed to members as a fulfillment cost, and accrue for the costs of shipping and handling if revenue is recognized before the contractually obligated shipping and handling activities occurs. Event and training revenue is deferred and recognized as the event or training occurs.

Cost of sales consists primarily of products purchased from third-party manufacturers, freight cost for transporting products to our foreign subsidiaries and shipping products to members, import duties, packing materials, product royalties, costs of promotional materials sold to our members at or near cost, and provisions for slow moving or obsolete inventories. Cost of sales also includes purchasing costs, receiving costs, inspection costs and warehousing costs.

Member commissions are our most significant expense and are classified as an operating expense. Under our compensation plan, members are paid weekly commissions by our subsidiary in which they are enrolled, generally in their home country currency, for product purchases by their down-line member network across all geographic markets. Our China subsidiary maintains an e-commerce retail platform and does not pay commissions, although our Chinese members may participate in our compensation plan through our other subsidiaries. This “seamless” compensation plan enables a member located in one country to enroll other members located in other countries where we are authorized to conduct our business. Currently, there are basically two ways in which our members can earn income:

through commissions paid on the accumulated bonus volume from product purchases made by their down-line members and customers; and


19



through retail profits on sales of products purchased by members at wholesale prices and resold at retail prices (for purchasers in some of our smaller markets and purchasers from our China subsidiary, sales are for personal consumption only and income may not be earned through retail profits).

Each of our products is designated a specified number of bonus volume points. Commissions are based on total personal and group bonus volume points per weekly sales period. Bonus volume points are essentially a percentage of a product’s wholesale price. As the member’s business expands from successfully enrolling other members who in turn expand their own businesses by selling product to other members, the member receives higher commissions from purchases made by an expanding down-line network. In some of our markets, to be eligible to receive commissions, a member may be required to make nominal monthly or other periodic purchases of our products. Certain of our subsidiaries do not require these nominal purchases for a member to be eligible to receive commissions. In determining commissions, the number of levels of down-line members included within the member’s commissionable group increases as the number of memberships directly below the member increases.

Under our current compensation plan, certain of our commission payouts may be limited to a hard cap dollar amount per week or a specific percentage of total product sales. In some markets, commissions may be further limited. In some markets, we also pay certain bonuses on purchases by up to three generations of personally sponsored members, as well as bonuses on commissions earned by up to seven generations of personally sponsored members. Members can also earn additional income, trips and other prizes in specific time-limited promotions and contests we hold from time to time. Member commissions are dependent on the sales mix and, for the first nine months of 2019 and 2018, represented 47% and 45%, respectively, of net sales. Occasionally, we make modifications and enhancements to our compensation plan to help motivate members, which can have an impact on member commissions. We may also enter into performance-based agreements for business or market development, which can result in additional compensation to specific members.

Selling, general and administrative expenses consist of administrative compensation and benefits, travel, credit card fees and assessments, professional fees, certain occupancy costs, and other corporate administrative expenses (including stock-based compensation). In addition, this category includes selling, marketing, and promotion expenses (including the costs of member training events and conventions that are designed to increase both product awareness and member recruitment). Because our various member conventions are not always held at the same time each year, interim period comparisons will be impacted accordingly.

The functional currency of our international subsidiaries is generally their local currency. Local currency assets and liabilities are translated at the rates of exchange on the balance sheet date, and local currency revenues and expenses are translated at average rates of exchange during the period. Equity accounts are translated at historical rates. The resulting translation adjustments are recorded directly into accumulated other comprehensive income.

Sales by our foreign subsidiaries are generally transacted in the respective local currencies and are translated into U.S. dollars using average rates of exchange for each monthly accounting period to which they relate. Most of our product purchases from third-party manufacturers are transacted in U.S. dollars. Consequently, our sales and net earnings are affected by changes in currency exchange rates, with sales and earnings generally increasing with a weakening U.S. dollar and decreasing with a strengthening U.S. dollar.


20



Results of Operations 
 
The following table sets forth our operating results as a percentage of net sales for the periods indicated.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2019
 
2018
 
2019
 
2018
Net sales
100.0
 %
 
100.0
%
 
100.0
 %
 
100.0
%
Cost of sales
25.7

 
21.1

 
25.1

 
20.3

Gross profit
74.3

 
78.9

 
74.9

 
79.7

Operating expenses:
 
 
 
 
 
 
 
Commissions expense
43.2

 
46.8

 
47.3

 
44.8

Selling, general and administrative expenses
37.3

 
15.4

 
34.0

 
16.3

Total operating expenses
80.5

 
62.2

 
81.3

 
61.1

Income (loss) from operations
(6.2
)
 
16.7

 
(6.4
)
 
18.6

Other income, net
1.9

 
0.5

 
1.9

 
0.3

Income (loss) before income taxes
(4.3
)
 
17.2

 
(4.5
)
 
18.9

Income tax provision
2.9

 
1.0

 
0.2

 
2.0

Net income (loss)
(7.2
)%
 
16.2
%
 
(4.7
)%
 
16.9
%

Net Sales
 
The following table sets forth revenue by market for the periods indicated (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2019
 
2018
 
2019
 
2018
Americas1
$
1,445

 
8.5
%
 
$
1,970

 
4.2
%
 
$
4,353

 
7.3
%
 
$
5,361

 
3.6
%
Hong Kong2
13,575

 
79.7

 
41,447

 
88.1

 
48,465

 
81.0

 
133,681

 
88.9

China
525

 
3.1

 
1,698

 
3.6

 
2,138

 
3.6

 
5,510

 
3.7

Taiwan
649

 
3.8

 
935

 
2.0

 
2,340

 
3.9

 
2,933

 
1.9

South Korea
98

 
0.6

 
133

 
0.3

 
288

 
0.5

 
392

 
0.3

Japan
47

 
0.3

 
51

 
0.1

 
141

 
0.2

 
160

 
0.1

Singapore
13

 
0.1

 
52

 
0.1

 
43

 
0.1

 
134

 
0.1

Malaysia
51

 
0.3

 
216

 
0.5

 
170

 
0.3

 
316

 
0.2

Russia and Kazakhstan
244

 
1.4

 
184

 
0.4

 
662

 
1.1

 
626

 
0.4

Europe
343

 
2.0

 
357

 
0.7

 
1,017

 
1.7

 
1,207

 
0.8

India
33


0.2






162