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MEDIFAST 10-K 2008 Documents found in this filing:UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
DC 20549
FORM
10-K
ANNUAL
REPORT UNDER SECTION 13 OR 15(d) OF
THE
SECURITIES EXCHANGE ACT OF 1934
For
the
fiscal year ended December 31, 2007
Commission
File No. 000-23016
MEDIFAST,
INC.
Phone
(410) 581-8042
SECURITIES
REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
SECURITIES
REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON
STOCK, PAR VALUE $.001 PER SHARE
New
York
Stock Exchange
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined
in
Rule 405 of the Securities Act. Yes x No o
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act. Yes o No x
Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes x No o
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the
best of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “accelerated
filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.
(Check one):
Indicate
by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes o No x
The
aggregate market value of the voting common equity held by non-affiliates of
the
registrant as of June 30, 2007, based upon the closing price of $8.95 per
share on the New York Stock Exchange on that date, was
$109,000,000.
As
of
March 17, 2008, the Registrant had 13,814,098 shares of Common Stock
outstanding.
2
Table
of Contents
3
PART
I
ITEM
1. BUSINESS.
SUMMARY
Medifast,
Inc. (the "Company” or “Medifast”) is a Delaware corporation, incorporated in
1980. The Company’s operations are primarily conducted through five of its
wholly owned subsidiaries, Jason Pharmaceuticals, Inc. ("Jason"), Take Shape
for
Life, Inc. (“TSFL”), Jason Enterprises, Inc., Jason Properties, LLC and Seven
Crondall, LLC. The Company is engaged in the production, distribution, and
sale
of weight management and disease management products and other consumable health
and diet products. Medifast, Inc.’s product lines include weight and disease
management, meal replacement, and vitamins primarily manufactured in its modern,
FDA approved facility in Owings Mills, Maryland.
MARKETS
Throughout
the past 30 years, obesity in the United States has dramatically increased.
The
obesity epidemic shows no signs of slowing down and recently, the condition
has
worsened among Americans rather than improved. Approximately 1.7 billion people
worldwide are overweight; however the percentage of overweight adults is the
highest in the United States, with two-thirds of all Americans being overweight
or obese.
According
to a recent study, “Prevalence of Obesity and Overweight in the United States”,
published in April 2006 in the Journal of American Medical Association, almost
7
out of 10 adults in the U.S. are overweight or obese, with 60 million (or about
thirty percent) American adults suffering from obesity. The
obesity epidemic raises concern among Americans because of the implications
associated with their health. The most common health conditions associated
with
obesity are type II diabetes, coronary heart disease, hypertension and stroke,
sleep apnea and respiratory problems, gallbladder disease, depression and
certain forms of cancer.
The
Center for Disease Control and Prevention shows that obesity is not only
affecting adults, but children and adolescents as well. According to the CDC,
the obesity prevalence in children and adolescents has tripled since 1976.
Overweight and obesity in children and adolescents pose serious risks for health
problems such as high blood pressure, high cholesterol and Type 2 Diabetes.
Type
2
Diabetes is expected to increase by 165 % between 2000 and 2050 according to
a
study “Projection of diabetes burden through 2050: impact of change demography
and disease prevalence in the U.S.”, published 2001 in Diabetes Care. In
addition, a study published in October 2007 by the CDC states children are
now
being affected by this disease also. Almost half the diabetic children in the
United States are Type 2. Obese children suffering from Type 2 diabetes also
suffer from various related conditions such as amputations, kidney problems
and
blindness.
It
is
important to note the difference between overweight and obese. Obesity among
adults is defined as a Body Mass Index (BMI) of 30 or higher; overweight is
defined as a BMI of 25 to 30. According to a recent study conducted by the
Center for Disease Control and Prevention in 2006, only four (4) states in
the
U.S.A. had a prevalence of obesity less than twenty percent (20 %). Twenty-two
states showed a prevalence equal or greater than twenty-five percent (25%),
and
two of those states had a prevalence of obesity equal to or greater than thirty
percent (30%).
The
primary obesity causing factors are preventable and well known in the United
States. These factors are unhealthy diet and physical inactivity. It’s estimated
that poor nutrition and physical inactivity account for more than 300,000
premature deaths per year in the U.S. Many Americans ignore this despite what
research studies show. According to the United States Department of Health
and
Human Services, only 25% of the adults and less than 25% of the teenagers
include the suggested 5 or more servings of vegetables and fruits in their
daily
meal. 50% or more of the American adults do not do the suggested amount of
physical activities. More than 1/3 of the young Americans do not engage
themselves in regular vigorous physical activities.
The
United States Department of Human and Health Services states that Americans
spend $117 billion in costs associated with overweight and obesity. Direct
medical and healthcare costs total $93 billion. The U.S. weight loss market
is
estimated to be a $ 55 billion/ year industry. This includes consumer spending
on diet foods, health clubs, commercial weight loss centers, low-calorie
prepared foods, medically supervised and commercial weight loss programs, diet
books, appetite suppressants, artificial sweeteners, diet sodas, videos and
cassettes, children’s weight loss camps and more. More specifically, the market
for diet food home delivery is a rapidly growing $800 million industry in the
United States.
4
Distribution
Channels
Medifast
Direct – Medifast’s
primary distribution channel is the direct-to-consumer business. Here, customers
have access to support from qualified nutritional practitioners and customer
care representatives via telephone, e-mail and online chats. Medifast Direct
offers a robust online web community and library for support, information and
meal planning for weight loss and weight maintenance. This business is driven
by
an aggressive multi-media customer acquisition strategy that includes print,
television, radio, direct mail and web advertising as well as public relations
initiatives. In 2007, the Medifast Direct division focused on targeted marketing
initiatives and providing customer support through its in house call center
and
nutrition support teams to better serve its clients. In addition, Medifast
also
continued to promote its use of leading web technology featuring customized
meal
planning and community components.
Take
Shape for Life™
- Take
Shape for Life is a physician led network of independent health coaches who
are
trained to provide coaching and support to client on Medifast programs. Health
coaches are conduits to give clients the strategies and skills to successfully
reach a healthy weight and then provide a road map to empower the individual
to
take control of their health. Take Shape for Life offers the exclusive
BeSlimTM
philosophy, which encourages long-term weight maintenance. Take Shape for Life
also moves beyond the scope of weight loss to show customers how to achieve
optimal health through the balance of body, mind, and finances. Take Shape
for
Life uses the high quality, medically validated products of Medifast as the
platform to launch integrity based lifelong health optimization
program.
Program
entrants are encouraged to consult with their primary care physician and a
Take
Shape for Life Health Coach to determine the Medifast program that is right
for
them. Health Coaches are supported, educated and qualified by The Health
Institute, a training group staffed by Medifast professionals. Health Advisors
obtain Medifast qualification based upon testing of their knowledge on Medifast
products and programs.
Medifast
Physicians –Medifast
physicians have implemented the Medifast program within their practice. These
physicians carry an inventory of Medifast products and resell them to patients.
They also provide appropriate medical monitoring, testing, and support for
patients on the program. Management estimates that more than 15,000 physicians
nationwide have recommended Medifast as a treatment for their overweight
patients since 1980, and over an estimated 1 million patients have used its’
products to lose and maintain their weight.
The
Company offers an additional in-house support program to assist customers that
are consulting their primary care physician. Customers have access to registered
dieticians that provide program support and advice via a toll free telephone
help line, by e-mail and online chats.
Medifast
Weight Control Centers – In
2007,
Medifast continued to enhance the operations in the ten corporately owned weight
control centers. The Medifast Weight Control Center is the brick and mortar
clinic channel of Medifast located in Texas and Florida. The centers offer
a
supervised model and a nationally advertised brand which encourages walk-ins
and
referrals from other Medifast business channels. In addition to offering a
comprehensive Medifast program, the clinics offered customized patient
counseling programs, and the Inbody TM
composition analysis. The Company intends to open additional corporately owned
Medifast Weight Control Centers in the Houston, Texas market in 2008 as well
as
offering the model to franchise.
The
Company continues to support its private label licensee model, Hi-Energy, by
providing marketing materials, ads, on-site trainings, fitness programs,
nutritional programs and clinical operation materials and forms.
THE
MEDIFAST® BRAND
Medifast
enriches lives by providing innovative choices for lasting health through
products and programs. Medifast is physician recommended and clinically proven
offering programs for weight management, weight maintenance and long term health
through multiple channels of distribution. Medifast products are high quality,
portion controlled meal replacement foods. In recent years, Medifast’s core
products and programs have continued to expand over a wellness spectrum to
include health management products including products specially formulated
for
people with diabetes as well as products for women’s health, joint health and
coronary health.
While
the
entire Medifast line is Diabetic Friendly, Medifast has created products
tailored to meet the needs of people with diabetes. Many Medifast Plus for
Diabetics products have earned the coveted Seal of Approval from the Glycemic
Research Institute. The line, designated as Low Glycemic, does not overly
stimulate blood glucose and insulin and does not stimulate fat-storing enzymes.
Products included in the Medifast Plus for Diabetics line consist of three
delicious patented shakes, and two meal replacement bars.
5
Most
Medifast products qualify to make the FDA’s heart healthy claim, “May Reduce the
Risk of Heart Disease.” In order to make this claim, a product must contain at
least 6.25 grams of soy protein per serving and be low in fat, saturated fat,
and cholesterol. Unlike popular fad diets and herbal supplements, Medifast
products are a safe, nutritionally balanced choice, offering gender specific
formulas containing high protein and low carbohydrates, a soy protein source
rather than animal protein source, and vitamin and mineral fortification. It
is
very difficult to meet the minimum recommended nutritional requirements on
a
low-calorie diet, but a dieter can easily meet these requirements using the
nutrient dense Medifast brand of meal replacement food supplements.
Portion
controlled, meal replacement weight management programs are continuing to gain
popularity, as consumers search for a safe and effective solution that provides
balanced nutrition, quick weight loss and valuable behavior modification
education. In addition, consumers are becoming more aware of chronic diseases
such as diabetes and coronary health.
Clinical
Research Overview
Medifast
uses both clinical research studies and retrospective analysis data from its
Medifast clinics as the basis of its claim, “clinically proven.” An overview of
Medifast clinical research is provided below.
Crowell,
M.D. & Cheskin L.J, the Johns Hopkins University School of Medicine.
Multicenter Evaluation of Health Benefits and Weight Loss on the Medifast Weight
Management Program.
The
purpose of this study was to retrospectively evaluate the efficacy of a
medically supervised, protein-supplemented modified fasting program (Medifast)
for weight reduction and to evaluate the impact of weight reduction on
coexisting health problems. The results of the study concluded that
medically-supervised, protein-sparing modified fasts offer a safe and effective
means of weight reduction and are accompanied by significant improvements in
coexisting health problems. Of samples taken, males lost an average of 67 lbs
and females lost an average of 47 lbs during fasting. The study found
significant reductions in systolic and diastolic blood pressure, total
cholesterol and triglycerides, as well as the normalizing of blood pressure
and
hypertensive patients.
Cheskin,
MD, FACP, Mitchell, MS, Lewis, BA, Javeri, MD Yep, BS. Johns Hopkins University
School of Bloomberg Public Health. Efficacy of 2 Diet Plans Designed for People
with Type 2 Diabetes on Weight and Health Measures
The
purpose of this study was to evaluate the efficacy of the standard ADA (American
Diabetic Association) self-selected diet (SD) vs. a portion controlled diabetic
food diet (PCD) in obese patients with NIDDM. The study also evaluated not
only
the metabolic effects in the long term, but also compliance and any consequent
medication changes in patients of the two weight loss regimens. (16-34 weeks
of
active weight loss, 52 weeks of maintenance) The meal replacements (Medifast)
used in this study are soy-based products (bars, shakes, soups) that are
considerably lower in sugar than their non-diabetic counterparts and other
popular diet products on the market.
The
results discussion is as follows. Significantly greater results were achieved
after the initial 34-weeks of weight loss by participants in the PCD group
in
pounds and percent weight loss, insulin level and hemoglobin A1c. The PCD group
also saw significant improvements within group in BMI, systolic BP, diastolic
BP, waist/hip measurements, cholesterol, HDL triglycerides, glucose and percent
body fat. Dropout rates were less in the PCD in both weight loss and weight
maintenance. During weight loss, participants in the PCD group significantly
decreased their use of medications to treat Type 2 DM. Participants in the
PCD
group also self-reported higher ease of compliance with the diet compared to
the
SD group (64.2% vs. 56.0%).
Researchers
recommended that a PCD be considered for type 2 diabetics desiring weight loss,
but that periodic use of SD during weight maintenance will not adversely affect
weight loss efforts. The research supports that using a portion-controlled
diet
will produce comparable if not better outcomes in type 2 diabetics attempting
to
control their weight.
The
study
was published in the 2008 January/February issue of 'The Diabetes Educator'.
The
peer-reviewed journal is the official journal of the American Association of
Diabetes Educators. The study was also presented at American Diabetes
Association’s 65th
Annual
Scientific Session in San Diego, CA, June 11, 2005.
6
Efficacy
of Parent-Child Dieting Plans Incorporating Medifast Meal Replacements for
Weight Loss. RCT Comparing Balanced Energy Deficit Diets With or Without Meal
Replacements for Weight Loss and Maintenance Among Children Dieting Alone or
With a Parent. Lawrence J. Cheskin, Lisa M. Davis, Andrea Hanlon-Mitola, Amy
Mitchell, Ami Jhaveri, Mary Yep, Vanessa Mitchell. Johns Hopkins Bloomberg
School of Public Health, Center for Human Nutrition, Department of International
Health, Baltimore, MD 21205
The
study
compared the safety and efficacy of supplemental Medifast portion-controlled
meal replacements (MRs) with a USDA Food Guide Pyramid-based diet. Both weight
loss diets were 20% energy-restricted (~500 kcal deficit). 80, 8-15yo children,
BMI>95th%ile,
were screened and 40 randomized to either a MR diet (3 MRs/d during active
weight loss and 2 MRs/d during maintenance) or to the food-based diet. Subjects
were further randomized to dieting alone or
with a
parent. Results: By ITT analysis, dieting with a parent, or food vs. MR, made
no
difference in weight outcome. However, following initial weight loss (6mos)
and
1yr maintenance (18mos), significant (p≤0.05) benefits were seen in the MR group
in BMI%ile (0 mos=98.8 ± 1.0, 6 mos=96.6 ± 3.2, 18 mos=96.4 ± 3.4); body fat
(↓5.9%@6 mos, 5.3%@ 18 mos), total cholesterol (↓6.7%, 5.6%), LDL (↓19.8%, 7.9%)
and triglycerides (↓23.6%, 22.3%). No significant between-group differences,
differences in growth rates, or adverse events were observed. Conclusions:
Among
overweight 8-15yo children, dieting with or without a parent, meal replacements
were as safe and effective as a food-based diet for weight loss and maintenance.
(Supported by Medifast Inc., MD
Effectiveness
of Medifast Supplements Combined with Obesity Pharmacotherapy: A Clinical
Program Evaluation. Principle Investigators: Drs. Walker S.C. Poston, C. Keith
Haddock, Jennifer E. Taylor, John Foreyt.
The
purpose of the study is to evaluate the long-term impact of Medifast
meal-replacement supplements combined with appetite suppressant medication
(ASM)
among participants who received a minimum of 12-weeks of treatment.
Results
of this study were presented at the American Society of Bariatric Physicians
annual meeting in May 2007 and the study is pending publication in a medical
journal.
National
Institutes of Health: Impaired Capacity to Lose Visceral Adipose Tissue during
Weight Reduction in Obese Postmenopausal Women with the Trp64Arg B3-
Adrenoceptor Gene Variant
This
study examined whether women on a weight loss program who are carriers of a
genetic variant (Trp64Arg) lose less visceral fat than women who do not have
this gene. Participants entered a medically supervised weight loss program
aimed
at reducing body weight to less than 120% of ideal value. Food was self selected
with dietitian supervision, with or without the inclusion of the
TakeShapeTM,
a
Medifast brand modified fasting supplement.
Results
from the study showed that reductions in body weight, BMI, total fat mass and
fat-free mass were not significantly different between carriers and non-carriers
of the variant. Both groups experienced weight reduction of 31-36.1 pounds,
which the study identified as a significant weight loss effect.
An
Evaluation of Weight Loss following a Carbohydrate and Fat Restricted Diet
with
Appetite Suppressant and Dietary Supplementation. Vivienne Matalon, M.D. The
Bariatrician Summer 2000
This
was
an open label trial designed to assess the safety and effectiveness of a weight
loss regimen consisting of a carbohydrate and fat restricted diet, supplemented
with an appetite suppressant, a dietary supplement and a liquid protein drink
(Medifast). At baseline, evaluations included a history and physical, and
measurements of total body weight (lbs), body fat (%), BMI, lean body mass,
water weight and blood pressure. Patients were then seen weekly for 6 months.
At
each weekly visit, total weight, % body fat, BMI, lean body mass, water weight
and BP were noted. At the end of the study statistically significant differences
from baseline to final value were noted for body weight (P<.001), percent
body fat (P<.001), BMI (P<.001), lean body mass (P<.001), water weight
(P=.01) and body systolic (P=.003) and diastolic (P<.001) blood
pressure.
Of
47
patients enrolled, 24 (51%) completed six months using the dietary regimen
prescribed. Data was analyzed for all patients who were treated with the diet,
as well as for the subset of patients who completed the entire study period.
The
dietary regimen showed that a carbohydrate and fat restricted program
supplemented by a natural appetite suppressant can lead to progressive weight
loss of comparable value to prescribed pharmacologic agents at the time of
study. Patients in the study experienced statistically significant decreases
in
overall body weight, percent body fat, BMI, lean body mass, total body water
and
both systolic and diastolic blood pressure.
7
COMPETITION
There
are
many different kinds of diet products and programs within the weight loss
industry. These include a wide variety of commercial weight loss programs,
pharmaceutical products, weight loss books, self-help diets, dietary
supplements, appetite suppressants and meal replacement shakes and bars. Some
of
Medifast’s top competitors are Jenny Craig, Nutrisystems, EDiets, Herbalife, and
Weight Watchers.
The
Company has proven it can compete in this competitive market because its
products have been clinically tested and proven in clinical studies conducted
by
researchers from Johns Hopkins University and other major institutions, the
Medifast products have been safely and effectively used by customers and
recommended by physicians for over 25 years. Medifast has been on the cutting
edge of product development with soy based nutritional and weight management
products since 1980. These products are formulated with high-quality,
low-calorie, low-fat ingredients that provide alternatives to fad diets or
medicinal weight loss remedies.
The
Company’s diverse multi-channel distribution strategy makes the Medifast brand
available through multiple support channels, which target different customer
needs. Medifast practitioners offer Medifast to patients through wholesale
or an
innovative home delivery model and some practitioners choose to prescribe
appetite suppression diet drugs to patients in conjunction with a Medifast
based
diet. Medifast Direct via the website and call center serves customers with
free
online support and community tools and access to nutritionists and customer
service representatives. The Take Shape for Life division offers the personal
support of a health coach that is often a person who has achieved success on
the
Medifast program and has turned their success into a business opportunity
generating incremental revenue for the company through relationship marketing.
Medifast Weight Control Centers offer a medically supervised and structured
model for customers who prefer more accountability and personalized counseling
on the program. The Medifast program alone is a mild ketogenic diet that
naturally suppresses appetite and eliminates hunger without other therapies
for
most people.
PRODUCTS
The
Company offers a variety of weight and disease management products under the
Medifast® brand and for select private label customers. The Medifast line
includes Medifast® 55 Shakes, Medifast® 70 Shakes, Medifast® Plus for Appetite
Suppression Shakes, Medifast® Plus for Women’s Health Shakes, Medifast® Plus for
Diabetics Shakes, Medifast® Plus for Joint Health Shakes, Medifast® Plus for
Coronary Health Shakes, Medifast® Bars, Medifast® Creamy Soups, Medifast®
Chicken Noodle Soup, Medifast® Chicken & Wild Rice Soup, Medifast® Beef
Vegetable Stew, Medifast® Home-style Chili, Medifast® Oatmeal, Medifast®
Pudding, Medifast® Scrambled Eggs, Medifast® Hot Cocoa, Medifast® Cappuccino,
Medifast® Chai Latte, Medifast® Iced Teas, Medifast® Fruit Drinks, Medifast® Soy
Crisps, and Medifast® Crackers.
Medifast
nutritional products are formulated with high-quality, low-calorie, and low-fat
ingredients. Many Medifast products are soy based and contain 24 vitamins and
minerals, as well as other nutrients essential for good health. The Company
uses
Solae® brand soy protein, which is a high-quality complete protein derived from
soybeans.
Medifast
brand awareness continues to expand through the Company’s marketing campaigns,
product development, line extensions, and the Company’s emphasis on quality
customer service, technical support and publications developed by the Company’s
marketing staff. Medifast products have been proven to be effective for weight
and disease management in clinical studies conducted by researchers from the
U.S. government and Johns Hopkins University. The Company has continued to
develop its sales and marketing operations with qualified management and
innovative programs. The Company’s facility in Owings Mills, MD manufactures all
powders and subcontracts the production of its Ready-To-Drink products and
meal
replacement bars.
NEW
PRODUCTS
The
Company expanded the Medifast product line in 2007 by introducing Maryland
Crab
Soup and reformulating our current line. The reformulation resulted in an
increase of 4 grams of fiber to various products including the 55, 70, and
Plus
lines, as well as various soups, Cappuccino and Chai Latte. Both the Chicken
Noodle Soup and Chicken Wild rice soup were redesigned to provide additional
protein. Many products were also reformulated to decrease the amount of
carbohydrates as well.
MARKETING
In
2007,
the Company continued to build and leverage its core Medifast brand through
multiple marketing strategies to its target audiences. Customer acquisition
strategies include national advertising in print magazines, television
commercials, web advertising, direct mailings, and radio commercials. In
addition, the Company executed strategic public relations efforts to secure
local and national editorial placements to raise brand awareness. These mediums
were used to target new customers by stressing Medifast's quick, easy and safe
approach to weight management. The Company invested in two celebrity contracts
with preliminary marketing and media campaigns launching in late 2007. Direct
mail campaigns, e-mail newsletters and outbound calling programs were utilized
to reactivate, encourage and support existing customers. In 2007, Medifast
continued to enhance the Medifast website including added features in the “My
Medifast” community which offers meal planning, community message boards, blogs
and a robust library of information. The Company also continued to feature
customer blogs on the website for potential customers to interact with loyal
Medifast customers. Late in 2007, the Company launched an auto ship loyalty
program where customers receive discounts and rewards with automatic shipments
of Medifast Meals on a monthly basis. Both the MyMedifast community enhancements
and Auto-ship program contribute to the retention of Medifast customer through
improved compliance with the program.
8
SALES
The
Company’s Sales division handles four primary areas:
Physician
Sales - The sales team is responsible for prospecting medical accounts, clinics,
hospitals, and HMOs. During 2007, the sales team attended a number of
medical professional trade shows, which expanded Medifast's penetration of
the
medical weight loss business segment.
Medifast
Weight Control Center Franchises - The brick and mortar clinics have Counselors
that sell Medifast products and full service programs which include weekly
one-on-one counseling sessions, medical monitoring and physician
oversight. Franchise sales seek qualified partners to develop defined
market territories.
Corporate
Wellness - Provides Medifast Corporate Health Solutions to corporate clients
who
seek to provide employee wellness programs with evidence based weight management
programs.
International
- Sales manages our bulk export business and has responsibility to qualify
and
develop new international business partners.
MANUFACTURING
Jason
Pharmaceuticals, Inc., the Company’s wholly owned manufacturing subsidiary,
produces over 80% of the Medifast products in a state-of-the-art food and
pharmaceutical-grade facility in Owings Mills, Maryland. Management purchased
the plant in July 2002 for $3.4 million. The Company has also invested in
increasing production capacity with the purchase of two additional manufacturing
lines and a larger capacity blender. The lines have significantly improved
the
Company's production capability, while also improving its overall efficiencies.
The
manufacturing facility has the capacity for significant increases to its
production output with minimal capital expenditures. Adding additional shifts
will enable the Company to produce enough products to generate over $250 million
in sales.
Manufacturing
processes, product labeling, quality control and equipment are subject to
regulations and inspections mandated by the Food & Drug Administration
(FDA), the Maryland State Department of Health and Hygiene, and the Baltimore
County Department of Health. The plant strictly adheres to all GMP practices
and
has maintained its status as an "OU" (Orthodox Union) kosher-approved facility
since 1982.
GOVERNMENTAL
REGULATION HISTORY
The
formulation, processing, packaging, labeling and advertising of the Company's
products are subject to regulation by several federal agencies, but principally
by the Food and Drug Administration (the "FDA"). The Company must comply with
the standards, labeling and packaging requirements imposed by the FDA for the
marketing and sale of foods and nutritional supplements. Applicable regulations
prevent the Company from representing in its literature and labeling that its
products produce or create medicinal effects or possess drug-related
characteristics. The FDA could, in certain circumstances, require the
reformulation of certain products to meet new standards, require the recall
or
discontinuation of certain products not capable of reformulation, or require
additional record keeping, expanded documentation of the properties of certain
products, expanded or different labeling, and scientific substantiation. If
the
FDA believes the products are unapproved drugs or food additives, the FDA may
initiate similar enforcement proceedings. Any or all such requirements could
adversely affect the Company's operations and its financial condition.
To
the
extent that sales of foods and nutritional supplements may constitute improper
trade practices or endanger the safety of consumers, the operations of the
Company may also be subject to the regulations and enforcement powers of the
Federal Trade Commission ("FTC"), and the Consumer Product Safety Commission.
The Company's activities are also regulated by various agencies of the states
and localities in which the Company's products are sold. The Company's products
are manufactured and packaged in accordance with customers’ specifications and
sold under their private labels both domestically and in foreign countries
through independent distribution channels.
9
PRODUCT
LIABILITY AND INSURANCE
The
Company, like other producers and distributors of ingested products, faces
an
inherent risk of exposure to product liability claims in the event that, among
other things, the use of its products results in injury. The Company maintains
insurance against product liability claims with respect to the products it
manufactures. With respect to the retail and direct marketing distribution
of
products produced by others, the Company's principal form of insurance consists
of arrangements with each of its suppliers of those products to name the Company
as beneficiary on each of such vendor's product liability insurance policies.
The Company does not buy products from suppliers who do not maintain such
coverage.
EMPLOYEES
As
of
December 31, 2007, the Company employed 245 full-time and contracted employees,
of whom 136 were engaged in manufacturing, warehouse management, and shipping,
and 109 in marketing, administrative, call center and corporate support
functions. None of the employees are subject to a collective bargaining
agreement with the Company.
INFORMATION
SYSTEMS INFRASTRUCTURE
Our
website, which is based on internally developed software and other third party
software, is hosted in San Francisco, California at a ServePath co-location
facility. This facility provides redundant network connections, an
uninterruptible power supply, physical and fire security and diesel generated
power back up for the equipment on which our website relies upon. Our servers
and our network are monitored 24 hours a day, seven days a week.
We
use a
variety of security techniques to protect our confidential customer data. When
our customers place an order or access their account information, we use a
secure server (SSL) to transfer information. Our secure server software encrypts
all information entered before it is sent to our server. All customer data
is
protected against unauthorized access. We use PayPal, VeriSign and HackerSafe
software to secure our credit card transactions.
AVAILABLE
INFORMATION
All
periodic and current reports, registration statements, code of conduct, code
of
ethics and other material that the Company is required to file with the
Securities and Exchange Commission (“SEC”), including the Company’s annual
report on Form 10-K, quarterly reports on Form 10-Q, current reports on
Form 8-K, and amendments to those reports filed or furnished pursuant to
Section 13(a) of the Securities Exchange Act of 1934 (the “1934 Act
Reports”). These materials are available free of charge through the Company’s
investor relations page at www.ChooseMedifast.com.
Such
documents are available as soon as reasonably practicable after electronic
filing of the material with the SEC. The Company’s Internet web site and the
information contained therein or connected thereto are not intended to be
incorporated into this Annual Report on Form 10-K.
CERTIFICATIONS
The
Company’s Chief Executive Officer and Chief Financial Officer have filed their
certifications as required by the Securities and Exchange Commission (the “SEC”)
regarding the quality of the Company’s public disclosure for each of the periods
ended during the Company’s fiscal year ended December 31, 2007 and the
effectiveness of internal control over financial reporting as of December 31,
2007 and 2006. Further the Company’s Chief Executive Officer has certified to
the New York Stock Exchange (“NYSE”) that he is not aware of any violation by
the Company of the NYSE corporate governance listing standards, as required
by
Section 303A.12(a) of the NYSE listing standards
10
EXECUTIVE
OFFICERS OF THE COMPANY
Bradley
T. MacDonald
Mr.
MacDonald became Chairman of the Board of Medifast, Inc. on January 28, 1998.
Mr. MacDonald was previously employed by the Company as its Chief Executive
Officer from September 1996 to March 2007.
In 2006,
Mr. MacDonald was named “Entrepreneur of the Year” in consumer products for the
State of Maryland. Prior to joining the Company, he was appointed as Program
Director of the U.S. Olympic Coin Program of the Atlanta Centennial Olympic
Games. From 1991 through 1994, Colonel MacDonald returned to active duty to
be
Deputy Director and Chief Financial Officer of the Retail, Food, Hospitality
and
Recreation Businesses for the United States Marine Corps. Prior thereto, Mr.
MacDonald served as Chief Operating Officer of the Bonneau Sunglass Company,
President of Pennsylvania Optical Co., Chairman and CEO of MacDonald and
Associates, which had major financial interests in retail drug, consumer candy,
and pilot sunglass companies. Mr. MacDonald was national president of the Marine
Corps Reserve Officers Association and retired from the United States Marine
Corps Reserve as a Colonel in 1997, after 27 years of service. He has been
appointed to the Defense Advisory Board for Employer Support of the Guard and
Reserve (ESGR). Mr. MacDonald serves on the Board of Directors of the Wireless
Accessories Group (OTCBB: WIRX), Villa Julie College in Stevenson, Maryland
and
the Institute of Notre Dame High School, Baltimore, Maryland. He is also on
the
Board of Directors of the Marine Corps Reserve Toys for Tots Foundation and
is a
Foundation Trustee of the Marine Reserve Association.
Michael
S. McDevitt
Mr.
McDevitt joined Medifast in 2002 as the Controller and was promoted to Vice
President of Finance in January 2004. In March 2005, he was promoted to
President and in January of 2006 was also named Chief Financial Officer. In
March of 2007, Mr. McDevitt was promoted to CEO of the Company. Prior to joining
Medifast, Mr. McDevitt worked as a Financial Analyst for the Blackstone Group,
an investment advisory firm based in New York, NY.
Leo
Williams
Mr.
Williams became Executive Vice President of Medifast, Inc. in January of 2004.
Prior to joining Medifast, he was a Future Vehicles Marketing Plans Director
for
Ford Division sport utility vehicles and pickup trucks. A retired Marine Corps
Reserve major general, he was ordered to active duty from October 2002 to
September 2003 to serve as Deputy Director of the Marine Corps Combat
Development Command. Mr. Williams is a Board of Director of the Marine Corps
Reserve Toys for Tots Foundation and the Direct Selling
Association.
Margaret
MacDonald, MBA
Ms.
MacDonald joined Medifast in 2000 as the Director of Sales and Administration.
In 2002 she was promoted to VP of Operations and in 2004 promoted to Senior
VP
of Operations. In May of 2006, Ms. MacDonald received an Executive MBA from
Loyola University. In March 2007, she was promoted to President and Chief
Operating Officer of Medifast Inc. Prior to joining Medifast, Ms. MacDonald
was
a legal assistant at Carrington, Coleman, Sloman, and Blumenthal in Dallas,
TX.
Brendan
N. Connors, CPA
Mr.
Connors joined Medifast as the Vice President of Finance in April of 2005.
Prior
to joining Medifast, Mr. Connors worked as a Senior Accountant at Wolf &
Company P.C., a certified public accounting and consulting firm in Boston,
MA.
11
ITEM
1A. RISK FACTORS
The
following risk factors should be considered when reading this Annual Report
on
Form 10-K. If any of the events described below occurs, the Company’s financial
condition and operating results could be adversely affected.
Much
of our growth and future profitability depends on the effectiveness of our
advertising spent in the Direct to consumer channel.
Our
marketing expenditures may not result in increased revenue or generate
sufficient awareness of the program or the brand to the consumer. We may not
be
able to manage our advertising spend in a cost effective manner thereby
increasing the cost to acquire a new customer to an elevated level that will
decrease profits.
We
may be subject to health related claims from our customers
A
customer that suffers health problems may allege that the Medifast program
contributed to the ailment. The Company is not currently the subject of any
such
claims; however, we would defend ourselves vigorously against such
accusations. Regardless
of the ultimate outcome, defending against such claims would be costly and
could
adversely affect our results of operations.
A
competitor or new entrant into the market may develop a product and program
similar to ours
Many
of
our competitors are significantly larger than us and have more financial
resources to develop new products and programs. Our business could be affected
if one of our competitors or a new entrant to the market develops similar
products and programs through similar marketing channels. This could result
in
lower sales as well as pricing competition which could adversely affect the
Company’s results from operations.
New
fad diets or pharmaceutical solutions could put us at a competitive
disadvantage
The
weight loss industry is subject to fad diets. The Atkins craze hit the U.S.
several years ago and had an impact on many weight loss companies. Another
fad
diet could sweep the nation or consumer preferences could change. Our failure
to
adapt or respond quickly enough to these changes could have an adverse affect
on
our results of operations. In addition, pharmaceutical companies are constantly
trying to develop safe, effective, drugs that lead to weight loss. If
successful, many dieters could perceive this to be easier than the Medifast
program and this would put us at a competitive disadvantage.
Our
ability to compete could be negatively affected in the event we fail to protect
our brand names, trademarks or other intellectual property
Because
our business relies heavily on direct to consumer models, brand awareness is
an
important factor in our sales strategy. Failure to protect our brand or maintain
an image of good standing with the public could result in a negative effect
on
our operations. Additionally, failure to protect our intellectual property
could
result in the arrival of a similar competitor which could reduce our competitive
edge or decrease our market share.
The
business may grow too quickly for the current infrastructure to
handle
If
our
advertising is extremely successful and our Take Shape for Life relationship
marketing division sees a large uptick in recruitment we may be unable to handle
the growth from an operational perspective. Increasing demands on our
infrastructure could cause long hold times in the call center as well as delays
on our website. In addition, there could be delays in order processing,
packaging and shipping. We could run out of a majority of our inventory if
growth exceeded our production capacity. If these difficulties are encountered
in a period of hyper-growth then our operating results could
suffer.
Any
deficiencies or shortcomings in our information technology could prevent an
efficient execution of routine business procedures
We
rely
heavily on our IT infrastructure to support major business components. Any
disruption to the integrity of this support structure including but not limited
to; software, telecommunications, Electronic Resource Platform, or the
Information Technology architecture as a whole could severely limit our ability
to provide customers and vendors with adequate service and operating responses.
In addition, our financial reporting is directly correlated with our
company-wide software Microsoft Navision 4.0. Any compromise in the veracity
of
this system could severely alter the accuracy of our tracking, volumes, and
general reporting including financial statements.
12
A
disruption in the supply of raw materials or the inability of third party
manufacturing for certain products could affect operating results
We
rely
heavily on our vendors to provide quality raw materials for us to utilize in
our
on site manufacturing processes. Any disruption in the availability of these
materials could potentially interrupt our ability to provide certain products
to
customers in a timely manner. Also certain products are currently manufactured
through a third party. The availability of these products is prone to
fluctuation dependent on the manufacturer’s ability to secure and produce a
quality product that satisfies our satisfaction standards.
Our
stock price may experience volatility due to fluctuations in our operating
results
Our
stock
price is subject to fluctuations in response to our operating results, a
competitor’s operating results, or our ability to meet stock analysts forecasts
and our yearly revenue and EPS guidance. In addition, general trends in the
weight-loss industry as a whole can have an affect on our stock price. These
factors may have an adverse affect on the market price of our stock and cause
it
to fluctuate significantly.
We
may be subject to claims that our employees are unqualified to provide weight
loss counseling
Our
Medifast Weight Control center division provides medical assessments and
counseling to our customers. We may be subject to claims that our employees
lack
the proper training and qualifications to provide proper advice regarding weight
loss. We could be subject to claims if an employee in one of our clinics gives
inappropriate weight loss advice that results in health problems. Such claims
could result in damage to our reputation and could have an affect on our
operating results.
Negative
publicity in the weight loss industry could adversely affect our
business
If
the
press were to come out with negative media about low-calorie diets, meal
replacements, or soy protein this could harm our business. Even if not directed
at Medifast, this perception could be instilled in our target market and cause
harm to our operating results.
The
loss of key personnel could adversely affect our ability to operate and result
in a negative financial condition
Certain
members of our Company oversee integral components of our Company. Although
we
do not anticipate the departure of any key employees including but not limited
to the executive management team, we cannot guarantee their tenure indefinitely
in the future.
Our
results of operations may decline as a result of a downturn in general economic
conditions or consumer confidence
Our
results of operations are highly dependent on
product
sales and program fees. A downturn in general economic conditions or consumer
confidence and spending in any of our major markets could result in people
curtailing their discretionary spending, which, in turn, could lead to a
decrease in product sales in our Medifast Direct and Take Shape for Life
divisions and a decrease in product and program fees at our Medifast Weight
Control Centers and Internet product subscriptions. Any such reduction would
adversely affect our results of operations.
Our
Business is subject to regulatory and legislative
restrictions
A
number
of laws and regulations govern our production, operation, and advertising.
The
FTC and certain states regulate advertising, disclosures to consumers, privacy,
consumer pricing or billing arrangements, and other consumer matters. Our direct
selling distribution channel is subject to risk of interpretation of certain
laws pertaining to the prevention of “pyramid” or “chain sale” schemes. Although
we believe we are in full compliance, should the governing body alter or enforce
the law in an unanticipated way, there may be a negative result on the company’s
operations. The Company’s financial reporting is subject to various laws and
regulations as well, specifically, the Sarbanes-Oxley Act of 2002 and the SEC.
These requirements demand the Company disclose certain information and maintain
specific controls to ensure fair and legal accounting practices as outlined
therein. The Company has taken substantial measures to ensure compliance through
routine internal and external audits. Failure to correct any flaws in internal
controls may constitute a public notification of weakness and could have an
adverse effect on our stock price. Additionally, the Company is required to
maintain a position of good standing in regards to taxation on both a Federal
and State level. Failure to comply with federal and state regulations could
result in additional taxes, fines, or interest due that could financially strain
the company. Future laws and regulations could be unforeseen and potentially
have a material negative impact on the Company. Failure to comply with any
regulations of current or future authoritative entities could have a detrimental
effect on the Company’s financial standing or operating results
13
ITEM
1B. UNRESOLVED STAFF COMMENTS
None
ITEM
2. DESCRIPTION OF PROPERTY
The
Company owns a 49,000 square-foot facility in Owings Mills, Maryland, which
contains its Corporate Headquarters and manufacturing plant. In 2003, the
Company purchased a state-of-the-art 119,000 square-foot distribution facility
in Ridgely, Maryland. The facility gives the Company the ability to distribute
over $250 million of Medifast product sales per year. In 2004, the Company
purchased a 3,000 square foot conference and training facility in Ocean City,
Maryland. The facility will be used to conduct corporate training meetings,
Board of Director Meetings and employee morale and wellness
programs. The
Company has 14 leases for its corporately owned Medifast Weight Control clinics
throughout Florida and Texas. In addition, the Company leases a building in
Owings Mills, MD for corporate offices. The leases range in terms from one
to
six years.
ITEM
3. LEGAL PROCEEDINGS.
Leonard
Z. Sotomeyer on December 30, 2003 filed an action in the Supreme Court of the
State of New York, County of New York, against his former business partner,
David Scheffler, and T-1 Holdings, LLC, and included Medifast, Inc., formerly
Heathrite, Inc., as a Defendant, Case 604076-03, seeking monetary damages for
failure of his former business partner to compensate him under several
consulting agreements with Medifast, Inc. made with H-T Capital, Inc. and
derivatively on behalf of T-1 Holdings, LLC. The Court dismissed on Defendants’
motions Sotomeyer’s complaint in its entirety by Order of September 30, 2004.
Following an appeal, the Appellate Division, First Department, reinstated the
first and second causes of action while affirming the dismissal of Plaintiff’s
remaining derivative claims by its decision April 13, 2006. The matter is now,
again, before the New York Supreme Court for the specific purpose of litigating
plaintiff’s first and second causes of action only. Medifast has denied any
wrongdoing and discovery is ongoing. Medifast believes it continues to have
a
meritorious defense to the two remaining counts and that any decision rendered
would not materially impact the ongoing operations of Medifast,
Inc.
ITEM
4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not
applicable
14
PART
II
ITEM
5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
(a)
The
Company's Common Stock has been quoted under the symbol MED since December
20,
2002. The old symbol, MDFT, had been traded since February 5, 2001. The common
stock is traded on the New York Stock Exchange. The following is a list of
the
low and high closing prices by fiscal quarters for 2007 and 2006:
(b)
The
quotations reflect inter-dealer prices, without retail mark-up, markdown or
commissions and may not represent actual transactions.
(c)
There
were approximately 206 record holders of the Company's Common Stock as of March
17, 2008. This number does not include beneficial owners of our securities
held
in the name of nominees. The Company had no preferred holders of the Company’s
stock as of December 31, 2007.
(d)
No
dividends on common stock were declared by the Company during 2007 or
2006.
15
ITEM
6. SELECTED FINANCIAL DATA
The
selected condensed consolidated financial data set forth below should be read
in
conjunction with “Management’s Discussion and Analysis of Financial Condition
and Results of Operations” included as Part II, Item 7 of this Annual
Report on Form 10-K, and the consolidated financial statements and notes
thereto of the company included in Part II Item 8 of this Annual
Report on Form 10-K. The historical results provided below are not
necessarily indicative of future results.
ITEM
7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF
OPERATIONS.
FORWARD
LOOKING STATEMENTS
This
document contains forward-looking statements which may involve known and unknown
risks, uncertainties and other factors that may cause Medifast, Inc. actual
results and performance in future periods to be materially different from any
future results or performance suggested by these statements. Medifast, Inc.
cautions investors not to place undue reliance on forward-looking statements,
which speak only to management's expectations on this date.
Critical
Accounting Policies and Estimates
Our
consolidated financial statements are prepared in accordance with U.S. generally
accepted accounting principles. Our significant accounting policies are
described in Note 2 of the consolidated financial statements.
The
preparation of these financial statements requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities,
the
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenue and expenses during the
reporting period. Management develops, and changes periodically, these estimates
and assumptions based on historical experience and on various other factors
that
are believed to be reasonable under the circumstances. Actual results may differ
from these estimates under different assumptions or conditions. Management
considers the following accounting estimates to be the most critical in
preparing our consolidated financial statements. These critical accounting
estimates have been discussed with our audit committee.
Revenue
Recognition.
Revenue
is recognized net of discounts, rebates, promotional adjustments, price
adjustments, returns and other potential adjustments upon shipment and passing
of risk to the customer and when estimates of are reasonably determinable,
collection is reasonably assured and the Company has no further performance
obligations.
16
Impairment
of Fixed Assets and Intangible Assets. We
continually assess the impairment of long-lived assets whenever events or
changes in circumstances indicate that the carrying value of the assets may
not
be recoverable. Judgments regarding the existence of impairment indicators
are
based on legal factors, market conditions and our operating performance. Future
events could cause us to conclude that impairment indicators exist and the
carrying values of fixed and intangible assets may be impaired. Any resulting
impairment loss would be limited to the value of net fixed and intangible
assets.
Income
Taxes.
In the
preparation of consolidated financial statements, the Company estimates income
taxes based on diverse legislative and regulatory structures that exist in
jurisdictions where the company conducts business. Deferred income tax assets
and liabilities represent tax benefits or obligations that arise from temporary
differences due to differing treatment of certain items for accounting and
income tax purposes. The Company evaluates deferred tax assets each period
to
ensure that estimated future taxable income will be sufficient in character
amount and timing to result in their recovery. A valuation allowance is
established when management determines that it is more likely than not that
a
deferred tax asset will not be realized to reduce the assets to their realizable
value. Considerable judgments are required in establishing deferred tax
valuation allowances and in assessing probable exposures related to tax matters.
The Company’s tax returns are subject to audit and local taxing authorities that
could challenge the company’s tax positions. The Company believes it records
and/or discloses such potential tax liabilities as appropriate and has
reasonably estimated its income tax liabilities and recoverable tax
assets.
Allowance
for doubtful accounts.
In
determining the adequacy of the allowance for doubtful accounts, we consider
a
number of factors including the aging of the receivable portfolio, customer
payment trends, and financial condition of the customer, industry conditions
and
overall credibility of the customer. Actual amounts could differ significantly
from our estimates.
CONSOLIDATED
RESULTS OF OPERATIONS
2007
COMPARISON WITH 2006
OPERATING
Revenue:
Revenue increased to $83.8 million in 2007 as compared to $74.1 million in
2006,
an increase of $9.7 million or 13%. The direct marketing sales channel accounted
for 56% of total revenue, Take Shape for Life 33%, doctors 5%, and brick and
mortar clinics 6%. The direct marketing sales channel, which is fueled primarily
by consumer advertising, increased revenues by approximately 3% year-over year.
Take Shape for Life sales, which are fueled by person-to-person recruiting
and
support increased by 23% year-over-year. The Company’s doctor’s sales increased
by 8% compared to 2006. The Company’s clinic division which began operating
under the Medifast Weight Control Center name in late 2006, increased sales
by
37% as compared to 2006.
The
Take
Shape for Life division grew 23% year-over-year. This growth can largely be
attributed to the tools and training that led to an increase in the ability
of
the division to both promote growth in recruiting of health coaches, as well
as
better supporting this growth as it occurs. This continued investment proved
to
be a large part of the current growth trends in Take Shape for Life sales,
as
well as the number of active health coaches. The number of active health coaches
grew to 1,850 at the end of the fourth quarter 2007 compared to 1,200 at the
same time period in 2006, an increase of 54%. This recent growth in health
coaches was recently observed in July of 2007, with over 80% attendance growth
at the 2007 National Convention compared to the attendance at the 2006
Convention. The company believes that the growth in health coach activity is
a
positive trend that should continue, and will lead to significant revenue growth
in the near future
The
Medifast Weight Control Centers, which represent approximately 6% of the
Company’s overall revenues, are currently operating in 11 locations in Dallas
and Orlando. In 2007, the Company experienced revenue growth of 37% versus
the
same time period last year. The average monthly revenue per clinic also
witnessed significant growth of 64%, averaging $36,000 per clinic in 2007 as
compared to $22,000 in 2006. In the expanding Dallas, TX market, the average
monthly revenue per clinic is approximately $50,000. In the estimated $40
billion weight loss and health living industry, the brick and mortar clinic
model has always made up a significant portion of overall sales. Medifast has
incorporated this model with the creation of the Medifast Weight Control
Centers. The recent growth in this division has proven that the model is in
high
demand from a select portion of the weight loss consumers. The Company believes
that with the recent industry launches of over-the-counter and anticipated
launches of prescription appetite suppressant medications that this model will
continue to grow. Therefore, throughout 2007, the Company invested in the
infrastructure of its clinic model. The major aspects of the investment in
this
division included an expanded executive team, the creation of a point of sale
system, a robust customer data tracking system, finalizing the franchise
opportunity documentation, and the beginning stages of expansion into several
new locations. The Company believes this business will be a major driver of
revenues and profits for the Medifast business as it continues to expand. The
Company plans to continue the expansion of the Medifast Weight Control Centers
with both additional corporate locations as well as offering the model through
a
franchise opportunity. The Company is opening four additional corporately owned
clinics in the Houston, TX market by the end of the first quarter of
2008. Also, on February 18, 2008, the Company announced that it has sold
its first franchise of Medifast Weight Control Centers. The Company sold the
rights to open four clinics in the Greater Baltimore Metropolitan Area. The
franchisee also has the rights to open four additional Medifast Weight Control
Centers in the Baltimore area over the next two years, bringing the total to
eight locations.
17
Overall,
selling, general and administrative expenses increased by $8.1 million as
compared to 2006. The majority of the increase was due to investments in the
Company’s future advertising campaigns, along with the necessary infrastructure
support tools to allow the future campaigns to improve in effectiveness.
Advertising expense for 2007 was approximately $18.4 million compared to
approximately $14.3 million for the same period last year, an increase of $4.1
million. In the prior year, the Company benefited from a substantial editorial
placement in a major consumer publication at no cost to the Company. During
2007, the Company has invested in multiple celebrity endorsement contracts
as
well as increased public relations expense to focus on increasing brand
awareness that will benefit our future advertising campaigns. Salaries and
benefits increased by approximately $1,500,000 in 2007 as the Company hired
additional expertise in critical areas in order to assist in future growth
and
meet regulatory needs. This primarily includes IT, nutrition and product
development, marketing, Medifast Weight Control Centers, and Take Shape for
Life. Take Shape for Life commission expense, which is completely variable
based
upon revenue, increased by approximately $2,400,000. Communication expense
which
includes outsourced call centers decreased by $50,000. The Company has spent
a
significant amount of time and materials in 2007 building the future call center
infrastructure with related technology and personnel. This investment will
allow
the call center to increase the percentage of advertising calls to be handled
in-house. It is believed that this initiative will amount to significant savings
and improved closing rates in the future. The reduction in outsourced call
center expenses will continue in stages throughout 2008. Other expenses
increased by $550,000, which included items such as depreciation, amortization,
credit card processing fees, charitable contributions, and property taxes.
Stock
compensation expense increased by $192,000 as compared to 2006 as stock awards
vest over 5 and 6 year terms for executives. These increases were offset by
an
approximately $250,000 decrease in office expense and the absence of a $323,000
loss resulting from the sale of the Consumer Choice Systems division in the
first quarter of 2006.
Costs
and
Expenses: Cost of revenue increased $3.2 million to $21.5 million in 2007 from
$18.2 million in 2006. As a percentage of sales, gross margin remained at
approximately 75% in 2007 and 2006.
Other
Income/Expense: Other income/expense decreased from $82,000 in other income
in
2006 to $172,000 in other expense at December 31, 2007. Other income/expense
consists of interest expense on debt, gains on the sale of equity investments,
interest payments received on the CCS note receivable, and overpayments of
taxes. In 2007, the Company also realized other income when it exercised a
stock
warrant from a former business partner, and realized a loss on disposal of
assets relating to the closing of three Medifast Weight Control
Centers.
Income
taxes: In
2007,
we recorded $1,706,000 in income tax expense, which represents an annual
effective rate of 30.8%. In 2006, we recorded income tax expense of $2,307,000
which reflected an estimated annual effective tax rate of 30.9%. The Company
anticipates a tax rate of approximately 32-34% in 2008.
Net
income: Net income was $3.8 million in 2007 as compared to $5.2 million in
2006,
which reflected a decrease of $1.4 million or 26%. The decrease was directly
related to the initiatives of the Company to create its new advertising campaign
and improve future capabilities to increase advertising effectiveness.
Additionally, the Company did not have the benefit of the no cost editorial
publication that occurred in the first quarter of 2006 that led to significant
profits.
18
SEGMENT
RESULTS OF OPERATIONS
Net
Sales by Segment as of December 31, 2007
2007
vs. 2006
Medifast
Segment: The Medifast reporting segment consists of the sales of Medifast
Direct, Take Shape for Life, and Doctors and Clinics. As this represents the
majority of our business this is referenced to the “Consolidated Results of
Operations” management discussion for 2007 vs. 2006 above.
All
Other
Segment: The All Other reporting segment consists of the sales from Hi-Energy
and Medifast Weight Control Centers. Sales increased by $903,000 year-over
year
as a result of an increase in Medifast Weight Control Centers sales of
$1,013,000. Sales to Hi-Energy licensees decreased by $110,000 as fewer
Hi-Energy licensee clinics remain in operation as clinics convert to Medifast
Weight Control Centers. The increase in Medifast Weight Control Center’s sales
was due to a renewed focus on the expansion of the corporate clinics, spending
increases for advertising, increased advertising effectiveness, improved closing
rates on walk-in sales, as well as the hiring of more experienced clinic
operators to manage the clinics. There were 10 clinics open at the end of 2007
as compared to 12 at the end of 2006.
2006
vs. 2005
Medifast
Segment: The Medifast reporting segment consists of the sales of Medifast
Direct, Take Shape for Life, and Doctors and Clinics. As this represents the
majority of our business this is referenced to the “Consolidated Results of
Operations” management discussion for 2006 vs. 2005 above.
All
Other
Segment: The All Other reporting segment consists of the sales from Hi-Energy
and Medifast Weight Control Centers. Sales increased by $564,000 year-over
year
as a result of an increase in Hi-Energy and Medifast Weight Control Centers
sales of $1,464,000. This was offset by a decrease in Consumer Choice Systems
sales of $900,000 as the division was sold in January of 2006. The increase
in
the Medifast Weight Control Center’s sales were due to spending increases for
advertising, increased advertising effectiveness, improved closing rates on
walk-in sales, as well as the hiring of more experienced clinic operators to
manage the clinics. In addition, new programs were developed that extended
the
lifetime value of each customer.
Net
Profit by Segment as of December 31, 2007
19
2007
vs. 2006
Medifast
Segment: The Medifast reporting segment consists of the profits of Medifast
Direct, Take Shape for Life, and Doctors and Clinics. As this represents the
majority of our business this is referenced to the “Consolidated Results of
Operations” management discussion for 2007 vs. 2006 above. See footnote 17,
“Business Segments” for a detailed breakout of expenses
All
Other
Segment: The All Other reporting segment consists of the losses of Hi-Energy,
Medifast Weight Control Centers, and corporate expenses related to the parent
company operations. Year-over-year, the loss in the All Other segment increased
by $1,148,000. Corporate expenses increased by $401,000, as a result of
increased fees due to increased reporting requirements for the Company as a
whole. These fees include, but are not limited to auditors’ fees, attorneys’
fees, board of director expenses, investor relations, corporate consulting,
education and training, and corporate outings. Hi-Energy and Medifast Weight
Control Center expenses increased by $747,000 due to increased focus on opening
new Medifast Weight Control clinics, hiring of experienced personnel, increased
advertising and developing the Franchise model. See footnote 17, “Business
Segments” for a detailed breakout of expenses.
2006
vs. 2005
Medifast
Segment: The Medifast reporting segment consists of the profits of Medifast
Direct, Take Shape for Life, and Doctors. As this represents the majority of
our
business this is referenced to the “Consolidated Results of Operations”
management discussion for 2006 vs. 2005 above. See footnote 17, “Business
Segments” for a detailed breakout of expenses
All
Other
Segment: The All Other reporting segment consists of the losses of Hi-Energy
and
Medifast Weight Control Centers, Consumers Choice Systems, and corporate
expenses related to the parent company operations. Year-over-year, the loss
in
the All Other segment improved by $545,000. The sale of Consumer Choice Systems
in January of 2007 had the largest impact as it led to a $489,000 increase
in
income as compared to 2005. In addition, decreased selling, general, and
administrative expenses of the corporate operation, which includes auditor’s
fees, attorneys’ fees, board of director expenses, investor relations, corporate
consulting, education and training, and corporate outings, led to improvement
of
$186,000. The Hi-Energy and Medifast Weight Control Centers showed an immaterial
improvement year-over-year due to expenses associated with expanding the clinic
model. See footnote 17, “Business Segments” for a detailed breakout of
expenses.
Contractual
Obligations and Commercial Commitments
As
of
December 31, 2007, our principal commitments consisted of obligations for
variable and fixed rate loans detailed in Note 12 of the financial statements,
operating leases for corporately owned Medifast Weight Control Centers detailed
in Note 9 of the financial statements, and copier equipment contracts for our
printing operation that support our marketing efforts.
The
Company has the following contractual obligations as of December 31,
2007
20
LIQUIDITY
AND CAPITAL RESOURCES
The
Company had stockholders’ equity of $32,420,000 and working capital of
$10,395,000 on December 31, 2007 compared with $27,916,000 and $9,612,000 at
December 31, 2006, respectively. The $4.5 million net increase in stockholder’s
equity reflects $3.8 million in 2007 profits as well as equity transactions
as
outlined in the “Consolidated Statement of Changes in Stockholders’ Equity and
accumulated other comprehensive income (loss).” The Company’s cash and cash
equivalents position increased from $1.1 million at December 31, 2006 to $2.2
at
December 31, 2006. The increase is due to improved sales in fourth quarter
2007
versus 2006 as well as timing of accounts payable.
In
September 2007, Medifast, Inc.’s wholly owned subsidiary Jason Pharmaceuticals,
Inc. increased its Secured Line of Credit from $5 million to $7.5 million and
moved the line of credit from Mercantile Safe-Deposit and Trust to Merrill
Lynch. The line of credit is at LIBOR plus 1.3 percent. The increased line
may
be used to finance fixed assets, advertising, and inventory of Medifast, Inc.
The Company currently has no off-balance sheet arrangements.
In
the
year ended December 31, 2007, the Company generated cash flow of $7,954,000
from
operations, primarily attributable to higher operating income. This was offset
by net changes in operating assets and liabilities that decreased cash flow
by
$1,289,000. The largest use of cash was for the purchase of inventory. The
Company builds up inventory each year in the fourth quarter in order to prepare
for “diet season” in the first quarter of 2008. Additional uses of cash included
the funding of the Chairman of the Boards deferred compensation plan outlined
in
Note 1 of the financial statements as well as prepaid advertising for January
of
2008. This was offset by an increase in accounts payable and income taxes
payable of $1,367,000 and $57,000, respectively.
In
the
year ended December 31, 2007, net cash used in investing activities was
$7,969,000, which primarily consisted of the purchase of intangible assets
and
purchases of property and equipment. The increase in intangible assets relates
to the acquisition of customer lists in 2007 which are used in direct response
marketing campaigns. These campaigns consist of postcards and e-mails that
are
sent to customers with a special offer or discount coupon to order on our
website, choosemedifast.com, or through our in-house call center. In the fourth
quarter of 2007, the Company leased an additional Xerox Igen3 printer in order
to increase its direct mailing capabilities. Large customer mailings will be
sent out bi-weekly throughout 2008. The increase in property and equipment
relates to the building of a large amount of infrastructure in 2007. This
included the purchase of a state of the art Avaya phone system, additional
enhancements to our Enterprise Resource Planning System, IT server and
networking upgrades, the build out of our new Medifast Weight Control Centers
as
well as leasehold improvements to our distribution facility in Ridgely,
MD.
In
the
year ended December 31, 2007, financing activities generated $1,125,000 in
cash
flow, representing principal repayments of long-term debt, and the purchase
of
25,000 shares of treasury stock. This was offset by an increase in the line
of
credit, decrease in the CCS note receivable, and issuances of warrants and
options exercised with cash.
In
pursuing its business strategy, the Company may require additional cash for
operating and investing activities. The Company expects future cash
requirements, if any, to be funded from operating cash flow and cash flow from
financing activities.
There
are
no current plans or discussions in process relating to any material acquisition
that is probable in the foreseeable future.
2006
COMPARISON WITH 2005
OPERATING
Revenue:
Revenue increased to $74.1 million in 2006 as compared to $40.1 million in
2005,
an increase of $34 million or 85%. The direct marketing sales channel accounted
for 60% of total revenue, Take Shape for Life 30%, doctors 5%, and clinics
5%.
The direct marketing sales channel, which is fueled primarily by consumer
advertising, increased revenues by approximately 142% year-over year. Take
Shape
for Life sales, which are fueled by person-to-person recruiting and support
increased by 46% year-over-year.
The
growth in revenue is primarily the result of an increased advertising campaign
in 2006, which fueled growth across the Company’s multiple distribution
channels. The Company has expanded into additional print media and national
cable and network TV spots. The Company also continues to expand its presence
on
the web through multiple marketing initiatives. Additionally, the Take Shape
for
Life network continues to grow as the sales network expands into additional
states and increased penetration in existing states. The Company continues
to
create new marketing tools and training materials for health advisors to help
increase the recruitment of both active Health Advisors as well as the lifetime
value of their customers.
Due
to
the significant growth in the first half of 2006, Medifast, Inc. began exploring
third party over-sourcing capabilities in the call center. The Company began
using an outsourced call center for overflow call volume in late April. The
outsourced call center allowed the company to prepare in the fourth quarter
of
2006 for anticipated sales growth in the first quarter of 2007 so that a
shortage of call center representatives would not be experienced as it was
in
the first quarter of 2006. The Company is currently exploring bringing all
call
center functions in-house. Capital expenditure for a new phone system would
be
necessary; however, the return on investment would be under a year. The Company
has also invested in increasing production capacity with the purchase of two
additional manufacturing lines and a larger capacity blender. The lines will
significantly improve the Company's production capability, while also improving
its overall efficiencies.
21
In
addition, the Company implemented a new Enterprise Resource Planning (ERP)
system in December of 2006. The system adds critical functions and controls
necessary for Sarbanes Oxley compliance and significantly increases the
Company’s ability to track and forecast inventory. The system provides enhanced
reporting on all business units and enables the Company to handle significantly
increased sales volume. The Company believes that these capabilities will
provide the Company with the scalability necessary to seamlessly handle
increased demands as the business continues to grow. The Company is exploring
the ownership of its call center, which would require a new phone system. The
Company expects that this would be the last large capital expense expected.
The
Company now has the manufacturing, distribution, and IT capability to handle
approximately $250 - $300 million in sales volume
Costs
and
Expenses: Cost of revenue increased $8.1 million to $18.2 million in 2006 from
$10.2 million in 2005. As a percentage of sales, gross margin increased to
75.4%
in 2006 as compared to 74.7% in 2005. The slight increase in gross margin is
primarily due to decreased raw material costs as a result of increased volume
discounts. The new machines are expected to add to efficiency in the
future.
Advertising
expense in 2006 was approximately $14.3 million as compared to approximately
$3.8 million in 2005, an increase of $10.5 million. The increased marketing
was
spent primarily for TV advertising, print, and web media. The Company continues
to test, analyze and adapt the advertising message and placements on TV, print
and web media to achieve the lowest cost to acquire new customers. This testing
will allow the company to spend our advertising dollars most effectively as
we
plan on increasing our advertising budget for the year of 2007. The branding
effect of advertising has proven to have impact in all channels of the business
driving customers to the web and call center, leads to Take Shape for Life
health advisors, patients to local Medifast practitioners and significant
walk-ins to Medifast Weight Control Center clinics.
Aside
from the increase in advertising expense, selling, general, and administrative
expenses increased by approximately $11.5 million. A few major expense
categories attributed to the majority of the increase in expenses and were
all
directly related to our dramatic sales growth in 2006. Salaries and benefits
increased by $3 million to support the 85% increase in sales. In addition,
Take
Shape for Life sales increased by 46% year-over-year which led to increased
commission expense of $3.4 million that is completely variable in relation
to
sales growth. Another variable expense that rose by $800,000 with our sales
growth was credit card processing fees. Currently, over 95% of the Company’s
transactions are processed via credit card. Additional increases included an
increase in office expense of $800,000, an increase in operating costs of
$300,000, and an increase in sales expense of $400,000. Other expenses increased
by $1.8 million, which included items such as depreciation, amortization, stock
compensation expense, charitable contributions, and property taxes. To handle
increased call volume, the Company began using an outsourced call center in
April of 2006 which led to $1 million in additional expense as compared to
prior
year.
Other
Income/Expense: Other income increased from $15,000 in 2005 to $276,000 in
2006
primarily as a result of increased gains on the sale of equity investments,
interest payments received on the CCS note receivable, and state income tax
refunds related to 2005 overpayments.
On
January 17, 2006 the assets of Consumer Choice Systems, a division of Medifast,
Inc., were sold to a former Board member. The promissory note calls for monthly
principal only payments over a 10-year term. Therefore, when imputing an
interest rate on the loan, a $323,000 loss had to be realized due to the
difference in the present value of the note receivable compared to the amount
realizable over 10-years. This is a one-time loss that will not affect any
future periods. The loss is recouped monthly in interest income over a period
of
120 months or upon payment of the note in its entirety.
Income
taxes: In the third quarter of 2006, the Company had a $1 million federal tax
refund receivable. A portion of this refund was factored into the Company’s
income tax provision, which lowered the estimated tax rate for 2006. In
2006,
the Company recorded $2.3 million in income tax expense, which represents an
annual effective rate of 31%. In 2005, we recorded income tax expense of $1
million, which reflected an estimated annual effective tax rate of 29.4 %.
The
Company anticipates a tax rate of approximately 36-39% in 2007. The benefit
the
Company received in 2006 from a large income tax refund receivable as a result
a
cost segregation study performed on our fixed assets is not expected to benefit
future periods.
Net
income: Net income increased to $5.2 million in 2006 as compared to $2.1 million
in 2005, which reflected an increase of 144% or $3.1 million. The increase
in
net income is due to an increase in sales offset by increased selling, general,
and administrative expenses, that primarily consist of increased advertising,
commissions paid to Take Shape for Life health advisors, outsourced call center
reps, and new employees.
22
LIQUIDITY
AND CAPITAL RESOURCES
The
Company had stockholders’ equity of $27,916,000 and working capital of
$9,612,000 on December 31, 2006 compared with $21,697,000 and $9,996,000 at
December 31, 2005, respectively. The $6.2 million net increase in stockholder’s
equity reflects the increased profitability of the Company. The Company’s cash
and cash equivalents position decreased from $1.5 million at December 31, 2005
to $1.1 at December 31, 2006. The decrease is due to increased cash outlays
for
infrastructure to include the new ERP system and new production lines and
blender, as well as inventory build-up for the first quarter of 2007. In
addition, prepaid advertisements for January and payments to our third party
call center were uses of cash. On December 31, 2006 the Company’s current ratio
was 3 to 1.
In
October 2006, Medifast, Inc.’s wholly owned subsidiary Jason Pharmaceuticals,
Inc. renewed its $5,000,000 Secured Line of Credit from Mercantile Safe-Deposit
and Trust of Baltimore, Maryland. The line of credit is at LIBOR plus 1.3
percent. The increased line may be used to finance equipment, advertising,
inventory, and receivables of Medifast, Inc. The Company currently has no
off-balance sheet arrangements.
In
the
year ended December 31, 2006, the Company generated cash flow of $5,845,000
from
operations, primarily attributable to higher operating income. This was offset
by net changes in operating assets and liabilities that decreased cash flow
by
$3,650,000. The largest use of cash was for the purchase of inventory. We
increased inventory in the fourth quarter in order to meet anticipated demand
in
the first quarter of 2007. This was offset by an increase in accounts payable
and a reduction in our accounts receivable and prepaid balances.
In
the
year ended December 31, 2006, net cash used in investing activities was
$6,747,000, which primarily consisted of the purchase of intangible assets
and
purchases of property and equipment. The increase in intangible assets relates
to the acquisition of customer lists in 2006 which are used in direct response
marketing campaigns. These campaigns consist of postcards and e-mails that
are
sent to customers with a special offer or discount coupon to order on our
website, choosemedifast.com, or through our call center. In addition, the
Company acquired trademarks in preparation for future international ventures
as
well as incurred fees in developing patents on our diabetic lines. The increase
in property and equipment relates to the building of a large amount of
infrastructure in 2006. This included a new Enterprise Resource Planning system,
two new state of the art manufacturing lines, larger capacity blender and
improvements at our distribution facility as well as the build out of our new
Medifast Weight Control Centers.
In
the
year ended December 31, 2006, financing activities generated $503,000 in cash
flow, representing principal repayments of long-term debt, and the purchase
of
25,000 shares of treasury stock. This was offset by an increase in the line
of
credit and issuances of warrants and options exercised with cash.
In
pursuing its business strategy, the Company may require additional cash for
operating and investing activities. The Company expects future cash
requirements, if any, to be funded from operating cash flow and cash flow from
financing activities.
There
are
no current plans or discussions in process relating to any material acquisition
that is probable in the foreseeable future.
SEASONALITY
The
Company's weight management products and programs have historically been subject
to seasonality. Traditionally the holiday season in November/December of each
year is considered poor for diet control products and services. January and
February generally show increases in sales, as these months are considered
the
commencement of the “diet season.” The Company did not experience the
same
degree
of seasonality in 2007. This is largely due to the increase in the consumer’s
awareness of the overall health and nutritional benefits accompanied with the
use of the Company’s product line. As consumers continue to increase their
association of nutritional weight loss programs with overall health, seasonality
will continue to decrease.
INFLATION
To
date,
inflation has not had a material effect on the Company's business.
23
ITEM
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
Market
risk is the potential loss arising from adverse changes in market rates and
prices, such as interest rates and a decline in the stock market. The Company
does not enter into derivatives, foreign exchange transactions or other
financial instruments for trading or speculative purposes. The Company has
limited exposure to market risks related to changes in interest rates. The
principal risks of loss arising from adverse changes in market rates and prices
to which the Company and its subsidiaries are exposed relate to interest rates
on debt. Since nearly all of our debt is variable rate based, any changes in
market interest rates will cause an equal change in our net interest expense.
At
December 31, 2007, there was $4.8 million of variable interest loans outstanding
which is subject to interest rate risk. Interest rates on our variable rate
loans ranged from 5.93% to 7.73% for the year ended December 31, 2007. Each
100
basis point increase in the bank’s LIBOR rates relative to these borrowings
would impact interest expense by $48,000 over a 12-month period.
ITEM
8. FINANCIAL STATEMENTS.
The
information required by this item is set forth on pages 44 to 66 hereto and
incorporated by reference herein.
ITEM
9. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND
FINANCIAL DISCLOSURES.
There
were no disagreements with the Company’s independent auditors, regarding
accounting and financial disclosures for the fiscal year ending December 31,
2007.
ITEM
9A. CONTROLS AND PROCEDURES
Disclosure
Controls and Procedures
The
Securities and Exchange Commission defines the term “disclosure controls and
procedures” to mean a company’s controls and other procedures that are designed
to ensure that information required to be disclosed in the reports that it
files
or submits under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported, within the time periods specified in the Securities
and
Exchange Commission’s rules and forms. Based on the evaluation of the
effectiveness of our disclosure controls and procedures by our management,
with
the participation of our Chief Executive Officer and our Chief Financial
Officer, as of the end of the period covered by this report, our Chief Executive
Officer and our Chief Financial Officer have concluded that our disclosure
controls and procedures at the end of the period covered by this report were
effective to ensure that information required to be disclosed in the reports
that we file or submit under the Securities Exchange Act of 1934 is
(i) recorded, processed, summarized and reported, within the time periods
specified in the Commission’s rules and forms, and (ii) accumulated and
communicated to our management, including our Chief Executive Officer and Chief
Financial Officer, as appropriate to allow timely decisions regarding
disclosure.
Management’s
Report on Internal Control over Financial Reporting
Management
is responsible for establishing and maintaining adequate internal control over
the Company’s financial reporting. Internal control over financial reporting is
a process designed to provide reasonable assurance regarding the reliability
of
the Company’s financial reporting and the preparation of consolidated financial
statements for external purposes in accordance with generally accepted
accounting principles. Internal control over financial reporting includes
policies and procedures that: (i) pertain to maintaining records that, in a
reasonable detail, accurately and fairly reflect our transactions and
dispositions of our assets; (ii) provide reasonable assurance that
transactions are recorded as necessary for preparation of our financial
statements in accordance with generally accepted accounting principles and
that
the receipts and expenditures of the Company are being made in accordance with
management and board of director authorization; and (iii) provide
reasonable assurance that unauthorized acquisition, use or disposition of the
Company’s assets that could have a material effect on our financial statements
would be prevented or detected on a timely basis.
Because
of its inherent limitations, internal control over financial reporting may
not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
Management
evaluated the effectiveness of the Company’s internal control over financial
reporting based on the framework in Internal Control – Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission
(“COSO”). Based upon that evaluation, management concluded that the Company’s
internal control over financial reporting was effective as of December 31,
2007.
The
Company’s independent registered public accounting firm, Bagell, Josephs,
Levine, and Co., LLC, has audited the Company’s internal control over financial
reporting. Their report on the effectiveness of the Company’s internal control
over financial reporting appears on page 26.
24
Changes
in our Internal Control
There
was
no change in our internal control over financial reporting during the quarter
ended December 31, 2007 that has materially affected, or is reasonably
likely to materially affect, our internal control over financial reporting.
Limitations
on the Effectiveness of Controls
Our management, including our CEO and CFO, does not expect that our disclosure
controls or our internal controls will prevent or detect all errors and all
fraud. A control system, no matter how well designed and operated, can provide
only reasonable, not absolute, assurance that the control system’s objectives
will be met. Further, the design of a control system must reflect the fact
that
there are resource constraints, and the benefits of controls must be considered
relative to their costs. Because of the inherent limitations in all control
systems, no evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, within General Motors have been
detected. These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur because of simple
error or mistake. Controls can also be circumvented by the individual acts
of
some persons, by collusion of two or more people, or by management override
of
the controls. The design of any system of controls is based in part upon certain
assumptions about the likelihood of future events, and there can be no assurance
that any design will succeed in achieving its stated goals under all potential
future conditions. Over time, controls may become inadequate because of changes
in conditions or deterioration in the degree of compliance with associated
policies or procedures. Because of the inherent limitations in a cost-effective
control system, misstatements due to error or fraud may occur and not be
detected.
25
REPORT
OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The
Board
of Directors and Stockholders of Medifast, Inc.
We
have
audited Medifast, Inc. and subsidiaries’ internal control over financial
reporting as of December 31 2007, based on criteria established in Internal
Control—Integrated Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission (COSO). Medifast Inc. and subsidiaries’ management is
responsible for maintaining effective internal control over financial reporting
and for its assessment of the effectiveness of internal control over financial
reporting included in the accompanying Management’s Report on Internal Control
over Financial Reporting. Our responsibility is to express an opinion on the
Company's internal control over financial reporting based on our
audit.
We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit of internal control over financial reporting included
obtaining an understanding of internal control over financial reporting,
assessing the risk that a material weakness exists, and testing and evaluating
the design and operating effectiveness of internal control based on the assessed
risk. Our audit also included performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.
A
company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control
over
financial reporting includes those policies and procedures that (1) pertain
to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the Company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors
of
the Company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the Company's
assets that could have a material effect on the financial
statements.
Because
of its inherent limitations, internal control over financial reporting may
not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
In
our
opinion, Medifast, Inc. and subsidiaries maintained, in all material respects,
effective internal control over financial reporting as of December 31, 2007,
based on criteria established in Internal Control—Integrated Framework issued by
the Committee of Sponsoring Organizations of the Treadway Commission
(COSO).
We
have
also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets and the related
consolidated statements of income, stockholders’ equity and accumulated other
comprehensive income (loss), and cash flows of Medifast, Inc. and subsidiaries,
and our report dated March 14, 2008 expressed an unqualified
opinion.
Bagell,
Josephs, Levine & Company, LLC
Marlton,
New Jersey
March
14,
2008
26
PART
III
ITEM
10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The
Board
of Directors currently consists of 10 persons. The directors, their ages, and
the year in which they first became director are provided in the table
below:
27
28
ADDITIONAL
INFORMATION ABOUT THE BOARD OF DIRECTORS AND COMMITTEES
Director
Independence
The
Board
consists of 10 members of which 8 are non-management directors. Determination
as
to the qualifications of an independent directors are determined
under
section 303A.02 of the New York Stock Exchange, or the NYSE, Listed Company
Manual and the Company’s Categorical Standards of Independence. The NYSE’s
independence guidelines and the Company’s categorical standards include a series
of objective tests, such as the director is not an employee of the Company
and
has not engaged in various types of business dealings involving the Company,
which would prevent a director from being independent. The Board of Directors
has affirmatively determined that none of the Company’s independent directors
had any relationships with the Company.
The
Board, in applying the above referenced standards has affirmatively determined
the Company’s current independent directors are: Richard T. Aab, Joseph
Calderone, Charles P. Connolly, George Lavin, Jr. Esq., Dennis M. McCarthy,
Donald F. Reilly, and Mary Travis.
Board
Meetings
For
the
fiscal year ended December 31, 2007 (“Fiscal 2007”), the Board of Directors held
five meetings. All Board members attended at least 75% of the aggregate number
of Board meetings and applicable committee meetings held while such individuals
were serving on the Board of Directors, or such committees. Under the
Company’s
Principles of Corporate Governance,
which
is available on the Company’s website
www.choosemedifast.com,
by
following the link through“Investor
Relations” to “Corporate Governance,”
each
director is expected to dedicate sufficient time, energy and attention to ensure
the diligent performance of his or her duties, including attending meetings
of
the shareholders of the Company, the Board of Directors and committees of which
he or she is a member.
Eight
directors attended the 2007 annual general meeting.
Committees
of the Board
Our
Board
of Directors has a standing audit committee, nominating and corporate governance
committee, compensation committee, and executive committee.
29
Audit
Committee
Our
audit
committee consists of Charles Connolly, George Lavin, and Mary Travis, each
of
whom are independent as discussed above under “— Director Independence.” As
required by Rule 303A.07 of the NYSE Listed Company Manual, the Board of
Directors has affirmatively determined that each audit committee member is
financially literate, and that Mr. Connolly is an “audit committee
financial expert,” as defined in Item 407(d)(5) of Regulation S-K.
The
principal duties of the audit committee are as follows:
Our
Board
of Directors has adopted a written charter for the audit committee which is
available on the Company’s website at
www.choosemedifast.com
by
following the links through “Investor Relations” to “Corporate
Governance.” In
fiscal
2007, the audit committee met four times.
Nominating
and Corporate Governance Committee
The
nominating and corporate governance committee consists of Joseph Calderone,
Donald F. Reilly, and George Lavin, all of whom are independent as discussed
above under “— Director Independence.”
The
principal duties of the nominating and corporate governance committee are as
follows:
Our
Board
of Directors has adopted a written charter for the nominating and corporate
governance committee, which is available on the Company’s website at
www.choosemedifast.com
by
following the links through “Investor Relations” to “Corporate Governance” or in
print to any shareholder who requests it as set forth under “Additional
Information — Annual Report, Financial and Additional Information.” In
fiscal 2007, the nominating and corporate governance committee met four
times.
30
Compensation
Committee
The
compensation committee currently consists of Joseph D. Calderone, Dennis M.
McCarthy, Esq., and Mary T. Travis, all of whom were independent as discussed
above under “— Director Independence.”
The
principal duties of the compensation committee are as follows:
Our
Board
of Directors has adopted a written charter for the compensation committee which
is available on the Company’s website at
www.choosemedifast.com
by
following the links through “Investor Relations” to “Corporate Governance.” In
fiscal 2007, the compensation committee met four times.
Executive
Committee
Messrs.
Richard R. Aab, Bradley T. MacDonald, Michael C. MacDonald, Michael S. McDevitt,
and Dennis M. McCarthy, Esq. are members of the Executive Committee. The
Executive Committee has all the authority of the Board of Directors, except
with
respect to certain matters that by statute may not be delegated by the Board
of
Directors. The Committee meets periodically during the year to develop and
review strategic operational and management polices for the Company. The
Committee held
two
meetings
during fiscal 2007.
ADDITIONAL
INFORMATION
Section 16(a)
Beneficial Ownership Reporting Compliance
Section 16(a)
of the Exchange Act requires the Company’s directors and executive officers and
persons who beneficially own more than ten percent of a registered class of
the
Company’s equity securities to file with the SEC and the NYSE initial reports of
ownership and reports of changes in ownership of equity securities of the
Company. Directors, officers and greater-than-ten-percent beneficial owners
are
required by SEC regulations to furnish the Company with copies of all
Section 16(a) forms filed by them. In 2006, to the Company’s knowledge,
based solely on a review of the copies of such filings on file with the Company
and written representations from the Company’s directors and executive officers,
no Section 16(a) filing requirements were applicable to the Company’s
directors, executive officers and greater-than-ten-percent beneficial owners
in
fiscal 2007.
Codes
of Business Conduct and Ethics and Corporate Governance
Guidelines
Our
Board
of Directors has adopted a corporate Code of Business Conduct and Ethics
applicable to our directors, officers, including our principal executive
officer, principal financial officer and principal accounting officer, and
employees, as well as Corporate Governance Guidelines, in accordance with
applicable rules and regulations of the SEC and the NYSE. Each of our Code
of
Business Conduct and Ethics and Corporate Governance Guidelines are available
on
our website at
www.choosemedifast.com
by
following the links through “Investor Relations” to “Corporate
Governance.”
Any
amendment to, or waiver from, a provision of the Company’s Code of Business
Conduct and Ethics with respect to the Company’s principal executive officer,
principal financial officer, principal accounting officer or controller will
be
posted on the Company’s website,
www.choosemedifast.com.
31
ITEM
11. EXECUTIVE COMPENSATION.
COMPENSATION
DISCUSSION AND ANALYSIS
Our
Compensation Committee of the Board of Directors has responsibility for
establishing, implementing and continually monitoring adherence with the
Company’s compensation philosophy. The Compensation Committee ensures that the
total compensation paid to our named executive officers is fair, reasonable
and
competitive. Generally, the types of compensation and benefits provided to
our
named executive officers are similar to those provided to other officers and
employees of the Company.
Throughout
this discussion, the individuals who served as our CEO and CFO during Fiscal
2007, as well as the other individuals included in the Summary Compensation
Table on page 34, are referred to as the “named executive officers.”
The
main
objective of our executive compensation program is to create a competitive
total
rewards package based on the attainment of short-term performance objectives
and
long-term strategic goals. Accordingly, our executive compensation program
consists of the following three principal elements: base salary, cash bonus
and
equity grants in the form of stock options and restricted stock, with an
emphasis on incentive compensation rather than base salary. Our executives
are
also eligible to participate in employee benefit and retirement plans offered
by
the Company, which currently include defined contribution, and 401(k) plans,
and
health care and other insurance programs. The benefit programs available to
executives are the same as those available to all other eligible employees.
The
Compensation Committee of our Board of Directors is comprised solely of
non-affiliate independent Directors who meet the independence requirements
of
the NYSE. Our Compensation Committee makes all decisions regarding the
compensation of our CEO, including establishing the performance goals and
objectives for our CEO, evaluating our CEO’s performance in light of the goals
and objectives that were set and determining and recommending to our Board
the
CEO’s compensation based on that evaluation.
Our
CEO
makes recommendations to our Compensation Committee for the compensation of
all
other named executive officers. Our Compensation Committee and Board may accept
or adjust such recommendations as they determine in the best interests of the
Company and its stockholders and has final approval over all such compensation
decisions. To the extent not established by our Board of Directors, our
Compensation Committee is also authorized to establish compensation and benefits
for our Chairman and for new and existing non-affiliate independent Directors.
Our
Chairman, CEO, and Vice President of Human Resources provide advice, analysis
and recommendations to our Compensation Committee.
Elements
of Executive Compensation
Our
Compensation Committee also evaluates the achievement of corporate, individual
and organizational objectives for each executive officer during the prior fiscal
year. Each element of compensation is chosen in order to attract and retain
the
necessary executive talent, reward corporate performance and provide incentive
for the attainment of long-term strategic goals. The allocation of each element
of compensation is determined by our Compensation Committee for each executive
based on the following factors:
32
These
elements support our overall compensation philosophy by creating a balanced
focus on shorter-term corporate performance and the achievement of longer-term
business goals and stockholder value. While we believe in structuring executive
compensation plans that give our executives incentive to deliver certain
objective elements of corporate financial performance over specified time
periods, we do not believe in a purely mechanical approach. Instead, part of
our
executive compensation philosophy includes an element of reward for
non-quantitative achievements demonstrated by our executives in the actions
and
decisions they have taken throughout the year. When establishing our executive
compensation plans for a given year, it is not possible to foresee all of the
challenges and demands that will be made of our executives, both as a management
team and in their areas of individual responsibility. We believe that by
rewarding the quality of our decision-making and leadership, in addition to
the
achievement of quantifiable results, we are building a management team capable
of creating stockholder value over the longer-term, while remaining disciplined
in delivering shorter-term financial results. Accordingly, there is no
pre-established policy or target for the allocation between either cash and
non-cash or short-term and long-term incentive compensation. Rather, the
Compensation Committee reviews information provided by industry surveys and
peer
company data to determine appropriate level and mix of incentive compensation.
Income from such incentive compensation is realized as a result of the
performance of the Company and the individual, depending on the type of award,
compared to established goals.
Base
Salary
Our
base
salary determinations principally reflect the skills and performance levels
of
individual executives, the needs of the Company, and pay practices of comparable
public companies. It is not our policy to pay our executive officers at the
highest base salary level. Instead, we establish executive base salaries
conservatively at or below a midpoint level relative to an appropriate set
of
peers. We believe this policy sets a prudent and fiscally responsible tone
for
the Company’s overall base salary compensation programs.
Target
Bonus
Cash
bonuses principally reflect the Company’s financial performance and achievement
of corporate objectives established by our Board prior to the fiscal year.
The
executive bonus plan is designed to reward our executives for the achievement
of
shorter-term financial goals, predominantly revenue growth and profitability,
with cash flow and other operating ratios also considered. The allocation of
the
bonus pool among the employees, including senior executives, is at the
discretion of the Compensation Committee. The Chief Executive Officer, Chief
Financial Officer and other senior executives discuss and jointly develop
recommended bonus allocations among the staff within the various functional
areas of the Company. In addition, the Chief Executive Officer prepares an
allocation of bonus payments among the senior executive group. In consultation
with the Chief Executive Officer, the Compensation Committee evaluates, adjusts
and approves the amount and allocation of the bonus pool. In determining the
cash bonus allocation among senior executives, the Compensation Committee and
the Chief Executive Officer consider each executive’s a) contribution to current
and long-term corporate goals, and b) value in the labor market.
Equity
Compensation
Stock
option and restricted stock awards principally reflect the responsibilities
to
be assumed by each executive in the upcoming fiscal year, the responsibilities
of each executive in prior periods, the size of awards made to each executive
in
prior years relative to the Company’s overall performance, available stock for
issuance under our Option Plan, and potential grants in future years. The
Committee believes that stock option and restricted stock grants (1) align
the interests of executives with long-term stockholder interests, (2) give
executives a significant, long-term interest in the Company’s success, and
(3) help retain key executives in a competitive market for executive
talent. The Company does not plan on issuing stock options as part of
compensation in 2008 and beyond.
Equity
Ownership by Executives
We
do not
currently have a formal equity ownership requirement for our executives.
However, we encourage our executives to own equity in the Company on a voluntary
basis. All of our named executive officers own stock, restricted stock and
vested and unvested stock options. We periodically review the vested and
unvested equity holdings of our executives and evaluate whether these holdings
sufficiently align the interests of our executives with the long-term interests
of our stockholders. We may consider adopting equity ownership requirements
in
the future.
33
2007
Summary Compensation Table
The
following table sets forth the annual and long-term compensation for the fiscal
year ended December 31, 2007, of the Company’s Chief Executive Officer and
Chief Financial Officer and each of the three other most highly compensated
executive officers. These individuals, including the Chief Executive Officer
and
Chief Financial Officer are collectively referred to as the Named Executive
Officers.
34
2007
Grants of Plan-Based Awards
There
were no grants of plan-based awards to the Named Executive Officers for the
fiscal year ended December 31, 2007.
Outstanding
Equity Awards at Fiscal Year-End Table
Each
option has a five year life and an exercise price per share equal to 100% of
the
estimated fair value of our common stock on the date of grant.
35
2007
Option Exercises and Stock Vested Table
The following
table sets forth information regarding option exercises and stock vesting for
the Named Executive Officers during 2007.
36
2007
Non-Qualified Deferred Compensation Table
The
following table sets forth all non-qualified deferred compensation of the Named
Executive Officers for the fiscal year ended December 31, 2007.
Deferred
Compensation Plans
We
maintain a non-qualified deferred compensation plan, effective September 10,
2003, for Senior Executive management. Currently, Bradley MacDonald is the
only
participant in the plan. Under the deferred compensation plan that became
effective in 2003, executive officers of the Company, including the Named
Executive Officers, may defer a portion of their salary and bonus
(performance-based compensation) annually. A participant may elect to receive
distributions of the accrued deferred compensation in a lump sum or in
installments upon retirement
Each
participating officer may request that the deferred amounts be allocated among
several available investment options established and offered by the Company.
These investment options provide market rates of return and are not subsidized
by the Company. The benefit payable under the plan at any time to a participant
following termination of employment is equal to the applicable deferred amounts,
plus or minus any earnings or losses attributable to the investment of such
deferred amounts. The amount of compensation in any given fiscal year that
is
deferred by each Named Executive Officer is included in the Summary Compensation
Table under the column headings “Salary” or “Non-Equity Incentive Plan
Compensation”, as appropriate.
The
Company has established a trust for the benefit of participants in the deferred
compensation plan. Pursuant to the terms of the trust, as soon as possible
after
any deferred amounts have been withheld from a plan participant, the Company
will contribute such deferred amounts to the trust to be held for the benefit
of
the participant in accordance with the terms of the plan and the trust.
Retirement
payouts under the plan upon an executive officer’s retirement from the Company
are payable either in a lump-sum payment or in annual installments over a period
of up to ten years. Upon death, disability or termination of employment, all
amounts shall be paid in a lump-sum payment as soon as administratively
feasible.
In
2007,
the Company made a $100,000 contribution to Bradley MacDonald’s deferred
compensation plan as a performance bonus.
Narrative
Disclosure to Summary Compensation Table and Grants of Plan-Based
Awards
We
have
entered into employment agreements with certain Named Executive Officers,
certain terms of which are summarized below.
Bradley
T. MacDonald.
Mr.
MacDonald entered into a five year employment agreement effective February
8,
2006. Mr. MacDonald was granted 100,000 options over a five year vesting period
beginning on February 8, 2007 in consideration for his five year commitment
and
to align his interest with the interests of long-term shareholders. Upon
termination of Mr. MacDonald’s employment by the Company without cause, or upon
his resignation for good reason, he would be entitled to receive an amount
equal
to one and a half times the sum of his highest annualized salary payable in
equal monthly installments 30 days after his termination of employment for
a
period of one year.
37
Michael
S. McDevitt.
Mr.
McDevitt entered into a six year employment agreement effective February 8,
2006. Mr. McDevitt was granted 200,000 shares of Medifast, Inc. restricted
common stock over a six year vesting period beginning on February 8, 2006 in
consideration for his six year commitment and to align his interests with the
interests of long-term shareholders. Upon termination of Mr. McDevitt’s
employment by the Company without cause, or upon his resignation for good
reason, he would be entitled to receive an amount equal to one and a half times
the sum of his highest annualized salary payable in equal monthly installments
30 days after his termination of employment for a period of one
year.
Margaret
MacDonald. Ms.
MacDonald entered into a six year employment agreement effective February 8,
2006. Ms. MacDonald was granted 150,000 shares of Medifast, Inc. restricted
common stock over a six year vesting period beginning on February 8, 2006 in
consideration for his six year commitment and to align her interests with the
interests of long-term shareholders. Upon termination of Ms. MacDonald’s
employment by the Company without cause, or upon her resignation for good
reason, she would be entitled to receive an amount equal to one and a half
times
the sum of his highest annualized salary payable in equal monthly installments
30 days after her termination of employment for a period of one
year.
Brendan
N. Connors.
Mr.
Connors entered into a six year employment agreement effective February 8,
2006.
Mr. Connors was granted 30,000 shares of Medifast, Inc. restricted common stock
over a six year vesting period beginning on February 8, 2006 in consideration
for his six year commitment and to align his interests with the interests of
long-term shareholders. Upon termination of Mr. Connors’ employment by the
Company without cause, or upon his resignation for good reason, he would be
entitled to receive an amount equal to one and a half times the sum of his
highest annualized salary payable in equal monthly installments 30 days after
his termination of employment for a period of one year.
Potential
Payments upon Termination or Change in Control
As
of
December 31, 2007, the Company had entered into employment agreements with
each of the Named Executive Officers. As described in more detail above under
“Narrative Disclosure to Summary Compensation Table and Grants of Plan-Based
Awards” The employment agreements with the Named Executive
Officers generally provide for the payment of benefits if the executive’s
employment with the Company is terminated either by the Company without Cause
or
by the executive for Good Reason. The employment agreements with the Named
Executive Officers do not provide for any additional payments or benefits upon
a
termination of employment by the Company for Cause, upon the executive’s
resignation other for Good Reason, as applicable, or upon the executive’s death
or disability. Upon termination by the Company without cause, or upon his or
her
resignation for good reason, all of the Named Executive officers are entitled
to
receive an amount equal to one and a half times his or her highest annualized
base salary payable in equal monthly installments 30 days after his or her
termination of employment. If a named executive had been terminated without
cause as of December 31, 2007 they would have received the following
amounts:
(1)
Based
on 2007 salary
If
there
were a change in control, which is defined as a sale of the majority of the
assets of the company or a change of control of the Board of Directors as a
result of a third party shareholder acquiring or holding over 10% of the common
stock and attempting to nominate a majority of the Board of Directors in favor
of his/her shareholder block, the executives would have received the following
amounts as of December 31, 2007:
38
2007
Director Compensation
The
table
below summarizes the compensation paid by the Company to non-employee directors
for the fiscal year ended December 31, 2007.
Employee
Directors do not receive any additional compensation for their services as
director.
Additional
fees are paid to the Audit Committee Chairman. In 2007, the Chairman received
an
additional $16,000 in cash compensation.
39
The
table
below summarizes the equity based awards held by the Company’s non-employee
directors as of December 31, 2007.
We
have
reviewed and discussed with management certain Compensation Discussion and
Analysis provisions to be included in this Form 10-K. Based on the reviews
and
discussions referred to above, we recommend to the Board of Directors that
the
Compensation Discussion and Analysis referred to above be included on the Form
10-K for the year-ended December 31, 2007.
COMPENSATION
COMMITTEE OF THE BOARD OF DIRECTORS
Mary
T.
Travis, Chairman
Joseph
D.
Calderone
Dennis
M.
McCarthy, Esq.
40
ITEM
12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The
following table shows as of December 31, 2007, the amount and percentage of
our outstanding common stock beneficially owned by each person who is known
by
us to beneficially own more than 5% of our outstanding common stock.
The
following table shows as of March 17, 2008 the amount and percentage of our
outstanding common stock beneficially owned (unless otherwise indicated) by
each
of our (i) directors and nominees for directors, (ii) Named Executive Officers
and (iii) our directors, nominees for director and executive officers as a
group.
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