MANNATECH INC 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion is intended to assist in the understanding of our consolidated financial position and our results of operations for each of the two years ended December 31, 2020 and 2019. This discussion should be read in conjunction with “Item 15. – Consolidated Financial Statements” beginning on page F-1 of this report and with other financial information included elsewhere in this report. Unless stated otherwise, all financial information presented below, throughout this report, and in the consolidated financial statements and related notes includes Mannatech and all of our subsidiaries on a consolidated basis. Refer to the Non-GAAP Financial Measure section herein for a description of how Constant dollar (“Constant dollar”) growth rate (a Non-GAAP financial metric) is determined. COMPANY OVERVIEW Mannatech is a global wellness solution provider, which was incorporated and began operations in November 1993. We develop and sell innovative, high quality, proprietary nutritional supplements, topical and skin care and anti-aging products, and weight-management products that target optimal health and wellness. We currently sell our products in three regions: (i) the Americas (the United States, Canada and Mexico); (ii) Europe/the Middle East/Africa (“EMEA”) (Austria, the Czech Republic, Denmark, Estonia, Finland, Germany, the Republic of Ireland, Namibia, the Netherlands, Norway, South Africa, Spain, Sweden and the United Kingdom); and (iii) Asia/Pacific (Australia, Japan, New Zealand, the Republic of Korea, Singapore, Taiwan, Hong Kong, and China). We conduct our business as a single reporting segment and primarily sell our products through a network of approximately 183,000 active associates and preferred customer positions held by individuals that purchased our products and/or packs or paid associate fees during the last 12 months, who we refer to as current associates and preferred customers . New pack sales and the receipt of new associate fees in connection with new positions in our network are leading indicators for the long-term success of our business. New associate or preferred customer positions are created in our network when our associate fees are paid or packs and products are purchased for the first time under a new account. We operate as a seller of nutritional supplements, topical and skin care and anti-aging products, and weight-management products through our network marketing distribution channels operating in 24 countries and direct e-commerce retail in China. We review and analyze net sales by geographical location and by packs and products on a consolidated basis. Each of our subsidiaries sells similar products and exhibits similar economic characteristics, such as selling prices and gross margins. Because we sell our products through network marketing distribution channels, the opportunities and challenges that affect us most are: recruitment of new and retention of current associates and preferred customers that occupy sales or purchasing positions in our network; entry into new markets and growth of existing markets; niche market development; new product introduction; and investment in our infrastructure. Our subsidiary in China, Meitai, is currently operating as a traditional retailer under a cross-border e-commerce model. Meitai cannot legally conduct a direct selling business in China unless it acquires a direct selling license in China. 40 Table of Contents Current Economic Conditions and Recent Developments Overall net sales decreased $6.3 million, or 4.0%, for 2020, as compared to 2019. Our 2020 net sales declined $4.2 million, or 2.7%, on a Constant dollar basis (see Non-GAAP Financial Measures, below), and unfavorable foreign exchange caused a $2.1 million decrease in GAAP net sales as compared to 2019. The net sales comparisons for the year ended December 31, 2020 and December 31, 2019 were primarily affected by foreign currency translation and the worldwide spread of COVID-19. Excluding the effects due to the translation of foreign currencies into U.S. dollars, net sales would have decreased $4.2 million for 2020. These adjusted net sales expressed in Constant dollars are a non-GAAP financial measure discussed in further detail below. RESULTS OF OPERATIONS Year Ended December 31, 2020 compared to Year Ended December 31, 2019 The tables below summarize our consolidated operating results in dollars and as a percentage of net sales for the years ended December 31, 2020 and 2019 (in thousands, except percentages) . 2020 2019 Change Total Dollars % of net sales Total dollars % of net sales Dollar Percentage Net sales $ 151,407 100.0 % $ 157,728 100.0 % $ (6,321) (4.0) % Cost of sales 35,505 23.5 % 31,550 20.0 % 3,955 12.5 % Gross profit 115,902 76.5 % 126,178 80.0 % (10,276) (8.1) % Operating expenses: Commissions and incentives 61,349 40.5 % 64,254 40.7 % (2,905) (4.5) % Selling and administrative expenses 27,845 18.4 % 30,824 19.5 % (2,979) (9.7) % Depreciation and amortization 1,990 1.3 % 2,088 1.0 % (98) (4.7) % Other operating costs 20,227 13.4 % 22,579 14.3 % (2,352) (10.4) % Total operating expenses 111,411 73.6 % 119,745 75.9 % (8,334) (7.0) % Income (loss) from operations 4,491 3.0 % 6,433 4.1 % (1,942) (30.2) % Interest income (expense) 83 0.1 % (16) — % 99 (618.8) % Other income (expense), net 1,151 0.8 % (681) (0.4) % 1,832 269.0 % Income (loss) before income taxes 5,725 3.8 % 5,736 3.6 % (11) 0.2 % Income tax provision 536 0.4 % (2,447) (1.6) % 2,983 (121.9) % Net income (loss) $ 6,261 4.1 % $ 3,289 2.1 % $ 2,972 (90.4) % 41 Table of Contents Non-GAAP Financial Measures To supplement our financial results presented in accordance with generally accepted accounting principles in the United States ("GAAP"), we disclose operating results that have been adjusted to exclude the impact of changes due to the translation of foreign currencies into U.S. dollars, including changes in: Net Sales, Gross Profit, and Income (loss) from Operations. We refer to these adjusted financial measures as Constant dollar items, which are Non-GAAP financial measures. We believe these measures provide investors an additional perspective on trends. To exclude the impact of changes due to the translation of foreign currencies into U.S. dollars, we calculate current year results and prior year results at a constant exchange rate, which is the prior year’s rate. Currency impact is determined as the difference between actual growth rates and constant currency growth rates. 2020 2019 Constant Dollar Change GAAP Measure: Total $ Non-GAAP Measure: Constant $ GAAP Measure: Total $ Dollar Percent Net sales $ 151.4 $ 153.5 $ 157.7 $ (4.2) (2.7) % Product $ 146.2 $ 148.2 $ 154.6 $ (6.4) (4.1) % Pack and associate fees $ 4.2 $ 4.2 $ 2.3 $ 1.9 82.6 % Other $ 1.0 $ 1.1 $ 0.8 $ 0.3 37.5 % Gross profit $ 115.9 $ 117.3 $ 126.2 $ (8.9) (7.1) % Income (loss) from operations $ 4.5 $ 4.8 $ 6.4 $ (1.6) (25.0) % Net Sales in Dollars and as a Percentage of Consolidated Net Sales Consolidated net sales by region for the years ended December 31, 2020 and 2019 were as follows (in millions, except percentages) : 2020 2019 Americas $ 44.9 29.7 % $ 48.0 30.4 % Asia/Pacific 92.1 60.8 % 96.0 60.9 % EMEA 14.4 9.5 % 13.7 8.7 % Total $ 151.4 100.0 % $ 157.7 100.0 % Consolidated domestic and foreign net sales for the years ended December 31, 2020 and 2019 were as follows (in millions, except percentages) : 2020 2019 Domestic $ 33.7 22.3 % $ 36.9 23.4 % Foreign 117.7 77.7 % 120.8 76.6 % Total $ 151.4 100.0 % $ 157.7 100.0 % Net Sales Overall net sales decreased by $6.3 million, or 4.0%, for 2020, as compared to 2019. For the year ended December 31, 2020, our operations outside of the Americas accounted for approximately 70.3% of our consolidated net sales, whereas in the same period in 2019, our operations outside of the Americas accounted for approximately 69.6% of our consolidated net sales. Sales for the Americas decreased by $3.1 million, or 6.5%, to $44.9 million for 2020 as compared to $48.0 million for the same period in 2019. This decrease was primarily due to a 16.5% decline in the number of active independent associates and preferred customers and a 9.7% decrease in revenue per active independent associate and preferred customer. Foreign currency exchange had the effect of decreasing revenue by $0.3 million for the year ended December 31, 2020, as compared to the same period in 2019. The currency impact is due to the weakening of the Mexican Peso. 42 Table of Contents During 2020, Asia/Pacific sales decreased by $3.9 million, or 4.1%, to $92.1 million as compared to $96.0 million for 2019. This decrease was primarily due to a 1.8% decrease in the number of active independent associates and preferred customers and a 6.9% decrease in revenue per active independent associate and preferred customer. During the year ended December 31, 2020, the loyalty program in Asia/Pacific decreased sales by $0.3 million, as compared to the same period in 2019. Foreign currency exchange had the effect of decreasing revenue by $0.4 million for the year ended December 31, 2020, as compared to the same period in 2019. The currency impact is primarily due to the weakening of the Korean Won, Australian Dollar, New Zealand Dollar and Singapore Dollar, which was partially offset by the strengthening of the Japanese Yen, Chinese Yuan, Hong Kong Dollar and Taiwanese Dollar. During 2020, EMEA sales increased by $0.7 million, or 5.1%, to $14.4 million as compared to $13.7 million for 2019. This increase was primarily due to an 8.5% increase in the number of active independent associates and preferred customers, which was partially offset by a 16.4% decrease in revenue per active independent associate. Foreign currency exchange had the effect of decreasing revenue by $1.4 million for the year ended December 31, 2020 as compared to the same period in 2019. The currency impact is primarily due to the weakening of the South African Rand and Norwegian Krone, which was partially offset by the strengthening of the British Pound, Euro, Swedish Krona and Danish Krone. Our total sales and sales mix could be influenced by any of the following: • the impact of the COVID-19 pandemic; • changes in our sales prices; • changes in consumer demand; • changes in the number of independent associates and preferred customers; • changes in competitors’ products; • changes in economic conditions; • changes in regulations; • announcements of new scientific studies and breakthroughs; • introduction of new products; • discontinuation of existing products; • adverse publicity; • changes in our commissions and incentives programs; • direct competition; and • fluctuations in foreign currency exchange rates. Our sales mix for the years ended December 31, was as follows (in millions, except percentages) : Change 2020 2019 Dollar Percentage Consolidated product sales $ 146.2 $ 154.6 $ (8.4) (5.4) % Consolidated pack sales and associate fees 4.2 2.3 1.9 82.6 % Consolidated other 1.0 0.8 0.2 25.0 % Total consolidated net sales $ 151.4 $ 157.7 $ (6.3) (4.0) % Product Sales Our product sales are made to our independent associates and preferred customers at published wholesale prices. Product sales for the year ended December 31, 2020 decreased by $8.4 million, or 5.4%, to $146.2 million, as compared to $154.6 million for the same period in 2019. The decrease in product sales was primarily due to a decrease in the number of orders processed. The average order value in 2020 was $183, as compared to $190 for the same period in 2019. The number of orders processed during the year ended December 31, 2020 decreased by 0.1% as compared to the same period in 2019. 43 Table of Contents Pack Sales and Associate Fees The Company collects associate fees in lieu of selling packs in certain markets. Associate fees are paid annually by new and continuing associates to the Company, which entitle them to earn commissions, benefits and incentives for that year. The Company collected associate fees in lieu of pack sales within the United States, Canada, South Africa, Japan, Australia, New Zealand, Singapore, Hong Kong, Taiwan, Austria, the Czech Republic, Denmark, Estonia, Finland, Germany, the Republic of Ireland, the Netherlands, Norway, Spain, Sweden and the United Kingdom. In the Republic of Korea and Mexico, packs may still be purchased by our associates who wish to build a Mannatech business. These packs contain products that are discounted from both the published retail and associate prices. There are several pack options available to our associates. In certain of these markets, pack sales are completed during the final stages of the registration process, entitling the Associates to earn commissions, benefits and incentives for that year. These packs can provide new associates with valuable training and promotional materials, as well as products for resale to retail customers, demonstration purposes, and personal consumption. Business-building associates in these markets can also purchase an upgrade pack, which provides the associate with additional promotional materials. We also do not collect associate fees or sell packs in our non-direct selling business in mainland China. The dollar amount of pack sales and associate fees associated with new and continuing independent associate positions held by individuals in our network was as follows, for the years ended December 31 ( in millions, except percentages): Change 2020 2019 Dollar Percentage New $ 0.5 $ 0.6 $ (0.1) (16.7) % Continuing 3.7 1.7 2.0 117.6 % Total $ 4.2 $ 2.3 $ 1.9 82.6 % Total pack sales and associate fees for the year ended December 31, 2020 increased by $1.9 million, or 82.6%, to $4.2 million, as compared to $2.3 million for the same period in 2019 as the number of packs sold and associate fees collected increased by 4.3%. Also, the average pack value for the year ended December 31, 2020 was $45, as compared to $24 for the same period in 2019. During 2020 and continuing into 2021, we took the following actions in an effort to increase the number of independent associates and preferred customers: • registered our most popular products with the appropriate regulatory agencies in all countries of operations where possible; • rolled out new products; • launched an aggressive marketing and educational campaign; • continued to strengthen compliance initiatives; • concentrated on publishing results of research studies and clinical trials related to our products; • initiated additional incentives; • explored new advertising and educational tools to broaden name recognition; and • implemented changes to our global associate career and compensation plan. The approximate number of active new and continuing active associates and preferred customers who purchased our packs or products or paid associate fees during the twelve months ended December 31 was as follows: 2020 2019 New 83,000 45.4 % 81,000 47.9 % Continuing 100,000 54.6 % 88,000 52.1 % Total 183,000 100.0 % 169,000 100.0 % 44 Table of Contents Other Sales Other sales consisted of: (i) sales of promotional materials; (ii) monthly fees collected for the Success Tracker™ and Mannatech+ customized electronic business-building and educational materials, databases and applications; (iii) training and event registration fees; and (iv) a reserve for estimated sales refunds and returns. Promotional materials, training, database applications and business management tools to support our independent associates, which in turn helps stimulate product sales. For the year ended December 31, 2020, other sales increased by $0.2 million, or 25.0%, to $1.0 million, as compared to $0.8 million for the same period in 2019. The increase was primarily due to the increase in active new and continuing active associates and preferred customers. Gross Profit For the year ended December 31, 2020, gross profit decreased by $10.3 million, or 8.1%, to $115.9 million, as compared to $126.2 million for the same period in 2019. Gross profit as a percentage of net sales decreased to 76.5% for 2020, as compared to 80.0% for 2019. To motivate our associates to stay engaged in the business amidst the COVID-19 government lockdowns, management introduced value pricing and new products in key markets. As global supply chains were impacted by the pandemic, our logistics costs rose. Also, foreign exchange rates primarily related to the declining value of the South African Rand impacted our gross margins. Commission and Incentives Commission expenses decreased for the year ended December 31, 2020, by 4.9%, or $3 million to $58.7 million, as compared to $61.7 million for the same period in 2019. Commissions as a percentage of net sales were 38.8% for the year ending December 31, 2020 and 39.1% for the same period in the prior year. Reversals of expired commission payment vouchers provided a reduction to our commission expenses of $0.6 million and $1.4 million, in 2020 and 2019, respectively. Incentive costs increased for the year ended December 31, 2020 by 3.8%, or $0.1 million, to $2.7 million as compared to $2.6 million for the same period in 2019. The costs of incentives, as a percentage of net sales increased to 1.8% for the year ended December 31, 2020, as compared to 1.6% for the same period in 2019. This increase was related to incentives in the Americas and Asia/Pacific. Selling and Administrative Expenses Selling and administrative expenses include a combination of both fixed and variable expenses. These expenses consist of compensation and benefits for employees, temporary and contract labor and marketing-related expenses. For the year ended December 31, 2020, overall selling and administrative expenses decreased by $3.0 million, or 9.7%, to $27.8 million, as compared to $30.8 million for the same period in 2019. The decrease in selling and administrative expenses consisted of a $2.5 million decrease in payroll costs, a $0.3 million decrease in stock-based compensation and a $0.2 million decrease in contract labor costs. Other Operating Costs Other operating costs include accounting/legal/consulting fees, travel and entertainment expenses, credit card processing fees, off-site storage fees, utilities, bad debt, and other miscellaneous operating expenses. For the year ended December 31, 2020, other operating costs decreased by $2.4 million, or 10.4%, to $20.2 million, as compared to $22.6 million for the same period in 2019. For the year ended December 31, 2020, other operating costs, as a percentage of net sales, were 13.4%, as compared to 14.3% for the same period in 2019. The decrease was due to a $1.2 million decrease in travel and entertainment costs, a $0.6 million decrease in office expenses, a $0.3 million decrease in legal and consulting fees, and a $0.3 million decrease in credit card fees, sales tax adjustments and other operating costs. 45 Table of Contents Depreciation and Amortization Expense For the years ended December 31, 2020 and 2019, depreciation and amortization expense was $2.0 million and $2.1 million, respectively. Other Income (Expense), net Primarily due to foreign exchange gains, other income (expense) was $1.2 million and $(0.7) million for the years ending December 31, 2020 and 2019, respectively. Provision for Income Taxes Provision for income taxes include current and deferred income taxes for both our domestic and foreign operations. Our statutory income tax rates by jurisdiction are as follows, for the years ended December 31: Country 2020 2019 Australia 30.0 % 30.0 % Bermuda — % — % Canada 26.5 % 26.5 % China (1) 5.0 % 25.0 % Colombia 32.0 % 33.0 % Cyprus 12.5 % 12.5 % Denmark 22.0 % 22.0 % Gibraltar 10.0 % 10.0 % Hong Kong 16.5 % 16.5 % Japan 34.6 % 34.6 % Mexico 30.0 % 30.0 % Norway 22.0 % 22.0 % Republic of Korea 22.0 % 22.0 % Russia (2) 20.0 % 20.0 % Singapore 17.0 % 17.0 % South Africa 28.0 % 28.0 % Sweden 21.4 % 21.4 % Switzerland (3) 9.2 % 9.2 % Taiwan 20.0 % 20.0 % Ukraine (4) 18.0 % 18.0 % United Kingdom 19.0 % 19.0 % United States 21.0 % 21.0 % (1) For 2020, the Company qualified for a reduced 5% tax rate in China as a Small Low Profit Enterprise. (2) On August 1, 2016, the Company established a legal entity in Russia called Mannatech RUS Ltd., but currently does not operate in Russia. (3) On July 1, 2019, the Company suspended active operations in Switzerland, but maintains the legal entity. (4) On March 21, 2014, the Company suspended operations in the Ukraine, but maintains the legal entity, Mannatech Ukraine LLC. Foreign Tax Income from our international operations is subject to taxation in the countries in which we operate. Although we may receive foreign income tax credits that would reduce the total amount of income taxes owed in the United States, we may not be able to fully utilize our foreign income tax credits in the United States. 46 Table of Contents U.S. Tax For the years ended December 31, 2020 and 2019, the Company’s effective tax rate was (9.4)% and 42.5%, respectively. In 2020, the Company had a significant decrease in its rate due to the carryback of U.S. net operating losses as allowed by the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”), enacted on March 27, 2020. In 2019, the Company had a higher effective rate due to its mix of earnings across jurisdictions and valuation allowance recorded on certain losses. At December 31, 2020 and 2019, the Company’s valuation allowance was $11.9 million and $12.4 million, respectively. The provisions of Accounting Standards Codification Topic 740, Income Taxes (“ASC Topic 740”) require a company to record a valuation allowance when the “more likely than not” criterion for realizing a deferred tax asset cannot be met. A company is to use judgment in reviewing both positive and negative evidence of realizing a deferred tax asset. Furthermore, the weight given to the potential effect of such evidence is commensurate with the extent the evidence can be objectively verified. The valuation allowance against the Company’s deferred tax assets consisted of the following at December 31 (in thousands) : Country 2020 2019 Australia $ 0.2 $ 0.2 China 0.4 0.3 Colombia 0.6 0.6 Cyprus 0.2 — Mexico 3.1 3.3 Norway 0.1 0.1 South Africa 0.2 0.2 Switzerland 0.5 0.5 Taiwan 1.1 1.0 Ukraine — 0.1 United Kingdom — 0.1 United States 5.5 6.0 Total $ 11.9 $ 12.4 SEASONALITY We believe the impact of seasonality on our consolidated results of operations is minimal. We have experienced and believe we will continue to experience variations on our quarterly results of operations in response to, among other things: • the timing of the introduction of new products and incentives; • our ability to attract and retain associates and preferred customers; • the timing of our incentives and contests; • the general overall economic outlook; • government regulations; • the outcome of certain lawsuits; • the perception and acceptance of network marketing; and • the consumer perception of our products and overall operations. As a result of these and other factors, our quarterly results may vary significantly in the future. Period-to-period comparisons should not be relied upon as an indication of future performance since we can give no assurances that revenue trends in new markets, as well as in existing markets, will follow our historical patterns. The market price of our common stock may also be adversely affected by the above factors. 47 Table of Contents LIQUIDITY AND CAPITAL RESOURCES Cash and Cash Equivalents As of December 31, 2020, our cash, cash equivalents and restricted cash decreased by 11.3%, or $3.5 million, to $27.5 million from $31.0 million as of December 31, 2019. The Company is required to restrict cash for (i) direct selling insurance premiums and credit card sales in the Republic of Korea; (ii) reserve on credit card sales in the United States and Canada; and (iii) Australia building lease collateral. The current portion of restricted cash at each of December 31, 2020 and 2019 was $0.9 million. Fluctuations in currency rates produced an increase of $1.3 million in cash and cash equivalents in 2020 as compared to a decrease of $0.6 million in 2019. Our principal use of cash is to pay for operating expenses, including commissions and incentives, capital assets, inventory purchases, and periodic cash dividends. We fund our business objectives, operations, and expansion of our operations through net cash flows from operations rather than incurring long-term debt. Working Capital Working capital represents total current assets less total current liabilities. At December 31, 2020, our working capital decreased by $1.6 million, or 13.2%, to $10.5 million from $12.1 million at December 31, 2019. The decrease in working capital is primarily due to increases in accounts payable. Net Cash Flows Our net consolidated cash flows consisted of the following, for the years ended December 31 (in millions) : Provided by / (used in): 2020 2019 Operating activities $ 6.0 $ 4.9 Investing activities $ (0.9) $ (1.2) Financing activities $ (9.9) $ (2.7) Operating Activities Cash provided by operating activities increased by $1.1 million for the year ended December 31, 2020, as compared to the same period in 2019. For the year ended December 31, 2020, sources of cash include our profits, working capital management, and a $1.2 million tax refund as we amended returns as allowed by the CARES Act. Investing Activities For the year ended December 31, 2020, our investing activities used cash of $0.9 million, as compared to cash used of $1.2 million for the same period of 2019. During the year ended December 31, 2020, we invested $0.9 million in computer hardware and software. During the year ended December 31, 2019, we invested $0.8 million in computer hardware and software, $0.4 million in leasehold improvements in various international offices and training centers. Financing Activities For the year ended December 31, 2020, our financing activities used cash of $9.9 million compared to cash used of $2.7 million for the same period of 2019. For the year ended December 31, 2020, we used approximately $0.6 million in the repayment of finance lease obligations and other long term liabilities, $3.4 million in the payment of dividends to shareholders, and $5.9 million in the repurchase of common stock. For the year ended December 31, 2019, we used cash of approximately $1.2 million to repay finance lease obligations, $1.2 million for payment of dividends to shareholders, and $0.3 million for the repurchase of common stock, which was partially offset by cash provided by the exercise of stock options. 48 Table of Contents General Liquidity and Cash Flows Short Term Liquidity We believe our existing liquidity and cash flows from operations are adequate to fund our normal expected future business operations for the next 12 months. As our primary source of liquidity is our cash flows from operations, this will be dependent on our ability to maintain and/or continue to improve revenue as compared to our operational expenses. However, if our existing capital resources or cash flows become insufficient to meet current business plans, projections, and existing capital requirements, we may be required to raise additional funds, which may not be available on favorable terms, if at all. As of December 31, 2020 and 2019, cash and cash equivalents held in bank accounts in foreign countries totaled $18.6 million and $18.2 million, respectively. We are engaged in ongoing audits in various tax jurisdictions and other disputes in the normal course of business. It is impossible at this time to predict whether we will incur any liability, or to estimate the ranges of damages, if any, in connection with these matters. Adverse outcomes on these uncertainties may lead to substantial liability or enforcement actions that could adversely affect our cash position. Additionally, COVID-19 could adversely impact our workforce, supply chain or demand for our products and therefore, our liquidity in the next twelve months, however, such impact is currently unknown. For more information see Note 1 Organization and Summary of Significant Accounting Policies, Note 7 Income Taxes, and Note 12 Litigation to our Consolidated Financial Statements. In March 2020, the WHO declared the outbreak of COVID-19 as a pandemic, which has spread throughout our international regions and the United States. We took steps to protect the health, safety and well-being of our customers, associates, employees, and communities by closing some offices and equipping various staff members to work remotely. On April 10, 2020, the Company received loan proceeds of $2,243,687 (the “Loan”) under the Paycheck Protection Program (“PPP”). The PPP was established under the CARES Act and was administered by the SBA. The Loan to the Company was made through JPMorgan Chase Bank, N. A., the Company’s existing banker (the “Lender”). At the time the Company applied for and received the Loan, the Company planned to use the Loan proceeds for covered payroll costs, rent and utilities in accordance with the relevant terms and conditions of the CARES Act. After the Company received the proceeds of the Loan, the SBA provided subsequent guidance interpreting the PPP. Based on such subsequent guidance, the Company made the determination to repay the Loan in full, which it did on April 30, 2020. The Company depends on an independent salesforce of distributors to market and sell its products to consumers. Developments such as social distancing and shelter-in-place directives could impact their ability to engage with potential and existing customers. The adverse economic effects of COVID-19 may also materially decrease demand for the Company’s products based on changes in consumer behavior or the restrictions in place by governments trying to curb the outbreak. For example, the Company has rescheduled corporate sponsored events, and in some cases, our associates have canceled sales meetings. For some products, the Company experienced shortages of raw materials and ingredients. We experienced challenges in getting materials and ingredients to our contract manufacturers and finished products to our distribution centers as a result of reductions in global transportation capacity. Despite the impact on the global supply chain, the Company has overcome obstacles in shipping to our customers. While the conditions described above are expected to be temporary, prolonged workforce disruptions, continued disruption in our supply chain and potential decreases in consumer demands negatively impacted our sales in fiscal year 2020 and may continue to negatively impact sales in fiscal year 2021 as well as the Company’s overall liquidity. Long Term Liquidity We believe our cash flows from operations should be adequate to fund our normal expected future business operations and possible international expansion costs for the long term. As our primary source of liquidity is from our cash flows from operations, this will be dependent on our ability to maintain and and/or improve revenue as compared to operational expenses. However, if our existing capital resources or cash flows become insufficient to meet anticipated business plans and existing capital requirements, we may be required to raise additional funds, which may not be available on favorable terms, if at all. 49 Table of Contents Our future access to the capital markets may be adversely impacted if we fail to maintain compliance with the Nasdaq Marketplace Rules for the continued listing of our stock. We continuously monitor our compliance with the Nasdaq continued listing rules. CONTRACTUAL OBLIGATIONS The following summarizes our future commitments and obligations associated with various agreements and contracts as of December 31, 2020, for the years ending December 31 (in thousands) : 2021 2022 2023 2024 2025 Thereafter Total Finance lease obligations $ 98 $ 75 $ 45 $ 21 $ 1 $ — $ 240 Purchase obligations (1)(2)(3) 5,175 2,617 — — — — 7,792 Operating leases obligations (4) 2,644 1,930 1,217 1,308 892 1,528 9,519 Note payable and other financing arrangements 449 — — — — — 449 Employment agreements 440 — — — — — 440 Royalty agreement 7 — — — — — 7 Tax liability (5) — — — — — 202 202 Other obligations (6) 233 191 25 126 36 657 1,268 Total commitments and obligations $ 9,046 $ 4,813 $ 1,287 $ 1,455 $ 929 $ 2,387 $ 19,917 (1) For purposes of the table, a purchase obligation is defined as an agreement to purchase goods or services that is non-cancelable, enforceable and legally binding on the Company that specifies all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction. (2) Excludes approximately $18.0 million of finished product purchase orders that may be canceled or with delivery dates that have changed as of December 31, 2020. (3) A raw materials supplier agreement changed from a 2 year auto-renew to 1 year and extended until November 2021. (4) Represents the minimum future payments, including imputed interest, for operating leases within the scope of Accounting Standards Codification Topic 842, Leases . Of the total present value of lease liabilities, $2.1 million was recorded in "Accrued expenses" and $6.1 million was recorded in "Other long-term liabilities". See Note 5 to our Consolidated Financial Statements, Leases . (5) Represents the tax liability associated with uncertain tax positions, see Note 7 to our Consolidated Financial Statements, Income Taxes . (6) Other obligations are composed of pension obligations related to the Company's international operations (approximately $1 million) and lease restoration obligations (approximately $0.3 million). We have maintained purchase commitments with certain raw material suppliers to purchase minimum quantities and to ensure exclusivity of our raw materials and the proprietary nature of our products. Currently, we have one supply agreement that requires minimum purchase commitments. We also maintain other supply agreements and manufacturing agreements to protect our products, regulate product costs, and help ensure quality control standards. These agreements do not require us to purchase any set minimums. We have no present commitments or agreements with respect to acquisitions or purchases of any manufacturing facilities; however, management from time to time explores the possibility of the benefits of purchasing a raw material manufacturing facility to help control costs of our raw materials and help ensure quality control standards. OFF-BALANCE SHEET ARRANGEMENTS We do not have any special-purpose entity arrangements, nor do we have any off-balance sheet arrangements. MARKET RISKS Please see “Quantitative and Qualitative Disclosure about Market Risk” under Item 7A of this Form 10-K for additional information about our Market Risks. 50 Table of Contents SIGNIFICANT ACCOUNTING POLICIES AND CRITICAL ESTIMATES Our consolidated financial statements are prepared in accordance with GAAP. The application of GAAP requires us to make estimates and assumptions that affect the reported values of assets and liabilities at the date of our financial statements, the reported amounts of revenues and expenses during the reporting period, and the related disclosures of contingent assets and liabilities. We use estimates throughout our financial statements, which are influenced by management’s judgment and uncertainties. Our estimates are based on historical trends, industry standards, and various other assumptions that we believe are applicable and reasonable under the circumstances at the time the consolidated financial statements are prepared. Our Audit Committee reviews our critical accounting policies and estimates. We continually evaluate and review our policies related to the portrayal of our consolidated financial position and consolidated results of operations that require the application of significant judgment by our management. We also analyze the need for certain estimates, including the need for such items as allowance for doubtful accounts, inventory reserves, long-lived fixed assets and capitalization of internal-use software development costs, reserve for uncertain income tax positions and tax valuation allowances, revenue recognition, sales returns, and deferred revenues, accounting for stock-based compensation, and contingencies and litigation. Historically, actual results have not materially deviated from our estimates. However, we caution readers that actual results could differ from our estimates and assumptions applied in the preparation of our consolidated financial statements. If circumstances change relating to the various assumptions or conditions used in our estimates, we could experience an adverse effect on our financial position, results of operations, and cash flows. We have identified the following applicable critical accounting policies and estimates as of December 31, 2020: Inventory Reserves Inventory consists of raw materials, finished goods, and promotional materials that are stated at the lower of cost (using standard costs that approximate average costs) or net realizable value. We record the amounts charged by the vendors as the costs of inventory. Typically, the net realizable value of our inventory is higher than the aggregate cost. Determination of net realizable value can be complex and, therefore, requires a high degree of judgment. In order for management to make the appropriate determination of net realizable value, the following items are considered: inventory turnover statistics, current selling prices, seasonality factors, consumer demand, regulatory changes, competitive pricing, and performance of similar products. If we determine the carrying value of inventory is in excess of estimated net realizable value, we write down the value of inventory to the estimated net realizable value. We also review inventory for obsolescence in a similar manner and any inventory identified as obsolete is reserved or written off. Our determination of obsolescence is based on assumptions about the demand for our products, product expiration dates, estimated future sales, and general future plans. We monitor actual sales compared to original projections, and if actual sales are less favorable than those originally projected by us, we record an additional inventory reserve or write-down. Historically, our estimates have been close to our actual reported amounts. However, if our estimates regarding inventory obsolescence are inaccurate or consumer demand for our products changes in an unforeseen manner, we may be exposed to additional material losses or gains in excess of our established estimated inventory reserves. At December 31, 2020 and 2019, our inventory reserves were $0.5 million and $0.9 million, respectively. Long Lived Fixed Assets and Capitalization of Software Development Costs In addition to capitalizing long-lived fixed asset costs, we also capitalize costs associated with internally developed software projects (collectively “fixed assets”) and amortize such costs over the estimated useful lives of such fixed assets. Fixed assets are carried at cost less accumulated depreciation computed using the straight-line method over the assets’ estimated useful lives. Leasehold improvements are amortized over the shorter of the remaining lease terms or the estimated useful lives of the improvements. Expenditures for maintenance and repairs are charged to operations as incurred. If a fixed asset is sold or otherwise retired or disposed of, the cost of the fixed asset and the related accumulated depreciation or amortization is written off and any resulting gain or loss is recorded in other operating costs in our consolidated statement of operations. We review our fixed assets for impairment whenever an event or change in circumstances indicates the carrying amount of an asset or group of assets may not be recoverable, such as plans to dispose of an asset before the end of its previously estimated useful life. Our impairment review includes a comparison of future projected cash flows generated by the asset, or group of assets, with its associated net carrying value. If the net carrying value of the asset or group of assets exceeds expected cash flows (undiscounted and without interest charges), an impairment loss is recognized to the extent the carrying amount exceeds the fair value. The fair value is determined by calculating the discounted expected future cash flows using an estimated risk-free rate of interest. Any identified impairment losses are recorded in the period in which the impairment occurs. The carrying value of the fixed asset is adjusted to the new carrying value and any subsequent increases in fair value of the fixed asset are not recorded. In addition, if we determine the estimated remaining useful life of the asset should be reduced from our original estimate, the periodic depreciation expense is adjusted prospectively, based on the new remaining useful life of the fixed asset. 51 Table of Contents The impairment calculation requires us to apply judgment and estimates concerning future cash flows, strategic plans, useful lives, and discount rates. If actual results are not consistent with our estimates and assumptions, we may be exposed to an additional impairment charge, which could be material to our results of operations. In addition, if accounting standards change, or if fixed assets become obsolete, we may be required to write off any unamortized costs of fixed assets; or if estimated useful lives change, we would be required to accelerate depreciation or amortization periods and recognize additional depreciation expense in our consolidated statement of operations. Historically, our estimates and assumptions related to the carrying value and the estimated useful lives of our fixed assets have not materially deviated from actual results. As of December 31, 2020, the estimated useful lives and net carrying values of fixed assets are as follows: Estimated useful life Net carrying value at December 31, 2020 Office furniture and equipment 5 to 7 years $0.8 million Computer hardware and software 3 to 5 years 2.0 million Automobiles 3 to 5 years 0.1 million Leasehold improvements 2 to 10 years 1.6 million Total net carrying value at December 31, 2020 $4.5 million The net carrying costs of fixed assets and construction in progress are exposed to impairment losses if our assumptions and estimates of their carrying values change, there is a change in estimated future cash flow, or there is a change in the estimated useful life of the fixed asset. Based on management’s analysis, no material impairments existed during the years ended December 31, 2020 and 2019. Uncertain Income Tax Positions and Tax Valuation Allowances As of December 31, 2020, we recorded $0.2 million in other long-term liabilities on our consolidated balance sheet related to uncertain income tax positions. As required by ASC Topic 740, Income Taxes (“ASC Topic 740”), we use judgments and make estimates and assumptions related to evaluating the probability of uncertain income tax positions. We base our estimates and assumptions on the potential liability related to an assessment of whether the income tax position will “ more likely than not” be sustained in an income tax audit. We are also subject to periodic audits from multiple domestic and foreign tax authorities related to income tax and other forms of taxation. These audits examine our tax positions, timing of income and deductions, and allocation procedures across multiple jurisdictions. Depending on the nature of the tax issue, we could be subject to audit over several years. Therefore, our estimated reserve balances and liability related to uncertain income tax positions may exist for multiple years before the applicable statute of limitations expires or before an issue is resolved by the taxing authority. Additionally, we may be requested to extend the statute of limitations for tax years under audit. It is reasonably possible the tax jurisdiction may request that the statute of limitations be extended, which may cause the classification between current and long-term to change. We believe our tax liabilities related to uncertain tax positions are based upon reasonable judgment and estimates; however, if actual results materially differ, our effective income tax rate and cash flows could be affected in the period of discovery or resolution. There are ongoing income tax audits in various international jurisdictions that we believe are not material to our financial statements. We also review the estimates and assumptions used in evaluating the probability of realizing the future benefits of our deferred tax assets and record a valuation allowance when we believe that a portion or all of the deferred tax assets may not be realized. If we are unable to realize the expected future benefits of our deferred tax assets, we are required to provide a valuation allowance. We use our past history and experience, overall profitability, future management plans, and current economic information to evaluate the amount of valuation allowance to record. As of December 31, 2020, we maintained a valuation allowance for deferred tax assets arising from our operations of $11.9 million because they did not meet the “more likely than not” criteria as defined by the recognition and measurement provisions of FASB ASC Topic 740, Income Taxes. In addition, as of December 31, 2020, we had net deferred tax assets, after valuation allowance and deferred tax liabilities, totaling $1.2 million, which may not be realized if our assumptions and estimates change, which would affect our effective income tax rate and cash flows in the period of discovery or resolution. 52 Table of Contents In February 2018, the FASB issued Accounting Standards Update ("ASU") No. 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220) ("ASU 2018-02"). The guidance in ASU 2018-02 allows an entity to elect to reclassify the stranded tax effects related to the Act from accumulated other comprehensive income into retained earnings. ASU 2018-02 is effective for fiscal years beginning after December 15, 2018, with early adoption permitted. The adoption of this standard had no impact on our consolidated financial statements. Transfer Pricing In many countries, including the U.S., we are subject to transfer pricing and other tax regulations designed to ensure that appropriate levels of income are reported as earned by our U.S. and foreign entities and are taxed accordingly. In the normal course of business, we are audited by federal, state and foreign tax authorities, and subject to inquiries from those tax authorities regarding the amount of taxes due. These inquiries may relate to the timing and amount of deductions and the allocation of income among various tax jurisdictions. We believe that our tax positions comply with applicable tax law and intend to defend our positions, if necessary. Our effective tax rate in each financial statement period could be impacted if we prevailed in matters for which reserves have been established, or were required to pay amounts more than established reserves. Revenue Recognition Our revenue is derived from sales of individual products, sales of starter and renewal packs, associate fees and shipping fees. Substantially all of our product and pack sales are to associates and preferred customers at published wholesale prices. We record revenue net of any sales taxes and record a reserve for expected sales returns based on historical experience. We recognize revenue from shipped packs and products upon receipt by the customer. Corporate-sponsored event revenue is recognized when the event is held. Orders placed by associates or preferred customers constitute our contracts. Product sales placed in the form of an automatic order contain two performance obligations: (a) the sale of the product and (b) the loyalty program. For these contracts, the Company accounts for each of these obligations separately as they are each distinct. The transaction price is allocated between the product sale and the loyalty program on a relative standalone selling price basis. Sales placed through a one-time order contain only the first performance obligation noted above - the sale of the product. The Company provides associates with access to a complimentary three-month package for the Success Tracker TM and Mannatech+ online business tools with the first payment of an associate fee. The first payment of an associate fee contains three performance obligations: (a) the associate fee, whereby the Company provides an associate with the right to earn commissions, bonuses and incentives for a year, (b) three months of complimentary access to utilize the Success Tracker™ online tool and (c) three months of complimentary access to utilize the Mannatech+ online business tool. The transaction price is allocated between the three performance obligations on a relative standalone selling price basis. Associates do not have complimentary access to online business tools after the first contractual period. With regard to both of the aforementioned contracts, the Company determines the standalone selling prices based on our overall pricing objectives, taking into consideration market conditions and other factors, including the value of the contracts. Deferred Commissions We defer commissions on (i) the sales of products shipped but not received by the customers by the end of the respective period and (ii) the loyalty program. Deferred commissions are incremental costs and are amortized to expense consistent with how the related revenue is recognized. Deferred commissions were $2.3 million and $1.8 million at December 31, 2020 and December 31, 2019, respectively. Deferred Revenue We defer certain components of revenue. Deferred revenue consists of: (i) sales of products shipped but not received by the customers by the end of the respective period; (ii) revenue from the loyalty program; (iii) prepaid registration fees from customers planning to attend a future corporate-sponsored event; and (iv) prepaid annual associate fees. At December 31, 2020 and December 31, 2019, deferred revenue was $5.5 million and $4.4 million, respectively. 53 Table of Contents Our customer loyalty program conveys a material right to the customer as it provides the promise to redeem loyalty points for the purchase of products, which is based on earning points through placing consecutive qualified automatic orders. The timing and recognition of loyalty points has not changed with the adoption of ASC 606, Revenue from Contracts with Customers (“ASC Topic 606”). The Company factors in breakage rates, which is the percentage of the loyalty points that are expected to be forfeited or expire, for purposes of revenue recognition. Breakage rates are estimated based on historical data and can be reasonably and objectively determined. There have not been significant changes for the breakage estimate as a result of adopting ASC Topic 606. The deferred revenue associated with the loyalty program at December 31, 2020 and December 31, 2019 was $4.5 million and $3.1 million, respectively. Loyalty program (in thousands) Loyalty deferred revenue as of January 1, 2019 $ 4,231 Loyalty points forfeited or expired (4,348) Loyalty points used (9,127) Loyalty points vested 11,320 Loyalty points unvested 1,051 Loyalty deferred revenue as of December 31, 2019 $ 3,127 Loyalty deferred revenue as of January 1, 2020 $ 3,127 Loyalty points forfeited or expired (3,249) Loyalty points used (9,385) Loyalty points vested 12,771 Loyalty points unvested 1,223 Loyalty deferred revenue as of December 31, 2020 $ 4,487 Product Return Policy We stand behind our products and believe we offer a reasonable and industry-standard product return policy to all of our customers. We do not resell returned products. Refunds are not processed until proper approval is obtained. Refunds are processed and returned in the same form of payment that was originally used in the sale. Each country in which we operate has specific product return guidelines. However, we allow our associates and preferred customers to exchange products as long as the products are unopened and in good condition. Our return policies for our retail customers and our associates and preferred customers are as follows: • Retail Customer Product Return Policy. This policy allows a retail customer to return any of our products to the original associate who sold the product and receive a full cash refund from the associate for the first 180 days following the product’s purchase if located in the United States and Canada, and for the first 90 days following the product’s purchase in other countries where we sell our products. The associate may return or exchange the product based on the associate product return policy. In China, where we sell our products under a cross-border e-commerce model, we have a 14-day return policy. • Associate and Preferred Customer Product Return Policy. This policy allows the associate or preferred customer to return an order within one year of the purchase date upon terminating his/her account. If an associate or preferred customer returns a product unopened and in good condition, he/she may receive a full refund minus a 10% restocking fee. We may also allow the associate or preferred customer to receive a full satisfaction guarantee refund if they have tried the product and are not satisfied for any reason, excluding promotional materials. This satisfaction guarantee refund applies in the United States and Canada, only for the first 180 days following the product’s purchase, and applies in other countries where we sell our products for the first 90 days following the product’s purchase; however, any commissions earned by an associate will be deducted from the refund. If we discover abuse of the refund policy, we may terminate the associate's or preferred customer’s account. The Company utilizes the expected value method, as set forth by ASC Topic 606, to estimate the sales returns and allowance liability by taking the weighted average of the sales return rates over a rolling six-month period. The Company allocates the total amount recorded within the sales return and allowance liability as a reduction of the overall transaction price for the Company’s product sales. The Company deems the sales refund and allowance liability to be a variable consideration. The method for estimating the sales returns and allowance liability has remained consistent as a result of adopting ASC Topic 606. 54 Table of Contents Historically, sales returns estimates have not materially deviated from actual sales returns, as the majority of our customers who return merchandise do so within the first 90 days after the original sale. Sales returns have historically averaged 1.5% or less of our gross sales. For the years ended December 31, 2020 and December 31, 2019, our sales return reserve was composed of the following (in thousands) : Sales reserve as of January 1, 2019 $ 76 Provision related to sales made in current period 1,037 Adjustment related to sales made in prior periods 31 Actual returns or credits related to current period (973) Actual returns or credits related to prior periods (103) Sales reserve as of December 31, 2019 $ 68 Sales reserve as of January 1, 2020 $ 68 Provision related to sales made in current period 1,028 Adjustment related to sales made in prior periods 5 Actual returns or credits related to current period (959) Actual returns or credits related to prior periods (71) Sales reserve as of December 31, 2020 $ 71 Accounting for Stock-Based Compensation We grant stock options to our employees, board members, and consultants. At the date of grant, we determine the fair value of a stock option award and recognize compensation expense over the requisite service period, or the vesting period of such stock option award, which is two or three years. The fair value of the stock option award is calculated using the Black-Scholes option-pricing model (the “calculated fair value”). The Black-Scholes option-pricing model requires us to apply judgment and use highly subjective assumptions, including expected stock option life, expected volatility, expected average risk-free interest rates, and expected forfeiture rates. For the year ended December 31, 2020, our assumptions and estimates used for the calculated fair value of stock options granted in 2020 were as follows: 2020 Grants June Estimated fair value per share of options granted: $ 5.76 Assumptions: Dividend yield 3.0 % Risk-free rate of return 0.3 % Common stock price volatility 52.5 % Expected average life of stock options (in years) 4.5 Historically, our estimates and underlying assumptions have not materially deviated from our actual reported results and rates. However, we base assumptions we use on our best estimates, which involves inherent uncertainties based on market conditions that are outside of our control. If actual results are not consistent with the assumptions we use, the stock-based compensation expense reported in our consolidated financial statements may not be representative of the actual economic cost of stock-based compensation. For example, if actual employee forfeitures significantly differ from our estimated forfeitures, we may be required to adjust our consolidated financial statements in future periods. As of December 31, 2020, using our current assumptions and estimates, we anticipate recognizing less than $0.1 million in gross compensation expense through 2021 related to unvested stock options outstanding. If we grant additional stock options in the future, we would be required to recognize additional compensation expense over the vesting period of such stock options in our consolidated statement of operations. As of December 31, 2020, we had 165,393 shares available for grant in the future. 55 Table of Contents Contingencies and Litigation Each quarter, we evaluate the need to establish a reserve for any legal claims or assessments. We base our evaluation on our best estimates of the potential liability in such matters. The legal reserve would include an estimated amount for any damages and the probability of losing any threatened legal claims or assessments. No legal reserve was deemed necessary at December 31, 2020. The legal reserve is developed in consultation with our general and outside counsel and is based upon a combination of litigation and settlement strategies. Although we believe that our legal reserves and accruals are based on reasonable judgments and estimates, actual results could differ, which may expose us to material gains or losses in future periods. If actual results differ, if circumstances change, or if we experience an unanticipated adverse outcome of any legal action, including any claim or assessment, we would be required to recognize the estimated amount that could reduce net income, earnings per share, and cash flows. RECENT ACCOUNTING PRONOUNCEMENTS In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments ( “ASU 2016-13”) . This standard adds to U.S. GAAP an impairment model (known as the current expected credit loss (“CECL model”) that is based on expected losses rather than incurred losses. Under the new guidance, an entity recognizes as an allowance its estimate of expected credit losses, which is intended to result in the more timely recognition of losses. Under the CECL model, entities will estimate credit losses over the entire contractual term of the instrument (considering estimated prepayments, but not expected extensions or modifications) from the date of initial recognition of the financial instrument. Measurement of expected credit losses are to be based on relevant forecasts that affect collectability. The scope of financial assets within the CECL methodology is broad and includes trade receivables from certain revenue transactions and certain off-balance sheet credit exposures. Different components of the guidance require modified retrospective or prospective adoption. ASU 2019-10 deferred the effective date of ASU 2016-13 for smaller reporting companies. This standard will be effective for us as of January 1, 2023. While our review is ongoing, we believe ASU 2016-13 will only have applicability to our receivables from revenue transactions. Under ASC Topic 606, revenue is recognized when, among other criteria, it is probable that the entity will collect the consideration to which it is entitled for goods or services transferred to a customer. At the point that trade receivables are recorded, they become subject to the CECL model and estimates of expected credit losses on trade receivables over their contractual life will be required to be recorded at inception based on historical information, current conditions, and reasonable and supportable forecasts. The Company is currently evaluating whether the new guidance will have an impact on our consolidated financial statements or existing internal controls. See Note 1 to our Consolidated Financial Statements for further information on recent accounting pronouncements. 56 Table of Contents