Nu Skin 2010 Annual Report - Direct Selling News

the legal form of the transaction. We do not believe the legal documentation
supports the re-characterization of these transactions.
Yokohama Customs has raised several issues to support its re-characterization,
including the fact that we have treated the relevant
transaction as a sale between our US subsidiary and Japan subsidiary
for income tax purposes. However, we believe that the relevant income
tax and transfer pricing rules and regulations apply different
standards and are not relevant to the customs issue. Because we believe
that the legal documentation for these transactions support our
position, we filed a complaint in the Tokyo District Court Civil Action
Section in December 2006 to have the Ministry of Finance’s affirmation
of the additional assessments reversed. The final hearing on this
matter was held on February 1, 2011 and the court indicated it would
issue a decision on this case on March 25, 2011. Either party has the
right to appeal this decision. If we receive an adverse decision in this
case, we may be required to record an expense for the full amount of
the disputed assessments, or $33.2 million.
The second dispute relates to additional customs assessments
made by Yokohama Customs for the period of October 2006
through November 2008 in connection with an audit in 2009, as well
as the disputed portion of our current import duty rate we have been
required to pay or hold in bond, and have paid under protest, since
October of 2009. The aggregate amount of these additional assessments
and disputed duties is 2.6 billion Japanese yen as of December
31, 2010 (approximately $32.1 million), net of any recovery of consumption
taxes. We were also recently notified that we are likely to be
assessed an additional 0.6 billion Japanese yen (approximately $7.7
million), net of any recovery of consumption taxes based on an audit
of the period of November 2008 through September 2009. With this
assessment, we have been required to pay additional assessments for
all periods from October 2006 to present and we believe that additional
assessments related to any prior period would be barred by
applicable statutes of limitations. In July 2005, we changed our operating
structure in Japan and believed that these changes would eliminate
further valuation disputes with Yokohama Customs as the new
structure eliminated the issues that were the basis of the litigation in
the first dispute (i.e., whether our US subsidiary was acting as an
agent for our Japan subsidiary or was acting as the seller). However,
in October 2009 we received notice from Yokohama Customs authorities
that they were assessing additional duties, penalties and interest
for the period of October 2006 through November 2008
based on their view that we were not utilizing the proper valuation
method. The basis for such additional assessment is different from
the issues that are being litigated in the first dispute. The issue in this
second case is whether a US entity utilizing a commissionaire agent
in Japan to import its products can use the manufacturer’s invoice or
must use another valuation method, and, if an alternative method
must be used, what the allowable deductions would be in determining
the proper valuation. Following our review of the assessments
and after consulting with our legal and customs advisors, we believe
that the additional assessments are improper and are not supported
by applicable customs laws. We filed letters of protest with Yokohama
Customs, which were rejected. We have appealed the matter to
the Ministry of Finance in Japan. In addition, we are currently being
required to post a bond or make a deposit equal to the difference
between our declared duties and the amount the customs authorities
have determined we should be paying on all current imports. Because
we believe that the higher rate determined by the customs
authorities is an improper application of the regulations, we are currently
expensing the portion of the duties we believe is supported
under applicable customs law, and recording the additional deposit
or payment as a receivable within long-term assets in our consolidated
financial statements. To the extent that we are unsuccessful in
recovering the amounts assessed and paid or held in bond, we will
likely be required to record an expense for the full amount of the disputed
assessments, or $32.1 million as of December 31, 2010.
SEASONALITY AND CYCLICALITY
In addition to general economic factors, we are impacted by seasonal
factors and trends such as major cultural events and vacation patterns.
For example, most Asian markets celebrate their respective local New Year
in the first quarter, which generally has a negative impact on that quarter.
We believe that direct selling in Japan, the United States and Europe is
also generally negatively impacted during the third quarter, when many
individuals, including our distributors, traditionally take vacations.
We have experienced rapid revenue growth in certain new markets
following commencement of operations. This initial rapid growth has often
been followed by a short period of stable or declining revenue, then followed
by renewed growth fueled by product introductions, an increase in the
number of active distributors and increased distributor productivity. The
contraction following initial rapid growth has been more pronounced in
certain new markets, due to other factors such as business or economic
conditions or distributor distractions outside the market.
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