Purple Innovation, Inc. — Q3 2020 Form 10-Q
Reporting period: Three and nine months ended September 30, 2020. Unaudited results are compared with the corresponding 2019 periods. The company designs and manufactures mattresses and other comfort products, selling through direct-to-consumer (DTC), wholesale, online retail, and company showrooms.
Financial performance
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Net revenue | $187.1 million | $117.4 million | $474.6 million | $304.1 million |
| Gross profit / margin | $88.3 million / 47.2% | $52.9 million / 45.0% | $223.1 million / 47.0% | $129.7 million / 42.7% |
| Operating income / margin | $24.3 million / 13.0% | $11.0 million / 9.4% | $63.7 million / 13.4% | $13.4 million / 4.4% |
| Net income (loss), consolidated | $(1.2) million | $8.4 million | $13.0 million | $0.4 million |
| Net income (loss) attributable to Purple | $(1.0) million | $1.6 million | $5.8 million | $0.1 million |
| Basic earnings (loss) per share | $(0.02) | $0.18 | $0.18 | $0.01 |
- Revenue mix: Q3 DTC revenue rose 97% to $134.3 million; wholesale revenue rose about 7% to $52.9 million. Bedding generated $172.8 million of Q3 sales and other products $14.3 million.
- Margins and expenses: Management attributed the higher gross margin mainly to the sales mix shifting toward higher-margin DTC. Marketing and sales expense increased to $51.2 million in Q3, but declined as a share of revenue to 27.4% from 29.0%. Operating income increased substantially as revenue grew and operating expenses fell as a share of sales.
- Other items affecting earnings: Q3 included a $18.0 million noncash loss from revaluing warrant liabilities and a $5.8 million debt-extinguishment loss. These and other expenses contributed to the consolidated quarterly net loss despite operating income growth. For the nine months, the $35.8 million income-tax benefit largely reflected release of a deferred-tax valuation allowance; results also included a $43.3 million warrant revaluation loss and $33.5 million of Tax Receivable Agreement (TRA) expense.
Cash flow, balance sheet, and debt
- Cash flow, nine months: Operating activities provided $87.5 million, investing activities used $25.1 million, and financing activities provided $2.1 million. Cash increased $64.5 million to $98.0 million. Capital expenditures were $14.2 million; intangible-asset investment was $10.9 million.
- Liquidity at September 30: Current assets were $181.0 million and current liabilities $113.5 million; working capital was $67.4 million. Cash was $98.0 million, compared with $33.5 million at December 31, 2019.
- Debt: The company replaced its former related-party borrowing in September with a $45.0 million term loan under a new credit agreement; net carrying value was $41.9 million after issuance costs and current portion. The agreement also provides a $55.0 million revolving facility, with no amount drawn at September 30. Debt is secured, guaranteed, and subject to financial and other covenants. The former debt was repaid for $45.0 million, including $6.6 million of capitalized interest, a $2.5 million prepayment fee, and $0.9 million of accrued interest.
- Other significant balances: The balance sheet reported a $169.0 million TRA liability and $205.5 million of deferred income-tax assets. Warrant liabilities were $64.9 million. Total assets were $442.6 million and total liabilities $401.1 million.
Changes versus prior comparable periods
- Q3 revenue grew 59.4%; revenue for the first nine months grew 56.1%. The increase was driven primarily by higher DTC demand, particularly for mattresses and other bedding products.
- Nine-month operating income rose to $63.7 million from $13.4 million, while gross margin expanded 4.3 percentage points. Marketing and sales expense declined as a percentage of revenue from 30.9% to 26.8%.
- Cash from operations increased to $87.5 million from $15.8 million, and cash rose by $64.5 million during the 2020 period.
- The company’s ownership of Purple LLC increased to approximately 99% from roughly 19% at the 2018 business-combination closing, as Class B paired securities were exchanged. The noncontrolling interest consequently fell to about 1%. The exchanges also drove substantial tax-basis increases and TRA obligations.
Outlook, risks, and unusual items
- Outlook: The filing provides no numerical revenue or earnings guidance. Management said, subject to assumptions about COVID-19’s duration and severity, cash on hand, cash generated from e-commerce, available revolver capacity, and recovery in wholesale and store operations were expected to cover working capital and anticipated capital expenditures for the next 12 months.
- COVID-19 and operations: DTC demand remained strong, while wholesale recovered after earlier closures. Management reported some supplier constraints and delivery delays as production ramped. A resurgence in Utah cases could disrupt or close manufacturing facilities; showroom and outlet closures also remained possible. The company had resumed full production and was building out a Georgia manufacturing facility expected to operate in 2021.
- Financing and TRA risks: Revolver availability depends on agreement conditions and covenant compliance. Management warned that inadequate cash or financing could require reduced marketing, delayed growth investment, or additional capital that may be unavailable or dilutive. TRA payments depend on future exchanges, taxable income, and tax benefits; the company estimated approximately $169.0 million of future payments at September 30, with about $0.7 million due within 12 months.
- Controls: Management concluded disclosure controls were not effective at September 30 because of a previously reported material weakness in the tax-provision process, involving the valuation-allowance release and TRA accounting. Remediation had begun but was not complete.
- Legal and other contingencies: The company filed a claim seeking approximately $7.0 million in refunds of Section 301 duties. Subsequent to quarter-end, it reported new litigation involving Responsive Surface Technology and PatienTech: Purple sought more than $4 million in damages, while the opposing claim sought tens of millions; outcomes were uncertain. A California Proposition 65 warning-label claim was also received after quarter-end. Other disclosed exposures include sales-tax matters, product liability, returns, supplier commitments, and intellectual-property disputes.
- Post-quarter warrant activity: In October, approximately 8.0 million public warrants were exercised for $45.6 million cash and about 4.0 million Class A shares. By November 9, additional warrant exercises had occurred; the company reported 60.9 million Class A shares outstanding. A redemption of remaining public and incremental-loan warrants was announced, with pre-redemption exercises required to be cashless under the notice terms.
Important facts for investors to verify
- Whether exceptional DTC growth and improved gross margins persist as consumer demand, wholesale activity, and physical retail evolve after COVID-related shifts.
- Production capacity, supplier availability, shipping performance, and execution, cost, and timing of the Georgia facility buildout.
- Compliance with the new credit agreement’s covenants, actual access to the $55.0 million revolver, and debt service needs.
- The assumptions, timing, and cash impact of the TRA liability and related deferred-tax assets, including the effect of future exchanges and taxable income.
- Progress in remediating the material weakness and whether tax accounting estimates or controls require further adjustments.
- Share dilution and cash proceeds arising from warrant exercises, as well as developments in the disclosed litigation and regulatory matters.