Sprouts Farmers Market, Inc. — Q3 2020 Form 10-Q
Business context and reporting period. Sprouts operates specialty healthy-grocery stores. This unaudited filing covers the 13 and 39 weeks ended September 27, 2020; comparable periods ended September 29, 2019. The company operated 356 stores in 23 states at quarter-end.
Financial performance
| Metric | Q3 2020 | Q3 2019 | 39 weeks 2020 | 39 weeks 2019 |
|---|---|---|---|---|
| Net sales | $1,577.6 million | $1,440.2 million | $4,866.9 million | $4,269.8 million |
| Comparable-store sales growth | 4.2% | 1.5% | 8.0% | 1.0% |
| Gross profit | $584.8 million | $476.7 million | $1,791.3 million | $1,425.9 million |
| Gross margin | 37.1% | 33.1% | 36.8% | 33.4% |
| Operating income | $78.4 million | $39.6 million | $298.7 million | $170.4 million |
| Net income | $60.2 million | $26.3 million | $219.1 million | $118.0 million |
| Diluted EPS | $0.51 | $0.22 | $1.85 | $0.98 |
- Q3 sales increased 10%, net income 129%, and diluted EPS 132% year over year. For the 39-week period, sales increased 14%, net income 86%, and diluted EPS 89%.
- Q3 SG&A was $475.1 million, or 30.1% of sales, versus $404.3 million, or 28.1%. For the 39 weeks, SG&A was $1,400.2 million, or 28.8% of sales, versus $1,162.2 million, or 27.2%.
- Interest expense, net, was $3.1 million in Q3 and $11.7 million for the 39 weeks, down from $5.6 million and $16.0 million, respectively.
- Effective tax rate was 20.0% for Q3 versus 22.8%; year to date it was 23.7% versus 23.6%.
Cash flow, debt, and liquidity
- For the 39 weeks, operating cash flow was $410.3 million, versus $323.3 million; investing cash outflow was $95.9 million, primarily capital expenditures, versus $146.5 million; financing cash outflow was $262.1 million versus $97.7 million.
- Cash, cash equivalents, and restricted cash totaled $139.0 million at period-end, versus $81.4 million a year earlier. The balance sheet reports cash and cash equivalents of $137.5 million.
- Long-term debt was $275.0 million, down $263.0 million from December 29, 2019, after repayments on the revolving credit facility. The $700 million facility matures March 27, 2023; $34.4 million of letters of credit were outstanding. The company reported compliance with its covenants.
- Operating lease liabilities totaled approximately $1.20 billion on the balance sheet, in addition to the company’s debt and finance lease obligations.
- Management said cash and expected operating cash generation should be sufficient for anticipated needs for at least 12 months.
Material changes and management commentary
- Management attributed much of the sales and margin improvement to pandemic-related demand: grocery stockpiling and continued at-home food consumption. It also cited more efficient promotions and lower shrink.
- Higher payroll, team-member incentives and bonuses, safety measures, and ecommerce fees increased operating costs. The company also reported increased store sanitation measures and investment in frontline employee benefits and protective equipment.
- Q3 comparable-store sales growth was 4.2%, compared with 1.5% a year earlier; year-to-date growth was 8.0%, compared with 1.0%.
- Store closure and other costs were a $0.3 million net credit for the 39 weeks, primarily reflecting a gain on assignment of a closed-store lease. The prior-year period included $3.4 million of costs.
- No share repurchases occurred in the 2020 periods presented. The prior-year 39-week period included $163.3 million of repurchases; no authorization remained at September 27, 2020.
Outlook, risks, and contingencies
- The company expected approximately 20 new stores in 2020; 20 had opened by October 28, with two more intended later in the year. It targeted annual new-store growth of at least 10% beyond 2021, subject to COVID-19 impacts, market opportunity, and supply-chain support.
- Management did not provide specific earnings or comparable-sales guidance in the filing. It cautioned that future results were difficult to estimate because the duration and severity of COVID-19 and related government and consumer responses were uncertain.
- Disclosed COVID-19 risks include weaker store traffic or closures, supply-chain and staffing disruption, continued elevated employee and ecommerce costs, delayed store construction, changes in consumer spending, and potential litigation or cybersecurity exposure. Management said growth plans could be delayed.
- The company has variable-rate debt, partially hedged by $250 million in interest-rate swaps. After swaps, management estimated that a 100-basis-point LIBOR change would affect annual interest expense by approximately $0.3 million.
- Ordinary-course claims and self-insurance obligations remain subject to estimation. A California Proposition 65 coffee case was dismissed in August 2020; the company expected an appeal but could not estimate any potential loss and recorded no contingency. Previously disclosed securities and phishing matters were settled without material financial-statement impact.
- The quarter included a $5.4 million tax benefit from discrete and return-to-provision adjustments. Management noted that pandemic-driven demand and margin benefits may not persist.
Important facts for investors to verify
- Whether pandemic-driven sales, comparable-store growth, and elevated gross margins continue or normalize as consumer behavior changes.
- How much ongoing frontline labor, safety, and ecommerce costs offset sales and gross-margin benefits.
- Progress toward store-opening targets and potential construction or supply-chain delays.
- Debt repayment, facility availability, covenant compliance, interest-rate exposure, and substantial lease commitments.
- Whether the Proposition 65 dismissal is appealed and whether self-insurance or other legal matters produce material costs.