Winmark Corporation — Q3 2019 Form 10-Q
Reporting period: Three and nine months ended September 28, 2019; unaudited. Winmark franchises value-oriented resale retail brands and operates middle-market and small-ticket equipment leasing businesses. It had 1,255 franchised stores and a $30.0 million net leasing portfolio at quarter-end.
Financial results
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Revenue | $19.7M | $19.1M | $55.4M | $55.4M |
| Operating income | $12.3M | $11.4M | $32.2M | $31.6M |
| Net income | $9.1M | $8.4M | $23.7M | $22.5M |
| Diluted EPS | $2.24 | $2.01 | $5.76 | $5.43 |
| Operating / net margin | 62.4% / 46.3% | 59.8% / 43.8% | 58.1% / 42.8% | 57.0% / 40.5% |
- For the nine months, royalties rose 7.0% to $38.2M; leasing income fell 15.1% to $12.7M. Merchandise sales declined to $2.0M from $2.3M. Quarterly royalties increased 7.3% to $13.8M, while quarterly leasing income decreased to $4.4M from $4.6M.
- Nine-month operating cash flow was $38.1M versus $27.6M; investing cash outflow was $8.1M and financing cash outflow was $25.0M. Cash, cash equivalents and restricted cash totaled $7.6M at period-end.
- Cash-flow comparison is affected by the adoption of lease accounting: $14.4M of lease principal collections was classified as operating cash flow in 2019, whereas such collections were classified as investing activities in 2018.
- Balance-sheet total assets were $48.5M. Notes payable were $26.4M net of issuance costs; discounted lease rentals totaled $4.4M. Shareholders’ deficit was $3.1M.
Changes, outlook and risks
- Operating income and net income increased year over year in both the quarter and nine-month period, despite essentially flat nine-month revenue. Franchise-segment contribution improved to $25.8M for nine months from $23.3M; leasing-segment contribution declined to $6.3M from $8.3M.
- Management attributed the leasing decline to fewer customers installing equipment, lower equipment purchases for leases ($7.9M versus $20.2M), and a smaller portfolio ($30.0M versus $39.0M at year-end 2018). It cautioned that continued low equipment purchases and portfolio contraction could reduce long-term leasing-segment operating income.
- Management believed cash on hand, franchising cash generation, lease-discounting sources and the credit facility would fund planned operations through 2020. This is an expectation, not a guarantee; future performance and credit-market access may affect debt service and liquidity.
- The revolving facility had no outstanding borrowings and $45.0M available; it terminates in July 2021 and is secured by substantially all assets. The company reported compliance with debt covenants. Series A and B notes bear fixed rates of 5.50% and 5.10%, respectively. Discounted lease financing carried a 6.39% weighted-average rate.
- Winmark repurchased 150,000 shares through a tender offer for approximately $24.0M including expenses, partly financed with line-of-credit borrowings. It paid $2.5M in dividends during the nine months. No shares were repurchased in Q3; 130,604 shares remained authorized for repurchase.
- Of 62 franchise agreements eligible for renewal in the first nine months, 60 were renewed. One leasing customer represented approximately 12% of total assets. The filing reported no material litigation and no material change to previously disclosed risk factors other than the leasing-growth risk described above.
Important facts for investors to verify
- Whether new leasing customers and equipment originations can stabilize or grow the leasing portfolio and leasing-segment contribution.
- The sustainability of royalty growth and franchise health, including future openings, closures and renewal rates.
- Cash-flow comparability after the lease-accounting presentation change, and the distinction between operating cash flow and cash available after leasing investment and shareholder distributions.
- Debt service, covenant compliance, the $45.0M facility availability and the assumptions supporting management’s liquidity outlook through 2020.
- Credit exposure in the leasing portfolio, including the customer concentration and the adequacy of the $0.7M allowance for lease credit losses.