Winmark Corporation — FY2012 Form 10-K
Reporting period: Fiscal year ended December 29, 2012 (52 weeks), compared with the year ended December 31, 2011 (53 weeks). The filing includes fourth-quarter results but is an annual report, not a standalone quarterly filing.
Business context
Winmark franchises value-focused resale retail brands—Plato’s Closet, Play It Again Sports, Once Upon A Child and Music Go Round—and operates middle-market and small-ticket equipment leasing businesses. At year-end it had 968 franchised stores, up from 930, and a $36.2 million net leasing portfolio. In January 2013, the company announced development of Style Encore, a proposed women’s resale concept.
Key financial results
| Metric | FY2012 | FY2011 |
|---|---|---|
| Revenue | $51.9 million | $51.3 million |
| Income from operations | $27.3 million | $24.8 million |
| Operating margin | 52.6% | 48.4% |
| Net income | $12.9 million | $14.1 million |
| Net margin | 24.9% | 27.5% |
| Diluted EPS | $2.47 | $2.69 |
| Cash from operations | $18.2 million | $20.6 million |
| Cash and cash equivalents at year-end | $2.2 million | $9.0 million |
| Total debt at year-end | $10.8 million | None reported |
Operating income was 52.6% of revenue; net income declined despite higher operating income. The filing reports no separate consolidated cash-flow margin. Year-end working capital was negative $1.6 million and the current ratio was 0.9, versus positive working capital of $15.9 million and a 3.0 current ratio in 2011.
Changes and notable items
- Revenue rose 1.2%; royalties increased 11.2% to $33.8 million, led by Plato’s Closet and Once Upon A Child. Franchise segment contribution grew 12.6% to $20.7 million.
- Leasing income fell 19.3% to $13.2 million, reflecting lower equipment sales to customers. Leasing expense also fell, and leasing segment contribution edged up to $6.6 million. Lease equipment purchases increased to $23.8 million from $20.4 million, and the net leasing portfolio grew from $29.8 million to $36.2 million.
- Net income fell 8.2%, primarily amid higher investment losses and impairment charges, increased interest expense, and a higher effective tax rate. The company recorded a $1.8 million impairment of its Tomsten investment, reducing its carrying value to zero, and an additional $1.3 million impairment of BridgeFunds notes, also reducing their net carrying value to zero.
- The company paid $26.1 million in dividends, including a $5.00-per-share special dividend, and repurchased $7.2 million of stock. These distributions contributed to the cash decline and use of financing cash.
- Operating cash flow was $18.2 million; investing activities used $6.1 million and financing activities used $18.8 million. The company borrowed $10.8 million under its $35 million revolving facility; $24.2 million remained available at year-end.
- Fourth-quarter 2012 revenue was $13.1 million and net income was $1.8 million, versus $13.2 million and $4.2 million, respectively, in fourth-quarter 2011.
Outlook, risks and contingencies
Management stated that cash on hand, franchising cash generation, lease-discounting sources and the credit facility should be adequate to fund planned operations, including leasing activity, through 2013. No specific earnings or revenue guidance was provided. The company planned to file Style Encore’s Franchise Disclosure Document in 2013 and award franchises thereafter.
- Key risks include franchise renewals and new openings, franchisees’ access to financing, availability of quality used merchandise, intense retail and leasing competition, and possible deterioration in leasing customers’ credit quality or lease recoveries.
- Management identified uncertainty in the allowance for lease credit losses and in valuations and expected cash flows for investments. Only $6,800 of lease investment was classified as non-accrual at year-end; the allowance for credit losses was $775,800.
- The revolving facility is secured by substantially all company assets, has financial covenants, and matures February 29, 2016. The company reported covenant compliance at year-end. A 1% increase in short-term interest rates would reduce annual pretax earnings by approximately $108,000.
- Management reported no material litigation or off-balance-sheet arrangements. Auditors issued unqualified opinions on the financial statements and internal control over financial reporting.
Important facts for investors to verify
- Whether royalty growth, franchise openings and renewals remain strong, especially given the 13 Play It Again Sports closures and upcoming agreement expirations.
- Whether the expanded leasing portfolio produces sustainable income and whether credit losses, residual values and customer delinquencies remain controlled.
- Whether the negative working capital and lower cash balance are manageable after the special dividend, and how the company uses its remaining credit availability.
- Whether the zero carrying values for Tomsten and BridgeFunds reflect the ultimate recoveries, and whether any further impairment or tax effects arise.
- Whether Style Encore attracts franchisees and contributes profitably without diverting resources from established brands.