Business Context and Reporting Period
Company: REED's, INC.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2012
Business Overview: Reed's, Inc. manufactures and distributes beverages, including core 12-ounce branded products and a new kombucha line. The company operates a production facility in Los Angeles and relies on a network of distributors and chain stores.
Key Financial Metrics
| Metric | Three Months Ended June 30, 2012 | Six Months Ended June 30, 2012 |
|---|---|---|
| Sales (Revenue) | $7,831,000 | $14,370,000 |
| Gross Profit | $2,697,000 (34% margin) | $4,682,000 (33% margin) |
| Net Income | $444,000 | $320,000 |
| Net Income Attributable to Common Stockholders | $421,000 | $288,000 |
| Cash and Cash Equivalents | $1,391,000 (as of June 30, 2012) | |
| Working Capital | $3,074,000 (as of June 30, 2012) | |
| Total Debt (Current + Long Term) | ~$3.8 Million (Line of Credit: $2.95M; Term Loan: $0.65M; Financing Obligation: $2.31M) | |
| Modified EBITDA | $831,000 | $1,099,000 |
Material Changes vs. Prior Period
- Revenue Growth: Sales increased 27% year-over-year for both the three and six-month periods, driven by a 28% volume increase in core branded products and a ~3% average price increase.
- Profitability Turnaround: The company returned to profitability. Net income for the three months ended June 30, 2012, was $444,000 compared to a net loss of $55,000 in the prior year period. For the six-month period, net income was $320,000 versus a loss of $420,000 in 2011.
- Margin Expansion: Gross profit margin improved to 34% (Q3 2012) from 31% (Q3 2011) due to lower per-unit costs (approx. 1% decrease) and higher plant utilization reducing idle capacity expenses.
- Inventory Management: Inventory levels decreased from $6.1 million to $5.0 million, contributing to improved cash flow.
- Operating Expenses: Selling and marketing expenses increased by 16% (Q3) and 20% (6-month) due to higher trade show and advertising costs to support new product rollouts.
Guidance, Outlook, and Risks
- Outlook: Management expects sales to continue increasing as they add distributors and chain stores. The new kombucha line is showing strong initial demand and is projected to become a significant revenue portion.
- Liquidity: The company increased its revolving line of credit from $3.0 million to $4.0 million in May 2012. Management believes current working capital and cash flow from operations are sufficient to support business plans through 2012.
- Risks:
- Customer Concentration: Two customers accounted for approximately 31% and 10% of sales in the first six months of 2012. One customer comprised 27% of total accounts receivable.
- Profitability Uncertainty: There is no assurance the company will generate sufficient revenue to maintain profitable operations long-term. Failure to achieve profitability could adversely affect working capital and stock value.
- Financing: Expansion plans depend on cash flow; if sales goals are not met, the company may need to reduce operations or seek additional financing on potentially unfavorable terms.
- Unusual Items: The company recorded no income tax provision due to the utilization of federal net operating loss carryforwards. A 100% valuation allowance was maintained against deferred tax assets.
Investor Verification Checklist
- Customer Concentration: Verify the stability of the top two customers who represent over 40% of sales and nearly 30% of receivables.
- Debt Covenants: Review the terms of the $4.0 million line of credit and the long-term financing obligation to ensure compliance with borrowing bases (85% of eligible receivables, 50% of eligible inventory).
- Kombucha Performance: Monitor the actual revenue contribution of the new kombucha line against management's expectation of it becoming a "significant portion" of revenues.
- Idle Capacity Costs: Track the "Cost of goods sold – idle capacity" line item to ensure plant utilization remains high enough to prevent margin erosion.
- Preferred Stock Conversions: Note the ongoing conversion of Series A and Series B preferred stock into common stock, which impacts share count and dilution.