Turning Point Brands, Inc. — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020; comparative period is Q1 2019. Amounts are in U.S. dollars. Unless stated otherwise, financial figures are in millions.
Business context and reporting period
Turning Point Brands sells other tobacco products and adult consumer alternatives through three segments: Smokeless, Smoking, and NewGen. Its brands include Stoker’s, Zig-Zag, VaporBeast, VaporFi, and Solace. The interim financial statements are unaudited.
Financial performance and liquidity
| Metric | Q1 2020 | Q1 2019 / comparison |
|---|---|---|
| Net sales | $90.7 | $91.6; down 1.0% |
| Gross profit / margin | $41.4 / 45.7% | $40.5 / 44.2% |
| Operating income | $9.0 | $12.0; down 24.9% |
| Net income | $3.3 | $6.6; down 50.1% |
| Diluted EPS | $0.16 | $0.33 |
| Net cash from operations | $14.7 | $14.0 |
| Capital expenditures | $0.9 | $0.9 |
- Operating cash flow exceeded net income; working-capital movements contributed to operating cash generation. Cash increased $4.2 million during the quarter.
- At March 31, cash was $99.4 million, plus $32.1 million held in restricted MSA escrow. Working capital was $133.7 million.
- Gross debt was $316.5 million, including a $144.0 million first-lien term loan and $172.5 million of convertible notes. Net debt carrying value was $268.0 million after discounts, financing costs, and current maturities. The revolver had no borrowings and $46.3 million of availability.
- Interest expense was $5.0 million, including $1.8 million of noncash amortization of the convertible-note discount. The first-lien term loan’s weighted average interest rate was 3.74%.
- GAAP EBITDA was $10.5 million versus $13.1 million. Adjusted EBITDA, a non-GAAP measure, was $17.8 million versus $16.1 million; the 2020 figure included $5.9 million of PMTA-related add-backs.
Material changes versus Q1 2019
- Smokeless sales grew 17.5% to $26.5 million, primarily on 16.7% volume growth in Stoker’s moist snuff; segment gross margin eased to 52.4% from 53.6%, largely due to mix.
- Smoking sales rose 13.3% to $28.9 million, led by U.S. rolling papers. Segment gross margin improved to 55.8% from 52.8%, with higher rolling-paper sales and a continuing decline in lower-margin cigar business.
- NewGen sales fell 19.0% to $35.3 million, reflecting vapor-market disruption and the wind-down of V2, partly offset by CBD, Solace, and other Nu-X products. Segment operating income decreased to $0.5 million from $2.8 million. Segment gross profit included $2.8 million of tariff expense, versus $2.0 million.
- Consolidated gross profit increased despite slightly lower sales, but SG&A rose 13.9% to $32.4 million. SG&A included $5.9 million in PMTA costs and $1.0 million in transaction expenses; corporate unallocated costs also increased.
- Higher interest expense and lower operating income contributed to the reduction in net income. Other comprehensive income included a $1.6 million after-tax loss on interest-rate swaps.
Outlook, commentary, risks, and unusual items
- Outlook: The filing provides no quantified full-year guidance. Management said it expects COVID-19 to affect future results. It cited a temporary shutdown and gradual restart at a Dominican Republic cigar-wrap supplier, reduced in-person selling, slower product launches, and delayed price increases, while expecting growth in B2C platforms to offset some effects.
- COVID-19 response: The company implemented workplace safety measures, teleworking and tele-selling, deferred some compensation increases, and paused new spending commitments. It also added Louisville employees and shifted capacity to hand sanitizer production.
- FDA regulation: The filing describes significant uncertainty around premarket tobacco product applications and vapor-product enforcement. The filing reports that the deadline was extended to September 9, 2020; existing regulated vapor products could not continue to be marketed after that date without timely applications. The company expected to file, but cautioned that approvals and continued sales were not assured, including for third-party products it distributes.
- Debt and capital allocation: The company reported compliance with credit-facility covenants at March 31. The facility’s covenants restrict, among other things, additional debt and dividends. A $50 million repurchase authorization was approved in February; 134,130 shares were repurchased for $2.6 million in Q1. A $0.05-per-share dividend was paid April 10.
- Subsequent events: On April 17, a subsidiary entered into a $7.5 million SBA-guaranteed, unsecured CARES Act loan at 1.00%, with proceeds received April 27 and maturity scheduled for April 17, 2022. On April 8, TPB and Standard Diversified Inc. announced a proposed merger, expected to close in summer 2020 subject to conditions and approvals.
- Contingencies and other risks: The company disclosed vapor-product personal-injury lawsuits, a franchisee lawsuit, and regulatory information requests concerning vapor marketing and possible underage sales. It also cited tobacco and vapor regulation, supplier concentration, litigation, competition, and indebtedness as risks. The $32.1 million MSA escrow is restricted; the company said it no longer sells products covered by the MSA and, absent a legislative change, expects no further required deposits.
Most important facts for investors to verify
- Whether NewGen sales and profitability stabilize, and the extent to which growth in Smokeless and Smoking can offset weakness.
- Actual PMTA filing progress, FDA decisions, and the effect of deadlines or enforcement on the company’s own and distributed vapor products.
- COVID-19 effects on suppliers, in-person sales, product launches, pricing, and demand, compared with management’s expected B2C offsets.
- Debt service, covenant headroom, revolver availability, and the impact of convertible-note discount amortization on reported interest expense.
- Use of the share-repurchase authorization, dividend capacity under credit-agreement restrictions, and completion terms and dilution implications of the proposed SDI merger.
- Developments in disclosed litigation and regulatory requests, as well as the amount and accessibility of restricted MSA escrow funds.