Sprouts Farmers Market, Inc. — FY2019 Form 10-K
Business context and reporting period. Sprouts operates specialty grocery stores focused on fresh, natural and organic food. This 10-K covers the 52-week fiscal year ended December 29, 2019; “2019 Q4” refers to the fiscal quarter ended that date. The company had 340 stores in 22 states at year-end and 341 stores as of February 20, 2020.
Financial results and position
| Metric | FY2019 | FY2018 |
|---|---|---|
| Net sales | $5.635 billion | $5.207 billion |
| Comparable-store sales growth | 1.1% | 2.1% |
| Gross profit / margin | $1.895 billion / 33.6% | $1.747 billion / 33.6% |
| Operating income | $217.4 million | $222.9 million |
| Net income / diluted EPS | $149.6 million / $1.25 | $158.5 million / $1.22 |
| Cash from operating activities | $355.2 million | $294.4 million |
| Cash used in investing activities | $183.2 million | $177.1 million |
| Cash used in financing activities | $87.4 million | $134.5 million |
| Cash, cash equivalents and restricted cash at year-end | $86.8 million | $2.2 million |
Q4 results: For the quarter ended December 29, 2019, sales were $1.365 billion, operating income was $46.9 million and net income was $31.6 million. In the comparable 2018 quarter, these were $1.269 billion, $28.8 million and $12.7 million, respectively.
Debt and liquidity: Long-term debt under the revolving credit agreement was $538.0 million at year-end, up $85.0 million year over year; the facility commitment is $700 million and matures March 27, 2023. The company reported compliance with its debt covenants. It expects cash and operating cash generation to cover anticipated needs for at least 12 months. Operating lease liabilities were $1.185 billion, in addition to $12.2 million of finance lease liabilities. The filing reports $1.720 billion of future operating lease payments.
Material changes versus the prior year
- Sales rose 8%, driven primarily by new-store performance; comparable-store growth slowed to 1.1% from 2.1%. The company opened 28 stores and closed one underperforming store, versus 30 opened and two closed in 2018.
- Gross margin remained 33.6%. SG&A rose to 27.5% of sales from 27.0%, reflecting new-store costs and higher occupancy costs, home-delivery expansion, health-care costs and credit-card fees.
- Operating income declined to $217.4 million from $222.9 million; net income fell 6%. Lower interest expense was partly offset by higher SG&A and a higher effective tax rate (23.7%, versus 19.0%). The prior-year rate benefited from excess tax benefits on share-based compensation.
- Operating cash flow increased by $60.8 million, primarily due to working-capital changes, including elevated accounts payable and accrued liabilities.
- The company repurchased $176.3 million of stock in 2019, compared with $258.3 million in 2018, and borrowed $85.0 million net to support repurchases. Year-end shares outstanding were lower than in 2018.
Outlook, commentary and risks
- Management expected approximately 20 new stores in fiscal 2020; one had opened by February 20, 2020. Capital expenditures were expected to be $120–$130 million, net of estimated landlord improvement allowances. No specific comparable-store-sales or earnings guidance is provided in the filing.
- Management cited value positioning, product innovation and customer engagement as growth drivers and said store growth may accelerate beyond 2020, including entry into new markets. The company was assessing smaller store formats.
- Major disclosed risks include intense grocery competition and pricing pressure; reliance on fresh-produce availability and weather-sensitive supply; supplier concentration (KeHE accounted for approximately 40% of purchases in 2019); labor and occupancy costs; regional concentration; food safety and regulatory compliance; cybersecurity; and execution risks from expansion.
- Lease accounting standard ASC 842 was adopted in 2019, adding about $1.0 billion of operating lease assets and $1.1 billion of liabilities at transition and increasing retained earnings by $11.4 million, net of tax. Management said adoption did not affect liquidity or cash flows, but it affected reported expenses and year-over-year comparisons.
- FY2019 store-closure and other costs included $4.1 million of impairment charges and $1.2 million of severance expense associated with the former President and COO transition. The company recorded no goodwill impairment.
- Legal matters included four remaining individual arbitrations related to a 2016 phishing incident; the company said potential liability could not then be reasonably estimated. A California Proposition 65 coffee case also remained pending, with potential loss not estimable. The IRS was examining the 2017 federal tax return. The auditor issued unqualified opinions on the financial statements and internal control; management also concluded controls were effective.
Most important facts for investors to verify
- Whether slower comparable-store growth persists and whether new stores reach mature-store sales and profitability.
- How the company funds expansion, repurchases and debt service, and its leverage and covenant headroom under the $700 million facility.
- Whether higher occupancy, labor, delivery and other operating costs pressure margins despite stable gross margin.
- Exposure to produce supply disruption, California and other regional concentration, and the KeHE supplier relationship.
- Developments in the phishing-related arbitrations, Proposition 65 litigation and IRS examination, including any change in estimated exposure.
- The effects of lease obligations and lease-accounting presentation on reported profitability and future cash commitments.