Xcel Brands, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Unaudited results; dollar amounts below are in millions unless stated otherwise.
Business context
Xcel manages consumer lifestyle brands, including Isaac Mizrahi, Judith Ripka, Halston, C Wonder and Highline Collective, through licensing, wholesale, e-commerce and other channels. In February 2019, it acquired Halston Heritage trademarks and related intellectual property.
Financial results
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Net revenue | $9.14 | $8.49 | $19.44 | $17.25 |
| Gross profit | $7.37 | $8.26 | $15.84 | $16.84 |
| Gross margin | 80.7% | 97.3% | 81.5% | 97.6% |
| Net income (loss) | $1.85 | $(0.11) | $1.98 | $0.39 |
| Diluted EPS | $0.10 | $(0.01) | $0.11 | $0.02 |
| Adjusted EBITDA (non-GAAP) | $1.64 | $2.22 | $3.65 | $4.38 |
| Operating cash flow | Not separately provided | Not separately provided | $1.98 | $1.96 |
- Q2 revenue rose 8% year over year; six-month revenue rose 13%. Product sales increased to $2.34 million in Q2 from $0.35 million, and to $4.77 million for six months from $0.63 million, reflecting the apparel wholesale launch and Judith Ripka jewelry e-commerce growth.
- Licensing revenue declined to $6.80 million in Q2 from $8.14 million, and to $14.67 million for six months from $16.62 million. Management attributed the decline to a licensing arrangement shifting from guaranteed minimums to sales-based royalties and lower department-store design and service fees as the business moved to wholesale.
- Gross profit fell despite higher revenue, as lower licensing revenue and higher cost of product sales weighed on margins. Operating expenses were broadly flat in Q2 and increased about $0.4 million for six months, mainly due to higher intangible amortization.
- Reported Q2 earnings included a $2.85 million gain from the expiry of the C Wonder earn-out, which the seller did not earn. Six-month results also included a $0.19 million debt-extinguishment loss. Excluding specified items, non-GAAP net income was $0.99 million in Q2 versus $1.75 million, and $2.48 million for six months versus $3.45 million. These company-defined non-GAAP measures are not GAAP substitutes.
Cash, debt and liquidity
- At June 30, cash and cash equivalents were $6.27 million, down from $8.84 million at year-end; restricted cash was $1.11 million. Cash, cash equivalents and restricted cash totaled $7.38 million.
- Six-month operating cash flow was $1.98 million. Investing used $9.39 million, principally the $8.83 million cash payment for the Halston Heritage acquisition. Financing provided $4.47 million, including $7.5 million of additional term borrowing.
- Net carrying amount of debt and contingent obligations was $21.68 million, including $21.0 million principal on the Xcel Term Loan and a $0.9 million Halston Heritage contingent obligation. The term loan matures December 2023, bears fixed rates of 5.1% on Term Loan A and 6.25% on Term Loan B, and is secured by company assets. The company reported compliance with applicable covenants at quarter-end.
- Working capital, excluding current operating lease obligations and contingent obligations payable in shares, was $9.1 million, down from $10.7 million at year-end. Operating lease liabilities totaled $12.37 million, including $1.71 million current.
- Management said cash and operating cash flows were expected to cover operating needs, debt service and capital expenditures for at least the 12 months following the filing. The loan agreement requires at least $5.0 million in liquid assets at all times.
Outlook, risks and unusual items
- No specific revenue, earnings or other numerical guidance was provided. Management described continued efforts to grow wholesale and e-commerce, diversify distribution and brands, and pursue licensing and acquisitions. It noted that results depend on brand awareness, licensee and retail relationships, and predicting consumer preferences.
- QVC was a major concentration: it represented about 65% of Q2 revenue and 66% of six-month revenue; at June 30 it accounted for about 67% of receivables. This creates exposure to a key customer and channel.
- The Halston Heritage acquisition consideration included $8.35 million cash, 777,778 shares valued at $1.06 million, transaction expenses and a $0.9 million contingent obligation. The seller may earn up to $6.0 million through 2022 based on royalty performance; payment is generally in shares, subject to agreement limits and company options.
- A company director held a 25% interest in the seller’s parent and was its former CEO, making the acquisition a related-party matter. The filing also identifies fashion-trend, economic, retail consolidation, supply-cost and licensee-performance risks.
- Lease accounting adoption on January 1, 2019 added right-of-use assets and lease liabilities to the balance sheet; management said it did not affect cash flows or the income statement. Management reported effective disclosure controls and no significant quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether the growth in wholesale and e-commerce sales can offset declining licensing revenue and lower reported gross margins.
- How much of reported earnings and cash-generation trends are affected by the $2.85 million C Wonder earn-out gain and other adjustments.
- QVC’s continuing share of revenue and receivables, and any changes in that customer relationship or payment patterns.
- Debt-service capacity, compliance with the loan’s liquidity and other covenants, and the potential impact of the Halston earn-out and future acquisition spending.
- The Halston acquisition’s royalty performance, related-party terms and potential share dilution, including outstanding options and earn-out shares.