The Simply Good Foods Company — Q3 FY2020 Form 10-Q
Reporting period: 13 and 39 weeks ended May 30, 2020; comparisons are with the periods ended May 25, 2019. Unaudited results. Simply Good Foods sells branded nutritious snacks and meal replacements, including Atkins and Quest. Quest was acquired on November 7, 2019, so current-period results include Quest while prior-year reported results do not.
Financial performance
| Metric | Q3 FY2020 | Q3 FY2019 | 39 weeks FY2020 | 39 weeks FY2019 |
|---|---|---|---|---|
| Net sales | $215.1 million | $139.5 million | $594.4 million | $384.2 million |
| Gross profit | $88.6 million | $56.7 million | $236.2 million | $158.2 million |
| Gross margin | 41.2% | 40.6% | 39.7% | 41.2% |
| Operating income | $31.1 million | $20.5 million | $53.4 million | $60.7 million |
| Net income | $16.4 million | $13.5 million | $22.3 million | $41.4 million |
| Diluted EPS | $0.17 | $0.16 | $0.23 | $0.49 |
| Adjusted EBITDA (non-GAAP) | $43.4 million | $24.9 million | $116.9 million | $74.6 million |
Q3 sales rose 54.2%, primarily from Quest; management attributed 62.5% of the increase to the acquisition. Quest contributed $87.2 million of Q3 sales. Atkins sales fell 8.3%, with e-commerce growth of 125% offset by weakness in measured channels. Q3 gross margin increased 60 basis points, while year-to-date gross margin declined 150 basis points, reflecting the $7.5 million noncash Quest inventory step-up and Quest’s somewhat lower gross margins. Year-to-date operating and net income fell despite sales and Adjusted EBITDA growth, amid higher acquisition-related costs, amortization and interest expense.
Cash flow, debt and liquidity
- Operating cash flow for the 39 weeks was $24.1 million, down from $52.6 million. Management cited transaction and integration costs and working-capital changes.
- Investing cash use was $984.3 million, primarily the $982.1 million Quest acquisition payment, net of cash acquired. Financing provided $805.6 million, including equity and debt issuance proceeds.
- Cash was $111.1 million at May 30, 2020, compared with $266.3 million at August 31, 2019. Current assets were $281.1 million and current liabilities $87.8 million.
- Debt included $635.5 million outstanding under the term facility and a $25.0 million revolver draw; the reported debt carrying amount was $650.0 million after financing fees and including finance leases. The term facility matures July 2024; no term-loan principal payments were required in the following 12 months. The $25.0 million revolver draw was repaid in June 2020.
- The company reported compliance with financial covenants and said liquidity was sufficient for operations, its growth strategy and expected expenses for at least 12 months. Letters of credit of $5.0 million reduced revolver availability; no amounts were drawn against them.
Material changes and notable items
- The $986.8 million net Quest purchase price was funded with cash, approximately $350 million of net equity offering proceeds and new term debt. The acquisition substantially increased goodwill and intangible assets.
- Year-to-date business transaction costs were $26.9 million; the filing identifies advisory fees, banker commitment fees, debt issuance costs and other transaction costs. Quest integration costs were $9.4 million year to date.
- The company announced organizational restructuring associated with integrating Quest. It recognized $1.4 million of costs through May 30 and expected total one-time severance and termination costs of approximately $6.3 million, payable through fiscal 2021 and Q1 FY2022.
- A class-action matter concerning product label claims was settled after period-end. The company had reserved $3.5 million in fiscal 2019 and an additional $0.3 million in the current 39-week period; the reserve was paid into escrow during the period.
Outlook, commentary and risks
Management said retail trends improved sequentially as movement restrictions eased, including into early Q4, and planned to increase marketing and merchandising investment as takeaway trends improved. It expected demand patterns and usage occasions to remain uncertain, and did not provide numerical financial guidance. Management cited COVID-19 uncertainty, including possible renewed restrictions, supply-chain disruptions, changes in customer operations and consumer behavior, and retail closures. It also noted potential volatility in reported retail takeaway data. The company had increased inventory of high-velocity products to address the initial demand surge and said it believed it could meet customer orders on a timely basis.
Other matters for investors include integration and execution risks from the Quest acquisition, increased leverage and interest costs, the preliminary nature of the Quest purchase-price allocation, and the possibility that COVID-19 affects demand, supply, liquidity or operations. The company stated it had no material off-balance-sheet arrangements and no litigation it believed would have a material adverse effect.
Important facts to verify
- How much reported growth reflects Quest versus comparable organic performance, and how Atkins and Quest trends develop after the pandemic-driven changes in purchasing.
- Whether gross margins recover as the Quest inventory step-up passes through and product mix and integration evolve.
- Cash conversion and working-capital needs, particularly inventory levels, alongside debt service and interest expense.
- Progress on Quest integration, expected restructuring costs and realization of any operating efficiencies.
- Final Quest purchase-price allocation and any subsequent developments related to the product-label litigation settlement.