Winmark Corporation — Q2 2014 Form 10-Q
Reporting period: Quarter and six months ended June 28, 2014; comparisons are to the periods ended June 29, 2013. Unaudited interim results. Winmark franchises value-oriented retail brands and operates middle-market and small-ticket equipment leasing businesses. At quarter-end it had 1,047 franchises and a $43.2 million net leasing portfolio.
Financial performance
| Metric | Q2 2014 | Q2 2013 | First half 2014 | First half 2013 |
|---|---|---|---|---|
| Revenue | $14.04M | $14.02M | $28.59M | $27.17M |
| Operating income | $7.09M | $7.06M | $14.53M | $13.74M |
| Net income | $4.28M | $4.34M | $8.83M | $8.39M |
| Diluted EPS | $0.82 | $0.83 | $1.67 | $1.61 |
| Operating margin | 50.5% | 50.3% | 50.8% | 50.5% |
| Net margin | 30.5% | 30.9% | 30.9% | 30.9% |
- First-half operating cash flow was $7.6M, down from $9.7M, primarily due to higher cash income-tax payments. Investing used $6.1M, including $15.2M of equipment purchases for lease customers, partly offset by $9.5M of lease principal collections.
- Cash was $2.1M at June 28, versus $10.6M at December 28, 2013. Current assets were $26.3M against current liabilities of $32.8M; management reported a 0.8:1 current ratio.
- Line-of-credit borrowings were $23.1M, with $11.9M available under the $35.0M facility. Borrowings carried rates of 2.40%–3.25%; a 1 percentage-point increase in short-term rates was estimated to reduce annual pretax earnings by $231,000. The facility matures February 28, 2018, is secured by substantially all assets, and the company reported covenant compliance.
Changes and management commentary
- First-half revenue rose 5.2%, driven mainly by royalties, up 5.4%, and franchise fees. Q2 revenue was essentially flat year over year; Q2 net income declined slightly.
- Royalties benefited from growth in Once Upon A Child and Plato’s Closet stores. The network added 47 franchises and closed five in the first half; 49 of 50 agreements due for renewal were renewed.
- First-half leasing income was roughly flat year over year, while leasing income less leasing expense increased to $7.1M from $6.6M. Management cautioned that period-to-period leasing income and expense can vary with lease accounting and highlighted equipment purchases and portfolio growth as measures of leasing activity.
- SG&A increased 6.8% in the first half, primarily from compensation and benefits. The leasing portfolio grew from $37.5M at year-end to $43.2M. One customer’s leased assets represented approximately 13% of total assets.
Capital returns, outlook, and risks
- The company paid a $25.8M special dividend of $5.00 per share and regular quarterly dividends, and repurchased 101,162 shares for $7.2M in the first half. Management said the special dividend was financed partly with cash and partly with credit-line borrowings.
- Management believed cash, franchising cash flow, lease discounting and the credit facility would fund planned operations through 2015. No specific earnings or revenue guidance was provided; interim results were stated not necessarily to indicate full-year results.
- Key exposures include lease-credit losses and customer concentration, interest-rate sensitivity on floating-rate borrowings, and execution of franchise growth and leasing originations. The company reported no material litigation, no material change to previously disclosed risk factors, and no off-balance-sheet arrangements.
Important facts for investors to verify
- Whether franchise royalty growth and renewals continue, and whether new openings translate into durable revenue.
- Lease portfolio performance, customer concentration, delinquencies, and adequacy of the $939,300 lease credit-loss allowance; all leases were reported as accruing at June 28.
- Cash and liquidity following the special dividend and repurchases, availability under the borrowing base, and compliance with credit covenants.
- Whether leasing income comparisons normalize, given management’s explanation that lease classification and recognition timing affected Q2 comparisons.
- The company was evaluating the impact of the new revenue-recognition standard; the filing did not quantify its expected effect.