Business Context and Reporting Period
Coffee Holding Co., Inc. (Nasdaq: JVA) filed this unaudited Form 10-Q for the quarter and nine months ended July 31, 2019. The company roasts, packages, markets and distributes coffee, sells green coffee and manufactures coffee roasters. It reports one operating segment. The fiscal year ends October 31.
Financial Performance and Position
| Metric | Three months ended July 31, 2019 | Nine months ended July 31, 2019 |
|---|---|---|
| Net sales | $21.59 million | $65.94 million |
| Gross profit / margin | $4.13 million / 19.1% | $12.24 million / 18.6% |
| Operating income | $257,238 | $855,066 |
| Net income attributable to Coffee Holding | $111,494; $0.02 per share | $187,741; $0.03 per share |
| Net cash from (used in) operations | Not provided separately for the quarter | $(911,740) |
- For the nine months, total net income before noncontrolling interest was $550,242; $362,501 was attributable to noncontrolling interest.
- At July 31, cash was $2.57 million, current assets $29.74 million, current liabilities $9.49 million and working capital $20.25 million. Total assets were $37.75 million and total liabilities $10.98 million.
- Revolving line-of-credit borrowings were $5.77 million, down from $6.26 million at October 31, 2018. The facility maximum is $14 million; the stated rate was 4.22%, and maturity is March 31, 2020. The debt is secured by company assets.
- Nine-month investing cash use was $568,235, primarily capital expenditures; financing cash use was $562,629. Cash declined by $2.04 million from the fiscal-year start.
Material Changes Versus Prior Comparable Period
- Quarterly sales fell 7.8% year over year; nine-month sales fell 2.6%. Management attributed the declines to lower green-coffee selling prices and reduced sales to a former largest wholesale green-coffee customer—about $1.6 million lower in the quarter and $7.4 million lower year to date.
- Gross margin improved from 16.2% to 19.1% for the quarter and from 16.9% to 18.6% for the nine months. However, nine-month operating income fell to $855,066 from $2.04 million, as operating expenses rose $1.97 million, principally from Steep & Brew-related expenses and higher outbound freight.
- Nine-month attributable net income declined to $187,741 from $957,926. Operating cash flow swung to a use of $911,740 from a source of $7.95 million, primarily reflecting lower receivables collections and a $2.43 million increase in inventory.
- Green coffee sales fell to $25.57 million from $32.08 million year to date, while packaged coffee sales rose to $40.37 million from $35.63 million.
Outlook, Risks and Unusual Items
- Management said it expects to fund operations, liabilities, capital expenditures and debt payments through September 15, 2020 using operating cash flows and the credit facility. This is management’s liquidity assessment, not earnings guidance; the filing provides no specific revenue or profit forecast.
- The company announced an intention to pay shareholders 30% of fiscal 2019 net profits, with payment expected in the second fiscal quarter of 2020 to holders of record October 31, 2019. Sterling National Bank waived the relevant restriction for the plan.
- Coffee-price volatility, hedging effectiveness, supply and customer concentration are important risks. The company said it is scaling back futures and options trading and expects to continue using hedges in a limited capacity. Derivative results are recorded in cost of sales and can increase earnings volatility; nine-month net losses on these contracts were $1.42 million.
- Steel-can tariffs and inbound trucking costs pressured costs; freight expense also increased with distribution expansion. Five customers represented about 19% of nine-month sales, and five vendors represented about 25% of purchases.
- Disclosure controls were deemed ineffective at July 31, 2019 because of an unremediated material weakness in accounting for stock-based compensation awards. Management reported remediation work in progress and stated it believed the financial information was materially correct.
- The company reported compliance with loan covenants at July 31, 2019. It reported no material change to previously disclosed risk factors, no material pending legal proceedings beyond routine litigation, and no material subsequent events requiring disclosure.
- During the nine months, the company granted 1,000,000 stock options at $5.43 per share; these were excluded from diluted EPS as anti-dilutive. Stock-based compensation expense was $228,868 year to date.
Important Facts for Investors to Verify
- Whether the company can restore positive operating cash flow and manage the elevated inventory balance.
- How much sales and customer concentration remain affected by the former largest green-coffee customer, and whether packaged-coffee growth can offset green-coffee declines.
- Progress in remediating the stock-compensation accounting material weakness and the potential dilution from 1,000,000 options.
- Compliance with minimum working-capital and fiscal-year net-profit loan requirements, and refinancing or repayment plans before the March 31, 2020 facility maturity.
- Whether the proposed dividend is ultimately payable under final fiscal-year results and loan terms.
- The continuing effect of coffee-price movements, hedge losses, steel tariffs and freight costs on margins.