Winmark Corporation — Q1 2022 Form 10-Q
Business context and reporting period: Unaudited results for the three months ended March 26, 2022, compared with the three months ended March 27, 2021. Winmark franchises five resale retail brands and operates an equipment-leasing business. At quarter-end, 1,276 franchised stores were operating. Management decided in May 2021 to stop soliciting new leasing customers and wind down the leasing portfolio.
Key financial results
| Metric | Q1 2022 | Q1 2021 | Change |
|---|---|---|---|
| Total revenue | $20.05 million | $18.66 million | Up 7.5% |
| Operating income | $13.44 million | $12.66 million | Up 6.2% |
| Operating margin | 67.0% | 67.8% | Down 0.8 percentage points |
| Net income | $9.85 million | $9.31 million | Up 5.8% |
| Net margin | 49.1% | 49.9% | Down 0.8 percentage points |
| Diluted EPS | $2.65 | $2.40 | Up 10.4% |
| Operating cash flow | $13.35 million | $13.59 million | Down $0.24 million |
- Revenue mix: Royalties were $15.39 million, up 9.5%; leasing income was $2.87 million, down from $3.24 million; merchandise sales were $0.91 million, up from $0.59 million; franchise fees were $0.42 million.
- Costs and taxes: SG&A rose 8.6% to $5.54 million, primarily from advertising, conference and travel expenses. Interest expense increased to $0.51 million from $0.32 million. The effective tax rate decreased to 23.8% from 24.6%.
- Cash and liquidity: Cash, cash equivalents and restricted cash totaled $0.34 million at March 26, 2022, versus $7.98 million a year earlier. Financing activities used $24.42 million, including $36.59 million of share repurchases and $1.63 million of dividends; net line-of-credit borrowing partly offset these uses. Investing activities used $21,500, primarily for property and equipment.
- Debt: At quarter-end, line-of-credit borrowings were $13.6 million at 3.50%, with $11.4 million of availability. Prudential notes had $46.6 million of principal outstanding, with stated rates of 3.18% to 5.50%. The company reported compliance with its debt covenants. Debt obligations are secured by substantially all company assets.
- Capital returns and equity: Winmark repurchased 164,586 shares for $36.59 million and paid a $0.45-per-share quarterly dividend. Shareholders’ deficit increased to $65.77 million from $39.08 million at December 25, 2021, substantially reflecting repurchases and dividends.
Material changes and management commentary
- Royalty growth reflected higher franchisee retail sales and additional stores. Winmark opened nine stores, closed four, and renewed all 44 franchise agreements eligible for renewal in the quarter.
- Franchising segment contribution increased to $11.20 million from $10.72 million. Leasing segment contribution rose to $2.24 million from $1.93 million, despite lower leasing revenue; management attributed the contribution increase to lower SG&A.
- Management expects leasing revenue net of leasing expense and the portfolio to continue declining as the business runs off. Net investment in leases was $2.76 million at quarter-end, down from $3.12 million at year-end 2021.
- On April 12, 2022, after quarter-end, the company amended its credit arrangements. It drew $15 million under a new delayed-draw term facility at 4.60%, using proceeds to repay all revolving borrowings and increase cash. The amendment also provides for a $30 million delayed-draw facility, reduces revolving commitments to $20 million, and extends the revolving facility’s termination date to April 12, 2027.
- Winmark also entered a three-year private shelf agreement permitting potential issuance of senior notes within a $100 million aggregate limit, reduced by outstanding notes. Availability, pricing and issuance are subject to conditions; this is financing capacity, not committed funding.
- Management believed cash, operating cash generation and the credit line would be adequate to fund planned operations through 2022. No earnings or revenue guidance was provided.
Risks, contingencies and unusual items
- Management cited continuing COVID-19 uncertainty, including possible store restrictions, changing consumer behavior and spending, and shifts toward e-commerce. It cautioned that quarterly results may not indicate full-year performance.
- Interest-rate risk: a 1 percentage-point increase in short-term rates was estimated to reduce annual pretax earnings by $136,000 based on quarter-end revolving borrowings. No interest-rate derivatives were in place.
- Management noted possible future financing needs if cash flows are insufficient to meet debt service, and cautioned that refinancing or raising capital may not be available on acceptable terms.
- The company reported no material litigation, no material changes to the risk factors in its latest Form 10-K, and effective disclosure controls. The interim financial statements are unaudited.
Important facts for investors to verify
- How post-quarter borrowing, the $15 million term draw and repayment of revolving debt affect cash balances, interest costs and covenant headroom.
- Whether royalty growth and franchisee sales remain sustainable amid pandemic-related shifts in consumer spending and shopping channels.
- The pace and financial impact of the leasing portfolio run-off, including equipment residual values and collections.
- The effect of substantial share repurchases and dividends on liquidity, leverage and shareholders’ deficit, and the remaining repurchase authorization of 140,179 shares at quarter-end.
- The terms, availability, pricing and potential use of additional delayed-draw or shelf financing, which are subject to agreement terms and conditions.