Winmark Corp. 10-K Summary: Fiscal Year Ended December 25, 2010
Business Context and Reporting Period
This report covers the fiscal year ended December 25, 2010. Winmark Corporation operates as a franchisor of four value-oriented retail brands (Plato's Closet, Play It Again Sports, Once Upon A Child, and Music Go Round) that buy, sell, trade, and consign used and new merchandise. The company also operates two equipment financing segments: Winmark Capital Corporation (middle-market leasing) and Wirth Business Credit (small-ticket financing). As of the reporting date, the company had 903 franchised retail stores and a leasing portfolio of $30.7 million.
Key Financial Metrics
| Metric | 2010 | 2009 |
|---|---|---|
| Total Revenue | $41.2 million | $37.3 million |
| Net Income | $10.3 million | $5.8 million |
| Diluted EPS | $1.98 | $1.10 |
| Operating Income | $18.5 million | $10.8 million |
| Cash and Equivalents | $2.3 million | $9.5 million |
| Total Debt | $8.8 million | $30.5 million |
| Working Capital | $3.6 million | $12.6 million |
| Return on Average Equity | 53.9% | 40.0% |
Segment Performance: The Franchising segment generated $15.4 million in operating income (up 26.5% from 2009). The Leasing segment generated $3.1 million in operating income, a significant turnaround from a $1.4 million loss in 2009, driven by reduced credit losses.
Material Changes vs. Prior Period
- Revenue Growth: Total revenue increased 10.5% to $41.2 million. Royalties grew 12.2% to $26.5 million, driven by higher franchisee sales and 34 additional Plato's Closet stores.
- Profitability Surge: Net income increased 76.6% to $10.3 million. Operating income rose 72.0% to $18.5 million.
- Debt Reduction: Total debt decreased significantly from $30.5 million to $8.8 million. The company redeemed all outstanding Renewable Unsecured Subordinated Notes ($21.2 million principal) in July 2010, financing the redemption via a new $30 million line of credit.
- Credit Losses: The provision for credit losses dropped 93.2% to $0.2 million from $2.8 million in 2009, reflecting lower write-offs in the small-ticket financing business.
- Liquidity: Cash and cash equivalents declined from $9.5 million to $2.3 million due to debt repayments, stock repurchases ($4.0 million), and dividend payments ($0.3 million).
Guidance, Outlook, Risks, and Unusual Items
Outlook and Strategy: Management expects to fund operations through 2011 using cash flow, the $30 million line of credit, and lease discounting. The company plans to continue reinvesting cash flow into franchise support, infrastructure, and leasing portfolios. Franchise renewal rates were 100% for agreements expiring in 2010.
Risks and Contingencies:
- Investment Impairments: The company holds illiquid investments in Tomsten, Inc. (Archiver's) and BridgeFunds, LLC. Tomsten has incurred significant losses, reducing the carrying value of Winmark's investment to $2.0 million. BridgeFunds is in run-off; Winmark has stopped accruing interest on this investment due to lack of principal payments.
- Franchise Dependency: Future growth depends on new franchise openings and renewals. Economic conditions may impact franchisees' ability to secure financing.
- Key Person Risk: The company is heavily dependent on Chairman and CEO John L. Morgan.
- Wirth Business Credit: The company terminated all remaining Wirth Business Credit franchise agreements in Q1 2011, shifting to a broker model for small-ticket financing.
Investor Verification Checklist
- Debt Covenant Compliance: Verify continued compliance with the $30 million line of credit covenants (debt service coverage, tangible net worth, leverage ratios).
- Investment Valuation: Monitor the recoverability of the $4.0 million investment in Tomsten and BridgeFunds, which are subject to impairment risks.
- Franchise Renewals: Track renewal rates for the 2011-2013 expiration cycles, particularly for Play It Again Sports (47 expiring in 2011) and Plato's Closet (23 expiring in 2011).
- Leasing Portfolio Quality: Review delinquency rates and the adequacy of the allowance for credit losses in the small-ticket financing segment.
- Liquidity Position: Assess the impact of the reduced cash balance ($2.3 million) against upcoming operating lease commitments and potential capital needs.