Turning Point Brands, Inc. — Form 10-Q Summary
Business context and reporting period
Unaudited results cover the three and nine months ended September 30, 2023, compared with the same periods in 2022. TPB manufactures, markets and distributes branded consumer products through Zig-Zag Products, Stoker’s Products and Creative Distribution Solutions (CDS), including tobacco, smoking accessories and vapor-related products.
Financial performance and liquidity
| Metric | Q3 2023 | Q3 2022 | Nine months 2023 | Nine months 2022 |
|---|---|---|---|---|
| Net sales | $101.7m | $107.8m | $308.3m | $311.6m |
| Gross profit | $51.6m | $52.7m | $152.7m | $156.0m |
| Gross margin | 50.7% | 48.9% | 49.5% | 50.1% |
| Operating income | $20.2m | $19.8m | $58.6m | $57.2m |
| Net income attributable to TPB | $10.8m | $11.5m | $28.4m | $28.0m |
| Diluted EPS | $0.58 | $0.60 | $1.51 | $1.45 |
| Adjusted EBITDA | $24.4m | $24.5m | $70.5m | $74.5m |
Amounts are in U.S. dollars. Q3 operating margin was approximately 19.9% versus 18.4% a year earlier; nine-month operating margin was approximately 19.0% versus 18.4%.
- Cash flow: Nine-month operating cash flow was $40.0m, versus $16.4m; investing cash outflow was $4.4m, versus $17.8m; and financing cash outflow was $46.0m, versus $31.2m. Capital expenditures were $4.2m, versus $6.7m. Simple operating cash flow less capital expenditures was $35.8m, versus $9.7m; management attributed the operating cash-flow increase primarily to working-capital timing.
- Cash and working capital: September 30 cash was $96.1m, excluding $4.9m of restricted cash. Working capital, as defined by the company, was $64.0m, down from $109.9m at year-end 2022, principally because convertible notes became current during Q3.
- Debt: Gross notes totaled $368.5m: $250.0m of 5.625% senior secured notes due 2026 and $118.5m of 2.50% convertible notes due July 2024. The balance sheet reported $48.2m as current debt and $316.6m as notes payable and long-term debt, net of financing costs. The company repurchased convertible notes during 2023 and recorded $1.9m of year-to-date gains on extinguishment.
Material changes versus prior comparable periods
- Q3 sales fell 5.6%. Zig-Zag sales declined 10.2%, reflecting prior-year CLIPPER initial load-in and sales pulled forward, as well as a discontinued unprofitable Canadian product line. CDS sales declined 18.7%, mainly on lower vape distribution volumes. Stoker’s sales rose 10.1%, with volume up 2.2% and price/product mix up 7.9%.
- For the first nine months, Zig-Zag sales declined 6.0%, Stoker’s grew 7.9%, and CDS declined 3.7%. Stoker’s gains were primarily driven by moist snuff tobacco; CDS weakness reflected reduced vape distribution volumes.
- Q3 gross margin improved despite lower sales, as stronger margins in Zig-Zag and Stoker’s offset weaker CDS margin. Year-to-date gross margin declined, with lower margins in Zig-Zag and CDS partly offset by improvement in Stoker’s.
- SG&A fell 4.6% in Q3 and 4.7% year to date. Net interest expense also declined, reflecting convertible-note repurchases and increased interest income on cash.
- Investment losses rose to $11.0m year to date from $6.1m. Charges included $6.5m for Docklight and $2.2m for Wild Hemp; the Q3 Wild Hemp impairment was $2.2m. These charges contributed to the gap between modestly higher year-to-date attributable net income and lower Adjusted EBITDA.
Outlook, risks, contingencies and unusual items
- Liquidity and refinancing: Management said cash, free cash flow and borrowing availability provide sufficient liquidity to meet the July 2024 convertible-note maturity and foreseeable operating needs. On November 7, 2023, after quarter-end, a subsidiary entered a $75m asset-backed revolving facility, with a $40m accordion feature, intended to refinance up to $75m of the notes at maturity; the prior revolver was terminated. The facility is subject to borrowing-base limits and conditional covenants. The filing does not state that the new facility had been drawn.
- Regulation: FDA marketing authorization and enforcement decisions, pending proposed product standards, state and local flavor restrictions, and regulation of vapor and nicotine products could affect sales, costs and competition. Some TPB and third-party products remain subject to premarket review; approval is not assured.
- Other business risks: The filing highlights tobacco-industry decline, illicit products, price-sensitive consumers and inflation, supplier and retailer concentration, product competition, and litigation and regulatory uncertainty. TPB relies on outside suppliers for more than 75% of production by net sales.
- Contingencies: A proposed shareholder-litigation settlement calls for insurers to fund $5m, with counsel fees proposed from that amount and a possible additional mootness fee. Court approval is pending; the company does not expect a material impact. TPB also faces vapor-device personal-injury claims and a former-franchisee arbitration; outcomes are uncertain.
- Controls: Disclosure controls were not effective as of September 30, 2023, due to previously identified material weaknesses involving IT access and change management, and financial-reporting risk assessment and segregation of duties. The company reported remediation work in progress; the weaknesses were not considered remediated.
- No specific forecast: The filing provides no quantified revenue, earnings or cash-flow guidance. Management notes inflation and purchasing-power pressure but says it has implemented feasible price increases and maintained a relatively stable variable-cost structure.
- MSA escrow: The escrow account had a fair value of $27.5m at September 30. TPB said it had no remaining product lines covered by the MSA and expected to begin withdrawals in 2024, subject to potential litigation under applicable statutes.
Important facts for investors to verify
- Whether the asset-backed facility’s borrowing base and terms will provide adequate funds to repay or refinance the convertible notes due in July 2024, and the resulting debt classification and liquidity.
- Whether Stoker’s growth can offset continued Zig-Zag and CDS weakness, particularly lower vape volumes and CDS margin pressure.
- How much operating cash flow reflects sustainable earnings versus working-capital timing, and whether cash generation remains sufficient for debt service and dividends.
- The outcome and financial effects of FDA reviews, proposed rules and state restrictions, as well as the pending shareholder settlement and product-related claims.
- Progress in remediating internal-control weaknesses and whether management can conclude that controls operate effectively after sufficient testing.