Winmark Corporation — FY2016 Form 10-K
Reporting period: Fiscal year ended December 31, 2016. The fiscal year included 53 weeks, versus 52 weeks in FY2015. The filing also reports fourth-quarter results; it is an annual report, not a standalone quarterly filing.
Business context
Winmark operates five value-oriented resale retail franchise concepts and two equipment-financing businesses: middle-market leasing and small-ticket financing. At year-end, it had 1,186 franchised stores and a $41.4 million net leasing portfolio. Franchising generated $49.3 million of revenue; leasing generated $17.3 million.
Financial performance and liquidity
| Metric | FY2016 | FY2015 | Change |
|---|---|---|---|
| Revenue | $66.6 million | $69.4 million | Down 4.1% |
| Operating income | $38.3 million | $37.1 million | Up 3.3% |
| Operating margin | 57.5% | 53.4% | Up 4.1 percentage points |
| Net income | $22.2 million | $21.8 million | Up 1.9% |
| Net margin | 33.4% | 31.4% | Up 2.0 percentage points |
| Diluted EPS | $5.13 | $4.69 | Up 9.4% |
| Operating cash flow | $25.7 million | $22.3 million | Up $3.4 million |
- Royalties rose 5.0% to $44.0 million, reflecting growth in several brands and the additional fiscal week. The franchising segment’s operating contribution increased 6.5% to $28.7 million.
- Leasing revenue fell 19.9% to $17.3 million, mainly due to lower equipment sales to lease customers. Leasing income less leasing expense declined to $15.0 million from $15.8 million; leasing segment contribution fell 5.4% to $9.7 million.
- SG&A decreased 1.1% to $23.8 million. Interest expense rose 30.0% to $2.3 million, primarily due to higher average borrowings.
- Cash and cash equivalents were $1.3 million at year-end. Working capital was $15.4 million, compared with $16.9 million in 2015; current assets were $22.8 million and current liabilities $7.4 million.
- Total debt was $45.4 million, down from $66.4 million. It comprised $23.4 million drawn on a $55.0 million revolving facility and $22.0 million of notes payable. The revolver had $31.6 million of additional availability. Shareholders’ deficit was $7.9 million.
- Operating activities provided $25.7 million; investing activities used $3.2 million and financing activities used $22.2 million. Equipment purchases for lease customers were $26.2 million, versus $22.2 million in 2015.
- The company paid $0.37 per share in regular dividends during 2016 and repurchased 17,194 shares for $1.6 million.
Fourth-quarter results and data caveat
The filing’s unaudited quarterly table reports FY2016 fourth-quarter revenue of $17.4 million, operating income of $10.5 million, net income of $6.2 million and diluted EPS of $1.41. The same table reports FY2015 fourth-quarter revenue of $6.9 million, but its quarterly revenue figures do not sum to the stated FY2015 annual revenue of $69.4 million. The filing text does not provide a clear corrected quarterly value; verify the quarterly data before relying on a year-over-year Q4 comparison.
Outlook, risks and other notable items
- Management said available cash, franchising cash flows, lease-discounting sources and the credit line were expected to fund planned operations through 2017. No specific revenue or earnings guidance was provided.
- Winmark reported 61 franchise openings and 25 closures in 2016; 97% of agreements up for renewal were renewed. It had 74 signed retail franchise agreements at year-end, most expected to open in 2017. Management highlighted franchise support, new openings, lease originations and cost control as drivers of operating income.
- The company announced the Winmark Franchise Partners initiative to support and provide capital to emerging franchisors. It is in an early stage, with no assurance of success and potential adverse financial impact.
- Credit exposure is concentrated: leased assets with two customers represented approximately 42% of the net investment in leases. The year-end lease portfolio allowance for credit losses was $896,000; management cautioned that estimates may not cover future losses.
- Debt is secured by substantially all company assets and subject to financial covenants. Winmark was in compliance at year-end. A 1% increase in short-term interest rates was estimated to reduce annual pretax earnings by $234,000.
- Other stated risks include franchise renewals and openings, franchisees’ access to used merchandise, retail and leasing competition, collection of receivables, economic weakness, regulation and data-security breaches. The company said it had no material litigation; it was under IRS examination for tax year 2014.
- Grant Thornton issued unqualified opinions on the financial statements and internal control over financial reporting. Management also concluded disclosure controls were effective.
Investor facts to verify
- Resolve the inconsistency between FY2015 quarterly revenue figures and the reported annual total before assessing quarterly trends.
- Track openings among the 74 signed but unopened franchise agreements, upcoming renewals, and the 2016 closure pattern, particularly at Play It Again Sports.
- Monitor the two-customer concentration in the lease portfolio, credit-loss allowance adequacy and lease originations and collections.
- Review debt repayment requirements, revolver availability and covenant headroom, including variable-rate exposure and the scheduled reduction in credit commitments.
- Assess the execution, investment costs and returns of Winmark Franchise Partners and the outcome of the IRS examination.