REED’S, INC. — Q2 2020 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2020. Unaudited financial statements; amounts below are in thousands of dollars unless stated otherwise.
Business context
Reed’s sells branded beverages and related products, including Reed’s and Virgil’s. The company continued shifting manufacturing to co-packers, streamlining its product range, and expanding products and e-commerce sales. It launched Reed’s Really Real Ginger Ale and Reed’s Wellness Shots during the quarter.
Financial performance
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net sales | $10,853 | $9,480 | $20,376 | $17,929 |
| Gross profit | $2,988 | $2,273 | $5,858 | $4,777 |
| Gross margin | 28% | 24% | 29% | 27% |
| Operating loss | $(1,434) | $(4,106) | $(3,684) | $(6,987) |
| Net loss | $(1,750) | $(4,460) | $(4,330) | $(7,724) |
| Loss per share, basic and diluted | $(0.03) | $(0.13) | $(0.08) | $(0.25) |
| Modified EBITDA (non-GAAP) | $(1,433) | $(3,443) | $(2,854) | $(5,649) |
Q2 gross sales, a company-defined non-GAAP measure, increased 14% to $12,229; promotional and other allowances were $1,376. Six-month gross sales increased 12% to $22,781, with allowances of $2,405. Management reported higher core-brand volume and lower discounting. Q2 cost of goods sold was 72% of net sales versus 76% a year earlier; six-month cost was 71% versus 73%.
Q2 selling and marketing expense fell 50% to $1,585, and general and administrative expense fell 23% to $1,348. For the six months, those expenses declined 33% to $3,510 and 20% to $3,295, respectively. Delivery and handling costs rose with volume. Management attributed lower marketing costs partly to the prior-year campaign and lower advertising, sampling, agency, personnel, and travel costs.
For the six months, operating cash flow was negative $5,028, versus negative $11,520 in 2019. Investing cash use was $116; financing provided $5,343. Cash increased $199 from year-end to $1,112. The company reported total assets of $17,667, total liabilities of $14,801, and stockholders’ equity of $2,866 at June 30, 2020.
Liquidity, debt, and material changes
At June 30, cash was $1,112 and unused borrowing capacity under the asset-based line was $6,704. The line had $2,929 outstanding before unamortized financing costs, bore an effective rate of 6.8%, and matures March 30, 2021. The company reported compliance with its covenants at quarter-end. The related-party convertible note had $3,400 principal plus $1,577 accrued interest, bears 12% interest, and matures April 21, 2021. A $770 Paycheck Protection Program loan bears 1% interest; the company intends to seek forgiveness but cannot assure that any amount will be forgiven.
An April public offering of 15,333,334 shares at $0.375 per share generated $5,310 net proceeds. Common shares outstanding were 62,928,540 at June 30 and 62,933,070 at July 31. The offering and increased weighted-average shares contributed to dilution. The filing reports working capital of $2,257 at June 30 versus $4,885 at December 31, 2019; elsewhere in MD&A it states June 30 working capital was $7,576, compared with $3,173 at March 31. These working-capital disclosures are inconsistent.
Outlook, risks, and unusual items
- The company gave no specific revenue, earnings, or cash-flow guidance. Management’s priorities are sales growth through channel expansion, new products, and improved sales execution, alongside margin improvement and lower operating costs.
- Management said COVID-19 had no material net impact on Q2 results or liquidity through June 30; shipments were 16% higher than Q1. It expects long-term demand to remain strong, but warned that recession-driven weaker demand and workforce, supplier, or transportation disruptions could harm operations and results.
- The statements assume the company will continue as a going concern. The company incurred a six-month net loss and used operating cash; continued access to its credit facility and capital markets is important. The filing identifies the credit-line maturity and related-party note maturity in 2021 as financing considerations.
- Disclosure controls and procedures were deemed ineffective at June 30. Identified material weaknesses concern oversight of outsourced IT service providers and inadequate segregation of accounting duties. Management expected to complete remediation during 2020; remediation remained ongoing and required sustained testing.
- Two customers represented 26% and 13% of Q2 gross sales; one customer represented 23% of gross accounts receivable at quarter-end. The company also disclosed a related-party receivable of $230 and a related-party manufacturing-plant lease arrangement; release from that lease obligation depended on further security being deposited.
- Unusual or notable items included a $198 packaging-material reserve associated with updated nutrition-label requirements, significant share-based compensation, and the $5,310 equity raise. Modified EBITDA is non-GAAP and excludes specified costs; it is not a substitute for operating cash flow or GAAP earnings.
Important facts for investors to verify
- Reconcile the conflicting June 30 working-capital figures of $2,257 and $7,576, and confirm the comparable March 31 figure.
- Assess cash burn, borrowing-base availability, covenant headroom, and the refinancing or repayment plan for the March 2021 credit-line and April 2021 related-party note maturities.
- Track whether the PPP loan qualifies for forgiveness and any resulting effect on debt and earnings.
- Monitor remediation and independent testing of the material weaknesses in IT controls and segregation of duties.
- Evaluate whether sales growth and gross-margin gains persist after lower promotional activity and reduced marketing spend, and consider customer concentration and COVID-19 supply-chain and demand risks.